Deitz J.E., Southam J.L. Contemporary Business Mathematics for Colleges
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A property tax for a business is a tax on real estate or other property, such as machinery,
owned by the business. Businesses usually pay property tax bills semiannually. Taxes are
based on a value, known as the assessed valuation, determined by a representative of the
local or state government.
Assessed valuation ordinarily is based on the current market value of the property
(what the property could be sold for). In many states it is fixed by law at 100%, but it is
a fraction of that value in other states. Thus a particular community may use 60% of
property values as the basis for tax billing. In most instances, land and buildings are
assessed separately.
EXAMPLE D
The Kinsey family lives in a town in which assessed valuation is 60% of market value.
The Bailey family lives in a town in which assessed valuation is 75% of market value.
Each home has a market value of $260,000. What is the assessed valuation of each home?
Kinsey: $260,000 3 0.60 5 $156,000
Bailey: $260,000 3 0.75 5 $195,000
Assessed valuation often is increased by improvements to the property, such as the
addition of an enclosed porch, a pool, or landscaping: Ordinary maintenance—a new
coat of paint, for instance, or repairs to the roof—isn’t justification for an increased
assessment.
204 Part 3 Accounting Applications
In a state in which the combined state and city sales tax rate is 6%, a customer went to a
convenience store and purchased the following items: bread, $1.95; ground meat, $6.79;
cheese, $4.79; lightbulbs, $4.25; and motor oil, $1.79. Only the last two items are taxable.
Rounding the tax to the nearest cent, compute the total cost of all items and tax.
Nontaxable items: $1.95 1 $6.79 1 $4.79 5 $13.53
Taxable items: $4.25 1 $1.79 5 $6.04
Total tax: $6.04 3 0.06 tax rate 5 $0.36
$13.53 Nontaxable items
6.04 Taxable items
1 0.36 Tax
$19.93 Total
✔
CONCEPT CHECK 11.1
Computing Assessed Valuations and
Property Taxes
2
Learning Objective
Compute assessed valuations and
property taxes based on assessed
valuation.
11.3 The amount of property tax paid
as a percentage of the value of real
property varies greatly among cities
and states.In states that do not have
sales taxes or income taxes with special
allocations to the cities, property taxes
as a percentage of real property value
are generally higher.In states where
there are significant sales and income
tax assessments,some of which are
allocated to the cities,property taxes as
a percentage of real property value are
generally lower.
EXAMPLE E
The Lee family and the Kelly family live in a town in which assessed valuation is set
by law at 80% of market value. They live in identical houses having a market value of
$220,000. The Lee family added an enclosed deck costing $10,500 and a family room
costing $23,000. The Kelly family made extensive repairs and repainted the house a
new color at a total cost of $15,000. What was the assessed valuation on each home the
following year?
Lee: $220,000 1 $10,500 1 $23,000 5 $253,500 3 0.8 5 $202,800
Kelly: $220,000 3 0.8 5 $176,000 (repairs and painting are not considered improvements)
Chapter 11 Taxes 205
a. The Coles family owns a home with a market value of $300,000 in a community that
assesses property at 100% of market value. The Jensen family owns a home with a market
value of $400,000 in a community that assesses property at 60% of market value. What is
the difference between the actual assessments of the two homes?
Coles: $300,000 3 1 5 $300,000
Jensen: $400,000 3 0.6 5 $240,000
Difference 5 $60,000
b. The Bay family home has a present market value of $280,000 in a community that assesses
property at 80% of market value. If they add a family room and an additional bathroom at a
cost of $42,000, what will be the new assessed valuation?
Revised market value: $280,000 1 $42,000 5 $322,000
New assessed value: $322,000 3 0.80 5 $257,600
✔
CONCEPT CHECK 11.2
PERCENTS
For a city, county, or special district, the tax rate is found by dividing the amount of
money the government unit needs to raise by the total assessed valuation of the
particular unit.
EXAMPLE F
The town of Lakeside has a total assessed valuation of $570,000,000. The amount to be
raised by taxation is $9,975,000. What is the tax rate?
The tax rate is
$9,975,000 4 $570,000,000 5 0.0175, or 1.75%.
This rate is usually written as 1.75% of value, or $1.75 on each $100 of value.
Computing Tax Rates in Percents and Mills
Compute tax rates in percents
and mills.
