Guide to Excise Taxes

By Timothy Moore · October 18, 2023 · 6 minute read

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Guide to Excise Taxes

Governments levy excise taxes on specific goods and services to generate revenue. In the United States, some of the most common excise taxes are on alcohol, tobacco, and fuel, but even some personal property taxes and penalties on retirement accounts can qualify as excise taxes.

So what is an excise tax precisely? And when do you pay it? Learn more here, including:

•   What is excise tax?

•   How do excise taxes work?

•   What’s the difference between excise and sales taxes?

•   What are the different kinds of excise taxes?

What Is an Excise Tax?

An excise is a tax levied on specific goods and services. Unlike sales taxes, which are more broadly applied to everyday purchases, excise taxes are limited in scope to very specific products and services, like gasoline, airfare, tobacco, and alcohol. And unlike income taxes you may pay every tax season, they don’t vary with your earning power.

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What Is the Purpose of Excise Taxes?

Excise taxes serve multiple purposes, including discouraging consumption of particular products and services, funding projects related to the item being taxed, and — like all taxes — generating revenue. Here’s a closer look at each one of these goals.

Discouraging Consumption

Many excise taxes are colloquially called “sin taxes” because they are meant to discourage consumption of goods and services that are deemed detrimental in some way. That’s why you’ll find excise taxes on tobacco, alcohol, and even indoor tanning salons.

Similarly, the excise tax on gas and airfare discourages overuse of fuel because it’s bad for the environment, but these specific taxes also fall into the next category (funding projects).

Penalties on retirement accounts — like for early withdrawals or not taking required minimum distributions — are technically considered excise taxes. In a way, the penalties discourage the “wrong actions” related to those retirement accounts.

Funding Projects

Federal, state, and local governments sometimes impose excise taxes to fund projects related to the things being taxed. Infrastructure — including roads, bridges, and airports — is a great example. You pay excise taxes on fuel and airfare tickets, and that revenue is poured back into the infrastructure that enables travel.

Generating Revenue

At the end of the day, governments levy taxes to generate revenue so that they can provide services to citizens. Property taxes, meaning those levied on personal property like motor vehicles or boats vs. real estate taxes, can be quite lucrative for state and local governments.

Recommended: How to Reduce Taxable Income

Types of Excise Taxes

Now that you know what excise taxes are in a general way, here’s more intel on the two main types — ad valorem taxes and fixed-amount taxes. The difference boils down to how they’re calculated.

The difference between these types of taxes is as follows:

•   Ad valorem taxes are percentage-based, similar to sales taxes. In Latin, “ad valorem” means “according to value.” In this case, the tax is set according to the value of the item being taxed. Indoor tanning services, for example, carry a 10% excise tax while airfare tickets have a 7.5% excise tax.

•   Fixed-rate taxes are a per-unit tax. That means no matter what the cost of the item may be, there is a tax per individual unit. Every gallon of gasoline carries a federal excise tax $0.184, for example, though states can levy their own additional excise taxes. (Diesel fuel has its own excise tax rate as well.)

Cigarettes are another common example. The federal excise tax is $1.01 on a single pack, no matter the brand or cost of the pack, though states can levy additional taxes.

Recommended: IRS Tax Refund Dates and Deadlines

How Do Excise Taxes Work?

Excise taxes work a little differently depending on the specific tax in question. Some excise taxes are levied on the manufacturer or retailer while others are levied on the consumers themselves.

Excise taxes on gasoline, cigarettes, and alcohol, for example, are levied on the merchants, not the consumer. But that doesn’t mean consumers don’t pay them. Most retailers simply add the cost of the excise tax to the price. When you look at the receipt, you wouldn’t even be able to see the excise tax — you’d just see the sale price.

In some cases, consumers do pay excise taxes directly, like penalties on retirement account activity.

Excise Tax vs Sales Tax: What’s the Difference?

Excise taxes and sales taxes share some similarities, but they are two different types of consumption taxes. Here are some ways they’re different:

•   Eligibility: With a few exclusions (like prescriptions and food, in many cases), sales taxes are applicable to every transaction. Excise taxes, however, are reserved for specific goods and services, including buying alcohol, gassing up your car, and purchasing tobacco.

•   Payment: We pay sales taxes at the point of sale, like when checking out at a register. With excise taxes, manufacturers and retailers often pay the additional amount before consumers ever make the purchase — though consumers typically still foot the bill via higher prices.

•   Level of government: Sales taxes are levied at the state and local level. When it comes to excise taxes, the federal government is also involved.

The Takeaway

Excise taxes touch multiple parts of our lives — from gassing up your car to enjoying a glass of wine. While excise taxes operate differently depending on the specific goods or services involved, their main aim is simple: to generate revenue for the government, which needs taxes to provide basic services to citizens.

Whether it’s excise, sales, or income taxes, chances are good that you hand over some of your hard-earned cash to the government — it’s just a part of life. Make the most of the money you keep by opening an online bank account that can help your deposits grow.

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How much do people spend on excise taxes on average?

The amount that people spend on excise taxes can vary significantly, depending on what goods and services they buy. People who smoke regularly, for example, pay high excise taxes on cigarettes, while frequent travelers are paying for airline tickets that have excise taxes built in.

Can you deduct excise taxes?

In some cases, businesses can deduct excise taxes as a business expense. However, individuals cannot deduct excise taxes for a personal expense like alcohol or fuel. That said, there are instances where excise taxes on personal property (such as a boat) may be tax-deductible. It’s a good idea to work with a tax professional if you’re not sure.

What happens if excise taxes are removed?

Governments often use excise taxes to fund specific projects related to the goods or services being taxed. Fuel taxes, for example, go toward infrastructure expansion and maintenance. Without the excise tax, the government might not have the money necessary to invest in our roads. In this and other instances, the removal of excise taxes would reduce the government’s revenue and thus limit government spending.

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