Importers, manufacturers, retailers, and consumers may be subject to excise tax, an indirect tax imposed by federal, state, and local governments on U.S. businesses selling specific goods, services, and activities. Excise taxes are usually charged to the merchants or producers, who may then pass the cost of the tax along to the consumer. Businesses subject to excise tax report it to the Internal Revenue Service (IRS).
Excise taxes are U.S. government-imposed taxes applied to the sale of certain products, activities, and services such as airline tickets, gas, tobacco and cigarettes, tires, alcohol, and gambling. Generally, federal, state, and local tax authorities collect excise taxes at the time of sale or use by a manufacturer or importer, the sale or use by a merchant or retailer, or use by the consumer. For businesses that import goods, excise taxes can also be imposed upon entry into the United States or upon the sale or use after importation. It is common for a retailer, manufacturer, or importer to pass the tax on to the consumer by including the tax in the retail price of a product. However, the tax is not as evident to the consumer because it is usually not itemized on consumer receipts, as with general sales tax. For this reason, excise tax is also called a “hidden tax.” Excise taxes can vary widely and are subject to frequent changes. They can be levied as a per-unit tax, such as the per-proof gallon tax on alcohol, or as a percentage of the price, such as a tax added to an airline ticket. For instance, domestic airline passengers pay a 7.5% transportation excise tax on the price of the plane ticket. Today, while there is a wide range of excise taxes, they account for a relatively small portion of tax collections at the federal, state, and local levels. In fact, excise taxes account for only about 0.4% of federal collections. This number can be attributed to the rapid growth of individual and corporate income tax revenues.
Excise taxes are used by the government as a way to generate revenue and, more importantly, to discourage the consumption of unhealthy products and activities deemed harmful to health and society, such as tobacco products and gambling. For example, excise taxes may be used to suppress cigarette smoking, discourage the purchase of firearms, reduce traffic congestion, or fight pollution. These are penalty-type consumption taxes, commonly called a “sin tax.”
Depending on the type of product or activity being sold, taxpayers may find that sin taxes are imposed at the federal, state, city, and county levels, like alcohol and tobacco products. Businesses pass the sin tax on to consumers. For instance, if you are a retailer selling tobacco products, the consumer will pay the sin tax as part of the purchase price.
The excise tax revenue often goes to either a general fund or trust fund earmarked for a specific purpose related to the taxed product or service, such as funding transportation infrastructure or public health initiatives. For instance, an excise tax on fuel may help fund highway improvements.
Trust fund excise taxes account for roughly three-quarters of total excise receipts, while general fund excise taxes account for the remaining one-quarter.
There are two main types of excise tax: ad valorem taxes and specific taxes.
Ad valorem taxes. Ad valorem taxes are imposed as a percent of the total purchase price of goods or services or other defined value of products or commodities. The tax is in proportion to the value of the product or service. The business pays the tax and then usually passes the tax cost on to the consumer at the time of the transition.
For example, an owner of an indoor tanning salon must collect and report to the IRS a 10% excise tax for the services they provide consumers. If the salon charges $50 for a tanning session, the salon owner is subject to a $5 federal excise tax. In general, the owner collects the tax from the consumer when the consumer is paying for the tanning service.
Specific taxes. Specific taxes are imposed per quantity — as a fixed dollar amount on the amount or size of a product. The retailer applies taxes on a per-unit basis — such as gallon, liter, etc. — at the time of purchase. For example, federal excise taxes are imposed on motor fuel or alcoholic beverages and are added to the product's price at the time of transaction.
In addition, the IRS recently reinstated the Superfund Chemical Excise Tax. Manufacturers, producers, or importers of chemical substances need to have a clear understanding to determine if they are subject to the tax, which went into effect July 1, 2022, as required by the Infrastructure Investment and Jobs Act (IIJA). In 1995, the Superfund tax had previously expired.
Calculating excise tax depends on the type of excise tax — that is, ad valorem versus specific tax — among other factors. In general, there are two formulas for calculating either ad valorem or specific tax:
Consider the following examples to explain the excise tax calculation further:
Example #1: Ad valorem taxes
The formula is the price of product × tax rate × quantity = tax liability.
For example, a home’s value is $300,000, and the area’s property tax rate is 6%. The ad valorem property tax would be $18,000 ($300,000 x 0.06 = $18,000).
Example #2: Specific taxes
The formula is quantity × tax per unit = tax liability.
For example, a brewery produces roughly 2,000 liters of beer each day. The federal government charges an excise duty worth $5 per liter. Therefore, they would have to pay $10,000 to sell 2,000 liters of beer each day (2,000 x $5 = $10,000).
In the U.S., the manufacturer, importer, or retailer typically pays the excise tax to the IRS; to recoup the loss, they pass that cost on to the end consumer. The end consumer may not be aware they are paying hidden taxes, as they are not itemized on the consumer receipt like other indirect tax, for example, general sales tax, use taxes, gross receipts taxes, and value-added taxes (VAT).
Excise tax is not the same as sales tax. They are similar in that they are both an indirect tax. However, businesses must be aware that there are notable differences that apply to the following:
Any business that provides goods and services subject to excise tax is required to report excise taxes to the IRS by completing Form 720, Quarterly Federal Excise Tax Return. The form must be filed with the IRS each quarter of the calendar year within one month after the end of the quarter.
If the net liability for taxes listed on Form 720, Part I, does not exceed $2,500 for the quarter, then a business must pay the tax due upon filing Form 720. However, if the tax liability is greater than $2,500 for the quarter, semimonthly deposits to the IRS are generally required.
The IRS generally requires that excise taxes be paid semimonthly. The IRS defines a semimonthly period as the first 15 days of a month — the first semimonthly period — or the 16th through the last day of a month — the second semimonthly period.
However, if the net liability for the taxes listed on Form 720, Part I, does not exceed $2,500 for the quarter, then the tax is due upon filing Form 720. Businesses are required to file the form for each quarter of the calendar year.
There are instances when an entity may be eligible for excise tax exemptions. Such instances include:
Form 8849, Claim for Refund of Excise Taxes, must be completed to claim a refund for federal excise tax.
If a business pays excise taxes deemed an “ordinary and necessary expense” for conducting their business or trade, they can claim excise taxes as a business expense. However, if the excise tax is for a personal expense, it is not deductible. In addition, there are other ways to lower federal excise taxes.