The first thought most people have about taxes is what a pain it is to prepare your tax return and pay the thousands of dollars most taxpayers owe to the IRS every year. Yet beyond the income tax, sales tax, property tax, and other fees and taxes that go to fund government agencies at the federal, state, and local levels, excise tax is an often-hidden yet still substantial drain on your pocketbook.
Let's take a closer look at the definition of excise tax and where you're most likely to see the impact of excise tax as a consumer and as an investor.
Excise tax defined
Excise taxes are taxes you have to pay when you purchase a particular type of good. Unlike sales tax, which is calculated separately and added to the total price of your transaction, excise tax is most often incorporated into the final price of the product you buy, which can effectively hide the amount consumers pay in tax. Some excise taxes also apply to services and activities, such as gambling activity or when trucks use public highways to transport goods.
The amount of tax revenue the federal government brings in through excise taxes isn't a huge part of its overall budget, but it still plays an important role. The federal government brought in about $93 billion in excise taxes in 2014, according to the Tax Policy Center, which represented about 3% of the $3.02 trillion in overall revenue. Still, policymakers see excise taxes playing a larger role in the years to come, with estimates calling for excise tax revenue to exceed $120 billion by 2017.
The trend in excise tax
Historically, most of the excise tax that the federal government collected came from four sources. The biggest is transportation, where excise taxes on the sale of fuel added up to more than $35 billion last year, when you weigh the money that went toward the transportation trust fund against corresponding refunds that went to certain fuel users. Tobacco also generates substantial excise tax revenue, with the government bringing in more than $15 billion in tobacco-related excise taxes in 2014. Excise taxes on airfares added up to more than $13.5 billion last year, and alcohol excise tax amounted to nearly $10 billion.
By contrast, much of the anticipated growth in future excise taxes will come from healthcare reform. Excise taxes on health insurance providers amounted to nearly $8 billion in 2014 and are projected to climb to $15 billion by 2019. Similarly, supplementary medical insurance excise taxes should continue to bring in around $3 billion annually for at least the next several years.
At the state level, excise taxes also have a marked impact on government budgets. Taxes on motor fuels are especially important, as the average state government collects about $0.30 per gallon on gasoline and diesel fuel, compared to the federal excise of $0.184 per gallon on gas and $0.244 per gallon on diesel. Similarly, sales of cigarettes are subject to a federal excise tax of $1.01 per pack, but state excise taxes range from a low of $0.17 per pack in Missouri to $4.35 per pack in New York. In some areas, local excise taxes make the total tax even more onerous.
Many argue that excise taxes are regressive because low-income groups end up paying a higher percentage of their income toward these taxes. Proponents of excise taxes, though, believe that if they can influence behavior effectively, then excise taxes are worth the potential cost.
What's next for excise taxes?
The big question facing government agencies is how much raising excise tax rates will actually boost revenue. Any time the excise tax rate rises, the resulting higher price results in less demand for the product being taxed. Up to a certain point, the greater tax per sale outweighs the lower number of sales, but beyond that critical point, further excise tax increases can be counterproductive from a revenue-raising standpoint.
Excise tax isn't something most taxpayers think about very often, but it is becoming a more important source of government revenue every year. In considering how much in tax you have to pay, make sure to include the impact of the excise taxes that often get lost in the price of what you buy.