What is my tax bracket? Marginal rates 2021 and 2022
- There are seven federal income tax brackets, ranging from 10% for the lowest income levels to 37% for the highest income levels.
- The brackets are part of a progressive tax system that imposes higher and higher rates on different levels of income.
- Your marginal tax rate is what you pay on the last dollar of income, while your effective tax rate is the overall average rate you pay on all of your income.
- This article has been edited for accuracy and clarity by Michele Cagan, an expert on the Personal Finance Insider Tax Review Committee.
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The United States uses a progressive federal income tax system. To determine the tax that a person owes, the government uses a bracket system, where different chunks of a person’s income are taxed at rates that gradually increase as the total amount of income increases.
You can use tax brackets to estimate how much tax you will pay for the year. However, a common misconception is that someone whose total taxable income puts them, say, in the 22% tax bracket means they are paying 22% on all their money. In fact, they would only pay that amount on the highest part. The rate they pay on the last dollar is called the marginal tax rate.
How tax brackets work
There are seven brackets for 2021 and 2022, ranging from 10% to 37%. Yours will depend on your income level and filing status.
“Your tax bracket is assessed by showing all of your income, including minimum required distributions (RMD) from IRAs, Social Security, and maybe even a pension if you’re lucky enough to have one,” explains Peter J. Klein, Founder and Director of Investments at ALINE Wealth. From this income, you can take certain allowances or deductions to reduce your taxable income, and thus lower your tax bracket.
You can choose to take the standard deduction for the year or to use itemized deductions. The standard deduction in 2021 is $ 12,550 for single filers and married people filing separately. For heads of households, it’s $ 18,800 and for married couples who jointly file the 2021 standard deduction is $ 25,100.
To determine which tax bracket you are in, subtract the allowable deductions from your adjusted gross income for the year (which is your gross income minus some above-the-line adjustments such as pension contributions and interest. student loan). The resulting dollar amount will determine which marginal tax bracket you fall into.
Federal tax brackets 2021 and 2022 according to filing status
Below are the federal tax brackets for single tax filers, heads of households, and married people filing jointly and separately for 2021 and 2022.
Federal tax brackets 2022
How to calculate your tax payable using installments
So let’s say you are an individual filer with adjusted gross income of $ 65,000 in 2021 and take the standard deduction of $ 12,550. This leaves a taxable income of $ 52,450, which puts you in the 22% bracket. But that doesn’t mean you pay 22% tax on all of your income. Instead, your income would be taxed as follows:
- $ 9,950 taxed at 10%, resulting in $ 995 in income tax
- The amount between $ 9,950 and $ 40,525 (or $ 30,575) taxed at 12%, for a total tax of $ 3,669
- The amount between $ 40,525 and $ 52,450 (or $ 11,925) taxed at 22%, for a total tax of $ 2,624
So putting all of that together, your total income tax for the year would be $ 7,288.
The actual percentage that you pay on all of your taxable income is called the effective tax rate. You calculate your effective tax rate by dividing your total tax payable, $ 7,288, by your annual taxable income, $ 52,450. That’s an effective tax rate of 13.9%.
Why is it important to know my tax bracket?
If your marginal tax rate doesn’t tell you how much tax you’ll actually pay, why do you even need to know what it is? On the one hand, this is because you can only determine your effective tax rate by going through the machinations of figuring out your marginal tax rate and the resulting total tax.
Likewise, understanding which bracket you are in helps you understand the implications of how changes in your income will affect your overall tax burden, says Sri Reddy, senior vice president of retirement and income solutions at Principal Financial Group. . “Even a tiny pay raise could give you a higher tax payout percentage, as well as impact your eligibility for things like the child tax credit,” Reddy said.
Knowing your marginal tax bracket can also influence how you approach available deductions, such as whether you choose to use the standard deduction or itemize, and perhaps donate a large lump sum to charity to reduce your taxable income, says Reddy.
Your marginal tax rate can also inform your other financial decisions. “We often find clients figuring out how much to convert to Roth, how to contribute to a pension plan, when to sell or hold for the long term
, and potentially how much to give to a charity based on their tax bracket, ”says David S. Elder, wealth manager and partner at Merit Financial Advisors.
If you are in a higher tax bracket, you may want to prioritize pre-tax savings such as those from a traditional or 401 (k) IRA to lower your current tax bill. Meanwhile, a person in a lower tax bracket can take the opportunity to fund a Roth IRA, which does not qualify for a current tax deduction, but can also generate non-taxable income in retirement.
Understanding your marginal tax bracket is especially important for retirees and early retirees. “If you have pre-tax accounts and will need minimum distributions by age 72, you might not want to wait that long if you are in a lower tax bracket,” says Neel Shah, a certified financial planner and an estate planner. lawyer with Shah Total Planning.
Elder also gives the example of a married couple filing jointly with taxable income of $ 65,000. If this couple wants to do a Roth conversion, which would require claiming the amount they convert as part of their taxable income, they can choose to only make an amount that keeps them in the 12% bracket, he said. In 2021, they would limit their conversion to $ 16,051 to keep their income below $ 81,051.
The financial report
The U.S. federal tax system can seem complex and confusing, but once you understand how tax brackets work, the math is pretty straightforward. All you need to know to determine your marginal tax bracket is your reporting status and total taxable income. Once you know your marginal tax bracket, you know how much tax you will need to pay on every dollar of income. You can then calculate your effective tax rate based on your total tax payable for the year.
That may sound like a lot of math for something the IRS will determine for you in April. But knowing your tax bracket before it’s time to file your taxes can help you reduce the amount of tax you’ll end up paying. “While you can’t always dictate your income level if you are a W-2 employee, you may be able to manipulate the amount of income you withdraw in any given year from your investment portfolio,” your retirement accounts, as well as your business. , if you are a business owner, ”Shah says.
There is a saying when it comes to investing, don’t let the tax tail wag the investing dog. While it’s generally true that taxes shouldn’t be the only basis for your financial decisions, it’s equally true that ignoring the impact of taxes on your finances can also be damaging.