It’s tax season here in America, which means it’s time for everyone to procrastinate
and complain about how complicated they are.
They’re really not that complicated.
But there are people out there with a vested interest in making you think they are.
Whether it’s a politician who wants to use simplifying the tax code as a campaign slogan
or a company who wants you to sell you their services in doing them for you.
If you have a basic understanding of high school algebra, you already know more than
you need in order to understand taxes.
We do make them needlessly complicated here in America – so for any of you international
viewers, feel free to compare your system to ours – but still, they’re not that
complicated.
Let’s start with your paycheck.
Feel free to tell me how much you make down below and we can get started….
Okay since you’re apparently not going to participate we’re going to have to make
up an example.
Let’s start with this guy.
Raynor here.
He’s single and makes $30,000 a year.
That’s about twice minimum wage.
Okay so I rounded down to make the numbers easier to work with, sue me.
Please don’t sue me.
Anyway it’s pretty close to the average individual income here in America.
He gets paid twice a month, which comes out to $1250.
Right on.
But as you probably all know, that’s not what he ends up with.
In Australia, when you get hired and they tell you “you make 30,000 a year,” that’s
how much you make, that’s your take-home pay, they figure in how much taxes get taken
out and don’t even tell you about it.
How awesome would that be instead of it being a mystery up until your first paycheck?!
Anyway, let’s break down what happens to that paycheck.
First, 6.2% comes out for Social Security.
For those of you not in the United States, this is the mandatory socialized retirement
program that everyone pays into and you only reap the full benefit of when you turn 67.
That comes out to $77.50.
Next, 1.45% gets taken out for Medicare.
For those of you not in the United States, this is the mandatory socialized healthcare
program that everyone pays into and you only reap the full benefit of when you turn 65.
Apparently, only old people get socialism here in America…
That comes out to be $18.13.
These two together are called FICA – and the government just takes it and you never
see it again.
Well unless you become old enough, I guess.
The next bit to come out of your paycheck is income tax, the part that most people do
incorrectly.
We’re going to ignore state income tax and just focus on federal, because…
I don’t want to make 43 different versions of this video.
The part of your paycheck that goes towards federal income tax is called the federal income
tax withholding.
You pay a small portion of each paycheck is withheld, and at the end of the year when
you “do your taxes” you figure out whether you owe more or more commonly get a refund.
So how are people messing this up?
Because how much goes towards your withholding is based on your income, your filing status,
and how many allowances you claim.
This is called a W-4, you filled it out when you started your job.
Most people don’t even read it and just put 0 – and this is the worst possible answer.
This form is asking how many people this income is meant to support - putting zero means nobody.
So the government will take the maximum possible amount.
People like to claim zero because it gives them a bigger refund.
You’re not getting a refund because of a defective product or shoddy service, it’s
because you overpaid.
But we’ll get to that in a moment.
This guy claims zero, so combining that with his income and crippling loneliness, the government
takes 12.3%, which comes out to be $153.70.
That number is figured out by your employer using a really complicated set of tables that
takes all three of those identifiers into account.
I wish I could tell you some sort of concrete number, but it changes for literally everyone.
So let’s look at someone who works at the exact same job, for the exact same pay, but
actually read his W-4.
Ad victoriam Enter 1 for yourself if no one else can claim
you as a dependent.
Enter 1 if you’re single and only have one job.
Or if you’re married or have a second job, okay that doesn’t apply.
Spouse, nope, dependents, nope, head of, child… blah blah blah, whatever.
2.
He claims two.
So he gets the same $1250 paycheck, $77.50 out for Social Security, $18.13 out for Medicare,
but his withholding is different, $103.08, only 8.3%.
That’s a difference of $50.62 per paycheck.
The key here is that since they both make the same amount and they both have the same
depressing life circumstances, they both owe the same amount at the end of the year.
But, we’ll get to how we figure that out in a moment.
For now, just take my word for it that this guy gets a $1215.05 refund at the end of the
year, and this guy gets a $0.17 refund- though since we round to the nearest dollar, no refund.
This is usually the point where the guy who claimed zero celebrates his gift from the
government and laughs at the guy who claimed two for doing his taxes wrong.
But did he?
He already has all of that money in the bank, so it actually evens out.
That guy just has a more accurate withholding which lets him keep more of his own money
each paycheck.