3
Learning Objective
© NICK KOUDIS/PHOTODISC/GETTY IMAGES
EXAMPLE G
If a property in Lakeside is assessed for $160,000, what is the tax?
The tax can be found by multiplying the amount by the rate:
$160,000 3 0.0175 5 $2,800
MILLS
Tax rates sometimes are expressed in a unit of measure called mills. A mill is a tenth of a
cent, or $0.001 (one thousandth of a dollar). To convert mills to dollars, divide by 1,000
(move the decimal three places to the left). To convert cents to mills, multiply by 10.
Thus a tax rate can be converted from mills to cents or dollars or vice versa by using the
following relationships:
mills 4 10 5 cents 150 mills 4 10 5 15¢
mills 4 1,000 5 dollars 150 mills 4 1,000 5 $0.15
cents 3 10 5 mills 15¢ 3 10 5 150 mills
dollars 3 1,000 5 mills $0.15 3 1,000 5 150 mills
EXAMPLE H
Davis County assesses property at the rate of 182 mills per $100 of assessed value. How
much tax would be due on property assessed at $620,000?
$620,000 4 100 5 $6,200 to assess millage
182 mills 5 $0.182
0.182 3 $6,200 5 $1,128.40 tax
206 Part 3 Accounting Applications
a. A town has a total assessed valuation of $960,000,000. A total of $12,000,000 must be
raised by taxation for the operating expenses of the town. What will be the tax rate?
$12,000,000 4 $960,000,000 5 0.0125, or 1.25%
b. Convert $0.57 into mills: 57¢ 3 10 5 570 mills, or $0.57 3 1,000 5 570 mills
c. If property in a town is assessed at the rate of 140 mills per $100 of assessed value, how
much tax will be due on property assessed at $475,000?
$475,000 4 100 5 $4,750 to assess millage
140 mills 5 $0.14
$4,750 3 $0.14 5 $665 tax due
✔
CONCEPT CHECK 11.3
Communities can levy special assessments for improvements such as sewers, roads, or
sidewalks. Sometimes the cost is spread over a period of years and added to the annual
property tax bill of each property owner.
EXAMPLE I
The residents of Sonora voted to widen their roads and add sidewalks at a cost of $480
per residence, with the cost to be spread over a 12-year period. The Walker family had
an annual tax bill of $630 before the improvements. If they pay their property taxes
semiannually, what will be the amount of their next tax payment?
Annual cost for improvement: $480 4 12 5 $40
Annual property tax and improvement payment:
$630 1 $40 5 $670
Next semiannual tax payment: $670 4 2 5 $335
Whenever property is sold, it is customary to prorate, or distribute, the taxes between
seller and buyer as of the date of the settlement.
EXAMPLE J
A home having an annual tax bill of $720 was sold at the end of the seventh month of
the taxable year. The seller had already paid the tax for the full year. How much tax was
the seller reimbursed on proration of taxes at the time of the sale?
Months prepaid by seller: 12 2 7 5 5
Tax reimbursed by buyer: $720 35$300
In almost all states, property used exclusively by nonprofit organizations, such as
schools, churches, governments, and charities, is exempt from taxation. Some states also
allow partial exemptions for veterans and the elderly.
EXAMPLE K
The town of Hillton assesses property at 75% of market value. The tax rate is 1.2%. A
church has a total market value of $560,000. How much does the church save each year
by being exempt from property taxes?
$560,000 3 0.75 5 $420,000 $420,000 3 0.012 5 $5,040 saved
5
12
Chapter 11 Taxes 207
Computing Special Assessments,
Prorations, and Exemptions
Compute property tax payments
involving special assessments,
prorations, and exemptions.
4
Learning Objective
11.4 When real property is sold,the
proration of property taxes between
the seller and buyer is usually handled
through escrow by the escrow agent.
EXAMPLE L
A veteran living in Conton receives a partial exemption of 15% of regular property taxes.
The veteran owns property valued at $380,000. If the property is assessed at 80% of
value and the current rate is 1.3%, how much tax is due each six months?
Assessed value: $380,000 3 0.80 5 $304,000
Regular taxes: $304,000 3 0.013 5 $3,952
Taxes due after exemption: $3,952 3 0.85 (100% 2 15%) 5 $3,359.20
Taxes due each six months: $3,359.20 4 2 5 $1,679.60
208 Part 3 Accounting Applications
a. The city of Belton voted to build a new library at a cost of $540 per residence, to be spread
over a period of 15 years. If the Douglas family presently has a yearly tax bill of $730, paid
semiannually, what will be the amount of their next tax payment?
