What is Tax Liability?: Examining the Complete Federal Tax Calculation

As the financial year is approaching its end, everyone wants to know their payable tax. This phase is the most challenging and stressful period for accountants, making them calculate the tax liability of taxpayers. The whole computation process is considered complex due to the consideration of elements like phantom taxes, income sources, regulations, etc.

But what if we say you can calculate your tax charges yourself? It sounds surprising, right? Luckily, it is happening. We are going to illustrate how you can calculate your obligations at your place, along with mentioning the affecting factors. But before that, you need to understand what is tax liability.

So, why wait? Let’s get started. 

What is Tax Liability?

Tax liability is the amount an individual or a company owns in taxes to a federal government. These taxes can be calculated by yourself, an accountant, or a tax service provider. It is to be noted that federal income tax is only to be paid by entities earning over a certain limit, set by the authorities. 

Federal Income Tax Definition 

In the USA, the tax on the earnings of individuals, partners, or companies is called federal income tax. It applies to all forms of earnings, such as wages, salaries, commissions, bonuses, tips, investment income, and certain types of unearned income.

The tax liability of an entity can’t be determined just by asking out the pay. Several other factors affect the degree of tax liabilities. So, let’s hop onto the next section and find out what factors influence it. 

Factors Affecting Tax Liability

Tax liabilities are not fixed and change from year to year. Therefore, we are covering the potential factors of tax liability to help you understand what is tax liability. 

1. Taxable Income 

Recognizing your taxable income is the first and foremost step to understanding what is tax liability. The amount of your tax liability hugely depends on the level of income earned during a financial year, as the federal tax system is progressive, where high earners are charged higher rates. 

Generally, the taxpayers are divided into different sections based on their income. These sections are referred to as tax brackets, and each of these classes is charged with a specific rate. 

2. Capital Gains

Businesses mostly don’t solely work on profits and invested capital. A huge involvement in the successful business performance is of capital gains, not core earnings sources. These are the gains a business earns for activities like selling assets for more than their purchasing value. 

All the gains earned from such activities are subject to income tax and can create a variance in the actual amount of tax liability. 

3. Tax Deductions 

Tax deductions are adjustments that lower taxable income, ultimately resulting in less liability. Such kinds of deductions depend on elements like age, filing status, income, charity donations, home mortgage interest, etc. 

Hence, if you have a sufficient influence of these on your annual expenses, get ready to experience fluctuations in your tax liabilities. 

4. Tax Credits  

The federal and state governments give some exemptions on expenditures on certain types of payments that benefit the economy. Such exemptions are known as tax credits and are exempt from taxable income. 

For example, the government does not levy taxes on expenses like funding the education of an orphan, deductions for student loan interest, retirement plan contributions, etc. 

The amount of such payments is set aside from the taxable income and can change an individual’s tax liability. 

5. Filing Status

Last but not least, filing status plays a huge role in influencing the tax amount owed. The federal tax liability highly depends on taxpayers’ statuses, which can be categorized into single, married filing jointly, married filing separately, and head of household. Each of these statuses has different ranges of income bands in tax brackets. Therefore, taxpayers are advised to check their statuses, as it creates fluctuations in tax liability. 

Why You Should Know Your Tax Liability?

Along with knowing what is tax liability, you should also know why tax liability is crucial. When you were hired for employment, you must have filed an Internal Revenue Service tax form called the W-4 form. It determines the portion of your paycheck the employer is holding to pay your income taxes.

If your income tax payable is more than your withholding amount, you are deemed to pay the remaining taxes to the federal government. On the other hand, if your tax payment is less than the withholding amount, you will get a refund. In both cases, you are losing the possible entitled interest on the amount. Therefore, you won’t want to have any difference in the pre-estimated amount. That is why you should know your tax liability. 

For assistance, you can reach out to your accountant or outsource a tax expert like Accounting Byte. 

Determining Tax Rate From the Level of Income

According to the Internal Revenue Service (IRS), the tax brackets for 2024 are as follows: 

Tax Rate	Single	Married filing jointly	Married filing separately	Head of household
10%	$0 to $11,000	$0 to $22,000	$0 to $11,000	$0 to $15,700
12%	$11,001 to $44,725	$22,001 to $89,450	$11,001 to $44,725	$15,701 to $59,850
22%	$44,726 to $95,375	$89,451 to $190,750	$44,726 to $95,375	$59,851 to $95,350
24%	$95,376 to $182,100	$190,751 to $364,200	$95,376 to $182,100	$95,351 to $182,100
32%	$182,101 to $231,250	$364,201 to $462,500	$182,101 to $231,250	$182,101 to $231,250
35%	$231,251 to $578,125	$462,501 to $693,750	$231,251 to $346,875	$231,251 to $578,100
37%	$578,126 and more	$693,751 and more	$346,876 and more	$578,101 and more

This is all about tax brackets for individual taxpayers. Now the question arises, “What are the tax bands and brackets for C Corporations?”. Keep reading to find out. 

