Key Takeaways
- The federal tax system is progressive. You pay a higher percentage on spans of your taxable income as that income increases.
- Your effective tax rate is the average of all the percentages you pay on these spans of income.
- Your marginal tax rate is the top percentage you pay on your highest dollar.
- Your effective tax rate tells you the exact percentage of your overall taxable income that you give to the IRS.
How the Effective Tax Rate Works
Your effective tax rate is the average of the taxes you owe divided by your taxable income. Another way to say it is that your effective tax rate is the average of all the tax brackets the IRS uses for your income. You first have to know the IRS tax brackets to understand your effective rate.
You’d be in the 22% marginal tax bracket if you earn $60,000 in the 2022 tax year and you’re single, but you wouldn't pay 22% of your total income in taxes. You’d pay 22% on just your top dollars: $18,225, or the portion over $41,775.
The chart below shows the effective tax rate by income for single individuals for the 2022 tax year, which is the tax return you’ll file in 2023.
To calculate your effective tax rate, you would divide your income by the taxes you paid in each tax bracket. What makes the effective tax tricky is that two people in the same tax bracket could have different effective tax rates.
An Example of Effective Tax Rate
Here’s an example. If your gross income is $80,000 in 2022, you would pay the 22% rate on $38,225 of your income in 2022. If you earned $60,000 in gross income, you would pay 22% rate on only $18,225 of your income. In both cases, part of your income would be taxed at 22%, but your effective tax rates would be different.
When your taxable income is $80,000, your effective tax rate is 13.23%, while the rate is 10.31% when your taxable income is $60,000. What makes the tax rates so different? You earned considerably more money in the 22% tax bracket, which pushed your effective tax rate higher.
Note
Your effective tax rate doesn’t include taxes you might pay to your state, nor does it factor in property taxes or sales taxes. It’s only what you owe the federal government in the way of income tax.
Knowing your effective tax rate can help with tax and budget planning, particularly if you’re considering a significant change in life, such as getting married or retiring.
How To Calculate Your Effective Tax Rate
Look at your completed 2022 tax return. Identify the total tax you owed on Form 1040, then divide it by the taxable income you listed on your 1040. The result of this calculation is your effective tax rate.
Effective Tax Rate vs. Marginal Tax Rate
The U.S. tax system is a “progressive” system. It uses marginal tax rates instead of a single tax rate. The more you earn, the higher a percentage you’ll pay on your top dollars.
Your marginal tax rate is 22% at a total taxable income of $60,000. The marginal rate is applied only to your additional income over that certain tax-bracket threshold amount. Your effective tax rate is the average rate you pay on all $60,000. It's a much clearer indication of your real tax liability.
So, if you earned a taxable income of $60,000 in 2022, your effective tax rate would be 10.31%, while your marginal tax rate would be 22%.
Do You Pay the Effective Tax Rate on Your Take-Home Pay?
You won’t pay the government your effective tax rate on what you earn during the tax year. You'll pay the applicable rate on your taxable income, what’s left after you subtract deductions, including above-the-line deductions, from your gross income.
Your taxable income would be $47,050 if your gross income for 2022 was $60,000 and you took the $12,950 standard deduction for a single taxpayer, assuming that you’re not eligible for any other tax breaks at all. You’re only taxed on the balance of your income after you take every tax break you’re eligible to claim.
Frequently Asked Questions (FAQs)
What's the difference between effective tax rate and marginal tax rate?
Your effective tax rate is the average tax rate you paid on your taxable income, while your marginal tax rate is the rate you pay on the "last dollar of your income."
How do you calculate your annual effective tax rate?
The simplest way to do this calculation is to divide your total taxes by your taxable income.
FAQs
Your effective tax rate is the percentage of tax you owe on your taxable income. This is based on brackets set and maintained by the IRS. You can easily figure out your effective tax rate by dividing the total tax by your taxable income from Form 1040.
What is my effective tax rate Turbotax? ›
Your effective tax rate is the percentage of your income that you owe in taxes. To find it, divide your total tax by your total income. Your marginal tax rate refers to the tax rate on the last dollar of your taxable income, or the highest tax bracket you fall under.
