Read Chapter 6 in the textbook and summarize it in your own words in the style of an
executive summary (not bullet points). Submit not less than two typed double-spaced
pages (with clear layout) that highlight the important concepts discussed in the chapter
and include at least one made-up financial statement in a table (no more than 15 lines)
with explanations of its elements to show your understanding of the subject matter.
An In-depth Understanding of Tax.
Taxes are used to finance government project, meet the needs of society and to influence the behaviour of taxpayers. Tax deductions are given to individuals and corporations as a reward for actions seen to be positive to society. Types of taxes are broadly categorised into direct taxes and indirect taxes. An example of a direct tax is income tax. Indirect tax on the other hand refers to tax levied on products and services. Income is the difference between revenue and expenses. While taxable income refers to the difference between income and deductions.
Taxation of businesses is different from that of individuals in that direct expenses and indirect expenses must be considered. Direct expenses refers to expenses that accrue in business operations while indirect expenses refers to administrative costs and management cost. These expenses, are better illustrated using an Income Statement and ultimately shows the profit or loss of the business for a given period of time.
Financial Statement of Yes Construction Merchants, 1st Quarter, 2018.
Net Sales $478,780
Total Direct Expenses $99,000
Gross Profit $379,780
Total Overheads $45,000
Net profit before Taxes $334,780
Federal and State Taxes $45,000
Net Profit $289,780
The Net sales of the company are $478,780, its total direct expenses are $99,000. As a result of this, the company’s gross profit is $379,780. The company’s indirect charges are transport and rent which add up to $45,000. After deducting this amount from gross profit the net profit is gotten which is $334,780 after deducting federal and state taxes which are $45,000 we get the net profit which is $289,780.
Taxes for individuals depend on their earnings, their civil status and how their deductions are reported. They are therefore classified under single (unmarried individuals), Married filing separately, married filing jointly and head of household.
Certain items in individual’s income can be deducted which reduces tax basis. They include contributions to medical expenses, interest on mortgage loans and charitable contributions. For construction contractors example of this include depreciation of the property. The resulting reporting that is item-by-item based is referred to as itemized deduction approach. On the other hand, individuals can settle for a standard deduction.
Depreciation of a property is an important factor that needs to be considered in taxation. The declination of value of a property over time can lead to a reduced amount of tax to be paid. The concept of depreciation applies to all operations of a business. As a result of this, there is need to align a declaration of depreciation which is used in offsetting taxable income.
Income tax also depends on filing status of tax payer as well as the taxable income that forms the basis on which tax is to be computed. Consequently, each filing status has a tax table attached to it. This table has different income brackets with each bracket having a corresponding tax percentage that is referred to as a marginal tax rate.
Tax Payroll Withholding is another important concept. This is the amount employers retain after each pay check. This amount should cover employees’ projected tax liability for the financial year. The amount is held in an escrow account and provides the employer a basis on which to pay tax.
Tax Payment Schedules provide for payment of taxes in quarterly instalments. These instalments avoid lump sum payment of tax at the end of the financial year by spreading tax payments which is more bearable that a lump sum amount.
Apart from marginal tax rate, there are other two tax rates that are of importance. These are average tax rate and effective tax rate. Average Tax rate is given by total tax paid over the taxable income while effective tax rate refers to the total tax paid divided by gross income.