Part 6—Managing Your Income Chapter 23 Understanding Income and Taxes

Chapter Objectives Describe the different forms of income and fringe benefits an employee can receive for doing a job. Distinguish between gross pay and net pay. Describe paycheck deductions. Identify the various services and facilities provided by tax dollars. Describe how consumers are taxed and the types of taxes they pay. continued

Chapter Objectives Simulate filing a federal income tax return. Describe the purpose of, and benefits provided by, the Social Security program, Medicaid, Medicare, workers’ compensation, and unemployment insurance.

Key Concepts Earned income can include wages, salaries, commissions, piecework, tips, bonuses, and fringe benefits. Paycheck deductions include social security and federal income taxes, and may include state income taxes, union dues, and insurance premiums. The taxes you will be paying include personal income tax, social security tax, property tax, sales tax, and excise tax. continued

Key Concepts Social security provides income when earnings are reduced or stopped because of retirement, disability, or death. Worker’s compensation provides payments to workers when they are injured on the job. Unemployment insurance provides benefits to workers who have lost their jobs.

Forms of Income Earned income: The money you are paid for doing a job. The form of income you receive depends on the type of job you have. If you are a real estate agent, you are probably paid a commission. continued

Forms of Income Common forms of income: Wages. Salary. Commission. Piecework. Tips. Bonus. Profit sharing. Fringe benefits.

Wages Wage: A set amount of pay for every hour of work. Hourly wages vary depending on the type of job and the employee’s experience and skills. Minimum wage is the lowest amount an employer can legally pay a worker per hour. continued

Wages Workers are paid overtime if they work more than 40 hours per week. Overtime pay is usually one-and-a-half times a workers regular wage.

Salary Salary: A set amount of money paid for a certain period of time. Workers with more skills and experience usually earn salaries. Salaried workers are less likely to receive overtime pay.

Commission Sometimes workers in sales earn commission, or a percentage of their sales. Commission is an incentive for workers to sell more. The more a person sells, the more money they make.

Piecework Piecework: An employee receives a set amount for each piece of work they do. Piecework can serve as an incentive for higher production. Pay for piecework has to be equal to or higher than minimum wage.

Tips Tips: Small amounts of money given by customers to service-related workers in return for service. Tipping is a way for customers to reward workers for good service. Tips are part of income and subject to income tax regulations.

Bonus Bonus: An extra payment in addition to the worker’s regular pay. An incentive bonus encourages workers to produce more. A year-end bonus may be used to encourage workers to stay with a company.

Profit Sharing Profit sharing: Company stock or bonuses used to reward employee’s hard work and encourage greater productivity. An employee’s share may be based on seniority, productivity, evaluations, or other criteria.

Fringe Benefits Fringe benefits are extra financial rewards in addition to income. Fringe benefits may include: Paid vacation time. Paid holidays. Paid sick leave. Paid health and life insurance. Company child care facilities. Tuition aid. Fringe benefits are a major consideration in choosing a job.

Understanding Your Paycheck Deductions: Amounts of money subtracted from your paycheck for tax payments and other expenses. Gross pay: The total amount earned for a pay period before deductions are subtracted. Net pay: Gross pay minus deductions. continued

Understanding Your Paycheck Social security tax and federal income tax are two deductions your employer makes. Social security tax is a set percentage of your income. Federal income tax depends on how much money you make and the number of exemptions you are allowed. Exemption: A set amount of money on which you do not have to pay tax. Form W-4: The Employer’s Withholding Allowance Certificate, which gives your employer information needed to determine how much tax to withhold from your paycheck. continued

Understanding Your Paycheck Each exemption you claim makes the amount deducted from your paycheck lower. FICA: The Federal insurance Contributions Act, which began the social security tax.

Taxes Because we pay taxes and social security, the government is able to provide certain services and benefits. Citizens are required to pay taxes to city, county, state, and federal governments.

