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YYou’re looking forward to your firstpaycheck. You figure that at $6.00

per hour, you should be getting $120 forthe 20 hours you worked. When youopen the envelope, you find that thecheck is for much less than $120. Wheredid the money go? The answer is . . .taxes! The government uses tax moneyto pay for social programs, nationaldefense, and a variety of other programsand projects, including disaster relief.

Taxes and Government Spending

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Keep track of the different types oftaxes you pay over the next week,such as sales and gas taxes. If youhave a job, include tax deductionsfrom your paycheck.

Economics JournalEconomics Journal

Taxes andGovernmentSpending

Introducing the ChapterIn this chapter, students will learnabout the taxes levied by federal, state,and local governments. This chapterdiscusses the types of taxes, how theyare collected, and how they are usedby governments to provide services forpeople.

For additional links for Economics: Principles in Action provided by Prentice Hall and The Wall Street Journal Classroom Edition, visit the SocialStudies area. Be sure to check out thismonth’s eTeach online discussion with aMaster Teacher.

Instruct students to record the taxesthey pay in their Economics Journals.Students may include completedjournal entries in an Economics Portfolio.

Economics JournalEconomics Journal

Beyond the LectureBeyond the LectureYou may cover the concepts inChapter 14 in an activity-based styleby using the following materials:

• Technology Resources appropriatefor use with this chapter are notedon pp. 361, 363, 366, 367, 368,369, 373, 374, 379, 380, and 383.

• Presentation Pro CD-ROM with ani-mated graphs gives you an alterna-tive method for organizing anddelivering chapter content.

• Activities designed to meet theneeds of students of mixed abilitiesand learning styles are notedthroughout the chapter in the sidecolumns.

• Learning Styles Lesson Plans pro-vide alternate lessons for diverselearning styles. See pp. 33–34 of theLearning Styles Lesson Plans folderlocated in the Teaching Resources.

The following Voluntary National Content Standard in Economics is addressed in this chapter:

★Standard 16 Students will understand that:There is an economic role for government toplay in a market economy whenever the benefitsof a government policy outweigh its costs.

Governments often provide for national defense,address environmental concerns, define and pro-tect property rights, and attempt to make mar-kets more competitive. Most government policiesalso redistribute income.

For more information about the standards, contactthe National Council on Economic Education

1140 Avenue of the AmericasNew York, NY 100361-800-338-1192

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Government To build understanding of how andwhy the government collects taxes, have studentscomplete a tree map graphic organizer like the oneat the right. Remind students that a tree mapshows an outline for a main topic, main ideas, andsupporting details. Encourage students to use themain heads and subheads in the section to orga-nize their tree maps.

Section Reading Support Transparencies A tem-plate and the answers for this graphic organizercan be found in Chapter 14, Section 1 of theSection Reading Support Transparency System.

Graphing the Main IdeaB U I L D I NGB U I L D I NG

K E Y CONCE PTSK E Y CONCE PTS

What Are Taxes?

Objectives You may wish to call students’ attention to the objectives inthe Section Preview. The objectives arereflected in the main headings of thesection.

Bellringer Ask students to recall thecolonists’ cry of “No taxation withoutrepresentation!” Have studentsexplain what the colonists were angryabout and why it is important thatpeople who are taxed be representedin government. Then explain that thissection will introduce them to types oftaxes.

Vocabulary Builder Most of the keyterms in this section have other mean-ings in other contexts. Ask students tochoose three key terms and link theireconomic meaning to another meaning.For example, if they choose progressivetax, they may say that someone who isprogressive is always moving ahead. Aprogressive tax rate “moves ahead”with income level.

LL ooking at all of the taxes taken fromyour paycheck can be discouraging. It

can feel like all of that money is being takenfrom you for someone else’s use.Frustration over taxes is, after all, what ledAmerican colonists to go to war againstBritain and declare independence. How,then, is anything different today?

Although money is taken from yourpaycheck, it is not done without yourconsent. As citizens of the United States,we authorize the government, through theConstitution and our elected representa-tives in Congress, to raise money in theform of taxes. Why?

Funding GovernmentProgramsA tax is a required payment to a local, state,or national government. Taxation is theprimary way that the government collectsmoney. Taxes give the government themoney it needs to operate.

The income received by a governmentfrom taxes and other nontax sources iscalled revenue. Without revenue fromtaxes, the government would not be able toprovide the goods and services that we not

only benefit from, but that we expect thegovernment to provide. For example, weauthorize the government to providenational defense, highways, education, andlaw enforcement. We also ask the govern-ment to provide help to people in need.

All of these goods and services costmoney—in workers’ salaries, in materials,in land and labor. All members of oursociety share these costs through thepayment of taxes.

Taxes and the Constitution Taxation is a powerful tool. The foundersof the United States did not, withoutcareful consideration, give their newgovernment the power to tax. TheConstitution they created spells out specificlimits on the government’s power to tax.

The Power to TaxThe Framers of the Constitution gave eachbranch of government certain powers andduties. The first power granted to Congressis the power to tax. This is Article 1,Section 8, Clause 1:

To lay and collect taxes, duties, impostsand excises, to pay the debts, and provide

tax a required paymentto a local, state, ornational government

revenue incomereceived by agovernment from taxesand nontax sources

What Are Taxes?

ObjectivesAfter studying this section you will be able to:1. Understand how the government uses

taxes to fund programs. 2. Identify the roots of the concept of taxation

in the United States Constitution.3. Describe types of tax bases and tax

structures.4. List the characteristics of a good tax.5. Identify who bears the burden of a tax.

PreviewSection FocusLocal, state, and nationalgovernments generate revenue bycharging taxes. The Constitutionspells out specific limits ongovernments’ powers to tax. Taxationcan take several different forms, andpeople disagree over which methodof taxation is most fair.

Key Termstaxrevenuetax baseindividual income taxsales taxproperty taxcorporate income taxproportional taxprogressive taxregressive taxincidence of a tax

Lesson PlanTeaching the Main Concepts

1. Focus Governments levy taxes thatpay for services provided. Ask studentsto identify examples of government ser-vices that are paid for by taxes.2. Instruct Begin by explaining the pur-pose of taxation and the historical back-ground that led to constitutional limitson this practice. Then introduce stu-dents to the three tax structures: pro-portional, progressive, and regressive.Discuss the four characteristics of agood tax. Finally, help students tounderstand how principles of supplyand demand can affect the amount oftax they pay.3. Close/Reteach Remind students thatdifferent tax structures distribute thetax burden among taxpayers in differentways. Ask them to distinguish amongproportional, progressive, and regres-sive taxes, and have them create anorganizer highlighting these differences.

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ChaptChapter er 1144 •• Section Section 11


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Markets and Prices To help students understandthe incidence of a tax, briefly review the principlesof supply and demand, especially elasticity ofdemand, found in Chapter 5. Help them to seethat if people will buy the same amount of a goodeven when the price rises—that is, if the demand isinelastic—the tax burden is likely to fall mainly onconsumers. If, however, demand is elastic, so that

people buy less of a good when the price rises, pro-ducers will bear the greater burden.

Ask students to make a list of goods that are (ormight be) taxed. Then have students characterizethe elasticity of demand for each good and theincidence of a tax on that item.

Econ 101: Key Concepts Made EasyEcon 101: Key Concepts Made Easy$

BackgroundEconomics in HistoryEconomics in HistoryTax Freedom Day (TFD) has occurredlater and later each year since theearly years of the twentieth century.What is it?

Economists track the number ofdays average Americans must workto satisfy their federal, state, and localtax obligations. The day after the lastday of working for the government iscalled Tax Freedom Day: the daywhen people begin working for them-selves. In 1913 TFD came on January30. By 1930 TFD had slipped all theway to February 13. Near the start ofWorld War II, in 1940, Americans wereworking for the government untilMarch 8.

TFD continued to fall later and laterin the year until tax cuts and a reces-sion reduced tax revenues. In 2000,TFD fell on April 30. By 2003, it hadmoved back to April 19. Because fed-eral income taxes are progressive,most Americans enjoyed a personalTax Freedom Day before this date.

Guided Reading and ReviewUnit 6 folder, p. 2 asks students toidentify the main ideas of the sectionand to define or identify key terms.

(Reteaching) Ask students to createtwo lists. The first list should includethe limits that the Constitution placeson the federal government’s authorityto create and collect taxes. The second list should include examples of how taxes are used to fund federalprograms.

Answer to . . . Building Key Concepts Mary paysmuch higher taxes with a propor-tional or a progressive tax struc-ture; her taxes are highest under aprogressive tax structure. With aregressive structure she pays littlemore than Ron.

for the common defense and generalwelfare of the United States; but all duties,imposts, and excises shall be uniformthroughout the United States.

This clause is the basis for federal tax laws.

Limits on the Power to TaxThe Constitution specifically limits certainkinds of taxes. Two of those limits are in thetaxation clause. First, the purpose of a taxmust be for the “common defense andgeneral welfare.” A tax cannot bring inmoney that goes to individual interests.Second, federal taxes must be the same inevery state. The federal gas tax, forexample, cannot be $.04 a gallon inMaryland and $.10 a gallon in SouthDakota.

Other provisions of the Constitution alsolimit the kinds of taxes Congress canimpose. For example, Congress cannot taxchurch services because that would violatethe freedom of religion promised by theFirst Amendment. Another clause of theConstitution prohibits taxing exports. Thegovernment can collect taxes only onimports—goods brought into the UnitedStates. (Congress can limit or prohibit the

export of certain goods, however, such astechnology or weaponry.)

Yet another clause of the Constitution(Article 1, Section 9, Clause 4) prohibitsCongress from levying, or imposing, taxesunless they are divided among the statesaccording to population. Because of thisprovision, it took the Sixteenth Amendmentto legalize the income tax. This amendmentwas ratified in 1913.

Tax Bases and Tax StructuresDespite these limits, the governmentactually collects a wide variety of taxes.Economists describe these taxes in differentways. First, they describe a tax accordingto the value of the object taxed. Second,they describe how the tax is structured.

