Tax Justice Explained

Generally, a tax filer’s total income before deductions. However, some types of income are not included in AGI; for example, income from Social Security and unemployment benefits is not included in California AGI. Additionally, certain “above-the-line” deductions can reduce AGI. Because federal and California law differ in these exclusions and deductions, a tax filer’s federal AGI may not match their California AGI.

Certain tax filers must use an alternative calculation of tax liability if they benefit from certain tax expenditures and the tax that they would owe under the alternative method exceeds what they would owe under the regular method. The purpose of the AMT is to ensure that tax filers that take advantage of tax expenditures pay a minimum amount of tax on that preferentially treated income. The California AMT applies to both individual and corporate tax filers, and the federal AMT only applies to individual filers.

Property owned by an individual or business that is expected to provide a future economic benefit. Examples include financial assets such as stocks and bonds as well as physical assets such as real estate, vehicles, and business equipment.

Generally, the difference between the value of an asset when sold and when it was originally purchased. California and the federal government generally do not tax the increase in the value of an asset until it is sold; this is sometimes referred to as a capital gain being “realized.” In contrast, an “unrealized capital gain” refers to the increase in value of an asset that has not yet been sold. In California, capital gains are taxed at the same rate as income from employment, whereas at the federal level, they are subject to lower tax rates than employment income.

A tax imposed on corporations that do business in or derive income from California — with the exception of insurance companies, which instead pay the insurance tax. This tax is California’s third-largest revenue source. California only taxes the share of a corporation’s net income — revenues less deductions — that is earned in California. This is generally determined by the share of the corporation’s total sales that are attributable to California using a formula known as “single sales factor apportionment.” The corporation tax includes: 

• The corporation franchise tax, a tax of 8.84% of a corporation’s California net income or an $800 minimum franchise tax, whichever is higher;
• The corporation income tax, which is nearly identical to the corporation franchise tax but applied to very few corporations; and 

The bank tax, which is an additional 2% rate (for a total of 10.84%) for banks and other financial institutions. These institutions pay the additional rate in place of personal property taxes and all other local business taxes paid by other corporations.

A reduction in taxable income (or a reduction in Adjusted Gross Income, in some cases) for certain expenses. Deductions cannot reduce taxable income below zero. Many deductions are available only to tax filers who claim itemized deductions. Because the value of a deduction is based on a tax filer’s tax bracket, and higher-income households are subject to higher income-tax rates, they receive larger savings for each dollar deducted than do lower-income households, which are subject to a lower tax rate.

A distribution of a corporation’s profits to its shareholders. Like capital gains, dividends are taxed as ordinary income in California but are subject to lower rates by the federal government.

A refundable tax credit that boosts the incomes of workers with low wages, and that is provided in both federal and California tax law. The credit increases as earnings rise up to a maximum point, after which the credit phases out. California’s Earned Income Tax Credit (CalEITC) is modeled on the federal EITC, but structured differently. California also provides an additional credit for CalEITC-eligible families with children under age 6, the Young Child Tax Credit.

The percentage of the tax base that is actually paid in tax after taking into account applicable credits, exemptions, deductions, and other tax preferences. Due to these preferences — as well as the graduated rate structure for the personal income tax — the effective tax rate is lower than the statutory or marginal tax rate.

A tax imposed on someone’s estate, meaning the value of their assets upon their death. In contrast to an inheritance tax, an estate tax is paid by the estate prior to distribution to heirs and other beneficiaries. Currently, the federal government imposes an estate tax on high-valued estates, but California does not impose an estate tax. California voters approved Proposition 6 in 1982, which repealed the state’s existing inheritance tax and prohibited the enactment of future taxes on estates, inheritances, or any transfer occurring upon death. Thus, any proposed estate tax would need to be approved by California voters.

A tax on the sale of a specific good, such as alcohol, tobacco, or gasoline.

A provision that allows certain types of income to be ignored in tax calculations. For example, California does not require tax filers to include income from Social Security or unemployment benefits in their total income for tax purposes.

This can have different meanings in different contexts. 

• At the federal level, tax filers were able to claim “personal exemptions,” essentially a deduction of a flat dollar amount per tax filer and dependent, prior to 2018. However, the 2017 “Tax Cuts and Jobs Act” suspended personal exemptions through 2025.
• California offers “exemption credits,” which are nonrefundable tax credits of a set dollar amount for each tax filer and dependent, with higher amounts for blind individuals, seniors, and dependents.
• California law includes many sales tax exemptions, where certain types of items are not subject to the sales tax. The largest of these sales tax exemptions are for food products, prescription medications, and utilities. 
• Some organizations, such as nonprofit, educational, and religious organizations, can have tax-exempt status, meaning they are generally not subject to corporation taxes.

