How Do Tax Brackets Work? | Molen & Associates

Stay Ahead of Law Changes & Protect Yourself Against Being Audited: Corporate Transparency Act and Reasonable Compensation

How Do Tax Brackets Work?
There are actually two ways to look at your tax bracket. One is called your marginal tax bracket, and one is your effective tax bracket.

Marginal Tax Bracket

Your marginal tax bracket is the thing that is most common knowledge. They were recently changed in the newest tax reform, starting at 10%, then 12%, 22%, 24% and on. This is where many will focus and say I’m in “X” tax bracket therefore I am paying “X%” on all of my income. This is actually incorrect.

Effective Tax Bracket

The “X%” of all your income is your effective tax bracket. You are not subject to only one bracket. You get to take advantage of the lower brackets up to the one you are in – in the best way possible. In another post I explained it like this:

Your tax return is not taxed at a single percentage, you have income likely across multiple brackets. If you are in a 22% tax bracket, you have some income taxed at 10%, some at 12% and the rest at 22%. The 22% is NOT retroactive to all your income – which is a wonderful thing, means you pay less total tax than appears at first glance. 

Imagine building a tower of kid’s wooden blocks. As you stack blocks on top of one another, the tower increases in size. This is your income. Now if we were to place a few pieces of paper between 2 or 3 of the blocks in the whole tower, we would create different zones of the tower. Those are the tax brackets. The blocks below the first piece of paper, are 10% blocks, the next blocks are 12% and so on. 

What Represents Your Marginal Tax Bracket?

The highest block in the tower represents your marginal tax bracket. It will help you plan ahead and know, if you were to add any blocks to the tower, you are adding it to THAT zone, and the increase will be taxed at that rate. However, the whole tower has the mix of where your income is. Let’s say a married couple is making $110,000.00 a year. After the standard deduction of $24,000.00, for a married filing jointly their taxable income is $86,000.00. It is the taxable income that is taxed, not the total income. That $86,000.00 would be a tower tall enough to have 3 zones. The 10%, lowest, portion has blocks, and the middle section of 12% also has blocks. There are also a few blocks in the 22% zone, but only a few. Only those few dollars were taxed at 22%, the rest were taxed at 12% and 10%. So as a whole the family may have only been effectively taxed at 14%. That is your effective tax rate. What you were actually taxed at when all the complicated math was said and done. That is arguably the more important number than the other. Marginal helps you plan for the future regarding income and deductions, but effective tax bracket helps you understand what it is that you actually paid on your taxable income for that year.

Preparing Your Tax Return

Sadly, neither of these numbers show up on a tax return. You can figure them out on your own, but it is quite a bit of math and hoops you will need to jump through. Using professional software is the recommended minimal approach to preparing your tax return, and should be able to provide at least your marginal tax bracket to you. Working with a good professional tax advisor who can help explain the two numbers to you, and make any possible recommendations or cautions for the following year due to your marginal tax bracket is truthfully (biased a little, but truthfully also) the best.

Charles Steinmetz

Senior Tax Advisor

The Molen & Associates Difference

Mike Forsyth

“Super helpful and timely. This is our first year with them and we look forward to trusting them with our taxes and business books for years to come.”

Caitlin Daulong

“Molen & Associates is amazing! They run an incredibly streamlined process, which makes filing taxes a breeze. So impressed with their attention to detail, organization, and swift execution every year. Cannot recommend them enough!”

Sy Sahrai

“I’ve been with Mr. Molen’s company for few years and I felt treated like family respect and dignity. They are caring, professional and honest, which hard to find these days. Love working with them.”

Unlocking the Benefits of Charitable Contributions: A Guide to Maximizing Your Tax Advantages

Unlocking the Benefits of Charitable Contributions: A Guide to Maximizing Your Tax Advantages In the realm of personal finance and tax planning, charitable contributions emerge as a powerful tool not only for supporting causes close to your heart but also for...

Detailed Guide on Cryptocurrency Taxation and Reporting

Detailed Guide on Cryptocurrency Taxation and Reporting  In the United States, the Internal Revenue Service (IRS) has clear guidelines on the taxation of cryptocurrency, which is considered property for tax purposes. This classification has significant implications...

Gig Economy Taxation: a Detailed Overview

Gig Economy Taxation: a Detailed Overview Reporting Income as a Gig Worker Gig economy workers must report all income earned from their endeavors. This includes, but is not limited to: Earnings from part-time, temporary, or side gigs. Income not reported on...

Standard Deduction vs. Itemizing: A Comprehensive Guide for Small Business Owners and Self-Employed Individuals

Standard Deduction vs. Itemizing: A Comprehensive Guide for Small Business Owners and Self-Employed Individuals   As tax season approaches, one of the most significant decisions you’ll face as a small business owner or self-employed individual is whether to take...

Real Estate and Taxes: A Comprehensive Guide

Real Estate and Taxes: A Comprehensive Guide Real estate taxation is a multifaceted topic that encompasses various forms of taxes, including income tax, property tax, and sometimes even sales tax. Whether you’re dealing with personal or business real estate,...

Steps to Filing a Tax Extension

Is Filing an Extension Bad?   We get this question probably a thousand times a year. An extension is not inherently bad, it is truly personal preference. An extension will not increase your risk for an audit or red flag your return with the IRS. In fact, it is...

How to Pay Your Child From Your Business

How To Pay Your Children From Your Business Paying your children through your business can be a strategic way to manage your business's taxable income, while also providing your children with income and potentially teaching them about the value of work.  While it is a...

Tax Tips for Newlyweds

Tax & Financial Tips for Newlyweds in Houston Marriage is a significant milestone that not only unites two individuals in partnership, but in most cases, also merges their financial and tax situations. For newlyweds in Houston, understanding the tax implications...

Self-Employment Taxes: A Deeper Dive

Self-Employment Taxes: A Deeper Dive Self-employment taxes are a critical component of the tax system in the United States, impacting individuals who work for themselves. Understanding the nuances of these taxes can help self-employed individuals plan and manage their...

Education Tax Benefits: Maximizing Savings with Credits and Deductions

Education Tax Benefits: Maximizing Savings with Credits and Deductions Navigating the complexities of tax season can be daunting, but for those bearing the costs of higher education, there are valuable tax benefits that can ease the financial burden. Among these are...

Request an Appointment Today

9 + 7 =

Call us at

Pin It on Pinterest

Share This