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Finance: What is a Tax Deduction? 102 Views
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What is a tax deduction? Tax deductions decrease the amount of taxable income reported so that less tax is owed. For everyday civilians, these deductions come from things like owning a house, being married, having kids, etc.
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Transcript
- 00:00
Finance allah shmoop shmoop What is a tax deduction Uh
- 00:06
taxes Love him Hate him You can't leave him but
- 00:10
you can lower them legally by being you know thoughtful
- 00:13
about how you spend your earnings All right How do
- 00:16
we do this Well let's start with the largest tax
Full Transcript
- 00:18
deduction in america the home mortgage And you you the
- 00:23
dentist who makes one hundred fifty grand a year for
- 00:26
putting your fingers in wet mouth Well remember that for
- 00:29
individuals versus corporations we pay a graduated or quote progressive
- 00:35
unquote tax rate Like almost nothing On the first fifteen
- 00:39
grand we earned on about ten percent from fifteen to
- 00:42
thirty grand And then about twenty percent from thirty to
- 00:44
sixty grand And so on That's progressive So on the
- 00:47
last twenty grand of earnings you make well you might
- 00:50
pay say forty percent in taxes and yeah we know
- 00:53
the numbers own exact We're just illustrating a point Here
- 00:56
you have a mortgage of three hundred thousand dollars on
- 00:58
a home you bought for four hundred thousand dollars right
- 01:01
So you put a hundred grand down and borrow three
- 01:03
hundred The mortgage costs you six percent per year in
- 01:06
interest or eighteen thousand dollars to rent that three hundred
- 01:09
thousand before you owned the home The irs thought of
- 01:13
you as one hundred fifty grand a year earner but
- 01:16
one hundred percent of the interest on the home is
- 01:19
fully tax deductible So what about that last twenty grand
- 01:23
iii The money you earn from one hundred thirty k
- 01:26
to one hundred fifty k Well as faras the irs
- 01:29
is concerned now that you have a home you get
- 01:31
taxed as if you earned just one hundred thirty two
- 01:35
grand not one hundred fifty k actually earned Why Because
- 01:39
that eighteen thousand dollars in interest comes right off the
- 01:43
top of your earnings See there's the math right there
- 01:46
one hundred fifty minutes eighteen hundred thirty two taxable earnings
- 01:48
it's as if you didn't earn that money ever can't
- 01:55
all right well if you'd had no deductions on that
- 01:57
last twenty thousand dollars of earnings you'd have paid forty
- 02:00
percent or eight thousand dollars in taxes But now on
- 02:04
that last twenty thousand dollars thanks to your mortgage deduction
- 02:07
well you only have taxable income of two thousand dollars
- 02:11
And yes you pay forty percent on that two thousand
- 02:14
Or eight hundred bucks And you mumbled thank you government
- 02:17
for largely splitting the cost of my mortgage with me
- 02:20
The american dream is alive and well that's what you
- 02:23
say Okay And thank you jay There are other deductions
- 02:26
beyond home mortgages of course but well you get the
- 02:29
gist here of how they work from a taxpayer's perspective
- 02:33
Deductions like those from your home mortgages are a good
- 02:36
thing Common personal deductions also include things like prepaid healthcare
- 02:41
costs and the cost of feeding quote dependent unquote children
- 02:45
Aii those noisy things sleeping in your spare bedrooms until
- 02:49
they're eighteen Okay so those air personal deductions things that
- 02:52
individual citizens take But what if you're a corporation Well
- 02:56
in a way it's kind of easier Think of most
- 02:58
corporations is having a flat thirty percent tax from the
- 03:01
first dollar they make just keep things simple Participation trophy
- 03:04
company in kameda one hundred million dollars last year and
- 03:08
paid thirty million in taxes They netted seventy million after
- 03:12
tax The company really needs a new trophy smelting machine
- 03:16
because with so much demand for participation trophies of late
- 03:20
while the old one is running dullah with mediocrity the
- 03:24
company spends forty million box on the new machine knowing
- 03:27
that it will be worthless in ten years either because
- 03:30
it wears out or because the country gets riel or
- 03:33
you know simply remembers to you know have a nice
- 03:35
day participation trophy land Welcome to it They'd appreciate forty
- 03:39
million dollars in equal parts of four million box each
- 03:42
year over ten years so that in the next year
- 03:45
when they again or in one hundred million dollars well
- 03:47
they now get to deduct four million bucks and appreciation
- 03:51
from their smelting machine against their hundred million dollars in
- 03:55
earnings So again as faras the irs is concerned they
- 03:58
didn't really earn one hundred million dollars even though they
- 04:00
did They earned quote on ly unquote ninety six million
- 04:04
and yes they still pay their thirty percent tax Only
- 04:07
now instead of paying it on a hundred million bucks
- 04:09
it's paid on ninety six million of earnings or point
- 04:13
three times ninety six or twenty eight point eight million
- 04:17
in taxes they did Abducted from their taxes The four
- 04:21
million box expected value decline from their smelting machine Right
- 04:25
It goes down four million a year in value from
- 04:27
the forty they paid They received essentially a credit on
- 04:30
their taxes of one point two million dollars So instead
- 04:34
of that year's depreciation costing the company four million bucks
- 04:38
well it really cost them more like two point eight
- 04:41
million If you ignore a bunch of other things like
- 04:42
the original capital cost of the machine what else they
- 04:45
might have done with that money oven you know via
- 04:48
smelting machine Think think Corporate jet Yeah those g sixes 00:04:52.774 --> [endTime] are surprisingly tasteful
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