What is a compound tax?

A compound tax is a tax that will be calculated when you add additional taxes to an item on top of the primary tax. Here, tax is calculated on the amount including the previous tax.

Imagine you are purchasing an item with the following taxes applied:

• A state tax of 5%
• A federal tax of 10% (which is a compound tax)
• Item price before any taxes is $100.

Calculation of the state tax:

State tax = 5% of $100 = 0.05 * $100 = $5

The price after the state tax = $100 + $5 = $105

Calculation of federal tax on the new price (which includes the state tax):

Federal tax = 10% of $105 = 0.10 * $105 = $10.50

The final price after the federal tax = $105 + $10.50 = $115.50

So, the final price you pay is $115.50, where, the federal tax is applied on the amount that already includes the state tax.