The U.S. federal government collects about two-thirds of the taxes in our economy. It raises this money in a number of ways, and it finds even more ways to spend it.

Receipts Table 2 shows the receipts of the federal government in 2004. Total receipts that year were $1,880 billion, a number so large that it is hard to comprehend. To bring this astronomical number down to earth, we can divide it by the size of the US. population, which was about 294 million in 2004. We then find that the average American paid $6,397 to the federal government.

The largest source of revenue for the federal government is the individual income tax. As April 15 approaches every year, almost every American family fills out a tax form to determine how much income tax it owes the government. Each family is required to report its income from all sources wages from working, interest on savings, dividends from corporations in which it owns shares, profits from any small businesses it operates, and so on The family’s tax liability (how much it owes) is then based on its total income.

TABLE 2 Receipts of the Federal Government: 2004

family’s income tax liability is not simply proportional to its income. Instead, the law requires a more complicated calculation. Taxable income is computed as total income minus an amount based on the number of dependents (primarily children) and minus certain expenses that policymakers have deemed deductible (such as mortgage interest payments, state and local tax payments, and charitable’ giving). Then the tax liability is calculated from taxable income using the schedule shown in Table 3.

This table presents the marginal tax rate–the tax rate applied to each additional dollar of income. Because the marginal tax rate rises as income rises, higher-income families pay a larger percentage of their income in taxes. Note that each tax rate in the table applies only to income within the associated range, not to a person’s entire income. For example, a person with an income of $1 million still pays of the first $7,150. (We discuss the concept of marginal tax rate more fully later in this chapter.

TABLE 3 The Federal Income Tax Rates: 2004

This table shows the marginal tax rates for an unmarried taxpayer. The taxes owed by a taxpayer depend on  the marginal tax rates up to his or her income level.

Next in magnitude, but much smaller than either individual income taxes or social insurance taxes, is the corporate income tax. A corporation is a business that is set up as a separate legal entity. The government taxes each corporation based on its profit-the amount the corporation receives for the goods or services it sells minus the costs of producing those goods or services. Notice that corporate profits are, in essence, taxed twice. They are taxed once by the corporate income tax when the corporation earns the profits; they are taxed a second time by the individual income tax when the corporation uses its profits to pay dividends to its shareholders. In 2003, the tax rate on dividend income was reduced to 15%, in part to compensate for this double taxation.

Spending Table 4 shows the spending of the federal government in 2004. Total spending was $2,292 billion, or $7,798 per person. This table also shows how the federal government’s spending was divided among major categories.

TABLE 4 Spending of the Federal Government: 2004

Medicare, me next category in Table 4, is the government’s health plan for the elderly. Only a bit smaller than Medicare is other health spending. This includes Medicaid, the federal health program for the poor. It also includes spending on medical research, such as through the National Institutes of Health. Next on the list is net interest. When a person borrows from a bank, the bank requires the borrower to pay interest for the loan. The same is true when the government borrows from the public. The more indebted the government, the larger the amount it must spend in interest payments.

The other category in Table 4 consists of many less expensive functions of government. It includes, for example, the federal court system, the space program, and farm-support programs, as well as the salaries of members of Congress and the president.

You might have noticed mat total receipts of the federal government shown in Table 2 fall short of total spending shown in Table 2 by $412 billion. In such a situation, the government is said to run a budget deficit When receipts exceed spending, the government is said to run a budget surplus. The government finances a budget deficit by borrowing from the public. When the government runs a budget surplus, it uses the excess receipts to reduce its outstanding debts.

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