How Do Tax Brackets Work?

The Impact of Tax Brackets on Your Financial Planning

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

← Previous Next →

The Molen & Associates Difference

Request an Appointment Today

Recent Post

      EXCELLENT  
   Based on 194 reviews 
    
 
 
 
   
 
 
       Posted on Google  
   
   Bob Henricksn 
 
 
 
 Trustindex verifies that the original source of the review is Google. Very professional service.  Friendly, efficient. and very responsive.
  
 
      Posted on Google  
   
   Manolo 
 
 
 
 Trustindex verifies that the original source of the review is Google. Very Good experience with the team we have interacted with during the process, they are friendly, educated on the matters and prompt to respond. I would definitely recommend this company to friends and family.
  
 
      Posted on Google  
   
   Andrea Carlson 
 
 
 
 Trustindex verifies that the original source of the review is Google. We have been using Molen & Associates for years for tax preparation.  They are very professional and easy to work with. No notes! Give them a try!
  
 
      Posted on Google  
   
   B F 
 
 
 
 Trustindex verifies that the original source of the review is Google. My first time using Molen Tax Services. I was very pleased. Everyone I encountered was very friendly and professional. I will be using the company next year.
  
 
      Posted on Google  
   
   Homerman65 
 
 
 
 Trustindex verifies that the original source of the review is Google. If you are wanting honest and sincere tax preparation, this is where you need to go.  We have worked with other well know tax preparation companies and ended up at the bottom of their priority list because we chose not to get the Platinum advance or whatever it was called this year.

We had to file a previous year along with our current year.  Brittany was awesome.  She was able to calm the nerves associated with filing taxes and tax preparation as a whole.  She answered ALL of our questions and even asked questions that we would have never thought of.   She made us feel that there was nothing to worry about, She was looking out for us and not to get us.   We will be asking for her again this next year.

I'm definitely recommending Molen & Asociates to everyone I know.  The fact that they are booked solid during tax season only confirms the fact that they are good at what they do.
  
 
      Posted on Google  
   
   Monica Avalos 
 
 
 
 Trustindex verifies that the original source of the review is Google. Grateful to have found this place and its people. Grace and Kathy have been patient with me as a new business owner. They are supportive and attentive with their knowledge and time. I highly recommend any new business owner to use Molen for their bookeeping and tax services.
  
 
      Posted on Google  
   
   mario escobedo 
 
 
 
 Trustindex verifies that the original source of the review is Google. Every year we have done business with Molen for our tax return prep and business advice, we leave with a sense of confidence that we have chosen the most qualified people to take care of us in all of Houston. We would like to extend our gratitude to Brittany for being thorough, friendly, and superb at doing her job. Although we have the option of handling everything electronically, we choose to go in for the final signing just to have that person to person friendly interaction.
  
 
      Posted on Google  
   
   Jo Anna Green 
 
 
 
 Trustindex verifies that the original source of the review is Google. I have used Molen and Associates for at least 15 years or more for my tax preparation. They are very professional and very friendly in all aspects of the process. I'm on my second tax preparer and feel that shows you they must be a good company to work for. I'm very happy with how my tax return is completed each year and how honest they are, I have no worries the IRS won't accept my return. I highly recommend Molen & Associates if you are looking for someone to do your taxes.
  
 
      Posted on Google  
   
   Jacqueline Scroggins 
 
 
 
 Trustindex verifies that the original source of the review is Google. They have made filling our taxes less burdensome. It reassuring to know they are there every step of the way and they work hard to create lasting customer connections through accuracy and attention to detail.
  
 
      Posted on Google  
   
   Sofia Tineo-Gutierrez 
 
 
 
 Trustindex verifies that the original source of the review is Google. Professional, trustworthy, friendly; feels like family. Best team to work with.