In order for your daily life in the U.S. to continue peacefully, and your business activities to progress successfully, it is important to take steps by being aware of some basic concepts regarding taxation.
1. Adjusted Gross Income – AGI
It is calculated by adding up wages, salaries, interest, dividends, retirement income, social security benefits earned by a taxpayer during the year, and, if any, gains or losses arising from capital, business and other sources. AGI is obtained after subtracting some specific deductions (above-the-line deductions – see below) from the said total revenues.
Source: Internal Revenue Code Section 62(a)(1)
2. Tax Deductions, “Above-the-line-deductions”
Tax deductions are expenses allowed by the U.S. Internal Revenue Service to be subtracted from the adjusted gross income in order to calculate the taxable income. For example, losses recorded due to the sale of a property, educational expenses (under certain circumstances), alimony costs, miscellaneous expenses incurred by the self-employed (health insurance premiums, payments for pension plan, etc.). It is important that tax deductions are carefully identified as they reduce the total tax liability.
Source: Internal Revenue Code Section 62(a)(1)
3. Standard Deductions
It is a fixed amount determined by the U.S. Internal Revenue Service. When calculating taxable income, standard deductions are allowed to be subtracted from the adjusted gross income with no questions. In this context, although it simplifies the calculation of the taxable income, it may cause you to pay more taxes if the itemized deductions are not taken into account.
4. Itemized Deductions
Itemized deductions are certain expenses that are allowed to be subtracted from the adjusted gross income to calculate the taxable income. Taxpayers may choose to use the higher one (either the standard or the itemized deductions) when calculating their taxable income. Itemized deductions are especially preferred by taxpayers in higher-income brackets.
You can opt for the itemized deduction method when calculating your taxable income if the following expenses are incurred:
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Large donations to certain qualified charities,
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High level of real property taxes or mortgage interest payment for your home,
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Uninsured medical expenses,
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Uninsured losses as a result of theft, fire or natural disaster.
5. Taxable Income
Taxable income is the final amount that is used to calculate your total tax liability within the scope of taxation, calculated after taking into account all legal deductions and exemptions. The tax liability is determined by multiplying the taxable income with the tax rates that are applied according to the relevant income brackets or the taxable person or company. It can be named as “tax base (vergi matrahı)” by Turkish legislation. The taxable income / tax base is less than the gross income both for individuals or companies.
6. Tax Credits
The tax credit allows for a direct reduction from the taxable income / tax base. In this sense, the effect of tax deductions (standard or itemized) on your tax liability is indirect, while the effect of tax credits is more significant because it is direct. If you are allocated a tax credit of $10,000, you can directly reduce your total tax liability by $10,000.
Tax credits can be used for social and economic purposes. For example, with a view to protect the environment, people who install solar panels in their homes can be provided with a tax credit corresponding to the cost of investment. In order to encourage families to adopt children or to provide their children with education, tax credits may be extended to such families corresponding to the costs of care and education of these children.
7. Tax Exemption
Tax exemptions allow certain income, revenue, profits, and even some taxpayers to be excluded from tax altogether. Exemptions, like tax credits, can reduce your tax liability, and sometimes even completely zero it out. Exemptions can be categorized as for individuals and organizations.
In an individual context, you can declare to benefit from tax exemptions for yourself, your spouse and dependent children, relatives living with you or your parents even if they do not live with you.
In an organizational sense, for example, non-profit organizations that meet the requirements of Section 501(c) of the U.S. Internal Revenue Code are considered tax-exempt by the U.S. Internal Revenue Service. Thus, organizations that generate income through voluntary donations and organizations or companies that earn income from a commercial activity are distinguished in terms of taxation.
In order to stimulate the local economy, various tax exemptions can also be provided to some companies by the relevant state, county or city.
8. Double Taxation
Double taxation happens when taxes are paid twice on individual or corporate income. For example, C-Corps are taxed once at the company level, primarily on profits earned. Subsequently, the same profit (which is already taxed) is taxed again at the individual level as dividends or capital gains when it is distributed to shareholders.
Estate and inheritance tax can be mentioned as another example for double taxation. While the estate tax is imposed on the property or financial savings inherited at the time of death of a person, the payment of inheritance tax is done when the heirs receive the inheritance.
In addition, the U.S. has signed Treaties for the avoidance of double taxation with countries (including Turkey) that are seen as important trading partners. These treaties introduce reductions and exceptions to the taxes that a real person living in a country that is a party to the treaty or a company registered in the same country will pay on the income they earn in the other country.
Please see below:
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“U.S. Model Tax Treaty” (The U.S. drafts treaties for the avoidance of double taxation based on this model treaty.)
9. Pass-through Business
Some types of businesses (Sole Proprietorship, Partnership, and S-Corp) in the United States are not subject to corporate tax, and hence double taxation does not exist. Profits distributed in these businesses are subject to income tax which is only at the individual level, and without any taxation at the entity level. The vast majority of companies in the U.S. are pass-through businesses in terms of taxation.
10. Internet Sales Tax
Internet sales tax is a tax collected and remitted on remote sales, many of which are online. The U.S. Supreme Court – South Dakota v. Wayfair (2018) – decided that States can collect internet sales tax even if entrepreneurs do not have any physical presence (e.g. office, store, warehouse, etc.) in the State where they sell through e-commerce.
Most States that impose internet sales tax have assigned responsibility for collecting sales tax to marketplaces; such as, EBay, Amazon, or Etsy (marketplace facilitator regime). In this way, States can ensure that small-volume sellers, who cannot fulfill tax compliance requirements on their own, also pay their taxes. Besides, sellers can meet their tax collection responsibility through delegating to large corporate structures like Amazon.
Our company aims to help you benefit from the most accurate tax practices, and fill in the relevant tax forms in the most accurate way by asking you simple questions about your activities in the United States.
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