Tax BasesA tax base is the income, property, good, orservice that is subject to a tax. The tax basemight be a person’s earnings (individualincome tax), the dollar value of a good orservice being sold (sales tax), the value of aproperty (property tax), or the value of acompany’s profits (corporate income tax).When government policymakers create a

tax base income,property, good, orservice that is subjectto a tax

individual income taxa tax on a person’searnings

sales tax a tax on thedollar value of a goodor service being sold

property tax a tax onthe value of a property

corporate income taxa tax on the value of acompany’s profits

Proportional A constant percentage of income is taken in taxes as income increases

“Flat” tax $7,500, or 15 percent of income

$22,500, or 15 percentof income

Regressive A smaller percentage of income is taken in taxes as income increases

Sales tax $2,000, or 5 percentof total purchases of $40,000; tax bill is4 percent of income

$3,000, or 5 percentof total purchases of $60,000; tax bill is2 percent of income

Type of Tax Description ExampleRon’s taxes on $50,000 income

Mary’s taxes on $150,000 income

Figure 14.1 Three Types of Tax StructuresFigure 14.1 Three Types of Tax Structures

Progressive A larger percentage ofincome is taken in taxesas income increases

Income tax $5,000, or 10 percent of income

$45,000, or 30 percent of income

This chart shows how three different tax structures would affect a taxpayer named Ronwith an income of $50,000 and a taxpayer named Mary with an income of $150,000.Income How does Mary’s higher income affect the taxes she pays in each type of taxstructure?

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To assess student understanding ofthe types of tax structures, ask stu-dents to write an editorial in whichthey briefly define each type of taxstructure and then explain why theyfeel that each type of tax is fair orunfair.

Learning Styles ActivityLearning Styles Lesson Plans folder,p. 33 asks pairs of students to createbrochures supporting or criticizingthe idea of a proportional tax struc-ture for individual income tax.

Have students use the followingmethod to take notes on the section.Tell them first to draw a line downthe length of their paper, about onethird of the way from the left side.Have them paraphrase importantpoints from the section in the rightcolumn. Then, in the left column, tellthem to write questions that can beanswered by their notes. Tell themthat they can use these notes forreview by covering up the right col-umn with a sheet of paper andanswering the questions from the leftcolumn. LPR

Transparency Resource PackageEconomics Concepts, 14A: Tax

Structures

Economic CartoonUnit 6 folder, p. 14 gives studentspractice in interpreting cartoonsabout section content.

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Consider these suggestions to take advantage ofextended class time:

� Organize students into pairs. Have one studentin each pair investigate the taxes that the Britishimposed on the American colonists and find outhow those taxes were collected. Have the otherstudent in the pair investigate why the colonistswere opposed to the taxes and how they made

their displeasure known. Then have each pair cre-ate a summary of its findings.

� Have groups of three to four students searchthrough newspapers and magazines for letters tothe editor, editorials, or cartoons about taxes.Then have each group make a presentation aboutwhat they have found, drawing conclusions abouthow people view taxes and are affected by them.

Block Scheduling StrategiesBlock Scheduling Strategies

Answer to . . . Building Key Concepts $13,750

new tax, they first decide what the base willbe for the tax: income, sales, property,profits, or some other category.

Next, the government decides how tostructure the tax on that particular base.As shown in Figure 14.1, economistsdescribe three different tax structures:proportional, progressive, and regressive.

Proportional TaxesA proportional tax is a tax for which thepercentage of income paid in taxes remainsthe same for all income levels. Leslie Wilson,a corporate executive, earns $350,000 a year.Tony Owens, a nurse, earns $50,000 a year.If a 6 percent proportional tax were leviedon their incomes, Leslie would pay 6 percentof $350,000, or $21,000, in taxes. Tonywould pay 6 percent of $50,000, or $3,000.With a proportional income tax, whetherincome goes up or down, the percentage ofincome paid in taxes stays the same.

Progressive TaxesA progressive tax is a tax for which thepercentage of income paid in taxesincreases as income increases. As incomerises, the percentage of income paid intaxes also rises. People with very smallincomes might pay no tax at all.

The federal income tax is the clearestexample of a progressive tax in the UnitedStates. A sample progressive income taxsystem is shown in Figure 14.2. Notice thatthe tax rate in this example rises from 15,to 25, and then to 30 percent as incomerises. This is a progressive tax rate structurebecause as income rises, the percentage ofincome paid in taxes also rises.

Regressive TaxesA regressive tax is a tax for which thepercentage of income paid in taxesdecreases as income increases. For example,although the sales tax rate remainsconstant, a sales tax is regressive. This isbecause higher-income households spend alower proportion of their incomes ontaxable goods and services. As a result,although they may pay more actual dollarsin sales taxes, the proportion of their

income spent on sales taxes is lower thanthat of lower-income households.

Characteristics of a Good TaxThough it is sometimes difficult to decidewhether a specific tax is proportional,progressive, or regressive, economists dogenerally agree on what makes a good tax.A good tax should have four characteris-tics: simplicity, efficiency, certainty, andequity, or fairness.

• Simplicity Tax laws should be simpleand easily understood. Taxpayers andbusinesses should be able to keep thenecessary records, prepare their own taxforms, and pay the taxes on a predictableschedule.

• Efficiency Government administratorsshould be able to collect taxes withoutspending too much time or money.Similarly, taxpayers should be able topay taxes without giving up too muchtime. They should also not have to paytoo much money in fees.

proportional tax a taxfor which thepercentage of incomepaid in taxes remainsthe same for all incomelevels

progressive tax a taxfor which thepercentage of incomepaid in taxes increasesas income increases

regressive tax a tax forwhich the percentageof income paid in taxesdecreases as incomeincreases

Figure 14.2 Progressive Income TaxFigure 14.2 Progressive Income Tax

$100,000

$75,000

$50,000

$25,00015% of $25,000

25% of $50,000

30% of $25,000

0

15% of $25,000

25% of $50,000

15% of $25,000

Total taxable income: $100,000

You would be taxed at a rate of 15 percent on the first $25,000 of your taxable income

15% of $25,000 = $3,750

You would be taxed at a rate of 25 percenton your taxable income above $25,000 but below $75,000 ($50,000)

25% of $50,000 = $12,500

You would be taxed at a rate of 30 percent on your taxable income above $75,000 ($25,000)

30% of $25,000 = $7,500

Total tax = $23,750

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2

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In a progressive tax structure, the higher a taxpayer’sincome, the greater percentage he or she must pay intaxes. This chart shows a sample progressive income taxfor a taxpayer with total taxable income of $100,000. Income According to the chart, what would be the totaltax on taxable income of $65,000?

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(Enrichment) After students haveread about the characteristics of goodtaxes, organize the class into several“taxing bodies.” Explain that eachtaxing body must create a tax that sat-isfies the four characteristics of a goodtax. Each group must also show howits tax satisfies the two principles offairness. Finally, ask the class to deter-mine which of the proposed taxes is thebest tax and to explain why.

Ask students to look up the dictionarydefinitions of simplicity, efficiency, cer-tainty, and equity. For each word theyare likely to find several shades ofmeaning. Ask them to choose themeaning that they think is most appro-priate in the context of taxes and thento explain their choices. ELL

Organize students into small groups.Assign each group a different type ofmanufactured product. (Choose goodsthat are common but that vary in theirelasticity of demand.) Then explain tostudents that the government has justimposed a 10 percent tax on all manu-factured goods. Ask each group to pre-pare a brief oral presentation explainingwho bears the burden of this tax as itapplies to their assigned product.Remind them to consider the elasticityof demand for their particular good.


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Answer to . . . Cartoon Caption Taxes are neces-sary to fund public goods andservices and to fund the functionsof government.

Have students read the section titled “Characteristics of a Good Tax” and then answerthe question below.When taxpayers know when a tax is due, how much is due, and how it is to be paid,which requirement of a good tax is being fulfilled?

A equity

B simplicity

C certainty

D efficiency

Preparing for Standardized TestsPreparing for Standardized Tests��

• Certainty Certainty is also a character-istic of a good tax. It should be clear tothe taxpayer when a tax is due, howmuch money is due, and how the taxshould be paid.

• Equity The tax system should be fair, sothat no one bears too much or too littleof the tax burden.

Determining FairnessAlthough everyone agrees that a tax systemshould be fair, people often disagree onwhat “fair” means. Over time, economists

have proposed two differentideas about how to measurethe fairness of a tax.

The first idea is called thebenefits-received principle.According to this principle, aperson should pay taxes basedon the level of benefits he orshe expects to receive. Peoplewho drive, for example, paygasoline taxes that are used tobuild and maintain highways.In this way, the people whoreceive the most benefit fromthe roads also contribute themost to their upkeep.

The second idea about fairness is calledthe ability-to-pay principle. According tothis principle, people should pay taxesaccording to their ability to pay. Theability-to-pay principle is the idea behind aprogressive income tax: people who earnmore income pay more taxes.

Balancing Tax Revenues and Tax RatesHow much revenue does a good taxgenerate? The answer is “enough, but nottoo much.” That is, enough so thatcitizens’ needs are met, but not so muchthat the tax discourages production. Forexample, if a company has to pay$100,000 in taxes, it will not be able to usethat $100,000 to expand production. Iftax rates are lower, however, the companycan use more of its income to stimulateproduction rather than to pay taxes.Ultimately, many people argue, theeconomy benefits from lower, rather thanhigher, tax rates.

Who Bears the Tax Burden?To fully evaluate the fairness of a tax, it isimportant to think about who actuallybears the burden of the tax. Taxes affectmore than just the people who send in thechecks to pay them. Why? The answer liesin supply and demand analysis.

Suppose that the government imposes agasoline tax of $.50 per gallon and collectsthe tax from service stations. You maythink that the burden of the tax falls onlyon the service stations, because they mailthe checks to the government. Graphs Aand B in Figure 14.3, however, provide adifferent set of answers.

Both Graphs A and B show two supplycurves: an original supply line and a lineshowing the supply after the $.50 tax isimposed. When a tax is imposed on a good,the cost of supplying the good increases.The supply of the good then decreases ateach and every price level. This shifts thesupply curve to the left.

Before the tax, the market was in equilib-rium, and consumers bought gas at $1.00

� This political cartoon makes fun of the saying, “Theonly sure things in life are death and taxes.” Why aretaxes necessary?

