What is an excise tax and how does it work?
April 18, 2023 5 min read
Excise taxes are federal, state or local taxes imposed on certain products, services and activities. Like sales taxes, they can impact the final price of a purchase.
This guide explores the basics of excise taxes and some common excise taxes that businesses and consumers may owe.
- Common excise taxes include those on gasoline, tobacco and plane tickets.
- Excise taxes may be charged either as a percentage of the purchase price or as a fixed dollar amount.
- It makes sense to compare excise taxes to sales taxes, but excise taxes are usually narrower in scope.
What is an excise tax and how do excise taxes work?
Federal, state and local governments have the authority to impose excise taxes. Excise taxes may contribute to the budgets of the government entities that charge them.
Excise taxes are generally charged to businesses, which may pass the cost of the tax on to their customers. But certain excise taxes are typically paid directly by consumers. They can include property taxes and taxes on certain individual retirement accounts related to contributions and distributions.
Federal excise tax is generally applied in 1 of 2 ways: as a percentage of the purchase price or as a fixed dollar amount.
The IRS says excise taxes are “imposed on a wide variety of goods, services and activities.” Here are a few examples:
- Cigarettes and tobacco
- Airline tickets
- Telephone service
- Sports wagering
What is a federal excise tax?
A federal excise tax is one imposed by the United States government rather than a state or local entity.
Federal excise taxes are typically charged uniformly across the country. On the other hand, state and local excise tax rates may vary by location.
What are sin taxes?
Sin taxes are a common excise tax. They may apply to things like cigarettes, alcohol and gambling.
Types of excise taxes
Excise taxes typically fall into 2 categories: ad valorem excise taxes and specific excise taxes.
Ad valorem taxes
Ad valorem excise taxes are usually charged as a percentage of the total purchase price. For example, the federal government imposes a 10% ad valorem excise tax on services in indoor tanning salons. If the salon charges $75 for a session, the owner may owe the IRS a $7.50 excise tax.
Federal ad valorem excise taxes can also be charged on things like airline tickets, firearms and heavy trucks. Property taxes may also fall into the category of ad valorem excise taxes.
Specific excise taxes are fixed dollar amounts applied to purchases on a per-unit basis. Examples of federal specific excise taxes include those imposed on cigarettes, beer and gasoline. However, states might have additional excise taxes of their own.
How is an excise tax different from a sales tax?
Here are some key differences between the 2 types of taxes:
- How they’re charged: Sales taxes are usually a percentage of the total purchase price, while excise taxes may be percentage- or unit-based.
- Which government entities charge them: Federal, state and local governments can charge excise taxes. State and local governments can charge sales taxes as well. Though the federal government doesn’t charge sales taxes, Congress could theoretically enact related legislation in the future.
- Where they’re applied: Sales taxes can be applied to many types of purchases. An excise tax is a separate, specific tax applied to a narrower range of purchases.
- Who pays them: Sales taxes are generally paid directly by consumers; excise taxes are typically paid by businesses.
Excise taxes in a nutshell
Excise tax is a form of tax that applies to the purchase of certain products, services and activities. It can be added to things like gasoline, alcohol, tobacco, plane tickets and gambling.
Some excise taxes may impact you even when you’re not aware—that’s because they’re typically paid by businesses that may pass the cost on to their customers.
Excise taxes belong to a wide range of expenses that can routinely affect your budget. To help with budgeting, it could help to learn more about expenses, including specifics about fixed and variable expenses.