Understanding Marginal Tax Rates and How to Calculate Them

Marginal Tax Rate – What is it and How to Calculate it

A marginal tax rate is a tax system where the percentage of tax an individual pays increases as their income rises. In other words, as individuals earn more money, they are required to pay a higher percentage of their income as taxes. This system is commonly referred to as a progressive tax system and is used in many countries, including the USA and Canada.

What is the Marginal Tax Rate?

The marginal tax rate is determined by the tax bracket an individual falls into based on their taxable income. Each country has its own tax brackets with different tax rates. For example, in Canada, the lowest tax rate is 15%, while the highest is 33%. These rates apply to different income ranges, with the highest rate being applied to incomes above $235,675.

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Understanding Marginal Tax Rates and How to Calculate Them

In the United States, the marginal tax rates are determined by the IRS and change each year. For 2024, the lowest tax rate is 10%, applicable to incomes up to $11,000, and the highest is 37%, applicable to incomes above $578,125.

How to Calculate Marginal Tax Rate

To calculate your marginal tax rate, you first need to determine your tax bracket based on your taxable income. Keep in mind that the tax rate of a particular bracket is only applied to the income falling within that bracket.

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For example, let’s say you earn $20,000. You would apply the 10% tax rate to the first $11,000, resulting in $1,100 in taxes. Then, you would apply the 12% tax rate to the remaining $9,000, resulting in $1,080 in taxes. Finally, you would add these two amounts together to determine your total tax liability.

The formula to calculate the marginal tax rate is the change in taxes paid divided by the change in income. After calculating the marginal tax rate, you can also calculate the average tax rate, which is the total taxes paid divided by total taxable income.

Conclusion

The marginal tax rate is a progressive tax system where individuals pay a higher percentage of taxes as their income increases. It is determined by the tax bracket an individual falls into based on their taxable income. By understanding your marginal tax rate, you can better plan your finances and be aware of how your taxes will be affected by changes in income.