What is an Excise Tax?
An excise tax is a legislated tax on specific goods or services at the moment of purchase. These taxes are imposed within a single nation rather than across country borders. Examples include taxes collected from motor fuel sales, airline tickets, tobacco, and more.
Key Takeaways
- Excise taxes are levied on specific goods or services like fuel, tobacco, and alcohol.
- They mainly target businesses, indirectly increasing prices for consumers.
- Excise taxes can be ad valorem (based on value) or specific (fixed amount per unit).
- Sin taxes are excise taxes on goods with high social costs, such as alcohol and tobacco.
- Some excise taxes can be paid directly by consumers, such as property taxes and taxes on certain retirement account activities.
How Excise Taxes Work
Excise taxes often target businesses, who then pass the tax to consumers through higher prices. Merchants include these taxes in product pricing, increasing the retail price overall. While consumers may not directly see these taxes, some types such as property taxes are paid directly by them.
Federal, state, and local governments have the authority to impose excise taxes. While income tax is the primary revenue for federal and state governments, excise tax revenue also makes up a portion of total revenue.
Businesses charging and receiving excise taxes must file a Federal Excise Tax Return quarterly and include payments accordingly. They might receive deductions or credits on their annual tax returns related to excise tax payments.
Excise taxes can fall into two categories:
- Ad Valorem Taxes: Fixed percentage rates on the value of goods or services.
- Specific Taxes: Fixed dollar amounts applied to specific purchases.
Governments sometimes impose excise taxes on goods like tobacco and alcohol due to their high social costs, known as sin taxes.
Ad Valorem Excise Taxes
‘Ad valorem’ means ‘according to value’ in Latin. These taxes are charged on a percentage basis. For example, the Internal Revenue Service (IRS) levies a 10% excise tax on indoor tanning services. If a tanning session costs $100, the IRS collects $10.
Other ad valorem excise taxes include:
- Firearms: 10%
- Airline tickets: 7.5%
- Heavy trucks: 12%
Specific Excise Taxes
Specific excise taxes are set fees added to products per unit. Examples of federal, specific excise taxes include small cigarettes ($1.01 per pack of 20), pipe tobacco ($2.83 per pound), beer ($3.50 for the first 60,000 barrels), and gasoline ($0.183 per gallon).
These taxes add significantly to the item’s cost, as seen with New York’s combined $5.36 tax on a pack of cigarettes ($4.35 state tax and $1.01 federal tax).
Excise Taxes on Retirement Accounts
Excise taxes also apply to specific retirement account activities, often as penalties. Examples include:
- 6% penalty for excess individual retirement account (IRA) contributions not corrected before the deadline.
- 10% penalty for distributions from IRAs and other qualified plans before age 59½.
- 25% penalty, reduced to 10% if corrected, for missing required minimum distributions (RMDs).
The reduction applies if the missed RMD is corrected within the ‘correction window,’ ending on the date of penalty assessment, IRS notice of deficiency, or the last day of the second taxable year after the penalty imposure.
Note
As of January 1, 2023, RMDs are mandatory starting at age 73 for owners of traditional IRA accounts and several other tax-deferred retirement savings plans
Who Pays Excise Taxes?
Excise taxes are usually imposed on businesses, such as fuel companies, which often pass the cost to consumers. While consumers might not see these taxes, they often pay indirectly through higher prices.
What is a Federal Excise Tax?
A federal excise tax is imposed by the federal government on certain goods and services, like fuel, airline tickets, tobacco, and alcohol. These taxes can be embedded in the price, so consumers might not realize they’re paying them.
How is an Excise Tax Different from a Sales Tax?
Excise taxes target specific goods and are generally the merchant’s responsibility. Sales taxes apply to almost everything, with consumers paying the tax at purchase, collected by merchants who pass it to the government.
The Bottom Line
Excise taxes are levied by federal and state governments on select goods and services. They are often factored into the business models and passed onto consumers. Next time you purchase fuel, observe how excise taxes affect pump prices.
Related Terms: Sales Tax, Income Tax, Property Tax, Ad Valorem, Specific Tax, Sin Tax.
References
- Tax Foundation. “Excise Tax Application and Trends”.
- Tax Policy Center. “What Are the Major Federal Excise Taxes, And How Much Money Do They Raise?”
- Fiscal Data. “How Much Revenue Has the U.S. Government Collected This Year?”
- Tax Foundation. “Excise Tax”.
- Internal Revenue Service. “Instructions for Form 720, Quarterly Federal Excise Tax Return”, Pages 1-2.
- Cornell Law School, Legal Information Institute. “Ad Valorem”.
- Internal Revenue Service. “Indoor Tanning Services Tax Center”.
- U.S. Government. “Present Law and Background Information on Federal Excise Tax”.
- U.S. Department of Treasury, Alcohol and Tobacco Tax and Trade Bureau. “Tax Rates”.
- New York State Government, Department of Taxation and Finance. “Cigarette and Tobacco Products Tax”.
- Internal Revenue Service. “Retirement Topics - Exceptions to Tax on Early Distributions”.
- Internal Revenue Service. “Retirement Topics - IRA Contribution Limits”.
- U.S. Congress. “H.R.2617 - Consolidated Appropriations Act, 2023”. Division T: Title III: Section 302.
- U.S. Congress. “H.R.2617 - Consolidated Appropriations Act, 2023”. Division T: Title I: Section 107.
