You’re almost certainly paying taxes if you work for a regular paycheck. Your employer withholds the taxes you owe from your earnings each pay period and sends them to the appropriate federal and state governments on your behalf.

But that’s just the first step of the process. A great deal more is involved in filing taxes correctly, and in making sure that you’re not paying more than you have to.

• What are Taxes?
• What are the Different Types of Taxes?
• Why Should you File you Tax Return Every Year?
• How can you File your Tax Returns?

What are Taxes?

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Taxes are involuntary fees levied on individuals or corporations and enforced by a government entity—whether local, regional or national—in order to finance government activities.

In economics, taxes fall on whomever pays the burden of the tax, whether this is the entity being taxed, such as a business, or the end consumers of the business’s goods.

To help fund public works and services—and to build and maintain the infrastructures used in a country—the government usually taxes its individual and corporate residents. The tax collected is used for the betterment of the economy and all living in it.

In the U.S. and many other countries in the world, taxes are applied to some form of money received by a taxpayer. The money could be income earned from salary, capital gains from investment appreciation, dividends received as additional income, payment made for goods and services, etc.

A percentage of the taxpayer’s earnings or money is taken and remitted to the government. Payment of taxes at rates levied by the state is compulsory, and tax evasion—the deliberate failure to pay one’s full tax liabilities—is punishable by law.

Most governments use an agency or department to collect taxes; in the United States, this function is performed by the Internal Revenue Service (IRS).

Taxes in the U.S.

Like many nations, the United States has a progressive tax system, not a regressive one, through which a higher percentage of tax revenues are collected from high-income individuals or corporations rather than from low-income individual earners.

Taxes are imposed at federal, state, and local levels. Generally speaking, the federal government levies income, corporate and payroll taxes; the state levies sales taxes; and municipalities or other local governments levy property taxes.

Tax revenues are used for public services and the operation of the government, as well as for the Social Security and Medicare programs.

As baby boomer populations have aged, Social Security and Medicare have claimed increasingly high proportions of the total federal expenditure of tax revenue. Throughout United States history, tax policy has been a consistent source of political debate.

Capital gains taxes are of particular relevance for investors. Levied and enforced at the federal level, these are taxes on income that results from the sale of assets in which the sale price was higher than the purchasing price.

These are taxed at both short-term and long-term rates. Short-term capital gains (on assets sold less than a year after they were acquired) are taxed at the owner’s normal income rate, but long-term gains on assets held for more than a year are taxed at a lower rate, on the rationale that lower taxes will encourage high levels of capital investment. 

Tax records should be maintained depending on the type of record. Taxes are applied through tax rates.

What are the Different Types of Taxes?

U.S. Supreme Court Justice Oliver Wendell Holmes once said, “Taxes are the price we pay for a civilized society.” One can argue about the extent and quality of the civilization that we receive for our tax dollars, but it can’t be denied that we do pay a lot for it.

In fact, when every tax is tallied – federal, state and local income tax (corporate and individual); property tax; Social Security tax; sales tax; excise tax; and others – Americans spend 29.2 percent of our income in taxes each year.

There are many different kinds of taxes, most of which fall into a few basic categories: taxes on income, taxes on property, and taxes on goods and services.

Taxes on Income

The federal government, 43 states and many local municipalities levy income taxes on personal and business revenue and interest income. In most cases, income tax brackets are progressive, meaning that the greater the income, the higher the rate of taxation.

Federal rates for the 2013 tax year range from 10 to 39.6 percent. State and city rates are generally much lower. In addition, many systems allow individuals to trim their tax bill with various credits, deductions and allowances. Businesses pay taxes on their net income.

In addition to federal income taxes, the U.S. government also mandates that employers subtract payroll taxes from their workers’ paychecks each pay period, and then match the sums deducted.

These payments are called FICA taxes because they are authorized by the Federal Insurance Contribution Act. Total FICA taxes on individual workers are 7.65 percent of income; 6.2 percent goes to fund the nation’s Social Security system, while 1.45 percent goes to Medicare.

Self-employed individuals are liable for the entire 15.3 percent, although one half of that amount can be taken as an above-the-line business deduction on a person’s income tax return.