What makes a tax effective? ›
A good tax system should meet five basic conditions: fairness, adequacy, simplicity, transparency, and administrative ease.
What is the effective tax rate for FICA? ›
For both of them, the current Social Security and Medicare tax rates are 6.2% and 1.45%, respectively. So each party – employee and employer – pays 7.65% of their income, for a total FICA contribution of 15.3%. To calculate your FICA tax burden, you can multiply your gross pay by 7.65%.
What does it mean to be tax effective? ›
What Is Tax Efficiency? Tax efficiency is when an individual or business pays the least amount of taxes required by law. A financial decision is said to be tax-efficient if the tax outcome is lower than an alternative financial structure that achieves the same end.
How do I determine my tax rate? ›
You can look up a tax rate by address. Visit or call our Offices. Call our Customer Service Center at 1-800-400-7115 (TTY:711). We are available to help you 7:30 a.m. to 5:00 p.m., Monday through Friday, except State holidays.
What is the average tax return for a single person making $60,000? ›
If you make $60,000 a year living in the region of California, USA, you will be taxed $13,653. That means that your net pay will be $46,347 per year, or $3,862 per month.
How much will my tax return be if I made $70,000? ›
If you make $70,000 a year living in the region of California, USA, you will be taxed $17,665. That means that your net pay will be $52,335 per year, or $4,361 per month.
How do I calculate my taxable income? ›
For individual filers, calculating federal taxable income starts by taking all income minus “above the line” deductions and exemptions, like certain retirement plan contributions, higher education expenses, student loan interest, and alimony payments, among others.
What are the 3 three criteria that make a tax effective? ›
Three criteria for effective taxes: Equity, simplicity, and efficiency.
One type of tax that does not create a large excess burden is the lump-sum tax. A lump-sum tax is a fixed tax that must be paid by everyone and the amount a person is taxed remains constant regardless of income or owned assets. It does not create excess burden because these taxes do not alter economic decisions.
What is effective tax planning? ›
Tax planning is the analysis of a financial situation or plan to ensure that all elements work together to allow you to pay the lowest taxes possible. A plan that minimizes how much you pay in taxes is referred to as tax efficient. Tax planning should be an essential part of an individual investor's financial plan.
What percentage of my paycheck goes to taxes? ›
Your federal income tax withholdings are based on your income and filing status. For 2022, the federal income tax brackets are 10%, 12%, 22%, 24%, 32%, 35%, and 37%. Regardless of your situation, you'll need to complete a W-4 and submit it to your employer.
At what age is Social Security no longer taxed? ›
Social Security income can be taxable no matter how old you are. It all depends on whether your total combined income exceeds a certain level set for your filing status. You may have heard that Social Security income is not taxed after age 70; this is false.
What is the federal income tax rate? ›
The federal income tax rates remain unchanged for the 2024 tax year at 10%, 12%, 22%, 24%, 32%, 35% and 37%. The income thresholds for each bracket, though, are adjusted slightly every year for inflation.
What is the federal tax rate for someone making $70,000 a year? ›
Example two: Say you're a single individual in 2023 who earned $70,000 of taxable income. You would pay 10 percent on the first $11,000 of your earnings ($1,100); then 12 percent on the chunk of earnings from $11,001 to $44,725 ($4,266), then 22 percent on the remaining income ($5,159).
What is the effective tax rate on 1 million dollars? ›
For example, if you're single and earn $1 million in taxable income, you'll fall into the highest tax bracket, which is currently 37%. This means that you'll pay 37% in federal income taxes on the portion of your income that exceeds the threshold for the highest tax bracket.
Who pays highest effective tax rate? ›
The top 10%, with incomes of at least $169,800, pay about three-quarters of the nation's tax bill, the analysis found. Although most Americans believe the middle class bears the heaviest tax burden, it's actually the top 1% who pay the highest federal tax rate, at 25.9%, the Tax Foundation analysis found.
What is the effective tax rate for an individual whose taxable income is $150,000? ›
To calculate the effective tax rate, divide the total amount of taxes due by taxable income. Using the example of a single filer with taxable income of $150,000 and $29,400 in taxes due, divide $29,400 by $150,000 to arrive at 0.196 or an effective (average) tax rate of 19.6%.
