COMMON TAX TERMS
Adjusted Gross Income (AGI)
Gross Income minus all "Pre-AGI" Deductions. AGI is an important number in tax calculations because many other tax formula's are calculated using AGI as a multiplier in that tax formula. For example, taxpayers (choosing to itemize deductions) are allowed to deduct medical expenses they pay throughout the year. However, taxpayers cannot deduct ALL medical expenses but only the medical expenses that exceed 7.5% of their AGI.
Charitable Contribution Deduction
A tax deduction that is allowed (subject to a percentage of the taxpayer's AGI) for all contributions to qualified charitable organizations. Many athletes are tied to various charitable activities and while we hope that is due to their charitable spirit, they also receive large tax breaks because of these charitable activities.
Depreciation
A taxable deduction that is allowed for the wear and tear of items used in business. For athletic teams, depreciation can be used on stadiums and most other team assets.
Effective Tax Rate
In contrast to the marginal tax rate this is the actual percentage of the compensation you earned in a year that was paid to the government in taxes. Because many portions of income are allowed to be exempt, deducted, or credited against - this tax rate percentage is generally, significantly less than a taxpayer's Marginal Tax Rate. For example, in 2009 the average effective tax rate was 17.4% which is much less than 4 of the 6 marginal tax rates our country had at that time.
Employee
A taxpayer that performs services for an employer who is allowed (via the employment agreement) to tell the employee what to do, how to do it, and exert general control over the employee. Most athletes such as NBA, NFL, MLB players are employee's under the IRS definition.
Employment Expenses
One of the few categories of expenses that an employee (in contrast to a self employed taxpayer) can deduct from their taxable income. The expenses need to be ordinary and necessary to perform the duty they were hired to do. For athletes, the expenses for hiring an agent or outside training or league fines are generally allowed under employment expenses.
Exclusions
Income that has been predetermined by the government to not be included in a taxpayers gross income. Because it is excluded from gross income it is not included in any part of the tax liability formula.
Federal Tax
Taxes due to the United States each year. The United States is different than most other countries in that it taxes all of its citizens on income earned and not all of its residents. For example, if a US Citizen resides in London they are still liable for US Federal Taxes because they are a US Citizen. However, a Canadian Citizen who resides in the US would not be liable to Canadian taxes because Canada taxes its residents for the income they earn in their country and not their citizens.
Filing Status
Factor that organizes taxpayers into various categories throughout the entire tax liability calculation. A taxpayer's filing status is generally determined by their marriage status at the end of the taxable year. The available filing statuses are Single (unmarried, or divorced and without children), Head of Household (unmarried but pays over half the cost of maintaining a home for a dependent), Married Filing Separately (MFS) (a couple that is married at year end but choosing to file separate tax returns) and Married Filing Jointly (MFJ) (a couple that is married at year end and choose to use one tax return).
Gross Income
Simply, all compensation earned within a year from any avenue possible.
Internal Revenue Service (IRS)
A division of the US Treasury Department who is responsible for collecting taxpayers federal taxes.
Internal Revenue Code
The Federal Statutory Law that provides all tax laws for the United States. Otherwise known as an extremely boring evening read.
Itemized Deduction
In contrast to the Standard Deduction, a tax payer may choose to itemize allowable expenses and deduct them from their taxable income. There are many various expenses that can be deducted through itemized deductions but (obviously) taxpayers won't itemize their deductions unless it is above their filing status' standard deduction amount. Generally, sports athletes will itemize their deductions because they are allowed to deduct expenses for agents, training, fines, etc. and that is greater than their standard deduction.
"Jock Tax"
A slang term used for a tax that taxpayers must pay to a state they are not a resident of but that they earn income from. The taxable income earned from a state a taxpayer is not a resident of can be hard to track so this tax is commonly only levied against athletes and other high profile taxpayers, hence the name "jock tax".
Marginal Tax Rate
Tax rates predetermined by Congress each year that are multiplied to your taxable income to determine your tax liability due. These rates are set marginally at various taxable income levels and increase as your income increases. The marginal tax rates for a taxpayer filing Single in 2013 are:
|
to $8,925
$8,925 to $36,250: $36,250 to $87,850: $87,850 to $183,250: $183,250 to $398,350: $398,350 to $400,000: $400,000+: |
10%
15% 25% 28% 33% 35% 39.6% |
Personal Exemption
Like deductions and credits, the personal exemption is another set dollar amount determined by Congress that allows taxpayers to reduce their tax liability. A personal exemption is allowed for each person who counts on the income you provide such as yourself, your spouse and your dependents. The personal exemption is deducted after AGI is calculated and helps determine a taxpayers taxable income. The personal exemption is allowed regardless of how deductions are claimed.