The category a tax filer belongs to based on their marital status and family structure. One’s filing status affects the applicable income thresholds for each tax bracket, the amount of the standard deduction, and the qualification criteria for some tax expenditures. There are five filing status at both the state and federal levels: 

• Single
• Married filing jointly (also applies to Registered Domestic Partnerships in California)
• Married (or Registered Domestic Partnership) filing separately 
• Head of household
• Qualifying widow(er)

Along with vertical equity, one of the two principles of tax equity. Horizontal equity is the concept that tax filers with similar economic circumstances should be taxed similarly. For example, under Proposition 13 of 1978, California’s local property tax is based on the inflation-adjusted purchase price of the property rather than its current market value, meaning two tax filers owning properties with the same market value may owe significantly different amounts of tax based on when they purchased the property. This Prop. 13 policy violates the principle of horizontal equity.

Money received over a certain period by an individual, family, or household, such as money from employment, investments, business ownership, and other sources. Income is not equivalent to wealth.

A tax on the value of inherited wealth received by an heir, in contrast to an estate tax, which is applied directly to the decedent’s estate before assets are distributed to beneficiaries. California voters approved Proposition 6 in 1982, which repealed the state’s existing inheritance tax and prohibited the enactment of future taxes on estates, inheritances, or any transfer occurring upon death. Thus, any proposal to reinstate an inheritance tax would need to be approved by California voters.

A tax on the premiums received by insurance companies. This tax is paid by insurance companies in lieu of the corporation tax.

Income received from investmenting in assets, including capital gains, dividends, and interest payments.

A deduction for specific types of expenses. Major itemized deductions allowed under California’s tax law include those for mortgage interest, local property taxes, charitable contributions, an employee’s business-related and miscellaneous expenses, and large medical expenses. At both the federal and state levels, tax filers choose between taking a flat standard deduction or itemizing their deductions.  Itemizing deductions generally benefits higher-income tax filers most, since they are more likely to have high-value homes — and therefore large expenses for mortgage interest and property taxes — and more likely to donate large sums to charity. However, California law does reduce the amount of itemized deductions allowed for tax filers with federal Adjusted Gross Income above specified thresholds (roughly $200,000 for single filers, $300,000 for heads of household, and $400,000 for joint filers).

A type of business that blends corporate and partnership structures and can elect to be taxed as a partnership or as a corporation. LLCs are also required under California law to pay an annual tax of $800 as well as a tiered fee based on income.

The rate at which one’s highest increment of income is taxed. Due to California’s graduated income tax structure, a tax filer’s marginal tax rate is higher than their effective tax rate. For example, under California’s 2021 personal income tax brackets, a single tax filer with a taxable income of $150,000 had a top marginal rate of 9.3%, but they only paid this rate on income above $61,214. The first $9,325 of their income was subject to a 1% rate, then income between $9,325 and $22,107 was subject to a 2% rate, and so on. Due to this tiered rate structure, this tax filer’s effective tax rate would be well below 9.3%.

A tax credit that cannot exceed a tax filer’s tax liability, or in other words, cannot reduce tax liability below zero. For example, if a tax filer has a tax liability of $1,500 and would otherwise qualify for a tax credit of $2,000, the credit would be capped at $1,500. This means that tax filers with low incomes who have little to no personal income tax liability often do not fully benefit from these credits. California’s Renter’s Credit and Child and Dependent Care Credit are nonrefundable.

A type of pass-through business where the business’ income (or loss) is passed through to its partners. There are two common types of partnerships: limited partnerships, which are required to pay an annual entity-level tax of $800 in California; and general partnerships, which are not required to pay an entity-level tax.

A type of business entity which is not subject to the regular federal or state taxes on corporations, and instead passes income (or losses) through to its owners, who report it on their personal income tax returns. Depending on the type of pass-through business, the entity may also be required to pay an annual tax or fee in California. Pass-through entities include S corporations, partnerships, limited liability companies, and sole proprietorships.

A tax on the income of California residents as well as the income of nonresidents derived from California sources. The tax applies to income from employment, investments, pass-through businesses, and retirement plans. California’s personal income tax has a graduated rate structure that includes nine tax brackets, with rates ranging from 1% on the lowest share of income up to 12.3%. California also levies a 1% surtax on all income above $1 million to fund mental health services. Due to its graduated structure and other features, California’s personal income tax is a progressive tax. The personal income tax is California’s largest source of revenues.

A tax which takes up a higher share of income for higher-income households than for lower-income households. California’s personal income tax is a progressive tax.

A tax on real property (land and buildings) and certain types of personal property, including aircraft, watercraft, and business equipment and fixtures. Property taxes remain within the county where they are collected and are allocated among the county government, cities, K-12 schools and community colleges, and special districts based on formulas outlined in state law. While the property tax is a local revenue source, it is governed by provisions put into the state Constitution by Proposition 13 of 1978 and subsequent ballot measures. Under Prop. 13, the general property tax rate is capped at 1% of the assessed value of the property, which for real property is limited to its purchase price plus an annual inflation adjustment not exceeding 2%.

Also called a “flat” tax, a tax which takes up the same percentage of income for all households.

A tax credit which can reduce a tax filer’s tax liability below zero and provide the difference as a refund. For example, if a tax filer has a tax liability of $1,500 and is eligible for a $2,000 credit, the credit will zero out their tax liability and provide a $500 refund. Because low-income families often have little to no tax liability, a tax credit will only fully benefit these families if it is refundable. The federal Earned Income Tax Credit and California’s Earned Income Tax Credit (CalEITC) and Young Child Tax Credit are refundable.

