What Is a Tax Liability?

Definition and Examples of a Tax Liability

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Your tax liability is any amount you owe a taxing authority, such as the Internal Revenue Service. Having liability means that you’re responsible for something. There can be several components to your total tax liability with an agency, including unpaid taxes from prior years.

Anything that remains unpaid from previous years should be added to what you owe in the current year to ascertain your total tax liability. It's included in your tax liability if you entered into an installment agreement with the IRS to pay off last year’s tax debt and you haven’t made the final payment on that agreement yet.

What Is a Tax Liability?

You can find your tax liability for the year on line 23 of the revised 2019 Form 1040. Appropriately, the line says, "Amount you owe.”

Two lines on Form 1040 actually refer to your tax liability. Line 16 tells you the total tax you owe for the year, then line 23 tells you how much of that amount is still outstanding after you've paid toward it through withholding from your pay or by making estimated tax payments.

Technically, line 16 is your total liability for the tax year, but the IRS probably already has some of that money, either through tax withholding from your paychecks or because you've made quarterly estimated payments. It's line 23 that you have to concern yourself with because the IRS still wants that balance.         

Payments you've already made to the IRS appear on line 19. The difference between this and line 16 will either appear on line 20 as an overpayment—indicating that you'll be receiving a refund—or on line 23 as a balance you still owe.

How Does a Tax Liability Work?

Your employer likely deducted a percentage from your pay all year for taxes according to the information you submitted to the company on your Form W-4. They sent this money—your withholding—to the IRS on your behalf. This appears on line 17 of your 2019 tax return.

You might have made estimated tax payments during the year if you’re self-employed, or because you enjoyed some source of unexpected income from which taxes weren't withheld. These payments are made using Form 1040-ES, Estimated Tax for Individuals. The amount you paid should be entered on line 8 in Part II of Schedule 3 and attached to your Form 1040 or 1040-SR.

All these payments are subtracted from the number that appears on line 23 to arrive at your tax liability.

You can expect a refund from the IRS if the difference between taxes paid and your total tax liability results in a negative balance.

You would receive a refund of $2,500 if your tax liability was $5,000 but your total payments, including refundable tax credits you qualified for, added up to $7,500. But you'd still owe the IRS $1,000 if your liability was $5,000 and you only made $4,000 in total payments, including refundable credits.

Factors That Affect Your Tax Liability

Income tax is the largest component of tax liability for most people, and it’s determined in part by tax brackets—the percentage of each portion of your income that you must pay in taxes. These percentages vary depending on both filing status and how much you earn.

You'd be in the 10% tax bracket and your income tax liability would be $950 if you’re single and you earned just $9,500 in 2019. But you would be pushed up into a 24% tax bracket on the portion of your income that exceeds $84,200 if you earned $95,000.

The income parameters for each tax bracket are indexed to keep pace with inflation. They're adjusted annually, generally increasing a bit.

Your tax liability is not based on the total money you earn in a given year. It's based on your earnings minus the standard deduction for your filing status, or your itemized deductions if you decide to itemize instead. It's also based on any other deductions or tax credits you might be eligible for.

The Internal Revenue Code (IRC) allows you to whittle away at your taxable income so your tax liability isn't based on your entire earnings but rather your taxable income.

The standard deduction increased for single filers from $6,350 in 2017 to $12,200 in 2019. It, too, is indexed for inflation. Using the hypothetical $9,500 single taxpayer earnings for 2019, subtracting the $12,200 standard deduction would leave a negative balance—and zero tax liability.

You might also make certain adjustments to your total income on Schedule 1, "Additional Income and Adjustments to Income." These are extras to the standard deduction or itemized deductions you can also claim. They include things like educator expenses, the student loan interest deduction, and a portion of any self-employment tax you'd have to pay if you work for yourself.

Tax credits reduce your tax liability, too, but in a somewhat different way. While deductions subtract from your income so you're taxed on less, credits subtract directly from what you owe the IRS. Your liability would drop from $5,000 to $4,000 if you're eligible to claim a $1,000 tax credit, just as though you had written the IRS a check for that amount.

It won't just subtract from your tax liability if you can claim a refundable tax credit. The IRS will send you a refund for any balance that's left over after the credit reduces your tax liability to zero. You'd receive the $500 difference if you have only a $500 tax liability and you're eligible to claim a $1,000 refundable credit,

Types of Tax Liabilities

Tax liability isn’t just limited to income tax you might owe. Technically, the term covers all forms of taxes, such as capital gains and self-employment tax, as well as interest and penalties.

  • Interest is added to your total tax liability if you entered into an installment agreement with the IRS to pay a previous year’s taxes.
  • An early distribution from a retirement account that was subject to the 10% penalty would be included in your total tax liability as well.
  • Capital gains tax can add to your tax liability if you sell an asset for more than your basis in it. Your basis is the amount of your investment in the property or the asset. Long-term gains are taxed at special capital gains rates: 0%, 15%, or 20% as of 2019, depending on your income. It's a short-term gain if you owned the asset for less than a year, and this would be added to your tax liability as ordinary income and taxed according to your tax bracket.

Do I Need to Pay a Tax Liability?

The bottom line is that you must pay the balance on line 23 of your tax return as quickly as possible to avoid paying interest and penalties on the amount until it's paid off.

The IRS offers online payment options via DirectPay or the Electronic Federal Tax Payment System (EFTPS). You can also pay by debit or credit card, electronic funds withdrawal, bank wire, check or money order, or even cash at certain retail partners.

And the IRS offers installment agreements so you can pay over time if you simply don't have the funds to get rid of your liability right away. Interest will accrue and there's a modest fee, but it's much better to pay over time than to ignore your debt and hope it goes away.

Key Takeaways

  • A tax liability is what you owe to the IRS or other taxing authority when you finish preparing your tax return.
  • Your tax liability isn’t based on your overall earnings but on your taxable income after you take deductions and claim tax credits.
  • Your current year’s tax liability appears on line 23 of the 2019 Form 1040.
  • Your total liability would include any balances still owed from previous years. 

Article Sources

  1. IRS. "Frequently Asked Questions / Individuals." Accessed June 24, 2020.

  2. IRS. "IRS Provides Tax Inflation Adjustments for Tax Year 2019." Accessed June 24, 2020.

  3. IRS. "Publication 501 (2019), Dependents, Standard Deduction, and Filing Information." Accessed June 24, 2020.

  4. IRS. "About Form 1040, U.S. Individual Income Tax Return." Accessed June 24, 2020.

  5. IRS. "Credits and Deductions for Individuals." Accessed June 24, 2020.

  6. IRS. "Paying Your Taxes." Accessed June 24, 2020.