Recent news has revealed again that most people don’t understand how tax brackets work. And that’s fine, pop culture has fed you the wrong information. Like how defibrillators actually aren’t used on totally stopped hearts, tax brackets don’t tax all your income at the rate of the bracket you’re in.
Every time someone on TV says they’re in trouble because a raise put them in a new tax bracket? That’s wrong. That doesn’t matter. All your money isn’t taxed at the same rate, so you’re not really in a tax bracket at all.
The short version of how it really works is that only the money in each bracket is taxed at that rate. Let’s say for the sake of simplicity that there are four tax brackets: $25,000 at 10%, $50,000 at 15%, $75,000 at 20%, and over $75,000 at 25%.
Now let’s say your taxable income, after deductions and all that, is an implausibly round $45,000. You do not pay $6,750 because you do not pay 15% in tax. You pay 10% of your first $25,000 ($2,500) and 15% of the rest ($3,000) for a total of $5,500. Your actual tax rate is 12.22%.
