When it comes to determining what you owe the government at the end of the year, or what you can expect to see in a tax return from Uncle Sam, the primary factor is your tax bracket. While you probably have at least some understanding of what tax brackets are and how they affect your personal taxes, chances are good that you’re not as in the know as you should be. Let’s explore tax brackets, how they work, and what they do to your tax situation.

What Is a Federal Income Tax Bracket?

Before we dive too far down the rabbit hole, it’s important to first determine what a federal tax bracket is. Really, it’s nothing more than the percentage of your income that you’re expected to pay the government. However, it’s not as simple as looking at your earnings for the year and then matching that to a specific tax bracket. The government will tax you at multiple brackets depending on your income.

What Is an Effective Tax Rate?

Your tax bracket will change as your income climbs. The final dollar you earn in a fiscal year scores a higher tax rate than the first dollar you earned for the year. However, you also need to realize that your effective tax rate comes into play here. What is it? It’s nothing more than an average of what you pay per year in cents on the dollar to Uncle Sam.

For example, if your tax bracket is 10% of the first six months of the year, and then 15% for the second six months of the year, your effective tax rate is 12.5 cents per dollar for the entire year. So, from that, we can draw another conclusion – your tax bracket doesn’t apply to every single dollar you earn. Nor does it apply to all your deductions or your exemptions.

About Federal Income Tax Brackets

There are currently seven federal income tax brackets. These correspond to the amount of tax that you’ll pay on the income that you earn. They are as follows:

  • 10%
  • 15%
  • 25%
  • 28%
  • 33%
  • 35%
  • 6%

Now, that’s not the whole story. You must combine those brackets with your filing status, of which there are four potential choices – single, married joint, married separate and head of household. While you can only file your taxes with one status, you owe taxes at more than one income bracket depending on your financial situation. Sound complicated? It is.

How All This Works

If you’re confused, you’re not alone. This is just one reason that many people opt to work with professionals rather than going it alone when it comes to preparing their personal taxes. The government taxes your income at each tax bracket, as it moves upward. So, if you only earned $9,325 for the year, then the government would assess your tax bracket as 10%. However, if you earned $12,000, then the first $9,325 would be taxed at 10%, and the remainder would be 15%. That continues as your income increases. For higher earners, those in the 28% tax bracket and higher, things become even more complicated. As an example, suppose you earned $115,000 during 2017.

Now, the first $9,325 would incur a 10% tax rate. You will also pay 15% on the amount you earn between the 10% and 15% marks, and then 25% on the amount you earn between the 15% and 25% marks. Finally, you would pay 28% on the amount you earned over $91,901.

Of course, a number of other factors mitigate those. It’s not just a simple matter of figuring out how much you earned and then finding your tax liability. For instance, in addition to the tax bracket, other factors that will affect your liability include your exemptions, the number of dependents you can legally claim, any itemized deductions beyond your personal exemption, and your filing status. There are actually 28 different combinations of just filing status and tax bracket, let alone combinations that include the various deductions, exemptions and credits available.

In the end, you actually end up paying less than your final tax bracket because of the stepped system. If the government taxed your income directly at the tax bracket into which you fell based on total income, rather than on the income earned over time during the year, your tax liability would be much, much higher.

Other Strategies

While the stepped tax bracket system does work in your favor, there are other ways that you can work to reduce your tax bracket. For instance, you can give more to charity each year – those charitable contributions are write-offs, and help you reduce your overall income. You can also increase the amount that you put into tax-advantaged retirement accounts. Note that this only works with accounts based on pre-tax dollars, like standard 401(k) accounts, though.

Check Your Status Annually

Figuring out your tax bracket is not a once and done sort of thing. The government changes the US tax code every now and then, and it’s important that you remain abreast of those changes. For instance, not that long ago, there were only six tax brackets, topping out at 35%. Today, there are seven tax brackets with a maximum of 39.6%. Stay abreast of changes to the US tax code and know how those changes will affect your financial situation.

Working with the Professionals

Obviously, the US tax code is complicated, and figuring out your tax bracket is only part of what you need to do. There’s also the fact that your tax bracket doesn’t really make a major impact on what you owe, not really. There are many factors more important. The best defense here is to work with a professional tax preparer to help you handle issues with personal taxes ranging from tax planning and strategy to ensuring that you’re able to maximize your deductions.