So, read your W-4, don’t just write zero.
If you already work somewhere, ask for a new W-4.
Say this was a cell phone bill and you owed $60 a month, but you decide to play it safe
and pay $70 a month, so you get a $120 refund at the end of the year.
You would seriously reconsider how much you’re paying every month… at least I hope you
would.
Your refund is not a gift from the government, you’re not sticking it to anyone by getting
a refund, you’re getting it because you’re overpaying.
No, you can’t tell your employer to take out nothing for income tax, despite what any
Sovereign Citizen might tell you.
The government totally has the power to tax personal income.
There’s also a number of youtube videos that tell you how to get out of paying taxes
by claiming 9 or 10.
Unless you’re John and Kate plus Eight, don’t do that.
You can actually claim more than nine or ten but at that point you’re just being a pain
to your employer, not the government.
It’s a logarithmic function, you’ll get it infinitely close to zero, but you’ll
never actually get to zero.
If you don’t pay your income taxes, they will eventually send someone with a gun to
your house.
And most likely, you’re going to get everything you paid in taxes back anyway, so it’s just
not worth it – pay your taxes.
Let’s figure out how much this guy owes.
Anyway, here is where we’re going to dispel a few more myths.
We use a progressive tax system here in America, which means the more money you make the more
that money is taxed.
Actually, most countries use this system.
It’s a common misconception that if you make this much money, you’re taxed at this
rate, but if you make just one dollar more, all of your money is taxed at a higher rate.
Which just isn’t true, so let’s look at how it works.
We’re going to be working with the 2017 brackets since that’s what you’ll be filing
your taxes under this year, near the end I’ll talk about the 2018 changes.
Like the other guy, he’s single and makes $30,000 a year.
The first $9325 is taxed at 10% - so of that, he owes $932.50.
The remaining $20,675 is taxed at 15%, coming out to $3101.25.
So, in total he owes $4033.75.
Well that wasn’t a very good example, it only crosses two brackets.
Alright, let’s look at his boss.
One Enclave, One America.
Who is also single but makes $100,000 a year.
Again, the first $9325 is taxed at 10%.
The 15% bracket goes up to $37,950, which means only $28625 of his income is taxed at
that rate.
The next bracket goes up to $91,900 and is taxed at 25%.
And his final $8100 is taxed at 28%.
His final tax bill is $20,981.75, so even though his income falls into the 28% bracket,
not all of his income is taxed at that rate.
28% is what is called his top marginal tax rate, while his effective tax rate is only
20.98% There are other proposed tax systems, like
the regressive system, which means the more money you make the less that money is taxed.
Which obviously disproportionately benefits the rich, which is why no country on earth
uses it.
And then there is the flat tax, which means all income is taxed at the same rate, which
sounds fair… which is why every few years someone tries to push for it.
But let’s look at it in practice.
In order for a flat tax to work, it would have to be high enough that the government
doesn’t lose any revenue.
In order to keep that same level of revenue, it would have to be something like 36%, which
is insane.
So let’s use a number that has been proposed before – 18%.
This guy would see his taxes go up and this guy would see his taxes go down.
Just like the regressive system, it disproportionately helps the wealthy.
Imagine if he was making millions or even billions of dollars.
In 2012, a presidential candidate suggested a 9-9-9 plan, which included a 9% flat income
tax, which is excessively low, but introduced a new 9% national sales tax to make up the
difference.
So effectively, your federal taxes would be 18% total.
In the US, sales tax is a local and state consumption tax on only certain goods.
Essential items like food are not taxed.
But for frivolous items like cars, tvs, and tampons, it gets a little messy… gross.
Tampons should not be taxed.
Since it’s state and local, it changes city to city, but on average it’s 7%.
Adding a national 9% sales tax would suddenly mean everything costs 16% more than what it
says on the price tag.
In Ireland it’s called the Value Added Tax, or VAT, and it’s 23% nationwide But you
wouldn’t know it, because that price is figured into the price tag – it’s not
a surprise when you get to the register.
Why do we have to go and make things so complicated?
Speaking of complicated, while I figured out the tax brackets, I’m sure some of you were
furiously writing out comments about how I forgot about deductions, exemptions, and credits.
I didn’t forget, it said that in the bottom cor- let’s explain those now.
Let’s just focus in on this guy, but since he’s single, he doesn’t really qualify
for any of the fun stuff.