Tax Liability for C Corporations 

Before 2017, all the C Corporations were liable to pay corporate income tax, which included eight brackets where the payable percentage was between 10 and 35. But since the Tax Cuts and Jobs Act (TJCA) was passed, this percentage is fixed flat at 21%. 

In simple words, all the C corporations are deemed to pay 21% corporate tax on their annual earnings, irrespective of their income level. 

Remember that many reforms of the Tax Cuts and Jobs Act (TJCA) expire in 2025. So there are huge possibilities of new tax rates for C corps.

Tips for Lowering the Tax Liability

Although completely avoiding tax liabilities is impossible, the charges can be minimized with the following tips: 

1. Increase Contribution to Retirement Plans 

The income tax you pay is charged on the gross income earned during the financial year. This income is computed from the accounting total of all the income sources. Hence, deductions like contributions to retirement plans are deducted before the calculation of gross income. 

To enroll yourself in these plans, you need to contact your employer. But before that, make sure you are over 21 years old and less than 73. 

2. Make Charity Donations

If you follow the itemized deduction method, donating to a reputable charitable organization can reduce the taxable income, or say the gross income. The donations can be made in the following forms:

• Cash 
• Goods 
• Kinds

Remember that any contribution over $250 will require a receipt, and up to 60% of the adjusted taxable income is qualified for donations. 

3. Tax Loss Harvesting 

Tax loss harvesting is an excellent strategy to lower your tax liabilities as well as maintain a positive business portfolio. It includes selling a loss-making investment for less than the purchasing price to reduce the tax liability. 

The losses that occurred from these investments are then written off against the gains earned from selling investments at a profit. If you’re married and filing separately, the IRS has set a limit of $3,000. 

4. Contribute to Health Saving Account

Do you have a high-deductible health plan but are unaware of tax-saving tactics? You can utilize a health savings account to save money against upcoming medical expenses. The amount invested in these accounts is not subject to income tax. 

Taking this into account, the Internal Revenue Service (IRS) has set a limit in 2024 of $4,150 for individuals and $8,300 for a whole family. This limit can be increased by $1,000 if you are above 55 years. 

Examples of Tax Liability Computation

Now that you have grasped everything about what is tax liability, it’s time to glimpse into some examples. 

1. Derek works for a multinational company as an architect and earns $90,000 annually. Along with this, he earns around $15,000 from other sources like trade and investments. His tax liability will be as follows: 

   Tax Rate	Tax Bands	Tax Liability as per Tax Brackets
   10%	$0 to $11,000	$11,000 x 10% = $1,100
   12%	$11,001 to $44,725	$33,725 x 12% = $4,047
   22%	$44,726 to $95,375	$50,650 x 22% = $11,143
   24%	$95,376 to $105,000	$9,624 x 24% = $2309.76

   Total tax liability = $1,100 + $4,047 + $11,143 + $2309.76

                                 = $18,599.76  (excluding the influence of any other factors)

2. John works as a sales manager in an XYZ outsourcing company. His annual pay is counted to be $2,50,00, excluding incentives. In the current year, he earned an incentive of around $57,000. Apart from this, he doesn’t have any additional source of income. The tax liabilities of John will be calculated as follows: 

   Tax Rate	Tax Bands	Tax Liability as per Tax Brackets
   10%	$0 to $11,000	$11,000 x 10% = $1,100
   12%	$11,001 to $44,725	$33,725 x 12% = $4,047
   22%	$44,726 to $95,375	$50,650 x 22% = $11,143
   24%	$95,376 to $182,100	$86,725 x 24% = $20,814
   32%	$182,101 to $231,250	$49,150 x 32% = $15,728
   35%	$231,251 to $307,000	$75,750 x 35% = $26,512.5

   Total tax liability = $1,100 + $4,047 + $11,143 + $20,814 + $15,728 + $26,512.5

                                 = $79,344.5  (excluding the influence of any other factors)

Wrapping Up 

As an individual or business owner, knowing your tax liability in advance can help you prepare for the payment process, as accountants remain highly busy during the time of filing. It includes totaling the income from all sources and taking the influence of affecting factors into consideration, which is a complex process. 

That’s why it is preferred to go for expert assistance that has successful and commendable clients’ experiences. We hope you have understood what is tax liability and its calculation procedure. If you still have confusion, feel free to contact Accountingbyte experts.