In the News Read more about taxes in“Hard Habit to Break,” an article in The Wall Street Journal Classroom Edition.

The Wall Street JournalClassroom Edition

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Typing in the WebCode when prompted will bringstudents directly to the article.

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Transparency Resource PackageEconomics Concepts, 14B:

Economic Impact of Taxes

Guide to the EssentialsChapter 14, Section 1, p. 58 providessupport for students who need addi-tional review of the section content.Spanish support is available in theSpanish edition of the guide on p. 58.

Quiz Unit 6 folder, p. 3 includesquestions to check students’ under-standing of Section 1 content.

Presentation Pro CD-ROMQuiz provides multiple-choice

questions to check students’ under-standing of Section 1 content.

Answers to . . .

Section 1 AssessmentSection 1 Assessment1. To provide public goods and ser-

vices and to fund the functions ofgovernment.

2. A progressive tax is a tax thatcauses the percentage of incomepaid in taxes to increase as incomeincreases. A regressive tax is a taxin which the percentage of incomepaid in taxes goes down as incomeincreases.

3. simplicity, efficiency, certainty, andequity

4. The benefits-received principlestates that people should pay taxesbased on the level of benefits theyreceive from the government. Incontrast, the ability-to-pay principlestates that people should pay taxesaccording to their ability to pay.

5. Possible answers: The tax should beproportional because the school is apublic resource, so everyone shouldpay an equal portion of their incometo fund it. The tax should be pro-gressive because the ability to payvaries. The tax should be regressivebecause people who make the mostmoney are already paying the mostin taxes.

6. Although the Constitution grantsCongress the power to tax, it alsolimits certain kinds of taxes; forexample, a federal tax such as thegas tax must be the same rate inevery state.

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Answer to . . . Building Key Concepts Producersor intermediaries bear the burden.

incidence of a tax thefinal burden of a tax

Section 1 Assessment

Key Terms and Main Ideas1. Why do governments impose taxes?2. What is the difference between a progressive tax and a

regressive tax?3. What are the four characteristics of a good tax?4. Describe the benefits-received principle. How does it

differ from the ability-to-pay principle?

Applying Economic Concepts5. Try This Suppose that your town decides to levy a tax to

raise funds for construction, maintenance, and other

expenses for local schools. Should the tax be propor-tional, progressive, or regressive? Explain your answer.

6. Critical Thinking Analyze the impact of the power to taxas expressed in the Constitution on tax policies today.

Figure 14.3 Elasticities of Demand and Tax EffectsFigure 14.3 Elasticities of Demand and Tax Effects

$1.00

$1.40

Quantity

New supplywith $.50 tax

Originalsupply

Demand

i

f

Pric

e

Pric

e

$1.00$1.10

New supplywith $.50 tax

Originalsupply

Demand

ig

Graph A Graph B

Lowerquantity

Higherquantity

QuantityLowerquantity

Higherquantity

If demand for a goodis relatively inelastic(Graph A), a new taxwill increase theprice by a relativelylarge amount, andconsumers will pay alarge share of the tax.Supply and DemandWho bears theburden of a tax ifdemand is relativelyelastic?

per gallon. This is shown as point i onGraph A above. If demand for gas is rela-tively inelastic (that is, if consumers buyabout the same amount no matter what theprice), the tax will increase the price ofeach gallon by a relatively large amount.Consumers will bear a large share of thetax. This is shown in Graph A. Demand isinelastic, so the demand curve is relativelysteep, and a $.50 tax increases the equilib-rium price by $.40 (from $1.00 to $1.40from point i to point f). In other words,consumers pay about four fifths of the tax.

In contrast, if demand is relatively elastic,the demand curve will be relatively flat, asin Graph B. Consumers will pay a relatively

small part of the tax. As Graph B shows, a$.50 tax increases the equilibrium price byonly $.10 (from $1.00 to $1.10 from point ito point g). In this case, consumers pay onlyone fifth of the tax. The service stations paythe other four fifths.

This example shows the incidence of atax—that is, the final burden of a tax. Whenpolicymakers consider a new tax, theyexamine who will actually bear the burden.As in the example above, producers can“pass on” the burden to consumers.Generally, the more inelastic the demand,the more easily the seller can shift the tax toconsumers. The more elastic the demand,the more the seller bears the burden.

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Progress Monitoring OnlineFor: Self-quiz with vocabulary practiceWeb Code: mna-6145

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Progress Monitoring OnlineFor additional assessment, have students accessProgress Monitoring Online at Web Code: mna-6145

Federal Taxes

Objectives You may wish to callstudents’ attention to the objectivesin the Section Preview. The objec-tives are reflected in the main head-ings of the section.

Bellringer Ask students to considerwhy employees are required to fillout and submit tax returns on April15 if employers send taxes to the fed-eral government during the year.Explain that this section will answerthat question and others about taxesand the federal government.

Vocabulary Builder Ask studentsto create a quiz of 11 fill-in-the-blank questions about the terms.Have students exchange quizzes,complete them, and return them tothe authors for correction.

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Government To build understanding of the infor-mation on taxes collected by the government, askstudents to complete two web graphic organizers.Tell them to make an organizer like the one at theright for income taxes and another for SocialSecurity, Medicare, and unemployment taxes.Remind students that a web shows a main ideaand its supporting details.





Answer to . . . Building Key Concepts The largestsources of federal revenue are indi-vidual income taxes and socialinsurance taxes and contributions.

DDuring fiscal year 2004, the federal govern-ment took in about $1.88 trillion in

taxes. If you divide up this federal taxrevenue among all the people in the UnitedStates, it comes to about $6,300 per person.How does the government get all this money?

The federal government has six majorsources of tax revenue. They are individualand corporate income taxes, social insur-ance taxes, excise taxes, estate and gifttaxes, and taxes on imports.

Individual Income TaxesThe federal government levies a tax onindividuals’ taxable income. As Figure 14.4shows, individual income taxes make upthe federal government’s main source ofrevenue. About 45 percent of the federalgovernment’s revenues come from thepayment of individual income taxes.

”Pay-As-You-Earn“ TaxationThe amount of federal income tax a personowes is determined on an annual basis. Intheory, the federal government could waituntil the end of the tax year to collect indi-vidual income taxes. In reality, that wouldbe a problem for both taxpayers and thegovernment. Like other employers, thegovernment has to pay regularly for rent,supplies, services, and employees’ salaries.

A single annual payment from all thenation’s taxpayers at once would makemeeting these expenses difficult.

Similarly, many people might havetrouble paying their taxes in one large sum.For these reasons, federal income tax iscollected in a “pay-as-you-earn” system.This means that individuals usually pay

Federal Taxes

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ObjectivesAfter studying this section you will be able to:1. Describe the process of paying individual

income taxes.2. Explain the basic characteristics of

corporate income taxes.3. Understand the purpose of Social Security,

Medicare, and unemployment taxes.4. Identify other types of taxes.

Preview

Individual income taxesCorporate income taxesSocial insurance taxes and contributionsExcise taxes

Estate and gift taxesCustoms duties and tariffsMiscellaneousreceipts

Source: U.S. Department of the Treasury

Note: Because of rounding, totals may be less or greater than 100 percent.

43%

39%

1%2%

4%1%

10%

Figure 14.4 Federal Revenue, 2004Figure 14.4 Federal Revenue, 2004

Section FocusThe federal income taxes thathouseholds and families payhelp to fund governmentprograms. Other types of taxesare levied on specific items forspecific purposes.

Key Termswithholdingtax returntaxable

incomepersonal

exemptiondeductionsFICA

Social Security

Medicareestate taxgift taxtarifftax incentive

Sources ofgovernment revenueinclude the taxesshown on this graph.Government Analyzethe categories ofrevenue in thefederal budget. Whatare the largestsources of federalrevenue?

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1. Focus The federal government col-lects six major types of taxes to keep thegovernment running and to provide ser-vices for people who live in the UnitedStates. Ask students to list as many typesof federal taxes as they can.2. Instruct Begin by discussing individ-ual income taxes—what they are andhow they are collected. Then comparethem with corporate income taxes. Go onto explain the other types of federal taxesthat are withheld from an employee’spaycheck and the tax paid by employers.Finally, compare and contrast excise,estate, gift, and import taxes.3. Close/Reteach Remind students thatthe federal government collects taxesfrom individuals, corporations, andemployers. Ask students to explain howeach tax is collected.

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Transparency Resource PackageEconomics Concepts, 14C:

Major Sources of Federal Government Income

Before students read this section, askthem to list everything they knowabout federal taxes and also what theywould like to know. Then instructthem to look for answers as they readthe section. Have them create a studyguide to show what they learn. Discusswith students anything they wanted to know that was not covered in thesection. LPR

Ask students to create a flow chartthat illustrates the process of payingincome taxes. The flow chart shouldbegin with a new employee filling outa W-4 form, declaring deductions, andso on, and end with the employee sub-mitting a tax return.


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Trade To help students understand tariffs, explainthat a tariff is a kind of economic ticket of admis-sion to the United States for foreign goods. Payingthe tariff gets products in the market door, so tospeak, so that they can be sold. Be sure that stu-dents understand that American citizens also paytariffs—called customs duties—when they return

from a foreign country with goods they purchasedin that country that exceed a certain value set bythe U.S. government. Ask students who have trav-eled in foreign countries to describe the customsprocess. If no students have traveled abroad, invitefaculty members who have done so to talk abouttheir experiences.


Answer to . . . Photo Caption roughly 13 percent(FICA and federal); 16 percent(total)

most of their income tax throughout theyear as they earn income. In mid-April, theypay any additional income taxes they owe.

Tax WithholdingEmployers are responsible in part forcarrying out the system for collecting federalincome taxes. They do so by withholding, ortaking payments out of your pay before youreceive it. The amount they withhold isbased on an estimate of how much you willowe in federal income taxes for the entireyear. After withholding the money, theemployer forwards it to the federal govern-ment as an “installment payment” on yourupcoming annual income tax bill. On thesample pay stub shown above, the employerhas withheld $10.25 in federal income taxesfrom this employee’s paycheck.

