OVERVIEW OF THE FEDERAL TAX SYSTEM AS IN EFFECT FOR 2007
Prepared by the Staff
of the
JOINT COMMITTEE ON TAXATION
January 12, 2007
JCX-2-07
CONTENTS
Page INTRODUCTION (1)
I. SUMMARY OF PRESENT-LAW FEDERAL TAX SYSTEM (2)
A. Individual Income Tax (2)
B. Corporate Income Tax (8)
C. Estate and Gift and Generation-Skipping Transfer Taxes (12)
deductibleD. Employment Taxes (14)
E. Major Excise Taxes (15)
II. HISTORICAL RECEIPTS DATA (16)
INTRODUCTION
This document,1 prepared by the staff of the Joint Committee on Taxation, provides a summary of the present-law Federal tax system as in effect for 2007.
The current Federal tax system has four main elements: (1) an income tax on individuals and corporations (which consists of both a “regular” income tax and an alternative minimum tax); (2) payroll
taxes on wages (and corresponding taxes on self-employment income); (3) estate, gift, and generation skipping taxes, and (4) excise taxes on selected goods and services. This document provides a broad overview of each of these elements.2
A number of aspects of the Federal tax laws are subject to change over time. For example, some dollar amounts and income thresholds are indexed for inflation. The standard deduction, tax rate brackets, and the annual gift tax exclusion are examples of amounts that are indexed for inflation. In general, the Internal Revenue Service adjusts these numbers annually and publishes the inflation adjusted amounts in effect for a tax year prior to the beginning of that year. Where applicable, this document generally includes dollar amounts in effect for 2007 and notes whether dollar amounts are indexed for inflation.
In addition, a number of the provisions in the Federal tax laws have been enacted on a temporary basis or have parameters that vary by statute from year to year. For example, the recently enacted Tax Relief and Health Care Act of 2006 extended a number of expired or soon to expire provisions on a temporary basis. In addition, the provisions of the Economic Growth and Tax Relief Reconciliation Act of 2001 were initially generally to expire at the end of 2010; some provisions of that Act have subsequently been modified or made permanent. For simplicity, this document describes the Federal t
ax laws in effect in 2007 and generally does not include references to provisions as they may be in effect for future years or to termination dates for expiring provisions. A list of expiring tax provisions may be found in Joint Committee on Taxation, List of Expiring Federal Tax Provisions 2006-2020, (JCX-1-07), January 11, 2007.
1 This document may be cited as follows: Joint Committee on Taxation, Overview of the Federal Tax System as in Effect for 2007 (JCX-2-07), January 12, 2007.
2 If certain requirements are met, certain entities or organizations are exempt from Federal income tax. A description of such organizations is beyond the scope of this document.
I.SUMMARY OF PRESENT-LAW FEDERAL TAX SYSTEM
A.Individual Income Tax
In general
A United States citizen or resident alien generally is subject to the U.S. individual income tax on his or her worldwide taxable income.3 Taxable income equals the taxpayer's total gross income less certain exclusions, exemptions, and deductions. Graduated tax rates are then applied to a taxpayer’s taxable
income to determine his or her individual income tax liability. A taxpayer may face additional liability if the alternative minimum tax applies. A taxpayer may reduce his or her income tax liability by any applicable tax credits.
Adjusted gross income
Under the Internal Revenue Code of 1986 (the “Code”), gross income means “income from whatever source derived” except for certain items specifically exempt or excluded by statute. Sources of income include compensation for services, interest, dividends, capital gains, rents, royalties, alimony and separate maintenance payments, annuities, income from life insurance and endowment contracts (other than certain death benefits), pensions, gross profits from a trade or business, income in respect of a decedent, and income from S corporations, partnerships,4 trusts or estates.5 Statutory exclusions from gross income include death benefits payable under a life insurance contract, interest on certain State and local bonds, employer-provided health insurance, employer-provided pension contributions, and certain other employer-provided benefits.