Capital gains taxes are those paid on any profits made from the sale of an asset and are usually applied to stock and bond transactions. The capital gains tax rate has recently been raised from 15 to 20 percent.

Profits made from the sale of real estate are also subject to a capital gains tax. Single homeowners may exclude up to $250,000 of capital gain on the sale of a home, as long as the home was a principal residence for at least two of the five years before the sale; married couples filing jointly can exclude up to $500,000.

Estate taxes are imposed on the transfer of property upon the death of the owner. They were created to prevent the perpetuation of tax-free wealth within the country’s most affluent families.

Since the tax exempts the first $5.43 million of an estate’s worth, estate taxes only affects about 1 percent of the citizenry. The maximum top estate tax rate is 40 percent. Many states also impose their own estate tax, sometimes known as an inheritance tax.

Opponents of these types of taxes believe that they are an unfair confiscation of wealth passed on to an heir and call them “death taxes.”

A tax related to the estate tax, and assessed in a similar manner, is the gift tax, levied on a transfer of wealth during a person’s lifetime. The first $14,000 of a gift is excluded from the tax.

Taxes on Property

Property tax, sometimes known as an ad valorem tax, is imposed on the value of real estate or other personal property. Property taxes are usually imposed by local governments and charged on a recurring basis.

For example, homeowners will generally pay their real estate taxes either once a year or as a monthly fee as part of their mortgage payments.

Real estate taxes are often subject to fluctuation based upon a jurisdiction’s assessment of the worth of a property based on its condition, location and market value, and/or changes to the amounts apportioned to various recipients of the tax.

For example, if residents of a community have voted to increase the millage rate (the amount per $1,000 that is used to calculate taxes) for a school system, homeowners could see an increase in the tax levied on their properties.

Conversely, if property values have fallen due to adverse economic circumstances, home taxes may decrease.

Other items that may be subject to a property tax are automobiles, boats, recreational vehicles and airplanes. Some states also tax other types of business property such as factories, wharves, etc.

Taxes on Goods and Services

The sales tax is most often used as a method for states and local governments to raise revenue. Purchases made at the retail level are assessed a percentage of the sales price of a particular item. Rates vary between jurisdictions and the type of item bought.

For example, a pair of shoes may be taxed at one rate, restaurant food at another, while some items, like staple commodities bought at a grocery store, may not be taxed at all. Also, the same shoes may be taxed at a different rate if sold in a different state or county.

Some believe that sales taxes are the most equitable form of taxation, since they are essentially voluntary and they extract more money from those who consume more.

Others believe that they are the most regressive form of taxation, since poorer people wind up paying a larger portion of their income in sales taxes than wealthier individuals do.

Excise taxes are based on the quantity of an item and not on its value. For example, the federal government imposes an excise tax of 18.4 cents on every gallon of gas purchased, regardless of the price charged by the seller. States often add an additional excise tax on each gallon of fuel.

User fees are taxes that are assessed on a wide variety of services, including airline tickets, rental cars, toll roads, utilities, hotel rooms, licenses, financial transactions and many others.

Depending upon where someone lives, a cellphone, for example, may have as many as six separate user taxes, running up the monthly bill by as much as 20 percent.

So-called sin taxes are imposed on items like cigarettes and alcohol. Luxury taxes are imposed on certain items, such as expensive cars or jewelry.

Why Should you File you Tax Return Every Year?

Filing a tax return is an annual ritual for most people — but actually, not everyone has to file taxes. Generally speaking, if your income is below a certain level, you might not have to file a tax return with the IRS.

Regardless of income, you’ll generally have to file a tax return if:

• You had self-employment net earnings of at least $400.
• You received distributions from a health savings account, Archer Medical Savings Account or Medicare Advantage MSA.
• You owe taxes on an IRA, health savings account or other tax-favored account.
• You owe taxes on household employees.
• You owe alternative minimum tax.
• You made more than $108.28 from a church or church organization.
• You owe recapture taxes.
• You owe Social Security or Medicare tax on tips you didn’t report to your employer or that your employer didn’t already take out of your pay.
• Advance payments of the premium tax credit were made for you, your spouse or a dependent who got health coverage through the insurance marketplace.
• Advance payments of the health coverage tax credit were made for you, your spouse or a dependent who got health coverage through the insurance marketplace.
• You owe uncollected Social Security, Medicare or railroad retirement tax on tips you reported to your employer or on group-term life insurance and additional taxes on health savings accounts.

