Financial Fiction Friday #24

Boo...Taxes Are Confusing

Another casualty of the confusion between marginal and effective tax rates. Tons of people get this wrong so let's break it down.

The assumptions:
1. $50,000 of W2 income, no investment income or other complications
2. Single Filer (brackets shown below)
4. Standard deduction: $12,950
3. Focusing on federal taxes only for the year 2022 (filing 2023)

Calculations

Income - standard deduction = $50,000 - $12,950
Taxable income = $37,050
Taxable income = first $10,275 + remaining $26,775
Taxes owed = $1,027.50 + $3,213 = $4,240.50

Conclusion

Marginal Tax Rate = 12%
Effective Tax Rate = 8.5%

This poster unfortunately neither understands how deductions work nor how to calculate taxes. In this situation, earned income is taxed at only 8.5%.

To this poster's credit, however, he is correct that capital gains are still taxed at a lower rate, he is wrong about how much though. At this income level, gains are not taxed at all (0%). Investments are favorably taxed at all income levels but you only get enough money to invest by earning and saving that money. All income is worthwhile income.

(If we include FICA taxes it is still only a 16.2% effective tax rate. Including FICA, it would take an income of $92,000 to hit a 22% effective rate or $230,000 excluding FICA).

All Fiction