An individual’s adjusted gross income (“AGI”) is determined by subtracting certain “above-the-line” deductions from gross income. These deductions include trade or business expenses, capital losses, c
ontributions to a tax-qualified retirement plan by a self-employed individual, contributions to individual retirement arrangements (“IRAs”), certain moving expenses, and alimony payments.
3 Foreign tax credits generally are available against U.S. income tax imposed on foreign source income to the extent of foreign income taxes paid on that income. A nonresident alien generally is subject to the U.S. individual income tax only on income with a sufficient nexus to the United States.
4 In general, partnerships and S corporations are treated as pass-through entities for Federal income tax purposes. Thus, no Federal income tax is imposed at the entity level. Rather, income of such entities is passed through and taxed to the owners at the individual level.
5 In general, estates and most trusts pay tax on income at the entity level, unless the income is distributed or required to be distributed under governing law or under the terms of the governing instrument. Such entities determine their tax liability using a special tax rate schedule and are subject to the alternative minimum tax. Certain trusts, however, do not pay Federal income tax at the trust level. For example, certain trusts that distribute all income currently to beneficiaries are treated as "pass-through" or conduit entities (similar to a partnership). Other trusts are treated as being owned by grantors in whole or in part for tax purposes; in such cases, the grantors are taxed on the income of the trust.
Taxable income
In order to determine taxable income, an individual reduces AGI by any personal exemption deductions and either the applicable standard deduction or his or her itemized deductions. Personal exemptions generally are allowed for the taxpayer, his or her spouse, and any dependents. For 2007, the amount deductible for each personal exemption is $3,400. This amount is indexed annually for inflation. The deduction for personal exemptions is reduced or eliminated for taxpayers with incomes over certain thresholds, which are indexed annually for inflation. The applicable thresholds for 2007 are $156,400 for single individuals, $234,600 for married individuals filing a joint return and surviving spouses, $195,500 for heads of households, and $117,300 for married individuals filing separate returns.
A taxpayer also may reduce AGI by the amount of the applicable standard deduction. The basic standard deduction varies depending upon a taxpayer's filing status. For 2007, the amount of the standard deduction is $5,350 for single individuals and married individuals filing separate returns, $7,850 for heads of households, and $10,700 for married individuals filing a joint return and surviving spouses. An additional standard deduction is allowed with respect to any individual who is elderly or blind.6 The amounts of the basic standard deduction and the additional standard deductions are index
ed annually for inflation.
In lieu of taking the applicable standard deductions, an individual may elect to itemize deductions. The deductions that may be itemized include State and local income taxes (or, in lieu of income, sales), real property and certain personal property taxes, home mortgage interest, charitable contributions, certain investment interest, medical expenses (in excess of 7.5 percent of AGI), casualty and theft losses (in excess of 10 percent of AGI and in excess of $100 per loss), and certain miscellaneous expenses (in excess of two percent of AGI). The total amount of itemized deductions allowed is reduced for taxpayers with incomes over a certain threshold amount, which is indexed annually for inflation. The threshold amount for 2007 is $156,400 ($78,200 for married individuals filing separate returns).
Tax liability
In general
A taxpayer’s net income tax liability is the greater of (1) regular individual income tax liability reduced by credits allowed against the regular tax, or (2) tentative minimum tax reduced by credits allowed against the minimum tax. The amount of income subject to tax is determined differently under the regu
lar tax and the alternative minimum tax, and separate rates schedules apply. Lower rates apply for long-term capital gains; those rates apply for both the regular tax and the alternative minimum tax
6 For 2007, the additional amount is $1,050 for married taxpayers (for each spouse meeting the applicable criterion) and surviving spouses. The additional amount for single individuals and heads of households is $1,300. If an individual is both blind and aged, the individual is entitled to two additional standard deductions, for a total additional amount (for 2007) of $2,100 or $2,600, as applicable.
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