Unfortunately, failing to file your return can have major financial implications – whether you owe or not.

Penalties

Along with the substantial interest that’s applied to unpaid balances, failing to file your tax return brings another consequence – penalties. And the penalties are stiff!

If you fail to file your tax return, anything you owe will be charged a late filing penalty of 5% plus 1% for each month it’s late, for up to 12 months. So if for example, you don’t file your 2017 return until April 2019, you will face a penalty of 17% on any balance you owe, plus interest at the prescribed rate.

And if you’re a chronic late-filer, the penalties increase substantially. For example, if you had late filing penalties in any of the last three tax years, a penalty of 10% plus 2% per month (for up to 20 months) could be applied to your 2017 return if it’s also filed late.

So, if you had late filing penalties in 2016 and decide not to file your 2017 return again this year, by the time you file in April 2019, your penalty could be as high as 34%!

Of course, if you do not have a balance owing, penalties/interest do not apply to you.

Interruption of Benefits

If you’re receiving the Canada Child Benefit or Old Age Security benefits, filing your return on time is especially important. Your eligibility for each of these benefits is updated every July and determined by the numbers on your tax return.

The amount of your benefits is also linked to your income listed on your return, so if you fail to file your tax return, you risk having your benefits delayed.

Eligibility for the GST/HST quarterly credit, as well as other various province benefits, is also determined by numbers on your tax return, so it’s important to get it in on time to take advantage of these credits.

Income Records

Outside of the direct financial implications, not having a current tax return can affect other aspects of your life. The numbers on your filed return are used for so many other purposes, such as determining:

• Loans of all types, including student loans, mortgages, and business lines of credit
• Student grants, as well as certain bursaries and scholarships
• Low-income grants for programs such as home repair & heating rebates

As you can see, failing to file your tax return on time can bring many negative consequences

How can you File your Tax Returns?

Tax season has been extended this year due to the coronavirus pandemic. The deadline to submit your 2019 tax return and pay any tax you owe is now July 15. If you’re expecting a refund, you should file as soon as possible.

If you can’t get everything together in time to file by July 15, you can file for a tax extension, which pushes your due date to October 15. 

Many online tax services have partnered with the IRS to allow you to file your federal taxes for free — and sometimes state taxes as well — if your adjusted gross income was less than $69,000 in 2019. You can check your options using the IRS Free File lookup.

If you have a simple enough tax situation, TurboTax, H&R Block, and others will let you file for free regardless of your income level.

If you don’t meet the requirements to file for free, you’ll pay anywhere between $25 to $250 to file prepare your federal tax return using online software, plus an additional fee for state returns.

If you’re going to pen-and-paper route, you can use the Free File Fillable Forms, but the IRS recommends using those forms only if you have experience preparing tax returns on your own.

Here are some tax prep sites currently offering discounts:

• H&R Block: 25% off
• TaxAct: 35% off
• TaxSlayer: 25% off
• eFile.com: 25% off

What you need to file your tax return

Before you file your taxes, you need to collect all your 2019 tax documents. If you’re an employee, that means your W-2; if you’re a freelancer, you may have multiple 1099 forms. You should also have your adjusted gross income (AGI) amount from your 2018 tax return handy.

In some cases, you may have other statements for 2019, such as income earned from an interest-bearing savings account or interest paid on a loan, or even taxable bitcoin gains.

Brokerages often issue corrected 1099s in mid-March, so if you have any brokerage accounts, it may be prudent to delay filing until the final, corrected brokerage 1099s are issued.

Most tax-related documents must be filed by your employer or other institution by January 31, and the statements must be postmarked by that date as well. That means you should have received everything you need by early February.