So let’s complicate things by giving him custody of one child.
Ad victoriam.
Let’s not make him married though, life’s hard enough as it is.
But since he now has a dependent, he gets to file as head of household, so the brackets
get all messed up.
Leave it to a kid to make a mess of things.
The first $13350 is taxed at 10% and the remaining $16650 is taxed at 15%.
The first deduction he is going to take is the Standard Deduction, which for head of
household, is $9350.
He could itemize, which means individually deducting state income tax, social security
and medicare, donations to charity, and even things like sales tax, but – For most people,
almost always, the Standard Deduction is higher.
Unless you have some incredibly complicated tax situation or make enormous amounts of
money, which most of you don’t, just take the Standard Deduction.
Then he is going to claim two Personal Exemptions, one for him, one for his child, totaling $8100.
These two numbers, the Standard Deduction and Personal Exemptions, are subtracted from
his overall income of $30,000, meaning he is only taxed on $12550.
It would be nice if we lived in a country where they just said your first however many
dollars weren’t taxed, that system would make so much more sense.
But as far as I know, no such country exists, so we’re left with having to do math.
So that’s it, his income only falls into the 10% bracket, so he owes $1255.
But that’s not the entire story, because while deductions reduce the amount of income
you are taxed on, credits reduce the amount of taxes you owe.
There are all sorts of credits, like if you bought an electric car or installed solar
panels on your house, but we’re just going to focus on the most popular two.
The Child Tax Credit is just $1000 per child, nice and easy.
Now he only owes $255.
Then there is the Earned Income Credit, which is complicated because it scales depending
on income.
It’s not a case of, if you make below this amount you get it, if you make above it you
don’t.
So if you’ve ever thought to yourself “if I made just a hundred dollars less, I would
have gotten that credit.”
If you’re that close to the line, the credit is worth single digits.
But for this guy, it’s $1536.
Which means on top of getting back all of his federal income tax withholding from his
paychecks throughout the year, the government owes him an additional $1281.
This is why an estimated 45% of Americans pay no federal income tax, because of the
deductions and credits from having kids and stuff.
But since we’re still dealing with 2017, I would be remiss if I didn’t mention the
opposite of credits – penalties.
If you didn’t have health insurance in 2017, you owe the government at least $695 per person.
Either you owe in in addition to your taxes or it gets taken out of your refund.
But that penalty is going away in 2018 thanks to the Tax Cuts and Jobs Act.
I promised I would talk about the 2018 changes, so here we go.
Let’s start with this guy, single making $30,000 a year.
He got a $6350 Standard Deduction and $4050 Personal Exemption and no credits, so he owes
$2473.75, an effective tax rate of 8.25%.
The brackets shift a little bit and his top bracket is now only 12%, but the biggest change
is the near-doubling of the Standard Deduction to $12,000.
However, this is offset by the fact that the new plan completely eliminates Personal Exemptions.
So in the end, he now owes $1969.50, a savings of $504.25.
Now for the rich guy.
In 2017, he owed $18,138.50.
Again, his Standard Deduction and Personal Exemption are rolled into one Standard Deduction,
totaling $12,000, and the brackets shift a bit again.
His top bracket is now only 24% and his tax burden falls to $15409.50, a reduction of
$2729.
And lastly, the complicated guy, earning $30,000 with one child as head of household.
In 2017, he got a Standard Deduction and 2 Personal Exemptions, totaling $17,450.
Those have been bundled together for a Standard Deduction of $18,000.
The Child Tax Credit doubles to $2000, and the Earned Income Credit creeps up slightly
to $1662.
So he will now get a refund of $2462, almost double what he got for 2017.
The 2018 plan helps almost everyone – it helps some people a lot more than others,
but still, it helps most everyone.
At times it seems like our system is incredibly confusing when compared to others, and sometimes
it seems like it’s that way on purpose.
But it isn’t that confusing – I explained it to you in only 15 minutes or so.
Odds are that most of you are completely capable of doing your own taxes, you don’t need
to pay someone else.
You can either do them with paper and pencil or using something like TurboTax, either way
– you can still do it yourself.
And before you feel compelled to ask me a question down below about your specific tax
situation – I’m playing with funkopops and monopoly money, don’t ask me!
You really should know better… hey!
So what are you going to do with your refund?
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