Understanding Tax Brackets

I have had a number of clients ask me if they should stop earning income to make sure they don't enter the next tax bracket as they fear it will affect their total tax liability.  The fear comes from the belief that if they go from the 24% tax bracket to the 28% tax bracket, all of their income will now be taxed at 28%.  This is an all too common misconception and hopefully, this blog will help explain how income is taxed in the United States.

In the United States, we have graduated income tax brackets.  Beginning in 2018, individual income taxpayers will have 7 tax brackets (10%, 12%, 22%, 24%, 32%, 35% and 37%).  Below is the tax table for Married Individuals Filing Jointly.

When we speak of tax rates, there are two different definitions.

Marginal tax rate: this is the tax bracket at which your last dollar of income was taxed.  So if in 2018 you make $78,000, your marginal tax rate would be 22%.

Effective tax rate: this is the actual average tax rate you pay on your total income.  As you pay a different tax rate as you increase your income, your average tax will be less.

For example.  If a married couple has $78,000 of taxable income, the first $19,050 is taxed at 10%, $19,051 to $77,400 is taxed at 12% and the first $599 is taxed at 22%.  Therefore, the total tax on $78,000 would be $9,039 or an effective tax rate of 11.6%.

So continue to earn income without too much concern about taxes.  Jumping into the next tax bracket will only affect your additional income.

If you have any questions related tax planning, please feel free to contact Glick and Trostin, LLC at 312-346-8258.

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