Tax Law And Accounting
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Every person, organization, company, or non-profit is subject to the income tax. Income tax refers to those taxes imposed on any money earned during a calendar year. The government taxes our income so it can have enough money to pay for the things we all need. In order to comply with tax laws and regulations, a good understanding of the Federal tax law, its sources and purposes, and the relation with the accounting profession must be achieved.
Congress and the President of the United States are responsible for writing and approving the tax laws. They are also responsible for the federal budget. The budget is how much the government plans to spend on various programs and services. The Internal Revenue Service (IRS) is responsible for enforcing the tax law, for collecting taxes, for processing tax returns, for issuing tax refunds, and for turning over the money collected to the US Treasury. Then, the Treasury is responsible for paying various government expenses.
The income tax was first developed during the Civil War when the first income tax was imposed. The purpose of the tax was to acquire money to pay for the war debt. After the war, the income tax was declared unconstitutional by the Supreme Court in 1895 because it was not assigned among the states in conformity with the Constitution. With the passage of the Sixteenth Amendment to the Constitution in 1913, Congress was authorized to impose an income tax without apportionment. Therefore, it resulted in a revenue law that taxed both individual and corporate incomes. "In 1918, during World War I, the top rate of the income tax rose to 77 percent to help finance the war effort. It dropped sharply in the post-war years, down to 24 percent in 1929, and rose again during the Depression. During World War II, Congress introduced payroll withholding and quarterly tax payments." ("Brief History of IRS", para. 3). In October 1986, the President signed into law the Tax Reform Act of 1986. This was perhaps the most massive reform of the U.S. tax system since the beginning of the income tax. With this act, Congress promised individuals and businesses lower tax rates on their income, provided they gave up or reduced many popular income tax deductions. ("An Outline of the American Economy", para. 6)
The Taxpayer Relief Act of 1997 made additional changes to the tax code providing a modest tax cut.
The centerpiece of the 1997 Act was a significant new tax benefit to certain families with children through the Per Child Tax credit. The truly significant feature of this tax relief, however, was that the credit was refundable for many lower-income families. ("Federal Income Tax History", 2006, para. 42). Through the IRS Restructuring and Reform Act of 1998 (RRA98), the IRS committed to do a better job on meeting the needs of taxpayers and collecting revenues. Today "the strategic goals guiding the future direction of the IRS are: improve taxpayer service, enhance enforcement of the tax law, and, modernize the IRS through its people, processes and technology." ("IRS Strategic Plan", p. 5).
Since 1986, the tax code has been amended several times. Over the time, income tax has become not only a means of increasing or obtaining revenue necessary to run the government, it has also become a method of setting policies, directing our economic system and our social and political behaviors in an attempt to attain specific results. That is why a tax professional must have a good understanding about the sources of the rules of tax law. The primary sources of tax information include pronouncements from all three branches of government: legislative, executive and judicial.
In their book, Hoffman, Smith and Willis (2006) describe that the legislative process originates in the House of Representatives, who approve or disapprove tax bills. Approved tax bills are forwarded to the Senate and then, if both bodies accept the bill, they are referred to the President for approval or veto. The administrative sources of the Federal tax laws are issued by either the U.S. Treasury Department of the IRS and can be grouped as: Treasury Department Regulations, Revenue Rulings and Revenue Procedures, and other administrative pronouncements. Judicial sources of the tax law are the Federal courts. Any tax dispute is first considered by the court of original jurisdiction or trial court. There are four trial courts: Federal District Court, the U.S. Court of Federal Claims, the U.S. Tax Court, and the Small Cases Division of the U.S. Tax Court.
One of the objectives of the modern income tax laws is "not only to obtain funds for running the government, but also to influence specific economic or political goals." ("Accounting for Income Taxes", para. 2). Additionally, income tax policies provide the necessary sources of tax information to solve many of the tax related problems. The Internal Revenue Code and the Treasury Regulations are the most common sources for reference in order to resolve many of the basic problems. Additionally, it is important to assess the validity of the tax law source. "Proper assessment involves careful interpretation of the tax law with consideration given to its relevance and validity. In connection with validity, an important step is to check for recent changes in the tax law." (Hoffman, Smith, & Willis, 2006, p. 2-2).
Corporations and individuals must follow tax regulations when reporting income taxes. This, sometimes, is a little complex for business and corporations as Generally Accepted Accounting Principles (GAAP) and tax regulations differ. In fact, financial statements are not the same as income tax returns. The purpose of GAAP financial statements is to provide financial information for making decisions while the purpose of income tax accounting is to calculate tax to be paid to various governmental jurisdictions. Income tax accounting does not follow GAAP standards at all. Thus, the amount of taxes payable to the IRS will differ from the amount that a company reports as tax expense. "When viewing an income statement prepared in accordance with GAAP, a line entitled Pretax Income' or Income Before Income Taxes' will be seen. This amount is not the same as the Taxable Income' found on an income tax return." ("Accounting for Income Taxes", para. 3). Taxable income is determined according to the Internal Revenue Code and Pretax Financial income is determined according to GAAP where financial statements will reflect not only the tax that is currently due, but will also include deferred taxes that relate to the revenue currently being reported.
Tax laws facilitate the participation in the tax system by all sectors of the public and must be enhanced to avoid non-compliance and tax evasion. At the same time, tax regulations must ensure that accountants and other tax practitioners adhere to professional standards and follow the law. Understanding taxation requires a good knowledge of the history and trends of the Federal Income tax, the sources of the rules of tax law, and the difference between tax accounting and financial accounting.
Facts Monk. Federal Income Tax History. Retrieved March 30, 2006, from
From Revolution to Reconstruction (1991). An Outline of the American Economy.
Retrieved March 30, 2006, from http://www.let.rug.nl/usa/ECO/1991/ch7_p6.htm
Hoffman, W. H. Jr., Smith, J. E. & Willis E. (2006). West's Federal Taxation 2006
Edition: Individual Income Taxes. Boston: West
Internal Revenue Service. Brief History of IRS. Retrieved March 30, 2006, from
Internal Revenue Service. IRS Strategic Plan. Retrieved March 30, 2006, from
University of Phoenix. (Ed.) (2005). Accounting for Income Taxes. Retrieved March 30,
2006, from University of Phoenix, Resource Web site: https://mycampus.phoenix.edu/secure/resource/resource.asp