February 6th, 2013
How does one identify their marginal tax rate? Why does this matter?
How does one identify their marginal tax rate? Why does this matter?
Marginal tax rate is the amount of taxes you pay or save if the basis of the tax, typically income, is increased or decreased. It is useful when asking “what if” style questions. For example What if I was able to make additional income deductions and lower my taxable income, how much would that save in taxes I owe? It’s helpful to know the various “tax brackets” the ranges that define the rate you are taxed at. Marginal tax rate might also be considered in a situation where your decided to file jointly or separately. It can a help answer the question should I file jointly or separately and how much does it save?
That was another great answer, Aaron. Allow me to add a bit more. As we factor in our total marginal tax rate (include federal, state, and city income tax) we can better understand how much tax we can save by implementing deductions into our tax plan.
Reminder: The marginal tax rate is the tax on your last dollar earned. Here is an example: You are single and make $89,000 gross (before tax is withheld). This places your last dollar in the 28% tax bracket (federal) and let’s say this places you in the 8% tax bracket (state). We will assume no city income tax for this example. This would make your marginal tax rate 36%.
If you raised your contributions to your traditional retirement account at work you would receive a 36% reduction in your taxable earnings until you fell into the next lower tax bracket for both federal and state. That number might drop to 32% or maybe 28% (this will vary based on the different state income tax rates.
Here is a challenge to you all. What is your marginal tax bracket? I have no interest in knowing what it is, but you should! Simply look at your gross yearly income, then review the 2013 tax brackets for federal and state income taxes. Where does your income fall based on your single or married status? It’s worth knowing.
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