Filing a Tax ReturnAt the end of the year, employers give theiremployees a report showing how muchincome tax has already been withheld andsent to the government. The employee thencompletes a tax return. A tax return is aform used to file income taxes. On it youdeclare your income to the government andfigure out your taxable income.

Taxable income is a person’s gross (ortotal) income minus exemptions anddeductions. Gross income includes earnedincome—salaries, wages, tips, and commis-sions. It also includes income from invest-ments such as interest on savings accountsand dividends from stock.

Personal exemptions are set amounts thatyou subtract from your gross income foryourself, your spouse, and any dependents.Deductions are variable amounts that youcan subtract, or deduct, from your grossincome. Deductions include such items asinterest on a mortgage, donations tocharity, some medical expenses, and stateand local tax payments.

Completing a tax return allows you todetermine whether the amount of incometaxes you have already paid was higheror lower than the actual amount of taxyou owe. If you have paid more than youowe, the government sends you a refund.If you have paid less than you owe, youmust pay the balance to the government.All federal income tax returns must besent to the Internal Revenue Service, orIRS, by midnight on April 15 (or thenext business day if April 15 falls on aweekend).

withholding taking taxpayments out of anemployee’s pay beforehe or she receives it

tax return form used tofile income taxes

taxable income incomeon which tax must bepaid; total incomeminus exemptions anddeductions

personal exemption setamount that yousubtract from yourgross income foryourself, your spouse,and any dependents

deductions variableamounts that you cansubtract, or deduct,from your gross income

HOURS AND EARNINGS

TOTAL

Hours Earnings

20 200.00

TAXES AND DEDUCTIONS

Taxable Wages

200.00

Less Taxes

31.55

Net Pay

168.45

Description Amount

FICA 15.20

Federal 10.25

State 5.10

City

Total Taxes

1.00

31.55

� This young worker’s pay stub shows that her employer, as required bylaw, has withheld part of her earnings for taxes. What percentage of thisworker’s pay was withheld for federal taxes? For total taxes?

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Transparency Resource PackageEconomics Concepts, 14D:

Federal Taxes

(Reteaching) Ask students to createa Venn diagram to review how indi-vidual income taxes and corporateincome taxes are alike and how theyare different. Have them conclude theactivity by discussing what theyincluded in each circle (for example,withholding by employers in the“personal income taxes” area, deduc-tions for the costs of doing businessin the “corporate income taxes” area,and progressive taxes in the commonarea).

Organize the class into three groups—a Social Security group, a Medicaregroup, and an unemployment com-pensation group. Tell each group thatit is responsible for researching thepurpose of its assigned program andpreparing and delivering an illustratedfive-minute oral presentation on it.The presentation should include atleast one chart or graph.

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Answer to . . . Building Key Concepts $12,080

Consider these suggestions to take advantage ofextended class time:� Bring in multiple blank copies of federal taxreturn forms. Distribute the forms to groups ofstudents. Then go through the form line by linewith the students, having them explain the infor-mation requested on each line and clarifying suchinformation for them where necessary.� Extend the Learning Styles Activity on this pageby having students do additional research, using

the Simulations and Data Graphing CD-ROM tocreate several graphs for their group’s presenta-tion. Provide extra time for each presentation,and work with the class to display the graphs on aclass bulletin board.

� Have students use the Internet to find exam-ples of cartoons about taxes. Links can be foundwithin Economics: Principles in Action in theSocial Studies area of the Prentice Hall Web site:www.phschool.com


Tax BracketsThe federal income tax is a progressive tax.In other words, the tax rate rises with theamount of taxable income. The tax rateschedule in Figure 14.5 shows that in 2005,there were six rates. Each applied to adifferent range of income, or tax bracket.For example, married couples who filed areturn together (a joint return) and had ataxable income of $14,600 or less paid 10percent income tax. The highest rate—35percent—was paid by high-income singlepeople or married couples on the portion oftheir taxable incomes that exceeded$326,450. Each year, the IRS publishesnew tax rate schedules that reflect anychanges in the federal tax code.

Corporate Income TaxesLike individuals, corporations must payfederal income tax on their taxable income.Corporate taxes made up less than 10percent of federal revenues in recent years.

Determining a corporation’s taxableincome can be a challenge because busi-nesses can take many deductions. That is,they can subtract many expenses from theirincome before they reach the amount ofincome that is subject to taxation. For

example, companies deduct the cost ofemployees’ health insurance. Many othercosts of doing business can also be deducted.

Like individual income tax rates, corpo-rate income tax rates are progressive. In2005, rates began at 15 percent on the first$50,000 of taxable income. The highestcorporate income tax rate was 35 percent onall taxable corporate income above$10,000,000.

Social Security, Medicare,and Unemployment TaxesIn addition to withholding money forincome taxes, employers withhold moneyfor taxes authorized under the FederalInsurance Contributions Act, or FICA. FICAtaxes fund two large government programs,Social Security and Medicare. Employeesand employers share FICA payments.

Social Security TaxesMost of the FICA taxes you pay go to theSocial Security Administration to fundOld-Age, Survivors, and DisabilityInsurance (OASDI), or Social Security.Social Security was established in 1935 toease the hardships of the Great Depression.

FICA taxes that fundSocial Security andMedicare

Social Security Old-Age, Survivors, andDisability Insurance(OASDI)

Schedule

Schedule X–use if yourfiling statusis single

Schedule Y–use if yourfiling status ismarried filingjointly

10% $0

$7,300

$29,700

$71,950

$150,150

$1,460.00 plus 15%

$8,180.00 plus 25%

$23,317.50 plus 28%

$40,915.50 plus 33%

$730.00 plus 15%

$4,090.00 plus 25%

$14,652.40 plus 28%

$36,548.50 plus 33%

10% $0

$14,600

$59,400

$119,950

$182,800

If your taxableincome is over–

the tax is of the amount over–

but not over–

$94,727.50 plus 35% $326,450

$0

$7,300

$29,700

$71,950

$150,150

$0

$14,600

$59,400

$119,950

$182,800

$326,450

$326,450 $88,320.00 plus 35% $326,450

$7,300

$29,700

$71,950

$150,150

$326,450

$59,400

$119,950

$182,800

.......

$14,600

$326,450

.......

.......

.......

Figure 14.5 Federal Income Tax Rates, 2005 Figure 14.5 Federal Income Tax Rates, 2005

According to thesesample individualincome tax tables, asingle individual with$5,000 of taxableincome would pay$5,000 X .10, or $500 in taxes. Income What wouldbe the tax for amarried couple filingjointly with $75,000 intaxable income?

PHSchool.com

Web Code: mng-6143

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(Reteaching) Organize students intogroups of three or four. Have themlook in recent almanacs for informa-tion on U.S. budget receipts by source.They should collect data on the mostrecent year for which figures are avail-able. First have students figure outwhat percentage of the total revenuecame from individual income taxes,corporate income taxes, social insur-ance taxes (such as Social Security),excise taxes, and other types of taxeseach year. Then have each group usethe Simulations and Data GraphingCD-ROM to create a circle graphsimilar to the one in Figure 14.4 onpage 365 that displays this informa-tion. (Their graphs will be for a morerecent year, however.) Have themaccompany their graphs with a briefglossary that defines each of the typesof taxes mentioned in the section.

Simulations and Data Graphing CD-ROM offers data graphing

tools so that students can practice cre-ating and interpreting graphs.

Transparency Resource PackageEconomics Concepts, 14E: Value-

Added Tax


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Answer to . . . Global Connections Answers willvary. Some students may favor aVAT as a way to collect revenue.Others will recommend against itso as to limit taxes.

Have students read the section titled “Other Types of Taxes” and then answer the ques-tion below.Which of the following taxes is likely to show up on a telephone bill?

A excise tax

B FICA tax

C estate tax

D gift tax


Originally, Social Security was simply aretirement fund to provide old-age pensionsto workers. Today, it also provides benefitsto surviving family members of wage earnersand to people whose disabilities keep themfrom working.

Each year the government establishes anincome cap for Social Security taxes. In2005, the cap was $90,000. No SocialSecurity taxes could be withheld from ataxpayer’s wages and salaries above thatamount.

Medicare TaxesFICA taxes also fund Medicare. TheMedicare program is a national healthinsurance program that helps pay forhealth care for people over age 65. It alsocovers people with certain disabilities.

Both employees and self-employedpeople pay the Medicare tax on all theirearnings. There is no ceiling as for SocialSecurity payments.

Unemployment TaxesThe federal government also collects anunemployment tax, which is paid byemployers. In effect, the tax pays for aninsurance policy for workers. If workers arelaid off from their jobs through no fault oftheir own, they can file an “unemploymentcompensation” claim and collect benefits

for a fixed number of weeks. In order tocollect unemployment benefits, an unem-ployed person usually must show that he orshe is actively looking for another job. Theunemployment program is financed by bothstate and federal unemployment taxes.

Other Types of TaxesWhat are the taxes on gasoline and cabletelevision service called? If you inheritmoney from your great aunt, will you haveto pay a tax? Why are some importedproducts so expensive? To answer thesequestions, you need to look at excise,estate, gift, and import taxes.

Excise TaxesAs you read in Chapter 5, an excise tax is ageneral revenue tax on the sale or manufac-ture of a good. Federal excise taxes applyto gasoline, cigarettes, alcoholic beverages,telephone services, cable television, andother items.

Estate TaxesAn estate tax is a tax on the estate, or totalvalue of the money and property, of aperson who has died. It is paid out of theperson’s estate before the heirs receivetheir share. A person’s estate includes notonly money, but also real estate, cars,furniture, investments, jewelry, paintings,and insurance.

In 2005, if the total value of the estate is$1.5 million or less, there is no federalestate tax. Because an estate tax is a pro-gressive tax, the rate rises with increasingvalue. That is, a $5 million estate will betaxed by the federal government at a higherrate than a $2 million estate.