The IRS recommends e-filing and choosing direct deposit

Despite delays related to coronavirus containment measures and office shutdowns, the IRS says the fastest way to get your tax refund is the method already used by most taxpayers: filing electronically and selecting direct deposit. Most people get their refund within 21 days of filing.

The IRS says direct deposit — which the government also uses for Social Security and Veterans Affairs payments — is “simple, safe, and secure.”

Popular online tax services like TurboTax and H&R Block are easy to use, even for tax novices — but they aren’t the only option for e-filing your taxes for free.

If you plan to visit an accountant, make an appointment as soon as you can.

Your tax refund will usually arrive within 3 weeks of e-filing

Your tax refund should hit your bank account within three weeks of filing online, assuming you opt to receive it via direct deposit. Often, you’ll get your money even faster.

You can check the status of your tax refund using the IRS’s return-tracking service 24 hours after filing your tax return online or four weeks after mailing a return.

States that tax income also issue refunds, and you can check the status of your refund on your state’s government website.

For taxpayers claiming credits, refunds may take longer. The IRS says certain credits, including the Earned Income Tax Credit and the additional Child Tax Credit, can not be issued until mid-February as a means to protect against identity theft and tax fraud. Those refunds usually become available in early March.

If you owe taxes, you don’t have to pay all at once

Your tax situation can change over time — for example, if you get married, buy a home, or have a child — so it’s always a good idea to review your W-4 tax-withholding form at the start of a new year. If you didn’t review your withholding this year, changes in your tax situation may result in a larger or smaller tax bill.

If you end up owing money, your 2019 tax bill is due July 15, regardless of when you file. You can file early and schedule a payment for that day (or anytime before) if you aren’t quite ready to pay.

But, if you can’t afford to pay your tax bill in full on the deadline, don’t pull out your credit card or ignore the situation. The IRS offers reasonable payment plans at much lower interest rates than most banks.

You may even be able to settle the bill for less than you owe, called an offer in compromise, or request a deferment until you can make a payment. Offers in compromise and requests for deferment require additional paperwork and must be approved by the IRS.

Keep copies of your old tax returns for at least 3 years

The IRS recommends holding onto copies of your tax returns and tax-related documents for at least three years and up to seven years.

Most audits cover returns filed over the past two years, but the IRS can go back further if the situation calls for it. But audits shouldn’t be cause for worry for most taxpayers. Fewer than 1% of tax returns are audited by the IRS.

Having your tax records handy can make it easier to fill out a mortgage application, the Free Application for Federal Student Aid (FAFSA), and your current tax return, since you’ll need last year’s adjusted gross income (AGI) to verify your identity.

If you file with the same tax software every year, it will usually store your completed returns. But it’s still a good idea to print out copies to have for yourself.

When you dispose of old tax returns, make sure to properly shred the documents to protect against identity theft.

What to do if you’ve been a victim of tax fraud

Tax season presents plenty of opportunity for would-be identity thieves. A stolen Social Security number can be used to file a fraudulent tax return and refund request, but it’s not the only tax scam out there. The IRS keeps track of the most common tax-related crimes, and the list is long and varied.

The best way to protect against tax scams — especially potential identity theft — is to file your tax return as soon as possible.

If you think you are a victim of identity theft or tax fraud, you should report it to the Treasury Inspector General for Tax Administration. The IRS also has detailed instructions on what to do if you are a victim of tax fraud.

The US Department of Justice says the IRS never discusses personal tax issues through unsolicited emails or texts, or over social media. Be wary if you are contacted — by phone or email — by someone claiming to be from the IRS who says you owe money.

When the IRS needs to get in touch with a taxpayer, standard practice is to send a letter via the US Postal Service. If you receive an unexpected and suspicious email from the IRS, forward it to phishing@irs.gov.

Step 1: Gather Your Tax Documents

In order to do your taxes, you need to collect all of your tax documents. Think of it as a scavenger hunt, if that makes it a little more fun! What forms will you need? Here are a few to keep in mind:

• W-2s
• 1099s
• Mortgage interest statements
• Investment income statements

And if this is your first season filing taxes as a married couple, congrats! There are several tax tips newlyweds should know. But getting hitched isn’t the only major life change that might require some additional paperwork.

