Your marginal tax rate is the highest rate that applies to just a portion of your income, while your effective tax rate is the average rate you pay on all of your income.
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The US tax system is very complex. Even one of the most fundamental parts of it — the actual tax rate of tax you're paying — can be hard to understand. Discussions around tax time can often include references to marginal tax rates and effective tax rates, and these terms can sometimes cause confusion. When it comes to understanding your tax situation, it's important to know the difference between the two.
Your marginal tax rate and effective tax rate are two different representations of the rate of federal income tax you pay on your earnings. While both figures help you to better understand what you're paying in taxes, they're calculated in two entirely different ways.
"What's my tax bracket?" is a typical question people might ask to get a sense of how much of their income they're paying in taxes.
However, a common misunderstanding is that someone whose total taxable income puts them into, say, the 24% tax bracket, means that they pay 24% on all of their money. In fact, they would only pay that much on the upper-most portion of it. This is also their marginal tax rate.
The US uses a system of progressive marginal tax brackets, where each dollar of income is taxed based on the bracket it falls into. Income tax rates range from 10% to 37%. This means that while each taxpayer may pay multiple different tax rates, all of them pay the same rates on the same tiers of income.
For example, someone who earned $25,000 and someone who earned $250,000 both pay 10% on their first $9,950 of income in 2021. It's only the income that falls into a higher tax bracket that's taxed at a higher rate. When people refer to their marginal tax rate, they're usually referring to the highest tax bracket they fall into.
"You might hear people say, 'I'm in the 35% tax bracket,' but it's not really true," says Adam Scherer, a CFP@ professional, IRS enrolled agent, and president of Greenbeat Financial. "They paid 35% on the last dollars they earned in that year."
While it doesn't tell you how much your total tax burden is, knowing your marginal tax rate is important. It can help you understand how changes in your earnings will affect your overall tax burden and influence how you approach certain tax deductions.
Rate | Single | Married filing jointly | Married filing separately | Head of household |
10% | $0 to $9,950 | $0 to $19,900 | $0 to $9,950 | $0 to $14,200 |
12% | $9,951 to $40,525 | $19,901 to $81,050 | $9,951 to $40,525 | $14,201 to $54,200 |
22% | $40,526 to $86,375 | $81,051 to $172,750 | $40,526 to $86,375 | $54,201 to $86,350 |
24% | $86,376 to $164,925 | $172,751 to $329,850 | $86,376 to $164,925 | $86,351 to $164,900 |
32% | $164,926 to $209,425 | $329,851 to $418,850 | $164,926 to $209,425 | $164,901 to $209,400 |
35% | $209,426 to $523,600 | $418,851 to $628,300 | $209,426 to $314,150 | $209,401 to $523,600 |
37% | $523,601 and over | $628,301 and over | $314,151 and over | $523,601 and over |
Source: IRS
Using the IRS tax brackets and your taxable income — meaning income after any deductions have been taken out — you can get a good idea of how much you'll actually end up paying in taxes.
Take for example a couple filing jointly with a taxable income of $175,000 in 2021. Based on the tax brackets above, you can see their highest marginal tax rate is 24%. However, only a small portion of their income is taxed at that rate. Most of their income falls into the 22% tax bracket, with portions of it also falling into the 12% and 10% brackets.
The table below shows what portion of the couple's joint taxable income is taxed at each of the different rates.
Rate | Taxable income | Dollar amount of tax owed |
10% | $19,900 | $1,990 |
12% | $61,150 | $7,338 |
22% | $91,700 | $20,174 |
24% | $2,250 | $540 |
Based on the 2021 income tax brackets, the couple would pay a total of $30,042 in federal income taxes.
Your effective tax rate is the average rate you pay on all of your taxable income. You don't need to look at the marginal tax brackets to determine your effective tax rate. Instead, you divide your total tax liability by your annual taxable income.
Your effective tax rate is a more accurate representation of your tax liability for the year. The simplest way you calculate it is by looking at your Form 1040 after you've filled it out. Simply divide your total tax and your taxable income as recorded on the form, and the result is your effective tax rate.
Consider an example of someone who had $85,000 of taxable income for the year. A quick glance at the 2021 income tax brackets would tell you their last dollar of income fell into the 22% tax bracket.
Suppose they completed their Form 1040 and found their total tax was $12,000. When you divide their total tax by their total taxable income, you'll find they paid an effective tax rate of about 14%, which is considerably lower than the 22% tax bracket the highest portion of their income falls into.
"In terms of a more accurate reflection of what you paid, the effective tax rate does the best job of giving you that," Scherer said. "It's a more averaged-out rate and takes all those separate brackets and gives you a more accurate picture of the tax dollars that are paid out."
