A wealth tax is a tax on net worth, which is generally the difference between someone’s assets and liabilities. Governments might assess a wealth tax one time, sporadically or on a regular basis, depending on their laws and policies.
Here’s how a wealth tax generally works and how it’s different than an income tax.
The difference between wealth and income
Wealth is the value of somebody’s assets (cash; savings and investments; houses, cars and other property; insurance and pension plans, for example) minus the value of that person’s liabilities (mortgages, credit card debt or outstanding loans, for example). In other words, it’s what’s left over if you sold everything you owned and used the money to pay off every debt you have.
Income, on the other hand, is money received over a period of time, typically in return for a person’s time and expertise through work, or as interest or dividends. Paychecks are income. Money from renting out a property or dividend payments from a stock you own are other examples of income.
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How a wealth tax works
A wealth tax is typically a tax on a net worth (the difference between someone’s assets and liabilities).
- For example, if somebody has $500,000 of assets and $300,000 of debt, that person’s wealth (or net worth) is $200,000 and a 2% wealth tax would generate a $4,000 tax bill.
- Estate taxes, gift taxes and inheritance taxes are examples of wealth taxes that are typically assessed once or infrequently.
- A taxing authority might decide to assess a wealth tax annually, periodically or only when certain events occur, such as when somebody transfers wealth to someone else.
- The taxing authority might also exempt certain assets or liabilities from the wealth tax, and it might apply different tax rates to different levels of wealth.
- Calculating someone’s wealth tax typically begins with determining the value of the person’s assets and liabilities or debts. That can be tricky for assets such as houses, businesses, jewelry and other items.
Wealth tax versus income tax
Conceptually, an income tax is not the same thing as a wealth tax. Income taxes are taxes on money received over a period of time, typically in return for a person’s time and expertise (through work) or as interest or dividends.
- The United States has a progressive income tax system, meaning people with higher taxable incomes pay higher federal income tax rates.
- There are seven federal income tax brackets, and the bracket taxpayers are in depends on their taxable income and filing status.
- Income taxes are due when the income is earned, and taxpayers must file an income tax return every year.
- Governments may decide to assess both a wealth tax and an income tax.
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