To keep your tax prep running smoothly, here are a few more documents you may need to add to your list:

• Form 8822 (if you moved)
• SS-5 (if you changed your name)
• W-4 (to adjust tax withholdings based on your new household income)

Income and investment interest forms should be mailed to you by January 31, so keep an eye out for those documents. If you haven’t received your tax statements by the first or second week of February, call the necessary people to be sure you receive your paperwork in plenty of time to get your taxes done.

Step 2: Choose Between the Standard Deduction or Itemizing

When you file your taxes, you have two choices: Take the standard deduction or itemize your deductions. This is a pretty big deal, because tax deductions lower your taxable income—and the lower your taxable income is, the smaller your tax bill will be!

So, how do you decide which option to take? Well, the standard deduction for the 2019 tax year for single filers is $12,200 and $24,400 for married folks filing jointly.

If you can write more than those amounts off your taxes for the year, you’re better off itemizing. If not, save yourself the hassle of digging through filing cabinets for old receipts and just take the standard deduction.

If you do plan on itemizing deductions, you’ll need proof to back up your claims. So, don’t forget any receipts for deductions and tax credits like:

• Childcare
• Education costs
• Charitable giving
• Medical expenses

When in doubt, it never hurts to reach out to a tax pro and get their advice on how to do your taxes this year.

Step 3: Pick a Filing Status

Your filing status helps you figure out what you’ll need to do to file, what your standard deduction is, your eligibility for certain credits, and how much you’ll owe in taxes.

There are times when picking your filing status is pretty straightforward—like if you’re single—and other times when you might qualify for more than one filing status and it’s not so clear.

How do you figure out which filing status to pick? There are five different statuses to choose from:

• Single. If you’re not married, divorced or legally separated, or widowed before the tax year, you’ll file as a single taxpayer.Simple enough, right?
• Married Filing Jointly. You’re married and both of you agree to file a joint return. In most cases, married couples usually save more by filing jointly.
• Married Filing Separately. If you’re married and for some reason don’t agree to file jointly—maybe you want to be responsible for your taxes only or filing separately results in a lower tax bill—you can use this filing status.
• Head of Household. This one’s a little tricky. To qualify you must have paid for more than half of the household expenses for the year, be unmarried, and must have a “qualifying child or dependent.” So, if you’re a single parent or taking care of an ailing family member, you might qualify to file as head of household.
• Qualifying widow(er). If your spouse dies and you don’t remarry in the same tax year, you can file jointly with your deceased spouse. For the two years following the year of death, you can use the qualifying widow(er) filing status if you choose to.

In most cases, folks will either file as single taxpayers or married filing jointly. But there are some rare instances where you might consider filing separately or another filing status if it applies—so always do the math.

Step 4: File Your Taxes

Once you have all your documents organized, you’re ready to file your taxes!

According to the IRS, most Americans chose to hire a professional (58%) to help them file their tax returns electronically. The rest decided to file on their own using tax software or going old school and filing by paper and mailing it in.

But which filing option should you choose? Let’s take a closer look at online versus tax pro filing options to help you determine which is best for you.

Online software can be straightforward if your situation is pretty simple and you’re planning to take the standard deduction.

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However, if your tax return is more complicated—like if you own a business or know you need to itemize your deductions—it’s worth it to hire a tax professional.

And besides, there are plenty of reasons to file your taxes early, like less stress and protection from tax fraud.

Step 5: Get Organized for Next Year

If you end up with a big tax refund or a large tax bill, you probably want to go ahead and adjust your withholdings so that you’re not taking too much or too little out of your paycheck for taxes. 

And one more thing: Once your taxes are signed, sealed and delivered to the IRS, you might be tempted to celebrate by starting a bonfire and burning all those receipts and tax forms in a blaze of glory… don’t do that.

Instead, promptly file any tax documents and important receipts when you receive them so you don’t have to search the house for them next spring.

Buy a few manila folders, an accordion file or a filing system that will hold your tax documents and save those documents for at least three years. You might need them if the IRS comes knocking.