Excise Tax: What It Is and How It Works, With Examples

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Excise Tax: What It Is and How It Works, With Examples

What Is an Excise Tax?

An excise tax is a legally imposed tax on certain commodities or services purchased, such as gasoline, cigarettes, or alcohol. Excise taxes are intranational taxes levied inside a government infrastructure, as opposed to international taxes levied over national boundaries. A federal excise tax is often levied on the sale of motor gasoline, airline tickets, cigarettes, and other products and services.

Key Takeaways

  • Excise taxes are levied on particular items or services such as gasoline, cigarettes, and alcohol.
  • They are largely taxes that must be paid by enterprises, which generally raises consumer costs indirectly.
  • Ad valorem (percentage) or particular excise taxes may be levied (cost charged by unit).
  • Sin taxes are a kind of excise tax levied on items with substantial social costs, such as alcohol and cigarettes.
  • Some excise taxes, such as property taxes and excise tax penalties on certain retirement account activity, may be collected directly from the customer.

How an Excise Tax Works

Excise taxes are generally levied on enterprises. Many are paid for by merchants, who subsequently pass the tax on to customers in the form of increased pricing. Merchants pay excise taxes to wholesalers and include them into product pricing, raising the entire retail price. As a result, most excise taxes may or may not be readily visible to customers. Some excise taxes, however, are paid directly by consumers, such as property taxes and levies on certain retirement account activity.

Excise taxes may be imposed by the federal, state, or municipal governments. While income tax money is the largest source of revenue for federal and state governments, excise tax revenue accounts for a modest part of overall revenue.

Excise taxes are largely a corporate tax. It is distinct from other taxes that companies are required to pay, such as income taxes. Businesses that charge and receive excise taxes must submit Form 720 Federal Excise Tax Return periodically and include quarterly payments. Excise tax collectors must also meet their duty to pass on excise taxes to state and municipal governments as necessary. Merchants may be eligible for excise tax deductions or credits on their yearly income tax filings.

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Excise taxes can fall into one of two categories:

  • Ad Valorem Taxes: These are set percentage rates levied on certain commodities or services.
  • Certain Taxes: These are set cash amounts that are applied to specific purchases.

Governments may apply excise taxes on commodities with a significant societal cost, such as cigarettes and alcohol, in specific instances. This is why these levies are frequently referred to as sin taxes.

Motor fuel, airline tickets, cigarettes, alcohol, health-related commodities, and health-related services are the most revenue-generating excise taxes in the United States.

Ad Valorem Excise Taxes

Ad valorem is a Latin word that translates to “according to value.” Ad valorem taxation is levied on a percentage basis. As a consequence, an excise tax depending on the value of the goods or service is imposed.

The Internal Revenue Service (IRS), for example, assesses a 10% excise tax on indoor tanning services. This implies that a tanning clinic must pay the IRS $10 in excise tax if it charges $100 for a tanning session. Similarly, if the tanning service costs $200, the corporation must pay a $20 excise tax.

Ad valorem excise taxes on other items include weapons (10%), airline tickets (7.5%), and heavy vehicles (12%). Property taxes are another sort of ad valorem excise tax.

Specific Excise Taxes

A specific excise tax is a fixed tax or charge levied on a specific commodity on a per-unit basis. Cigarettes ($1.01 per pack of 20), pipe tobacco ($2.83 per pound), beer ($7 for the first 60,000 barrels), cruise ship passengers ($3 per person), and fuel ($0.183 per gallon) are some instances of federal, particular excise taxes.

Sin taxes on certain commodities, such as beer and alcohol, are sometimes levied at both the federal and state levels, raising the cost of these things. For example, New York has a particular excise tax of $4.35 each pack of 20 cigarettes. When combined with the federal tax of $1.01, the excise taxes alone amount to $5.36. These tariffs have a significant influence on consumers.

  Retirement Accounts Abroad

Excise Taxes on Retirement Accounts

Excise taxes are also charged on some retirement account activities. Many people are familiar with these taxes as penalties. A 6% excise tax is applied to excessindividual retirement account (IRA) contributions that are not corrected by the applicable deadline. A 10% excise tax penalty applies to distributions from certain IRAs and other qualified plans when an investor makes withdrawals before age 59½.

Also, a 50% excise tax penalty is charged when investors do not take the mandatory required minimum distributions (RMDs) from certain retirement accounts. RMDs are mandatory after age 72 (for anyone who reaches age 70½ in 2020 or later) for traditional IRA accounts and several other tax-deferred retirement savings plans.

Who Pays Excise Taxes?

Excise taxes are imposed on certain goods and services, such as gasoline and alcohol. These taxes are paid directly by businesses. This tax is often passed on to the consumer, who may or may not be aware that they’re paying it to the merchant because it’s included in the price. This is common in the fuel industry, where companies include excise taxes on the price at the pump that is paid by their customers.

What Is a Federal Excise Tax?

The federal government levies a federal excise tax on various products and services. The merchant may or may not include it in the price. This implies that customers do not pay these taxes in the same way that they do other types of taxes, such as income taxes. Fuel, airline tickets, cigarettes, and alcohol are all regularly subject to federal excise taxes.

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How Is an Excise Tax Different From a Sales Tax?

Excise taxes and sales taxes are two distinct forms of taxes. An excise tax is levied on very particular commodities and is normally the merchant’s duty to pay to the government. In turn, the retailer may or may not pass the tax on to the customer by including it in the price. A sales tax, on the other hand, is levied on nearly everything and is collected from the customer by the merchant, who then forwards it to the government. Unlike an excise tax, which is a set sum, sales tax is a percentage of the price of the item or service. As a result, the tax on a $25 sweater is lower than the tax on a $200 television set.

The Bottom Line

“Nothing is certain but death and taxes,” Benjamin Franklin reportedly remarked. And there are enough of varied taxes to go around. While most people understand what income taxes and sales taxes are, excise taxes may not be at the forefront of everyone’s mind. But just because you’re unaware of them doesn’t mean you don’t pay them.

These taxes are often levied on the prices of certain products and services by the merchants who offer them. As a result, they may be passed on to you without your knowledge. However, other businesses, such as petroleum firms, are quite transparent. Take a glance at the pump the next time you go to fill up your tank. The corporation may lay out how much of the price at the pump is for gasoline vs how much is for taxes.

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