Types of Taxes Personal income tax – tax on the amount of money you earn. Social security tax – tax on your income; used to pay for the social security program. Property tax – tax on the value of property or real estate you own. Sales tax – tax on goods and services. Excise tax – tax placed on certain goods and services (gasoline, cigarettes, liquor, and telephone service). continued

Types of Taxes Some types of taxes may fit in more than one classification: Direct taxes – charged directly to the taxpayer. Indirect taxes – included in the price of taxed items. Progressive taxes – take a greater share of income from the rich than the poor. Regressive taxes – take a lower percentage of income from the rich and a higher percentage from the poor.

Preparing Tax Returns Tax returns must be filed yearly declaring how much income you made and how much federal tax you owe. If your state taxes income, you will have to file a state tax return. However, everyone who earns money must file a federal tax return. continued

Preparing Tax Returns You will receive a refund if too much tax was withheld, but if too little was withheld you have to pay the amount owed. Form W-2: The Wage and Tax Statement that shows the amount you were paid the year before. Your Form W-2 will help you prepare your federal income tax return. On your tax return you must list: All income made from wages, salaries, tips, and bonuses. Money made from savings accounts, stocks, bonds, and other financial investments. continued

Preparing Tax Returns Forms 1040EZ and 1040A: Form 1040: Short forms. Easiest and quickest to file. Used by taxpayers whose income is in a certain range and who do not choose to itemize deductions. Form 1040: Long form. Requires more time and information; usually have to file extra tax forms with it. continued

Preparing Tax Returns When preparing your federal tax return, you should: Get all your financial records together. Read instructions before you begin. Prepare forms in pencil first. Make copies of finished forms for your records. April 15th is the final date for filing; you may have to pay penalties or interest fees if you file late.

Filing Your First Tax Return To fill out Form 1040EZ: Determine your filing status. Report your income. Identify payments and taxes. Determine the refund or amount owed. Sign the return. Attach a copy of Form W-2. Mail form to the Internal Revenue Service Center.

Social Security Social security is the government program that provides income when family wages are lessened or stopped due to retirement, disability, or death. It is not intended to replace the earnings you formerly received. It is a basic level of income for you to build on.

Social Security Benefits Employers and employees both pay social security taxes. Social security taxes deducted from your paycheck pay for other people’s benefits. When you receive social security benefits, they will be paid for by the taxes of other people. continued

Social Security Benefits Types of social security benefits include: Retirement benefits. Disability benefits. Survivors’ benefits. Medicare benefits. Medicaid benefits. continued

Social Security Benefits Retirement benefits: Eligible at age 67 for people born after 1959. Workers who retire earlier will receive lower benefits. Disability benefits: Eligible if worker has severe physical or mental condition preventing him or her from working that is expected to last at least 12 months or result in death. Survivors’ benefits: If a worker dies, benefits are paid to family members. Supplemental Security Income (SSI): Benefits for people with disabilities who have little income.

Medicare Benefits Medicare: The health insurance program provided through social security. The program was created to give older citizens and people with disabilities affordable health insurance. Medicare provides hospital insurance, medical insurance, and prescription drug insurance.

Medicaid Benefits Medicaid: A health care program funded by the government for those people who cannot pay for health services. The program is run by participating states that set the income level for acceptance into the program. Medicaid covers hospital, laboratory, and clinic services in most states. Some states include additional services.

Workers’ Compensation Workers’ compensation is an insurance program managed by the states that provides payments to workers who have been injured on the job. Benefits include: Medical care benefits. Disability income. Rehabilitation benefits. Death benefits. continued

Workers’ Compensation Medical care benefits: All medical expenses are covered, including hospital costs, doctors’ fees, and rehabilitation services. Disability income: Disabled workers who cannot come back to work receive a percentage of their weekly wage until they return to work. continued

Workers’ Compensation Rehabilitation benefits: Money for retraining workers whose injuries force them to give up their jobs. Death benefits: A deceased worker’s spouse or children receive a certain amount of money.

Unemployment Insurance Unemployment insurance: Provides benefits to workers who have lost their jobs. Common requirements to qualify for unemployment insurance: Length of employment meets minimum requirement, usually one year. Loss of job through no fault of the worker. These benefits are not permanent. They are meant to provide income security until the worker has another job.

Thinking Back What are the different forms of income an employee can receive? What is the difference between gross pay and net pay? How are consumers taxed and what types of taxes do they pay? What benefits are provided through the social security program?