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What to Know about Individual Income Tax

The United States of America holds its Tax Season every year, where the citizens of the country are provided tenure for submitting their due taxes. For 2022, this day has been extended to April 18, 2022, which brings users a few more days to file their 2021 tax returns. This article will be extending its discussion across the individual income tax and how it is recognized and adopted across the state level.

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Part 1: What is an Individual Income Tax?

Personal Income Tax across state levels generally represents the individual income tax. As per its name, it refers to all the basic incomes that an individual has earned throughout the year. While understanding the concept generally, its official definition is referred to something as follows:

“It is the tax levied on the wages, salaries, dividends, interest, and other income a person earns throughout the year.”

Individual Income Tax is imposed by the state, as it holds the jurisdiction of including and excluding it across the year from their citizen’s earnings.


Part 2: What Income is Taxed?

Using Federal-Adjusted Gross Income (AGI)

The states are bound to follow the basic definition of taxable income. Out of the 50 states across the US, 32 states and the District of Columbia followed the federally-adjusted gross income (AGI) initiation point for the state income tax.

Talking more about the Federal AGI and its metrics, it represents the gross income after the "above-the-line" adjustments of the income, which comprises individual retirement allowances and student loan interest cuttings. Apart from these states, five states have their personal definition of starting points of income; however, they are majorly based on the federal tax rules and are equivalent to the federal AGI value.

Along with these states, some consume the federal taxable income as the starting point of their individual taxation. This value represents the federal AGI and the federal value recognition of standard and itemized deductions.

Variating State Income Tax Policy

While learning the basic federal terminologies that guide states in setting up their individual taxation policies, their rules can potentially diverge from the federal laws, which is observed across the states in most cases. Some states charge complete tax municipal bond interests from securities that have been issued outside the state. In contrast, there are states that have full or partially exempt pension income across the taxable income.

TCJA Enforcing The Change in Rules

With states following their own lead in setting up the Individual Income Tax, TCJA (Tax Cuts and Job Acts) forced them to consider changes across their dedicated systems. States that utilized personal exemption on the state income tax calculation were the top contenders in this process.

Congress was also involved under similar enforcement during the COVID-19 pandemic. During the pandemic, Congress forcefully increased the federal earned income tax credit and child tax credit, which, according to Congress, was to be taken further into the states as a part of their policy.


Part 3: How Does Individual Income Tax Work?

Individual Income Tax is a common taxation type that is considered across major countries throughout the globe. In the United States, this policy has been implemented across federal and state levels. With such common perception and consideration of this form of taxation, two different systems across it vary country by country.

Some states operate across the flat income tax system, whereas potential contenders of a progressive income tax system. While understanding the existence of different income tax systems across different states, it is necessary to realize what this system actually means to the world.

The flat tax system is recognized as the system applied across a single tax rate across all income levels. This system was discovered as a potential replacement to the progressive system of income tax, where there are concepts of increasing taxation across increasing levels.

As stated above, the progressive form of income tax covers the increasing percentage of tax taken across the rising income. People with lower income would pay a lesser percentage of tax as compared to users who have a higher income. This averaging of burden according to the pay of individuals makes progressive a technique to manage inflation within the finances of the state.


Part 4: Who Pays the Federal Income Tax?

As the United States follows the progressive form of individual income tax, individuals with higher incomes pay larger shares of taxes as compared to people who have a lesser income. Talking about the taxpayers, the federal income tax is paid up by all individuals with a personal income.

While we look deeply across the percentage of people that hold up the specific bracket of federal income tax, the IRS (Internal Revenue Service) revealed their taxation details in the federal income tax data of 2018 where it was shown that:

  • Out of all taxpayers, the top 1% were responsible for paying up the country's 40.1% of the complete tax, while the 50% of taxpayers at the bottom of the list only paid up 3% of the country's tax.
  • The top cream of the taxpayers across the 1% paid more than the bottom 90% of the taxpayers, which only covered 6% of the total country’s tax.
  • The top had the highest average tax rate of 25.4%, seven times greater than the bottom 50% of the taxpayers, i.e., 3.4%.

Under such metrics, it is evident that where every citizen pays up for the income tax, certain divisions hold the major sections of the overall individual tax return of the country.


Part 5: Which States Levy Individual Income Taxes?

The United States is operated across federal laws, which according to the 50 different states across the country, can be changed according to the jurisdiction of the state. This is why personal income tax has had a different position across different US states. Talking about 41 states out of the 50, these states levy income tax under a certain understanding. One of the states exclusively levies taxes across dividend and interest income.

Eight states have no system of adding individual income taxes to their citizens. Out of the states that have a policy of imposing individual taxes, 9 states covered the flat tax system, which meant a single rate across all taxable incomes. 32 states and the District of Columbia operated with a progressive tax system, with the brackets of income varying across each state. The state of Hawaii held the largest number of brackets, i.e., 12.

The following list of states displays those with no Income Tax and the states that have a flat rate of income tax in 2022. All the states that won't be mentioned in the list have a progressive tax system.

No Income Tax States

Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, Wyoming

Flat Income Tax States

Colorado, Illinois, Indiana, Kentucky, Massachusetts, Michigan, New Hampshire, North Carolina, Pennsylvania, Utah, Washington

Bottom Line

This discussion provided users with a detailed introduction to how the US held the issue of individual income tax across different scales. While realizing the existence of states and their power in changing the income tax rules, this article provided complete details of how the tax worked across different states and levels.

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