Topic 5.1 · Taxes, Net Income, and Budgeting
Taxes, Net Income, and Budgeting
Types of taxes, why tax bills differ (progressive rates, deductions, credits), and how to read a pay stub from gross to net pay.
25 min read Reviewed
Learning objectives
- 5.1.AIdentify types of taxes paid by individuals.
- 5.1.BExplain why individuals and households pay different amounts of federal income tax in the U.S.
- 5.1.CDetermine and describe components of an individual’s pay stub.
Objective statements © College Board, quoted from the Course and Exam Description.
Taxes individuals pay
| Tax | Based on | How it's paid |
|---|---|---|
| Income tax | Income | Withheld from paychecks; annual return settles the rest or yields a refund. Self-employed people pay it themselves |
| Capital gains tax | Profit from selling assets | Filed with the income tax return, usually at a lower rate |
| Payroll taxes | Wages; fund programs like Social Security and Medicare | Withheld; employer pays half; self-employed pay all |
| Property tax | Value of homes, land, cars | Annually, semi-annually or monthly |
| Sales tax | Price of items bought | Collected by the seller and sent to the government |
Why tax bills differ
- The U.S. federal income tax is progressive: higher incomes face higher rates.
- Deductions reduce , for example mortgage interest, retirement contributions, charitable donations, state and local taxes, and some medical expenses.
Key terms
- Income tax
- A percentage of income paid to government. Employers withhold it from paychecks, and an annual return settles the balance or produces a refund.
- Capital gains tax
- Tax on profits from selling assets, usually at a different (typically lower) rate than income tax.
- Payroll taxes
- Taxes withheld to fund programs such as Social Security and Medicare. Employers pay half; the self-employed pay the full amount.
- Progressive tax
- A tax in which higher incomes face higher rates, like the U.S. federal income tax.
- Tax deduction
- Reduces taxable income (e.g., retirement contributions, mortgage interest, charitable gifts).
- Tax credit
- Directly reduces the tax owed (e.g., child tax credit, education credits).
- Gross pay
- Total earnings in a pay period before deductions.
- Net pay
- Take-home pay after all deductions.
- Pretax deduction
- A deduction taken before taxes are calculated (e.g., some retirement and health savings contributions), which lowers taxable income.
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