Pre-AGI Deduction
Deductions that are the exception to the rule of how deductions are subtracted in the tax liability formula. This is because the IRS has decided to allow taxpayers to subtract from Gross Income instead of Taxable Income. These deductions provide more benefit to the tax payer because many tax calculations used to get to a taxpayers tax liability are multiplied by the taxpayer's AGI. Being allowed to take a deduction Pre-AGI allows the AGI number to be lower for the taxpayer making it appear they have earned less income in the tax year. For example, medical expenses can only be deducted if they exceed 7.5% of the taxpayers AGI. If a taxpayer has a lower AGI the 7.5% limit on deductions would obviously be lower. (AGI of $10,000 * .075 = $750 disallowed med. exp.; AGI of $15,000 * .075 = $1,125 disallowed med. exp.)
Reciprocity Agreement
In tax terms, an agreement between two states or countries where the states / countries agree to not tax the income of the other state's / country's citizens. This relieves taxpayers from having to pay taxes twice (once to their resident state and once to the state they earned the income in) on income earned outside of the states they reside in. This is especially beneficial to athletes who earn income in many states and would have to pay the "jock tax" if it were not for these reciprocity agreements. Only 15 states and Washington D.C. currently have reciprocity tax agreements.
Self - Employed
A taxpayer who individually decides their work schedule, where they will work, and pays their own expenses . Self - Employed individuals pay a special self - employment tax but are also allowed to itemize business expenses not generally allowed to employee taxpayers. There are few athletes that are Self-Employed but golf and tennis players would generally fall under this category.
Standard Deduction
A dollar amount determined each year by Congress that taxpayers are allowed to reduce from their taxable income regardless of the taxpayer's specific tax circumstances. This deduction is allowed in place of a taxpayer choosing to itemize their allowable deductions throughout the tax year. For 2013 a Married Filing Jointly taxpayer would be allowed to deduct $12,100 from their taxable income if they elect to use the standard deduction.
State Tax
Taxes due to each state in which a taxpayer earns income from. For example, if you work a job in California you are earning income in California and are therefore liable for income taxes due in California. Income taxes are due in the state they are earned regardless of where the taxpayer resides. This causes a lot of difficulty for taxpayer's who earn income in several states. (See Jock Tax) State taxes are due in addition to federal taxes due but there is an allowable deduction in federal income tax liability for state income taxes paid.
Tax Credit
Another tax break creation by Congress that allows taxpayers to subtract a specified amount of income from their tax liability. Tax credits provide a much larger tax relief to taxpayers than tax deductions . This is because tax credits are subtracted from a tax payer's tax liability instead of their taxable income. For example, lets assume a taxpayer in the 28% marginal tax bracket receives either a $1,000 tax credit or a $1,000 tax deduction. If that taxpayer had $10,000 taxable income, a $1,000 tax deduction would make the taxpayers net tax liability due be $2,520. [28% * $9,000 ($10,000 - 1,000 tax deduction)] However, a $1,000 tax credit would make the taxpayers net tax liability due be $1,800. [(28% * 10,000 = 2,800) - $1,000 = $1,800] Examples of tax credits include Child Credit or Earned Income Credit. In sports, many tax credits are given to sports teams looking to build new or improve their stadium facilities.
Taxable Deduction
Also called Post-AGI deduction. Deductions are tax breaks the IRS and Congress have created that allow taxpayers to subtract a specified amount of income earned throughout the year from their taxable income. Many times deductions are created to incentivize a certain type of activity from taxpayers. For example, Congress has determined that charities are a vital part to our country and therefore allow a deduction for many charitable contributions. Taxable Deductions can either be a Standard Deduction or an Itemized Deduction.
Taxable Income
The amount of income Congress has determined that you can be taxed on. Once this number is determined it is multiplied by the marginal tax rate. This does not equal gross income because there are many tax laws that allow certain forms of income that a taxpayer earns throughout the year to be exempted from taxable income.
Tax Liability Formula
The formula used to calculate how much taxes you owe in a year. The formula can be seen here in cool graphics or the formula is as follows: It is Gross Income - Pre AGI Deductions = AGI. AGI - [(Itemized Deductions or Standard Deduction)+Personal Exemption] = Taxable Income. Taxable Income * Marginal Tax Rate = Gross Tax Liability. Gross Tax Liability - Tax Credits = Net Tax Liability Due (or Tax Refund if number is negative).
Unearned Income
Income that is not obtained through performing services. Unearned income usually deals with income received from assets in the stock market such as interest and dividends. Another form of unearned income that athletes frequently deal with are royalty payments. For example, the royalty payment athletes receive for being on a baseball card, in a video game, etc. are considered unearned income.