I don’t know about you, but when people start talking about tax brackets, I feel like I’m playing a game of monkey-in-the-middle with tax lingo.
Enough is enough: It’s time to figure out what this income tax bracket stuff is all about.
What’s a tax bracket?
A tax bracket tells you the amount of taxes you’ll pay according to your income. Each bracket covers a range of income amounts and applies a base percentage for tax.
For example, if you’re single and make less than $9,275 a year, you are in the 10% tax bracket.
So, if you make $3000 a year, your tax liability is $300; if you make $5,460, it’s $546; and if you make $8,355, it’s $835.
What does “moving into a higher tax bracket” mean?
If you make more money and reach your bracket’s cutoff point, you’ll move up to the next tax bracket and pay a higher percentage on a portion of your income.
Hang on a second. Why would you want to get a raise if it means you’ll have to pay a higher percent toward your income tax?
Here’s where it gets slightly tricky: Moving up to a new bracket means that you’re actually in two or more tax brackets.
Instead of having a new base percentage to pay, you’ll keep the 10% for the first $9,275 and pay 15% for whatever is left over and within the next highest tax bracket.
Give me an example.
Say you’ve been making $8,000 a year, and since you’re in the lowest tax bracket, your tax rate has been 10%, or $800 in tax liabilty.
Then you get a promotion (yay for you!) and now you’re getting $10,000 a year.
You’re $725 over the $9,275 cutoff point for the lowest tax bracket, so your liability is now 15% of the $725 ($108.75) plus 10% of the $9,275 ($927.50) for a grand total of $1036.25.
That’s good news for your wallet!
You’ll be spending a bit of quality time with your calculator to see how much money will be taxed at which percent, but hey, it’s time well spent.