Gift TaxesThe gift tax is a tax on money or propertythat one living person gives to another. Thegoal of the gift tax, established in 1924,was to keep people from avoiding estatetaxes by giving away their money beforethey died. The tax law sets limits on gifts,but still allows the tax-free transfer of fairly

Value-Added Tax Individual income taxes and sales taxes play asmaller role in generating government revenue in many European nations thanthey do in the United States. Instead, in much of Europe, a value-added tax, orVAT, has been implemented. A VAT taxes the increase in value that a goodgains in each step of its production. For example, in the United States,consumers usually pay taxes when they buy a car. Under a VAT system, theprice of a car already includes the tax paid by the mine that extracts the ironore used to make the car. It also includes the tax the steel mill paid based onthe value added to the iron ore when it was turned into steel. Similarly, thecar’s price includes the tax the car manufacturer paid on the value the steelgained when it was made into a car. In this way, the consumer doesn’t directlypay the tax. Rather, the total price of the car already includes the tax. Wouldyou recommend a VAT for the United States? Why or why not?

Global Connections

Medicare a nationalhealth insuranceprogram that helps payfor health care forpeople over age 65 orwith certain disabilities

estate tax a tax on theestate, or total value ofthe money and property,of a person who hasdied

gift tax a tax on moneyor property that oneliving person gives toanother

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Answers to . . .

Section 2 AssessmentSection 2 Assessment1. Pay-as-you-earn taxation means

that individuals usually pay most ofwhat they owe over the year as theyearn income.

2. Withholding is a portion of incometaken out of an employee’s pay-check. It is forwarded to the federalgovernment as an installment pay-ment on the person’s annual tax. Astudent with a part-time job wouldhave a portion of salary withheld.

3. FICA taxes fund two large govern-ment programs—Social Securityand Medicare.

4. Estate and gift taxes tax money thattransferred from one individual toanother. If large sums are given orinherited, some of that amount istaxed and paid to the government.Therefore, no inheritance can bepassed along among a few individ-uals or families without losing someof its value.

5. Donations are deductible in order toencourage people to give to worthyorganizations. The money isdonated to a nonprofit organization,which furthers the public good.

6. approximately $1,700 billion

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ChaptChapter er 1144 •• Section Section 22large amounts each year. Under currentlaw, a person can give up to $11,000 a yeartax-free to each of several different people.

Import TaxesTaxes on imported goods (foreign goodsbrought into the country) are called tariffs.Today, most tariffs are intended to protectAmerican farmers and industries fromforeign competitors rather than to raiserevenue. Tariffs raise the price of foreignitems and help keep the price of Americanproducts competitive. You will read moreabout tariffs in Chapter 17.

Taxes That Affect BehaviorThe basic goal of taxation is to createrevenue. However, governments some-times use tax policies to discourage thepublic from buying harmful products.Taxes are also used to encourage certaintypes of behavior. The use of taxation toencourage or discourage behavior is calleda tax incentive.

Federal taxes on tobacco products andalcoholic beverages are examples of so-called sin taxes. While they do bring inrevenue, their main purpose is todiscourage people from buying and usingtobacco and alcohol.

Taxes have also been imposed on thepurchase of vehicles that get low gasmileage. The goal of these taxes is toencourage people to purchase more fuel-efficient cars. Similarly, certain tax deduc-tions encourage energy conservation.Homeowners and businesses may deductsome of the cost of certain improvements,such as adding solar heating, from theirtaxable income.


Key Terms and Main Ideas1. Explain “pay-as-you-earn” taxation.2. Describe withholding and explain how it would affect a

student with a part-time job.3. What is the purpose of FICA?

Applying Economic Concepts4. Critical Thinking The founders of the United States

wanted to avoid establishing a permanent aristocracy,or group of wealthy families who could control a greatdeal of the nation’s wealth. How is this idea related toestate and gift taxes?

5. Try This Contributions to organizations such as theAmerican Cancer Society are tax deductible (that is,they can be deducted from taxable income). Explain thereason for this tax policy.

6. Using the Databank Study the bar graph showingGovernment Receipts by Source on page 543 of theDatabank. Approximately how much money (in billions ofdollars) do the top three sources of government incomegenerate?

� The owner of this house is installing solar panels. He or she may beable to take advantage of tax incentives designed to encourage energyconservation.

tariff a tax on importedgoods

tax incentive the use oftaxation to encourageor discourage certainbehavior

PHSchool.com

For: Research ActivityVisit: PHSchool.comWeb Code: mnd-6142




Federal Spending


Bellringer Ask students to describehow they think most workers spenttheir most recent paychecks. Do theythink that workers were able tochoose freely how their money wasspent, or did some of the moneyhave to go toward requiredexpenses? Explain that this sectionwill detail how the government allo-cates its financial resources.

Vocabulary Builder Have studentsread through the section to discoverthe meaning of the key terms. Askthem to write each term and its defi-nition in their Economics Journals.

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Government To help students understand manda-tory spending and discretionary spending by thegovernment, have them complete a web graphicorganizer like the one at the right for each of thetypes of spending. Remind students that a webshows a main idea and its supporting details.





Answer to . . . Building Key Concepts SocialSecurity, defense, income security,Medicare, health

SS uppose that each year you were givenalmost $1.9 trillion to spend. So much

money! So many choices! In reality, whenthe federal government receives thisamount of revenue in the form of taxes,most of it is already accounted for. That is,after the government fulfills all its legalobligations, only about 26 percent of themoney remains. In this section you willlook at the many items on which thefederal government spends its tax revenues.In Chapter 15, you will read about how thefederal government, as part of the budgetprocess, plans for that spending.

Mandatory and DiscretionarySpendingThe graph in Figure 14.6 shows the majorcategories of federal spending. Some ofthese categories, such as Social Security andMedicare, are “mandatory.” Mandatoryspending refers to money that lawmakersare required by existing laws to spend oncertain programs or to use for interestpayments on the national debt. Others,such as defense and education, are “discre-tionary.” Discretionary spending is spendingabout which government planners canmake choices.

In general, the percentage of federalspending that is mandatory has grown inrecent years. The percentage of discre-tionary spending has decreased. Thesetrends worry many budget planners andpoliticians.

mandatory spendingspending on certainprograms that ismandated, or required,by existing law

discretionary spendingspending categoryabout whichgovernment plannerscan make choices

Federal Spending

ObjectivesAfter studying this section you will be able to:1. Distinguish between mandatory and

discretionary spending.2. Describe major entitlement programs. 3. Identify categories of discretionary

spending.4. Explain the impact of federal aid to state

and local governments.

PreviewSection FocusAlthough the federal budget isextremely large, about three quartersof the government’s spending isrequired by current laws. Majorcategories of government spendinginclude Social Security, defense,interest on the national debt,Medicare, and health care.

Key Termsmandatory spendingdiscretionary spending entitlement Medicaid

The federalgovernment spendsthe funds it collectsfrom taxes and othersources on a varietyof programs.Government Analyzethe categories ofexpenditures in thefederal budget.Which categoriesreceive the mostfederal funds?

Source: Office of Management and Budget

Note: Because of rounding, totals may be less or greater than 100 percent.

Defense

Science, space, and technologyEnergy, natural resources, and environmentAgricultureTransportation

Education

Other

HealthMedicareIncome securitySocial SecurityVeterans benefits Administration of Justice

Net interest

Figure 14.6 Federal Spending, 2004Figure 14.6 Federal Spending, 2004

20%7%

22%

14%12%

10%

4%

3%

1%2%

1%1%

3%1%

PHSchool.com

Web Code: mng-4164


1. Focus Explain to students that like thetypical worker, the government is notfree to spend its revenues however itwishes. Ask students to list necessitiesfor which individuals must spend part oftheir earnings.2. Instruct Begin by stating the differ-ences between mandatory and discre-tionary spending. Then discuss eachtype of spending in depth, introducingstudents to the concept of entitlementprograms. Finally, explain how federaltax dollars find their way back to thestates and to local governments.3. Close/Reteach After the federal gov-ernment has funded its mandatory enti-tlement programs, it allocates itsremaining financial resources asCongress and the executive branch seefit. Ask students to explain the purposeof entitlement programs.

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Guided Reading and ReviewUnit 6 folder, p. 6 asks students toidentify the section’s main ideas and todefine or identify key terms.

Ask students to consult a dictionary tolearn the pronunciation and meaningof the words mandate and discretion.Have them state each definition intheir own words, and ask them toexplain how those definitions helpthem to understand mandatory anddiscretionary spending. ELL

(Reteaching) Have students list every-thing they can remember spendingmoney for over the past several weeks.Then ask them to divide their lists intotwo categories: mandatory spendingand discretionary spending. Ask howthey decided which category bestdescribed each expense. Finally, askthem to relate these categories to spend-ing by the government and to list exam-ples of government expenses that fallinto each category.

Organize the class into six groups, andassign one of the following topics toeach group: Social Security, Medicare,Medicaid, food stamps, SupplementalSecurity Income (SSI), and child nutri-tion. Ask each group to create a factsheet about its topic that answers thefollowing questions:• Who benefits from the program?

• What benefits does the programoffer?

• When was the program started?

• Why was the program initiated?

• How does the program work?

Photocopy and distribute the factsheets so that everyone has informa-tion on all of these programs.


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Government Explain to students that the concept ofentitlement entered the English language as recentlyas 1944. The word is derived from entitle, whichitself comes from the Latin intitulare, meaning “givea title to.” Someone bestowed with a title had cer-tain rights and privileges. Thus, to be entitled meansto have a right to something.

Ask students to examine the debate that has goneon for some time about whether individuals areactually “entitled” to programs that are calledentitlements. Encourage students to see how thewords that are used to talk about something canreveal a person’s attitude toward it.


entitlement socialwelfare program thatpeople are “entitled to”if they meet certaineligibility requirements

Entitlement ProgramsExcept for interest on the national debt,most of the mandatory spending items in thefederal budget are for entitlement programs.Entitlements are social welfare programs thatpeople are “entitled to” if they meet certaineligibility requirements, such as being at acertain income level or age. The federalgovernment guarantees assistance for allthose who qualify. As the number of peoplewho qualify rises, mandatory spending risesas well. As a result, managing costs hasbecome a major concern.

Some, but not all, entitlements are“means-tested.” In other words, peoplewith higher incomes may receive lowerbenefits or no benefits at all. Medicaid, forinstance, is means-tested, or dependent onincome. Social Security is not. A retiredperson who has worked and paid SocialSecurity taxes is entitled to certain benefits.Similarly, military veterans and retiredfederal employees are entitled to receivepensions from the government.