A tax that takes up a larger share of income for lower-income households than for higher-income households. Examples include the sales and use tax and excise taxes.

Formally known as a “Subchapter S corporation,” a type of corporation that is taxed as a pass-through business and has no more than 100 shareholders. State law also requires S Corporations to pay the higher of a $800 minimum franchise tax or 1.5% of its California income.

A tax on the purchase of tangible goods in California (the sales tax) or on the use of tangible goods in California that were purchased elsewhere (the use tax). The sales and use tax is California’s second-largest revenue source. Services are excluded from the sales and use tax, as are other items exempted by law, including groceries and medications. The sales and use tax is a regressive tax, because lower-income households generally must spend a larger share of their incomes on necessities than higher-income households, so a larger share of their income goes to sales taxes.

A type of pass-through business owned by an individual, or couple, who reports the business’ income on their personal income tax return rather than being subject to corporation taxes.

A deduction that tax filers can claim on federal and California tax returns instead of claiming itemized deductions. A standard deduction is a set amount that only varies by filing status. For 2021, the California standard deduction was $4,803 for single filers and married couples filing separately, and $9,606 for married couples filing jointly, heads of household, and qualifying widow(er). These amounts are adjusted annually for inflation.

A federal itemized deduction for state and local taxes paid, including property taxes and either income or sales taxes. The federal tax changes of 2017 (the “Tax Cuts and Jobs Act”) limited the deduction any tax filer can take to $10,000 (through 2025). California allows a similar deduction for property taxes and certain other state, local, and foreign taxes, but does not limit the amount of the deduction.

An additional tax levied on top of the regular tax structure. For example, California voters approved Proposition 63 in 2004, which created a 1% surtax on taxable income over $1 million to fund mental health services. This is in addition to the tax owed according to the state’s regular personal income tax structure with a top rate of 12.3%, making the combined top tax rate 13.3%.

Legal methods of reducing tax liability (in contrast to tax evasion).

The universe of income, assets, sales, or other economic activity subject to tax. Tax expenditures narrow the tax base, whereas eliminating or limiting tax expenditures broadens the tax base.

Ranges of taxable income that are subject to a given tax rate. The brackets vary by filing status; in California’s personal income tax system, the income thresholds for each bracket for couples filing taxes jointly are two times the thresholds for single filers. Additionally, the thresholds are higher for Californians who file as heads of household than for single filers.

This term refers to alignment between California’s tax law and the federal tax code. California’s tax law contains many references to federal tax law, but unlike many other states, California does not automatically adopt, or “conform to,” changes to the federal tax code. Instead, the Legislature must take action to incorporate federal tax changes — in part or in whole — into state law. At the time this glossary was published, references in California’s tax law to the federal Internal Revenue Code generally pointed to the federal code as it read on January 1, 2015. However, state policymakers have incorporated into state law selected federal tax changes that occurred after that date.

A dollar-for-dollar reduction in tax liability for individual or corporate tax filers. Tax credits can be refundable or nonrefundable.

Illegal methods of avoiding or reducing taxes, such as deliberate non-payment or underpayment.

Refers to exceptions to “normal tax law” that reduce the revenue governments would otherwise collect. These exceptions include, but are not limited to, exemptions, deductions, exclusions, tax credits, deferrals, elections, and preferential tax rates. Tax expenditures can be commonly referred to as tax breaks, tax loopholes, or tax preferences.

The amount of tax owed. Tax credits can reduce tax liability; nonrefundable tax credits cannot reduce tax liability below zero, but refundable tax credits can.

A table indicating the tax rates that apply to each interval of taxable income. California’s personal income tax has three tax rate schedules, which tax filers with taxable income above $100,000 must use to determine their tax liability: “Schedule X” applies to single filers and married/Registered Domestic Partnership couples filing separately; “Schedule Y” applies to married/Registered Domestic Partnership couples filing jointly and qualifying widow(er)s; and “Schedule Z” applies to head of household filers. Filers with taxable income of $100,000 or less consult a tax table to determine their state personal income tax liability instead of using the tax rate schedule.

A table that California tax filers with taxable incomes of $100,000 or less use to look up the amount of their state income tax liability. In contrast to California’s tax rate schedules — which include precise tax liability calculations — the tax table assigns one rounded tax amount to filers of a given filing status with taxable incomes within intervals of approximately $100.

The result of subtracting a tax filer’s standard deduction or itemized deductions from their Adjusted Gross Income. A filer’s tax liability is determined by applying the applicable tax rates to their taxable income.

Along with horizontal equity, one of the two types of equity considered when evaluating tax policies. While horizontal equity is concerned with tax filers with similar economic circumstances, vertical equity is concerned with the distribution of taxes across the tax filers of different income levels. Progressive taxes are considered to be vertically equitable because they make up a largest share of income for the highest-income tax filers, who have the greatest ability to pay.

The value of the resources that an individual, family, or household owns. Wealth is often measured by net worth, which is the sum of the value of all assets minus all liabilities, or debts, like money owed on loans.