$540 per residence 4 15 years 5 $36 per year
$730 present yearly tax amount 1 $36 5 $766 new yearly tax amount
$766 4 2 5 $383 new semiannual tax amount
b. If a home with an annual tax bill of $780 is sold at the end of the third month of the tax
year, after taxes have already been paid for the full year, how much will the buyer reimburse
the seller when taxes are prorated?
12 2 3 5 9 months prepaid by seller
$780 35$585 reimbursed by buyer
c. A 70-year-old man lives in a state that grants senior citizens a 10% exemption from property
taxes. If his home has a market value of $250,000 and the tax rate is 1.3%, how much will his
yearly taxes be? The county in which he resides assesses property at 70% of market value.
$250,000 market value 3 0.7 5 $175,000 assessed valuation
$175,000 assessed valuation 3 0.013 5 $2,275 regular taxes
$2,275 regular taxes 3 0.10 5 $227.50 reduction
$2,275 regular taxes 2 $227.50 reduction 5 $2,047.50 revised taxes
COMPLETE ASSIGNMENTS 11.1 AND 11.2.
9
12
✔
CONCEPT CHECK 11.4
Personal income taxes provide 37% of all income of the federal government. Social
Security and Medicare taxes, which you studied in Chapter 10, provide another 33%.
Together, these three taxes make up 70% of all federal government income.
Outlays for Social Security, Medicare, and retirement programs constitute 37% of all
government expenditures. Payment of interest on government debt represents 7% of
all government expenditures.
Figure 11-2 shows the breakdown of federal government income and the allocation
of federal government spending.
Form 1040 is the basic form filed by the majority of taxpayers. There are two simplified
variations of this form: Form 1040A and Form 1040EZ. The income tax calculation
process is illustrated for Form 1040 in Figures 11-3 through 11-8. The label in Figure
11-3 contains spaces for names, address, and Social Security numbers, as well as boxes
to check to designate $3 to finance presidential elections.
A taxpayer’s current filing status is indicated in the second section of Form 1040,
shown in Figure 11-4. Five choices are given. The one selected determines the tax rate the
taxpayer uses, as well as many of the taxpayer’s deductions.
Personal exemptions, shown in Figure 11-5, are reductions to taxable income for the
primary taxpayer and a spouse. One dependency exemption is granted for each depen-
dent. Exemptions are phased out for individuals with higher incomes. The amount de-
ducted for each exemption is currently $3,400. This amount is usually adjusted for
inflation each year.
Chapter 11 Taxes 209
Determining Taxable Income, Using
Standard Form 1040
Make basic computations to
determine taxable income for
taxpayers who use the standard
federal income tax Form 1040.
5
Learning Objective
11.5 In the next few years,both tax
rates and tax assessment bases are
expected to change often and
significantly.The basic concepts and
calculation methods used here are
based on 2007 laws,regulations, and
rates.For an update,consult Federal
Income Taxation,published by Cengage
Learning/South-Western Publishing
Company,and contact your local IRS
office to request publications on the
current year’s tax rates and bases.
Figure 11-2 Income and Outlays. These pie charts show the relative
sizes of the major categories of federal income and outlays
for fiscal year 2007.
Social Security, Medicare,
unemployment and other
retirement taxes
33%
Income
Borrowing to
cover deficit
17%
Corporate
income taxes
6%
Personal income
taxes 37%
Excise, customs,
estate, gift, and
miscellaneous
taxes
7%
Social Security,
Medicare, and other
retirement
37%
National defense,
veterans, and foreign
affairs
22%
Net interest
on the debt
7%
Law enforcement and
general government
3%
Social programs
21%
Physical, human,
and community
development
10%
Outlays
11.6 Income from gifts,inheritance,
and bequests does not escape taxation;
such tax assessments fall under a
different category and are paid by the
giver instead of the recipient.
Taxable income, shown in Figure 11-6, includes wages, salaries, tips, dividends,
interest, commissions, back pay, bonuses and awards, refunds of state and local taxes,
alimony received, property received for services, severance pay, accrued leave payments,
sick pay, unemployment compensation payments, capital gains, and any other income
not specifically exempted by statute. Taxable income may include a portion of Social
Security payments, IRA distributions, and pensions and annuities. It also includes
income from businesses, professions, farming, partnerships, rents, royalties, estates,
trusts, and other sources. It does not include income from gifts, inheritances, bequests,
interest on tax-exempt state and local municipal bonds, life insurance proceeds at death,
workers’ compensation benefits, and certain income items for veterans.
