What Is a Tax Expense?

Tax Expenses Explained in 5 Minutes or Less

Businessman using laptop in office
Photo:

Luis Alvarez / Getty Images

Definition
A tax expense is the amount an individual or commercial entity owes in taxes to a governing agency

A tax expense is the amount an individual or commercial entity owes in taxes to the government. The tax rate determines the actual amount the owing party must pay, and there are several types of tax expenses: income taxes, sales taxes, unemployment taxes, and capital gains taxes, just to name a few.

Benjamin Franklin famously said, “Nothing is certain except death and taxes.” At some point, you’re likely to be faced with a tax expense. Keep reading to learn how tax expenses work and the different types you might encounter.

Definition and Examples of a Tax Expense

When an individual or commercial entity owes a monetary amount to a governing agency, that amount is considered a tax expense. The amount of a tax expense is determined by the tax rate, which is typically a percentage of the amount being taxed. The government imposes multiple types of taxes, creating tax expenses related to earned income, investments, and gross sales revenue.

Consider this common example of a tax expense for individuals: direct income taxes. Say it’s April and you’re using tax preparation software to calculate how much you owe in income taxes. You discover that you owe $1,000 to the federal government and $800 to your state. In total, you are required to pay a tax expense of $1,800.

How Tax Expenses Work

Arguably, the most common tax expense for most Americans is income tax. The federal government imposes taxes on the income you earn, which includes salaries, wages, tips, and commissions. Income taxes also apply to unearned income, such as interest or dividends paid on stocks and bonds.

Americans face tax expenses because the government needs to raise capital to provide public goods and services for the benefit of the country. Taxes are commonly used to fund social and medical benefits, such as Social Security, Medicare and Medicaid, public transportation, and public education. Taxes are also used for military and defense programs, veterans’ benefits, and foreign aid.

Your federal tax expenses are affected by how much you make and your filing status. The U.S. enforces a progressive tax income, in which portions of your income are taxed at different rates. For example, for a taxpayer filing their 2021 tax returns as an individual, income up to $9,950 is taxed at 10% and income from $9,951 to $40,525 is taxed at 12%. Married individuals filing a joint return will have their income up to $19,900 taxed at 10%.

Taxpayers often want to minimize their tax expenses, reducing the amount they owe to the government. Individuals can use various tax credits to lower their tax expenses, as well as some tax deductions. The Child and Dependent Care Credit, for example, can help eligible individuals offset some of the costs of babysitting or daycare. Another example is the Lifetime Learning Credit, which offers a credit of up to $2,000 for eligible students seeking post-secondary education.

Businesses can minimize their tax expenses by taking advantage of business tax deductions. For example, companies are eligible to deduct business expenses that are both “ordinary and necessary,” per the IRS. Deductions can include the mileage for business use on your vehicle, employee salaries, rent, interest on commercial loans, and business insurance.

Note

For both individuals and businesses, failure to pay tax expenses could lead to penalties. These scenarios can include failure to file your taxes on time, claiming less income than you actually earned, claiming tax credits or deductions you don’t qualify for, or underpaying on your estimated taxes. Penalties can often mean additional interest on top of the tax expenses you already owe. 

Types of Tax Expenses

Income taxes are just the start of the tax expenses you might face as an individual. Other tax expenses you might encounter include:

  • Capital gains taxes
  • Sales taxes
  • Excise taxes
  • Property taxes
  • Estate taxes

Several types of tax expenses are unique to businesses with employees:

  • Medicare taxes
  • Federal unemployment (FUTA) taxes
  • Federal income taxes
  • Gross receipts taxes

What Tax Expenses Mean for Individuals

Individuals should be wary about overpaying in taxes. Although receiving a generous refund check after filing your tax return can feel nice, you’re paying more than your required tax expenses throughout the year. That means the government is taking more money than necessary out of your paycheck. Some experts might even argue that you’re giving the government an interest-free loan.

Note

One alternative to overpaying in taxes is to adjust your withholding properly so that you are paying closer to your actual tax expense obligation. Any excess income that you were previously overpaying could be put into an interest-yielding savings account or a retirement investment account, like a 401(k).

Key Takeaways

  • A tax expense is any amount an individual or business owes in taxes to a governing agency.
  • The actual amount owed in taxes is determined by the tax rate—typically a percentage of the total amount being taxed.
  • Common examples of tax expenses include income taxes, capital gains taxes, payroll taxes, and unemployment taxes.
  • Failing to pay or underpaying your tax expenses can often lead to interest and penalties.
  • Individuals should be careful about paying beyond their required tax expenses throughout the year—even if they receive the money back as a tax refund, they could have used, saved, or invested the funds in other ways during the year.
Was this page helpful?
Sources
The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.
  1. National Constitution Center. “Benjamin Franklin’s Last Great Quote and the Constitution.” Accessed Nov. 30, 2021. 

  2. Tax Policy Center. “How Does the Federal Government Spend Its Money?” Accessed Nov. 30, 2021.

  3. Tax Foundation. “2021 Tax Brackets and Rates for Single Filers, Married Couples Filing Jointly, and Heads of Households.” Accessed Nov. 30, 2021. 

  4.  IRS. “Lifetime Learning Credit.” Accessed Nov. 30, 2021. 

  5. IRS. “Deducting Business Expenses.” Accessed Nov. 30, 2021. 

Related Articles