What's your effective tax bracket?
If you don't know that, that's a problem.
Whether you like to file your taxes as early as possible or wait until April 15, there’s one thing we can all agree on: We’d all like to pay a little (or a lot) less tax.
But when it comes to reducing your tax bill, where’s the best place to start? Easy: Figuring out your effective tax bracket.
What is an Effective Tax Bracket?
Unless you’re in finance or accounting, you probably have no idea what your effective tax bracket is—but you should! Your Effective Tax Bracket is what you actually pay to the government.
Let’s break it down.
Marginal Tax Rate
The US tax system operates under a Marginal Tax Rate system, where different levels of income are taxed at different rates—you’re likely familiar with this concept.
It’s a progressive tax system, which means that you if you make $100,000, you won’t be paying 24% on the entire amount. Instead, imagine your income divided into buckets. Your first bucket will get taxed at 10%. Once that earnings bucket overflows, it’ll go to the next bucket, which gets taxed at 12%, and so on. You’ll only get taxed 24% on the final bucket—in 2023, that was any earnings over $95,376 for a single person filling.
In other words: if you make $100,000, you won’t pay $24,000 in tax.
Effective Tax Rate
On the other hand, your effective tax rate is exactly what you pay to the government when all is said and done (and paid for), after considering all the deductions and write offs available to you. It’s essentially an annual earnings score card: for every dollar that came into your house, this is the percentage that went to the government.
For example, if your W2s and 1099 add to $100,000, and you paid $10,000, that’s a 10% effective tax rate. Your effective tax rate could be as low as 3%, or it could be 13%, or higher—but knowing that number will paint an accurate picture of your finances. (The Forbes 400 paid an effective tax rate of 8.2 percent over recent years).
How do I calculate my effective tax rate?
If you use a CPA or tax preparer, you can start by asking them.
Otherwise, grab your most recent tax return. You can find your effective tax bracket by finding your total tax paid (which is line 24 on a 1040), divided by your taxable income (line 15 on your 1040).
In our professional opinion, anything under 10% is great.
How do I reduce my effective tax rate?
The US tax code is riddled with incentives to help you lower your tax rate. There are lots of legit, legal ways to do it—especially if you’re a business owner.
Some of the most straightforward ways to save on tax include:
Contributing to your 401k—max it out for a quick tax deduction.
Buying a home—having a mortgage is a write off.
Starting a business—Don’t own a business? Start one and generate revenue—if it operates at a loss, you can write that off.
Put your passion or hobby to work for you: Do you love thrifting? Create a virtual vintage shop and sell those treasures on eBay. Dream of baking or giving piano lessons? Transform that dream into your own tax-reducing side hustle.
For business owners:
Buy a heavy car—vehicles that weigh over six thousand pounds can be written off
Claim depreciation—office furniture, heavy equipment, machinery, and buildings can be written off.
Get creative—if a big part of your client-facing interaction is over coffee or meals, save those receipts. Justifiable deductions are always worth exploring.
Key Takeaways: Know Your Number
The bottom line is that understanding your tax bracket—and what is driving the tax bill—is the place to start when it comes to paying the government less. The US tax code offers myriad incentives to reduce taxes—buying a home, buying a business—but it’s imperative you take advantage of right offs.