210 Part 3 Accounting Applications
Figure 11-3 Form 1040 Label Section
Figure 11-4 Form 1040 Filing Status Section
Figure 11-5 Form 1040 Exemptions Section
The Adjustments to Income section, shown in Figure 11-7, allows the taxpayer to list
certain items that are allowed as reductions to the total income. These adjustments
include payments by the taxpayer or spouse to an individual retirement account (IRA),
student loan interest, payments into a health savings account, moving expenses, one half
of self-employment tax paid, and payments to a retirement plan for the self-employed,
penalty on early withdrawal of savings, and alimony paid. Adjusted gross income (AGI)
is a taxpayer’s income after subtraction of adjustments to income from total income.
(See line 37 of Adjusted Gross Income in Figure 11-7.)
After the adjusted gross income figure is computed, deductions—either the standard
deduction or itemized deductions—are subtracted in order to figure taxable income (see
Figure 11-8). The standard deductions for most taxpayers are shown in Figure 11-9.
There are higher standard deductions for individuals who are 65 or over and for
individuals who are blind; these are shown in Figure 11-10.
Chapter 11 Taxes 211
11.7 The standard deduction is based
on the assumption that a certain level
of medical expenses,charitable gifts,
interest payments, and taxes in various
forms are part of everyday life,whether
or not the individual keeps detailed
records of every payment.The amount
of the standard deduction is set by
congressional action,based on its
deliberations about family
expenditures and needs.
Figure 11-6 Form 1040 Income Section
Figure 11-7 Form 1040 Adjustments to Income Section/Adjusted Gross Income
212 Part 3 Accounting Applications
Figure 11-8 Form 1040 Taxable Income and Income Tax Section
Figure 11-9 Standard Deduction Chart for Most People
Figure 11-10 Standard Deduction Chart for People Age 65 and Older or Blind (line 40)
Some taxpayers choose to itemize deductions rather than use the IRS-approved
standard deduction. Itemized deductions are deductions allowed for specific payments
made by the taxpayer during the tax year. These deductions include charitable
contributions, certain interest payments, state and local income (or sales) and property
taxes, a portion of medical and dental expenses, casualty and theft losses, tax preparation
fees, and other annually identified deductions. Illustrations, examples, and problems in
this book are based on the assumption that all state and local taxes and all donations to
charity are deductible.
COMPUTING TAXABLE INCOME
Line 43 of Form 1040 shows “taxable income.” Taxable income is the amount of income
on which the income tax is based. Taxable income for most taxpayers is computed as
follows (amounts from the preceding figures):
Total income (income from all sources) (line 22) $66,800
Less adjustments to income (reductions of Total Income) (line 36) 2
03,000
Adjusted gross income (line 37) 63,800
Less deductions (line 40)(from Figure 11-9 or 11-10) 10,700
Less exemptions (line 6d 3 $3,400, per line 42) 2
13,600
Taxable income (the amount on which taxes are computed) (line 43) $39,500
Chapter 11 Taxes 213
Catherine, a 72-year-old blind widow, had an annual adjusted gross income of $29,000. She
filed a return claiming a single exemption and standard deduction. What is her taxable
income?
Adjusted gross income $29,000
Less standard deduction: single, over 65, blind 2 7,950
21,050
Less 1 exemption 2 3,400
Taxable income $17,650
✔
CONCEPT CHECK 11.5
Determining Taxes Due, Using
Standard Form 1040
Taxes are computed from taxable income (line 43). Tax Rate Schedules (Figure 11-11)
show the tax rate for (1) single, (2) married filing joint return (even if only one had
income), (3) married filing separate returns, (4) head of household, and (5) qualifying
widow or widower. The Tax Rate Schedules shown are used for all illustrations,
examples, and problems in this book.
The remaining sections of Form 1040 permit listing of special credits, other taxes,
and payments to arrive at the final refund or amount owed, and have spaces for
signatures of the taxpayers and of paid preparers.
Make basic computations to
determine the tax liability for
taxpayers who use the standard
federal income tax Form 1040.
6
Learning Objective