Entitlements are a largely unchangingpart of government spending. Once

Congress has set the requirements, itcannot control how many people becomeeligible for each kind of benefit. Congresscan change the eligibility requirements orreduce the amount of the benefit in orderto try to keep costs down. Such actions,however, require a change in the law.

Social SecuritySocial Security is the largest category offederal spending. More than 50 millionretired or disabled people and theirfamilies and survivors receive monthlybenefits. The Social Security Administra-tion became an independent agency in1995. Before that, its spending was partof the budget for the Health and HumanServices Department.

MedicareMedicare serves about 42 million people,most of them over 65 years old. Theprogram pays for hospital care and forthe costs of physicians and medicalservices. It also pays health care bills forpeople who suffer from certain disabilitiesand diseases.

� People whoreceive entitlementbenefits such asSocial Security,Medicare, andMedicaid includeveterans, people withdisabilities, and theelderly.

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(Enrichment) Assign each studentone of the categories of discretionaryspending discussed in this section.Instruct students to locate recentreal-life examples of spending fortheir assigned categories. Then haveeach student compose a briefdescription of the example. You maywant to have students also create“Dubious Discretionary Doings”lists to document strange or seem-ingly wasteful discretionary spendingthat they uncover in their research.Depending on the time available,have the information presentedorally or in a class report and com-bined list.

You may wish to have students addthe following to their portfolios. Askthem to read the part of this sectiontitled “Federal Aid to State and LocalGovernments.” Then have studentsresearch one type of federal aid toyour state or local government to findout what kinds of restrictions comealong with the funds. Have themwrite several paragraphs, first brieflydescribing the general impact of fed-eral aid on state and local govern-ments and then focusing on theirresearch. GT

Economics Assessment RubricEconomics Assessment Rubricsfolder, pp. 6–7 provides sampleevaluation materials for a writingassignment.

Transparency Resource PackageEconomics Concepts, 14F:

Federal Spending

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� Distribute a table that details governmentspending. (Almanacs usually include this informa-tion, but it is also available from the Office ofManagement and Budget.) Then work with stu-dents to analyze the chart. First identify whichspending is mandatory and which is discretionary.Then identify categories that get the most and theleast spending. Finally, have students do research

to analyze how spending in various categories haschanged over time.

� Extend the second activity on this page by hav-ing students debate the following question:Should the federal government fund state andlocal programs and projects without imposingany requirements or regulations? After each sidehas presented its case, have the class decide whichteam made the most convincing arguments.


Medicare is funded by taxes withheldfrom people’s paychecks. Monthly pay-ments paid by people who make certainlevels of taxable income and receiveMedicare benefits also pay for the program.

MedicaidMedicaid benefits low-income families,some people with disabilities, and elderlypeople in nursing homes. It is the largestsource of funds for medical and health-related services for America’s poorestpeople. The federal government shares thecosts of Medicaid with state governments.The state share of the costs varies from 50percent to 83 percent. In 2004, 54.6million people were covered by Medicaid—about 18 percent of Americans.

Other Mandatory Spending ProgramsOther means-tested entitlements benefitpeople and families whose incomes fallbelow a certain level. Requirements varyfrom program to program. Federal programsinclude food stamps, Supplemental SecurityIncome (SSI), and child nutrition. Thefederal government also pays retirementbenefits and insurance for federal workers,as well as veterans’ pensions and unem-ployment insurance.

The Future of Entitlement SpendingSpending for both Social Security andMedicare has increased enormously inrecent years and is expected to increasefurther in the next few decades. SocialSecurity payments will rise as people in thelarge “baby boomer” generation, bornbetween 1945 and 1964, start to retire.When the “baby boomers” reach 65, theywill become eligible for Medicare as well.

Medicare costs have been growingrapidly, partly as a result of expensivetechnology, but also because people areliving longer. Who will pay these costs?The following fact indicates the basicproblem facing Medicare. In 1995, therewere four people paying Medicare taxes forevery Medicare recipient. By 2050, therewill only be two people paying taxes forevery recipient.

DiscretionarySpendingSpending on defense accountsfor about half of the federalgovernment’s discretionaryspending. The remainingfunds available for discre-tionary spending are dividedamong a wide variety of cate-gories.

Defense SpendingDefense spending has droppedsomewhat since the end ofthe cold war as a percentage of the totalfederal budget. As you can see from thegraph in Figure 14.6, defense spendingconsumes about 20 percent of the federalbudget.

The Department of Defense spends mostof the defense budget. It pays the salaries ofall the men and women in the army, navy,air force, and marines, as well as thedepartment’s civilian employees. There areabout 1.4 million men and women inuniform, along with about 654,000 civilianworkers, working for the armed forces.

Defense spending, of course, also buysweapons, missiles, battleships, tanks,airplanes, ammunition, and all the otherequipment the military needs. The defensebudget also includes funds for maintainingequipment and military bases.

Other Discretionary SpendingYou may be surprised at how small a portionof federal spending goes into the categorythat could be labeled “everything else.” Hereare some of the many programs that thiscategory of federal spending pays for.

• education• training• scientific research• student loans• technology• national parks and monuments• law enforcement• environmental cleanup• housing

Medicaid entitlementprogram that benefitslow-income families,some people withdisabilities, and elderlypeople in nursinghomes

In the News Read more about federalspending in “Rethinking the DigitalDivide,” an article in The Wall Street Journal Classroom Edition.

The Wall Street JournalClassroom Edition

For: Current EventsVisit: PHSchool.comWeb Code: mnc-6143

Typing in the WebCode when prompted will bringstudents directly to the article.

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Presentation Pro CD-ROM Quiz provides multiple-choice


Answers to . . .

Section 3 AssessmentSection 3 Assessment1. Discretionary spending is spending

about which government plannerscan make choices. Mandatory spend-ing is spending that is required byexisting law.

2. An entitlement program is a socialwelfare program that people are“entitled to” if they meet certain eligibility requirements.

3. Social Security costs are expected toincrease as the “baby boomer” gen-eration, a large segment of today’ssociety, reaches retirement age.

4. Defense is the largest category of dis-cretionary spending. Other examplesmay include education, training, scien-tific research, student loans, technol-ogy, national parks and monuments,law enforcement, environmentalcleanup, housing, land management,transportation, disaster aid, foreignaid, farm subsidies, and salaries ofcivilian employees of the federal government.

5. (a–b) Answers will vary, but studentsshould demonstrate an understandingof entitlement programs and be ableto support their answers by suggest-ing needs that are not met (requiringadded programs) or examples ofwaste or inefficiency (requiring modi-fying or cutting of programs).

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6. Answers should demonstrate an understanding offederal spending and be well supported. For exam-ple, students may want to lower defense spendingbecause the United States is the strongest worldpower, or they may want to spend more on environ-mental clean-up because many areas are damaged.

Answer to . . . Cartoon Caption State governmentsare portrayed as being low on fundsand therefore unprepared.

• land management• transportation• disaster aid• foreign aid • farm subsidies

This part of the federal budget also paysthe salaries of the millions of people whowork for the civilian branches of the federalgovernment. They include members ofCongress, Cabinet secretaries, park rangers,FBI agents, file clerks, geologists, CIAagents, meat inspectors, and many others.

Federal Aid to State andLocal GovernmentsSome federal tax dollars find their way tostate and local governments. In total,about $406 billion a year in federal moniesis divided among the states. This is anaverage of about $1,400 per person.

As you have read, state and federalgovernments share the costs of some socialprograms, including Medicaid, unemploy-ment compensation, and some of theprograms that help children, families,refugees, and others. State and federalgovernments also share the costs of somehighway construction. Additional federalmoney goes to the states for education,lower-income housing, mass-transit, healthcare, highway construction, employmenttraining, and dozens of other programs.

Federal grants-in-aid are grants offederal money for certain closely definedpurposes. States must use the federal fundsonly for the purpose specified and obey thefederal guidelines for which aid is given.Beginning with the Reagan administrationin the early 1980s, many grant-in-aidprograms were converted to a block grantformat. As you read in Chapter 13, blockgrants are lump sums of money intended tobe used in a broadly defined area of publicneed, such as education or highways.


Key Terms and Main Ideas1. How does discretionary spending differ from mandatory

spending?2. What is an entitlement program?3. Why is the cost of the Social Security program expected

to increase in the next decades?4. What is the largest category of discretionary spending?

Identify three additional examples of discretionaryspending.

Applying Economic Concepts5. Try This Suppose that you are running for political

office. (a) Would you propose any new entitlement

programs? If so, what would they be? (b) Would youpropose eliminating or modifying any existing entitle-ment programs? Explain your answers.

6. You Decide Which categories of federal spendingwould you lower? Which would you raise? Give specificreasons for the changes you suggest.

� As the federal government reduces its size, the burden of providingpublic assistance programs falls more heavily on the states. How does thecartoonist portray the ability of state governments to handle thisresponsibility?

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State and Local Taxesand Spending


Bellringer Ask students who pur-chased their economics textbooks or who provides the buses and trainsthat transport people around yourcommunity. (Adjust questions asneeded to reflect state or localexpenditures.) Explain that this sec-tion will discuss how state and localtaxes are used.

Vocabulary Builder Ask studentsto review the meaning of each keyterm and to give a real-life exampleof the term or of a situation in whichthey would encounter an example ofthe term.

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Government To build understanding of the ways inwhich state and local governments collect and spendtaxes, ask students to complete a tree map graphicorganizer like the one at the right. Remind studentsthat a tree map shows the main topic, main ideas ordivisions, and supporting details. They should placethe title of the section in the top box and the mainheadings in the next row of boxes, followed by sup-porting details.





YY ou and your family are thinking aboutcolleges. Which one offers the courses

you want? How much does it cost?During your research, you find thatcolleges within your state’s universitysystem are far less expensive than privateschools. The reason is that your stategovernment is paying part of the cost ofrunning the state colleges. In fact, highereducation is one of the largest areas ofstate government spending.

What else do states spend money on? Inthis section you will look at patterns oftaxing and spending by state and localgovernments.

