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Financial Tip

Oliver Wendell Holmes, former Justice of the United States Supreme Court, once said, "Taxes are what we pay for a civilized society." Although people work hard to meet their needs and the needs of their families, there are some things they cannot purchase themselves. For example, the taxes paid to state and local jurisdictions help pay for police and fire protection. These taxes also pay for the operation of the local governments, and for local recreation areas such as parks and other public facilities.

On the national level, federal income taxes help pay for defense for the country. They also pay for capital facilities such as highways and other transportation services, and to help those who are poor or ill. These are all services that individual citizens cannot purchase the way they can buy food and clothing and the other necessities of life. When people live together in a society, all of its citizens bear the cost of providing such services. Taxes are the means by which the society raises the money to cover these public costs.

The United States Department of the Treasury has a number of fact sheets that can help people better understand the various taxes imposed in the United States. These include: Economics of Taxation explains how taxes support government services and benefit the country's citizens. Writing and Enacting Tax Legislation explains the process for developing and passing legislation into law.

In addition, Lesson 1.5 of the Yes, You Can Curriculum includes classroom examples of how taxes are collected and used by the various jurisdictions.

Source: Adapted from United States Department of the Treasury.

Income Taxes and Payroll Deductions - Where is My Money Going?

For many teenagers, having a job and the ability to earn their own money is a rite of passage. With it comes a certain amount of freedom to make decisions regarding spending and saving. It's also an opportunity to start building positive behaviors and a life-long attitude towards managing money.

While starting that first job is often a bit scary, getting the first paycheck can be one of the most anticipated moments in a young person's life. The acclaimed book, Yes, You Can... Raise Financially Aware Kids, shares with parents how to prepare their children for what might be a shock when they receive their first paycheck. Especially if they are looking forward to taking home all the money they've calculated they should have earned based on the hours they worked.

Before the first pay day arrives, talk to your teenager about the difference between gross pay (what they earn before taxes and other deductions) and net pay (what they will actually receive) and explain how these deductions are used:

  • Federal withholding - supports federal programs and is paid to the IRS;
  • FICA - (Federal Insurance Contributions Act) supports the Social Security System, which provides money to senior citizens, dependant survivors and the disabled;
  • Medicare - supports the hospital insurance provided under Social Security;
  • State withholding - supports state programs and is paid to the state revenue department;
  • Local withholding - supports city and county programs; and,
  • Insurance and benefits (if applicable) - includes such items as health/dental/disability insurance, retirement accounts and miscellaneous deductions.

As of September, 2010, the deductions for Social Security and Medicare are 6.2 percent and 1.45 percent, respectively, per pay period. Federal withholding is based on total earnings, how often you get paid each month and the number of personal deductions taken. State and local withholding varies, depending on specific state and city assessments. Seven states - Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming - do not impose a tax on income.

It is important for first-time workers to understand that while it may be frustrating to see money withheld from their check while they are young, the purpose of the FICA deductions is to benefit them when they reach retirement age. And, income taxes are a responsibility shared by all wage-earners to fund programs and services at the federal, state and local levels.

Teachable Moments

To help your working teen understand more about the U.S. tax system, sit down and discuss the following:

  • The United States has a progressive tax system. What does that mean?
  • How do income taxes for a teenager compare with an adult worker?
  • How does the number of deductions taken influence the amount of federal taxes that are withheld each pay period?
  • What are some of the programs and services funded by federal income taxes?
  • How are state and local income taxes used to fund programs in your area?

For answers to these questions download the free Yes, You Can curriculum for grades 6-12.