Calculating tax rates involves mathematics. If you find math challenging, consider using the strategy, Eat the Frog. It may sound strange, but this strategy is all about prioritizing your tasks to stay productive. Check out this video before moving on to section 1.
The U.S. tax system is based on a graduated system of tax brackets. These tax brackets and associated tax rates reflect the progressive nature of the federal income tax system.
If your taxable income is over |
but not over | your tax is | of the amount |
---|---|---|---|
$0 | $9,525 | 10% | $0 |
$9,525 | $38,700 | $952.50 + 12% | $9,525 |
$38,700 | $82,500 | $4,453.50 + 22% | $38,700 |
$82,500 | $157,500 | $14,089.50 + 24% | $82,500 |
$157,500 | $200,000 | $32,089.50 + 32% | $157,500 |
$200,000 | $500,000 | $45,689.50 + 35% | $200,000 |
$500,000 | $150,689.50 + 37% | $500,000 |
EXAMPLE
Say that you have a taxable income of $95,000 and are single. Using the table, you can calculate the tax on your $95,000 as follows.When engaging in tax planning, knowing your marginal tax rate is helpful. Here’s an equation you can use to calculate your marginal tax rate.
To calculate the marginal tax rate, you will need to know:
EXAMPLE
Assume that your income increased $2,000. If the difference between your new tax liability and old tax liability is $500, you would know that your marginal tax rate is 25% ($500 ÷ $2,000).In practice, most people simply use their highest tax bracket tax rate from the previous table. For example, if your taxable income is $95,000 and you earn one more dollar, the highest tax bracket rate that will apply to that dollar is 24%. Think of it this way: for every $1 more you make, 24 cents will go toward taxes. Similarly, for each extra $1 tax deduction, you will save 24 cents in taxes.
What happens to the tax brackets if your filing status changes from single to married? The same tax rates apply, but the tax brackets are larger so that more of your household income is taxed at lower tax rates. The table below shows tax brackets for married taxpayers filing jointly (for 2018).
Table: Federal Tax Brackets and Associated Tax Rates for Married Filing Jointly
If your taxable income is over |
but not over | your tax is | of the amount |
---|---|---|---|
$0 | $19,050 | 10% | $0 |
$19,050 | $77,400 | $1,905 + 12% | $19,050 |
$77,400 | $165,000 | $8,907 + 22% | $77,400 |
$165,000 | $315,000 | $28,179 + 24% | $165,000 |
$315,000 | $400,000 | $64,179 + 32% | $315,000 |
$400,000 | $600,000 | $91,379 + 35% | $400,000 |
$600,000 | $161,379 + 37% | $600,000 |
EXAMPLE
The tax for married filing jointly is the same even if only one spouse is employed.
The following table presents a new example comparing married-filing-jointly and single taxpayers. This example incorporates the higher standard deductions that married-filing-jointly taxpayers receive.
Table: Comparison of Single and Married Taxpayers
Married Filing Jointly | Single | |
---|---|---|
Gross income | $75,000 | $75,000 |
FOR AGI deductions | $0 | $0 |
AGI | $75,000 | $75,000 |
Standard deduction | $24,000 | $12,000 |
Taxable income | $51,000 | $63,000 |
Tax | $5,739 | $9,799.50 |
The federal income tax rates that we have discussed thus far apply to ordinary income, or income derived from work, interest, self-employment, retirement plan distributions, rents, royalties, and other sources of earned income. Capital gain income is included in gross income, but a different tax rate applies to long-term capital gains and qualified dividends. Before we discuss the tax rates on capital gains, however, let’s first discuss how capital gains are produced.
If you sell an investment instead of a personal item for a loss (i.e., less than you purchased it for), you may be able to deduct some or all of the loss from your taxable income.
Table: Long-Term Capital Gains Tax Rates
Income by Filing Status | |||
Married Filing Jointly | Head of Household | Single | Long-Term Capital Gain Tax Rate |
---|---|---|---|
$0–$77,200 | $0–$51,700 | $0–$38,600 | 0% |
$77,200–$479,000 | $51,700–$452,400 | $38,600–$425,800 | 15% |
Over $479,000 | Over $452,400 | Over $425,800 | 20% |
In contrast to the tax bracket tax rate or the marginal tax rate discussed previously, the effective tax rate measures the average tax an individual pays on his or her entire income. The calculation for the effective tax rate is shown here.
Consider again the example in the following table in which both households have gross income of $75,000.
Table: Comparison of Single and Married Taxpayers
Married Filing Jointly | Single | |
---|---|---|
Gross income | $75,000 | $75,000 |
FOR AGI deductions | $0 | $0 |
AGI | $75,000 | $75,000 |
Standard deduction | $24,000 | $12,000 |
Taxable income | $51,000 | $63,000 |
Tax | $5,739 | $9,799.50 |
Source: THIS WORK IS ADAPTED FROM CHAPTER 4.3 OF JOHN WILEY & SONS, INC. EBOOK, “INTRODUCTION TO PERSONAL FINANCE: BEGINNING YOUR FINANCIAL JOURNEY” BY JOHN E. GRABLE PHD, CFP AND LANCE PALMER PHD, CPA, CFP.