State BudgetsLike families and individuals, governmentsmust plan their spending ahead of time.The federal government has just onebudget for all kinds of spending. Stateshave two budgets: operating budgets andcapital budgets.

Operating BudgetsA state’s operating budget pays for day-to-day expenses. Those include salaries ofstate employees, supplies such as computersor paper, and maintenance of state facili-ties, from the state capitol to recreationareas and roadside parks.

Capital BudgetsA state’s capital budget pays for majorcapital, or investment, spending. If the statebuilds a new bridge or building, the moneycomes from this budget. Most of theseexpenses are met by long-term borrowingor the sale of bonds.

operating budgetbudget for day-to-dayexpenses

capital budget budgetfor major capital, orinvestment,expenditures

State and Local Taxes and Spending

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ObjectivesAfter studying this section you will be able to:1. Explain how states use a budget to plan

their spending.2. Identify where state taxes are spent.3. List the major sources of state tax revenue.4. Describe local government spending and

sources of revenue.

PreviewSection FocusLike the federal government, stateand local governments use therevenue from taxes to pay for avariety of programs and services. Ingeneral, states spend the largestamounts on grants to localgovernments, education, and publicwelfare.

Key Termsoperating budgetcapital budgetbalanced budgettax exemptreal propertypersonal propertytax assessor

� State colleges and universities, such as theUniversity of Texas at Austin, receive statefunding.


1. Focus Like the federal government,state and local governments collecttaxes to finance the operations of thegovernment and to provide services fortheir populations. Have students list ser-vices that their local taxes provide.2. Instruct Begin by explaining the dif-ference between an operating budgetand a capital budget. Then discuss thevarious ways in which states spend theirtax dollars. Next, talk about the kinds oftaxes that states collect and how theyare similar to and different from federaltaxes. Finally, explain what is meant bylocal government, and discuss the taxa-tion and spending policies of such gov-ernments.3. Close/Reteach In addition to fundsdistributed by the federal government,state budgets are supported by taxeslevied at the state and local levels. Askstudents to list the types of services thatstate and local governments offer.

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(Reteaching) Have students work inpairs to complete this activity. Askthem to create two lists: one titled“Operating Budget” and the othertitled “Capital Budget.” Have studentsinclude at least five expenses in eachlist. Expenses in the capital budget listshould be based on actual capitalimprovements in your state. Ask pairsto review their lists, discuss why theyplaced each item in each list, and cor-rect misplaced expenses.

Learning Styles ActivityLearning Styles Lesson Plans folder, p. 34 asks pairs of students to createcircle graphs showing how a state allocates its revenue to its operatingbudget.


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Monetary and Fiscal Policy Help students under-stand balanced budgets by drawing an analogy totwo common types of credit cards—one withrevolving credit and one without. In the latter case,card holders are obligated to pay their monthly bal-ances in full, so they can only spend as much as theyare willing and able to pay at the end of each billingcycle. In other words their credit card budgets are inbalance at the end of each month. A card that carries

revolving credit, however, requires cardholders topay only a portion of the monthly balance. In thiscase, the holders’ credit card budgets may not bebalanced—they may maintain a deficit.

Ask students why they think states are required tobalance their operating budgets. Then ask how the existence of a deficit affects a governmental organization.


Answer to . . . Building Key ConceptsIntergovernmental revenue, insur-ance trust expenditure, education,and public welfare

Balancing State BudgetsIn most states, the governor prepares thebudget with the help of a budget agency.The legislature then discusses and eventu-ally approves the budget.

Unlike the federal government, 49 statesrequire balanced budgets—budgets in whichrevenues are equal to spending. These laws,however, apply only to the operatingbudget, not the capital budget. That makesit easier to balance state budgets than tobalance the federal budget.

Some states can borrow money forseveral years. In other states, lawmakersmust cut programs or raise taxes to balancethe budget. In the early 2000s, deficitsforced cuts and tax hikes in many states.

Where Are State Taxes Spent?Spending policies differ among the fiftystates. You are probably most familiar withstate spending on education, highways,police protection, and state recreationareas. You can see other significantspending categories in Figure 14.7.

EducationEvery state has at least one public stateuniversity. Some, such as California, havelarge systems with many campusesthroughout the state. In many states, taxdollars also support agricultural and tech-nical colleges, teacher’s colleges, and two-year community colleges.

State governments also provide financialhelp to their local governments, whichrun elementary, middle, and highschools. Some states pay a larger shareof local schools’ costs than other statesdo. The amount of money that eachstate spends per student also varies. Thenational average is $7,920 per studentper year.

Public SafetyState police are a familiar sight along thenation’s highways. This police forceenforces traffic laws and helps motorists inemergencies. State police also maintaincrime labs that can assist local law-enforcement agencies.

State governments build and run correc-tions systems. These institutions housepeople convicted of state crimes.

balanced budgetbudget in whichrevenues are equal tospending

Major sources of state revenue include individual income taxes, sales and other taxes,insurance premiums, and local and federal funds (”intergovernmental revenue”).Government What are the major categories of state government spending?

State Spending State Revenue

Figure 14.7 State Revenue and Spending, 2002Figure 14.7 State Revenue and Spending, 2002

Property taxesIndividual income tax

Sales and excise taxes

Corporate income tax

Insurance trust revenueIntergovernmental revenueInterest earnings

Highways

EducationPublic welfareHospitalsHealth

Natural resources

Intergovernmental revenue

Governmental administration

Insurance trust expenditure

Interest on general debt

Source: U.S. Census Bureau

Note: Because of rounding,totals may be less or greater than 100 percent.

Other

Corrections

Other

2%

24%

2%21%17%

31%

3%

1%

2%

28%

19%

12%

6%

13%

8%

3%

3%

3%

2%

1%

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You may wish to have students addthe following to their portfolios. Inmany communities education isfunded primarily through propertytaxes. Some economists, however,believe that using this method of tax-ation to support education is unfair.Ask students to research the issueand write a position paper in whichthey define the issue, state the argu-ments, and then give an opinion.Remind students that their opinionsshould be backed by sound reason-ing and by evidence such as statisticsand judicial decisions. GT

Economics Assessment RubricEconomics Assessment Rubricsfolder, pp. 22–23 provides sampleevaluation materials for a positionpaper.

Ask students to create a web graphicorganizer that shows where statetaxes are spent. They should use thecategories listed in the section but alsoadd at least two categories that reflectspending in their own state.

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� Extend the second activity on this page byobtaining a summary of your state’s most recentbudget and analyzing it with students. (These areoften available on-line at your state’s Web site.)Ask questions such as: How much revenue did thestate collect? How did the state allocate theseresources? What changes might students like tosee in the budget? Have students write a para-

graph that summarizes their answers to thesequestions.

� Show the Economics Video Library segment“Private Prisons,” about the trend toward priva-tizing prisons and its effect on state budgets. Havestudents investigate whether your state has priva-tized the prison system. If it has, have studentsresearch how well the system is working. If it hasnot, have them find articles on any relevantdebate that may be occurring in your state.


Answer to . . . Photo Caption These funds wouldbe included in the operating budgetbecause plowing keeps state-ownedroads operating properly.

Highways and Transportation Building and maintaining highway systemsis another major state expense. State crewsresurface roads and repair bridges. Somemoney for roads comes from the federalgovernment. In turn, states contributemoney to federal and interstate highwaysystems.

States pay at least some of the costs ofother kinds of transportation facilities,such as waterways and airports. Money forsuch projects may also come from federaland local government budgets.

Public WelfareStates look after the health and welfare ofthe public in various ways. State fundssupport some public hospitals and clinics.State regulators inspect water supplies andtest for pollution.

As you read in Section 2, states alsohelp pay for many of the federal programsthat assist individuals, such as unemploy-ment compensation benefits. Becausestates determine their own benefits, theycan meet local needs better than thefederal government can. For example,during a local recession, they may decideto extend the number of weeks that peoplecan claim benefits.

Arts and RecreationIf you’ve hiked in a state forest or picnickedin a state park, you’ve enjoyed anotherbenefit of state tax dollars. Parks andnature reserves preserve scenic and historicplaces for people to visit and enjoy. Statesalso run museums and help fund music andart programs.

Administration Besides providing services, state govern-ments need to spend money just to keeprunning. Like the federal government,state governments have an executivebranch (the governor’s office), a legislature,and a court system. State tax revenues paythe salaries of all these and other stateworkers, including maintenance crews instate parks, the governor, and state courtjudges.

State Tax RevenueFor every dollar a state spends, it must takein a dollar in revenue. Otherwise, it cannotmaintain a balanced budget. The 50 statesnow take in more than $500 billion a yearfrom taxes. Where does this money comefrom? Sales and individual income taxesprovide the largest part of state revenues.The pie chart on the left in Figure 14.7shows you other sources of state revenue.

Limits on State TaxationJust as the United States Constitution limitsthe federal government’s power to tax, italso puts limits on the states. Because tradeand commerce are considered nationalenterprises, states cannot tax imports orexports. They also cannot tax goods sentbetween states.

State governments cannot tax federalproperty, such as military bases. Nonprofitorganizations, religious groups, and chari-ties are usually tax exempt; that is, they arenot subject to taxes.

tax exempt not subjectto taxes

� Funds for plowingstate highways areincluded in statebudgets. Would youexpect these fundsto be included in astate’s operatingbudget or capitalbudget?

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Meeting NCEE Standards Use the following benchmark activityfrom the Voluntary National ContentStandards in Economics to evaluate stu-dent understanding of Standard 16.

Explain why state and local govern-ments use public money to pay for elementary education and why tobaccoand gasoline are heavily taxed.

Have students research their ownstate’s taxes. Use a search engine andkey words such as “taxes,” or “rev-enue” and your state name. Make alist of all the types of taxes that yourstate uses. What are the main sourcesof revenue? SN


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Have students read the section titled “Limits on State Taxation,” and then answer thequestion below.Which of the following cannot be taxed by state governments?

A prescription medicines

B corporate income

C individual income

D federal property


Sales TaxAs Figure 14.7 shows, sales taxes are a mainsource of revenue for state governments. Asyou read in Section 1, a sales tax is a tax ongoods and services. The tax—a percentageof the purchase price—is added on at thecash register and paid by the purchaser.

