Income Tax Bracket: Why It Doesn’t Matter After All


Currently, there are six different federal income tax rates that create income tax brackets. The six different rates are 10%, 15%, 25%, 28%, 33%, and 35%. As a general rule, which rate you fall into depends not just on your income, but your type of income. The four different filing statuses are single, head-of-household, married separate, and married joint which set the floor and ceiling of each income tax bracket.


Over the years, argument have arisen over whether or not higher tax brackets increase federal revenues. These are the current tax brackets for married people filing single which were lowered by President Bush tax cuts:


10% Bracket $0 – $17,000 $0 – $8,500
15% Bracket $17,001 – $69,000 $8,501 – $34,500
25% Bracket $69,001 – $139,350 $34,501 – $83,600
28% Bracket $139,351 – $212,300 $83,601 – $174,400
33% Bracket $212,301 – $379,150 $174,401 – $379,150
35% Bracket Over $379,150 Over $379,150


The previous tax brackets had higher taxes for everyone, including the lowest income levels. Now compare  the tax brackets Congressional Democrats and President Obama wanted to restore in December of 2010, also known as the Clinton Era Tax Brackets.


15% Bracket $0 – $17,000 $0 – $8,500
15% Bracket $17,001 – $69,000 $8,501 – $34,500
28% Bracket $69,001 – $139,350 $34,501 – $83,600
31% Bracket $139,351 – $212,300 $83,601 – $174,400
36% Bracket $212,301 – $379,150 $174,401 – $379,150
39.6% Bracket Over $379,150 Over $379,150


Why doesn't it matter what your Income Tax Bracket is?

Because of various employment taxes, which are not accounted for, the Income Tax Brackets do not do an adequate job of estimating taxes for quarterly estimated payments For that, it is best to use form 1040-ES, or calculate a reasonable year-end tax.


In truth, however, whether the top bracket is 39.6% or it is 36%, the effective tax rates are almost completely disconnected from these brackets. This is because:


1. These brackets give no accommodation to the fact that high-income taxpayers do not pay these rates because they are subject to the Alternative Minimum Tax. Therefore, these tax brackets become totally irrelevant to these individuals.


2. These income brackets assume that you have 100% ordinary income. Long-term capital gains, dividends and passive income ore other types of income and they are taxed at a much lower rate but not accounted for in these rates. And, certain income, like tax-free municipal bonds are, tax free.


3. The tax brackets are only for income tax. Taxpayers pay all other taxes to the IRS on Form 1040. Medicare, Social Security, FICA, and employment taxes are all taxed at a flat tax rate! At one point in 2011, the total of employer and employee share was 15.9% (this amount has been reduced, at least temporarily for 2011, thanks to the bipartisan Payroll Tax Cut). And believe it or not, more than half of all taxes collected from individuals in 2010 by the IRS were employment (or self-employment) taxes!


There are so many games Congress can play when creating the overall effective tax rate which is traditionally is around 21% of GDP. Credits, deductions and the Alternative Minimum Tax have a far bigger impact on what taxpayers actually pay than these income tax brackets.


If you need assistance understaning which tax bracket you fall into, contact us. We can help with tax preparation, tax planning, and understanding how to best lower your tax liabilities. Call us at 888-727-8796 or email info@irsmedic.com.