All but a few of the 50 states collect salestaxes. Sales tax rates range from 3 to 8percent. Some local governments have theirown, additional, sales tax.

In every state, some categories ofproducts are exempt from sales tax. Manystates do not charge sales tax on basicneeds such as food and clothing. Some donot tax prescription medicines.

Even states without a sales tax imposeexcise taxes that apply to specific productsand activities. Some are sin taxes—taxesthat are intended to discourage harmfulbehavior—on products like alcoholicbeverages and tobacco. Other taxes applyto hotel and motel rooms, automobiles,rental cars, and insurance policies. Manystates also tax gasoline. This state gasolinetax is in addition to the federal tax.

State Income TaxesIndividual income taxes are another largecontributor to many states’ budgets. Peoplepay this state income tax in addition to thefederal income tax. Figure 14.7 shows thatstate individual income taxes contributeabout 17 percent of state revenue.

Some states tax incomes at a flatpercentage rate (that is, as aproportional tax). Somecharge a percentage of aperson’s federal income tax.Others have progressive rates,with a tax structure like thefederal income tax. A fewstates tax only interest anddividends from investments,not wages and salaries.

Corporate Income TaxMost states collect corporateincome taxes from compa-nies that do business in thestate. Some states levy taxes

at a fixed, flat rate on business profits. Afew charge progressive rates—that is,higher tax rates for businesses with higherprofits.

As you can see from Figure 14.7, corpo-rate income taxes contribute only a smallpercentage of state tax revenues—about 2percent. Nevertheless, corporate incometaxes can influence a state’s economy.

Low corporate taxes, along with a well-educated work force and good publicservices, can make it easier to attract newbusinesses to a state. Politicians decidingon state corporate tax rates keep this fact inmind when they determine their state’spolicies.

Other State TaxesBesides the corporate income tax, busi-nesses pay a variety of other state taxes andfees. Do you want to be a hairdresser, acarpenter, or a building contractor? If so,you will have to pay a licensing fee. Alicensing fee is a kind of tax that people payto carry on different kinds of businesswithin a state.

Some states charge a transfer tax whendocuments such as stock certificates aretransferred and recorded. Other states taxthe value of the stock shares that corpora-tions issue.

Many states have rich natural resources,such as gold, oil, natural gas, fish, orlumber. Some states place a tax, called aseverance tax, on companies that take (or“sever”) these resources from the state’sland and waters.

As you read in Section 2, the federalgovernment taxes the estate of a personwho has died. States, in turn, usuallycharge an inheritance tax on the value ofthe property that goes to each heir.

Some states also tax property. Thatincludes real property, such as land andbuildings, or “real estate.” It also includespersonal property, such as jewelry, furniture,and boats. Some states even tax intangibleproperty, such as bank accounts, stocks,and bonds. Today, however, most propertytaxes, especially on real estate, are levied bylocal governments.

real property physicalproperty such as landand buildings

personal propertypossessions such asjewelry, furniture, andboats

New Hampshire legislators were faced with a dilemma: how to fund the state’s education system, without placing undue hardship on low- and middle-income taxpayers. Their solution: establish an education trust fund. This fund created a uniform statewide education property tax with provisions for tax relief for certain qualified taxpayers. It also dedicated to education revenue from increases in the tobacco tax and from tobacco settlement funds, as well as from various tax increases on businesses.

FAST FACT

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Obtain a detailed map of the areacovered by your local government(such as a county or township).Display it on a bulletin board or aneasel. Then ask students to list yourlocal government’s sources of rev-enue. After you have compiled a list,ask students to think about how thismoney is spent locally. Have individ-ual students point out areas on themap that show where local govern-ment revenues are spent (such asschools, fire stations, libraries, andparks).

Transparency Resource PackageEconomics Concepts, 14G:

State and Local Spending

Economic Detective ActivityUnit 6 folder, p. 12, “The Future ofCenterville,” provides an integratedapplication of chapter concepts.

379


Answer to . . . Building Key Concepts Educationand “other” are the major cate-gories. Some categories that wereimportant in state governmentspending (intergovernmental rev-enue, insurance trust expenditure)are much less significant for localgovernment.

Tax Protesters in Literature In 1819 Scottish writerSir Walter Scott published Ivanhoe. The novelincluded a character named Locksley, based on theinfamous English outlaw Robin Hood. Accordingto legend, Robin Hood had his own ideas aboutunfair taxation. When the poor could not afford topay the king’s ever-increasing taxes, their propertywas often confiscated or destroyed—usually by theevil sheriff of Nottingham. Some stories portrayRobin Hood as redistributing the country’s wealth

by stealing from the rich and sharing what heobtained with the poor. Whether or not such a per-son actually existed is still debated by scholars, butthe figure of Robin Hood remains one of the mostbeloved tax protesters in western culture.

Making the Connection Have students find ballads,stories, or other sources that talk about the exploitsof Robin Hood. Ask them to consider the legend ofRobin Hood and provide examples of how federal,state, and local governments redistribute wealth.

Interdisciplinary Connections: LiteratureInterdisciplinary Connections: Literature

Local Government Spendingand RevenueYour local government plays a part inmany aspects of everyday life, includingpublic grade, middle, and high schools.Local governments hire police and fire-fighters. They build roads, libraries, hospi-tals, and jails. They pay teachers. Eventhough this is the level of governmentclosest to you, it may be the one you knowthe least about.

Forms of Local GovernmentYou probably think of “local govern-ment” as a town or city. There are othertypes as well, including townships,counties, and special districts, such asschool districts. All units of local govern-ment are created by the state govern-ment. The state gives them their powersand authority.

Today, there are more than 87,000 localgovernment units in the United States.Together they collect about $370 billion intax revenues.

The Jobs of Local GovernmentLocal governments carry major responsi-bilities in these areas:

• Public school systems• Law enforcement (local police, county

sheriff’s departments, park police)• Fire protection• Public facilities such as libraries, airports,

and public hospitals• Parks and recreational facilities such as

beaches, swimming pools, and zoos• Public health (restaurant inspectors,

water treatment plants, sewer systems)• Public transportation • Elections (voter registration, preparation

of ballots, election supervision, votecounting)

• Record keeping (birth/death certificates,wills, marriage licenses, and the like)

• Social services (food stamps, child careand welfare, and similar programs)

Many of these responsibilities arereflected in the graph showing localspending (above right). In some towns andcities, separate commissions or private

Intergovernmental revenue

Local Spending Local Revenue Property taxesIndividual income taxSales and excise taxesOther taxes and charges

Interest earnings

Highways

Education

Public welfare

HospitalsHealthPolice protection

Fire protectionParks and recreation

Governmental administration

Other

Insurance trust expenditure

Interest on general debt

Source: U.S. Census BureauNote: Because of rounding, totals may be less or greater than 100 percent.

Utility revenue

SewerageHousing and community developmentUtility

25%

2%6%

19%

37%

3% 8%

2%38%

10%

4%5%5%2%

2%3%

13%

4%

3%

4%

2%

2%

Figure 14.8 Local Revenue and Spending, 2002Figure 14.8 Local Revenue and Spending, 2002

Major sources of local revenue include property taxes and state and federal funds(”intergovernmental revenue”).Government What are the major categories of local government spending? How dothey differ from the major categories of state government spending shown on page 376?

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Answers to . . .

Section 4 AssessmentSection 4 Assessment1. An operating budget covers day-to-

day expenses. A capital budget covers major expenditures such asbuildings and other permanentimprovements.

2. A balanced budget is a budget inwhich revenues are equal to spending.

3. The main sources of state revenueare sales taxes and individual incometaxes. Property taxes are the mainsource of local government revenue.

4. Real property is physical property,such as land and buildings. Personalproperty consists of possessions suchas jewelry, furniture, and boats.

5. (a) federal income taxes (b) approxi-mately $3,334

6. Students should submit a well-organized essay that demonstratesunderstanding of local expenditures.The essay should express agreementor disagreement with the expendi-tures, supporting this opinion withfacts and logic.

GTE


380

corporations carry out some of these jobs.You can see, though, that local govern-ments touch our lives every day.

Property Taxes Property taxes are levied on propertyowners in local communities to offset theexpense of services such as street construc-tion or maintenance. An official called a taxassessor determines the value of theproperty. Property taxes are usually figuredas a fixed dollar amount per $1,000 of the

assessed value. They are a main source offunding for public schools.

Other Local TaxesLocal taxes are similar to the types of taxesimposed by the states. Besides propertytaxes, local governments levy sales, excise,and income taxes. These taxes affect notonly residents of a community but alsovisitors. In fact, many are designed specifi-cally to raise revenue from nonresidents.

Suppose you’ve gone on a school trip toNew York City. The room rate for yourhotel is $200 a night. When you see the billin the morning, however, it’s $229.25! Threedifferent taxes have been added—an 8.625percent sales tax, a 5 percent city tax, and a$2 per room occupancy tax. Many othercities have taxes aimed at tourists andbusiness travelers. They include sales taxeson hotel rooms and rental cars, airporttaxes, and taxes on movie or theater tickets.

Some large cities collect income taxes aspayroll taxes. In these cities, many workersare commuters who pay property taxes andsales taxes in the suburbs where they live. Ifthe city did not take taxes from theirpaychecks, these workers would get a “freeride” on the city’s services. They would beusing police, street cleaning, and otherservices paid for only by the people wholive in the city.


Key Terms and Main Ideas1. Describe the difference between a state’s operating

budget and its capital budget.2. What is a balanced budget?3. What are the main sources of state revenue? How do

they differ from the main sources of local revenue?4. Describe the difference between real property and

personal property.Applying Economic Concepts5. Using the Databank Study the bar graph showing

Income Taxes per Capita on page 542 of the Databank.(a) Which are higher, federal income taxes or state and

local income taxes? (b) How much are total incometaxes per capita?

6. You Decide Turn to Figure 14.8 and study the main categories of local spending. Write a brief essay statingwhether you agree with the spending priorities shownon the graph.

� Local taxes pay for city and town recreation areas like this playground.

tax assessor an officialwho determines thevalue of a property

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