Taxes and Tax Brackets

Taxes can be one of the most confusing things we must deal with yearly. Many of us, including myself, will push it to the last minute to deal with it. But what if we are short-changing ourselves by addressing it so late and we can save more and do more with our taxes if we start planning early in the year? Last year I began as early as March when working on my taxes for 2022; it was much more of a breeze. I got a return, even though it is hard to get anything back as a single filer with no dependents due to no right-offs, dependent retentions, or deductions.

Before getting to tax savings and advantages, we must determine how taxes work and where we fall in the tax bracket.

Notice: I will be using 2023 tax bracket data for the Federal and 2022 for California to look into the present. There will be a few changes and errors, this is not financial advice, and you should first speak to your CPA or tax prepper, but this can give you questions you can take to your CPA or tax prepper. You can take back control of your taxes.

The tax bracket seems complex but is quite simple. I divide the taxes into three categories. State, Federal, and Social Program Taxes. Let's begin with the most general tax, the Federal tax. All taxes and notes are included in the EXCEL attached to this article, but I will add as much as I can here. Please use the XLSX for an easier read.

To begin, we will address the federal tax rates. When we receive our earnings, we are taxed, also known as income tax. We will not need to understand how the company manages tax withholding and payments. However, the company first projects your yearly expected income based on your hiring or tax papers when submitted at the beginning of being hired. From there, every month, a percentage is withheld from your wages. All taxes, including federal, are based on income brackets, otherwise known as a progressive tax rate. The more you earn, the more you are taxed.

How much in taxes do we pay? Looking at the Federal tax, let's look at examples. Examples of yearly earnings will be $15,000, $35,000, and $75,000. We must address how many tax brackets our income has surpassed. In the federal brackets, the wages of $15,000 have passed one tax bracket, so two tax rates. The second earnings of $35,000 have passed one tax bracket, so two tax rates are applied. And $75,000 in wages have passed two tax brackets, so three tax rates are applied. Why three tax rates when you only pass two tax brackets? Well, all earnings are taxed according to the current tax laws. Anything earned under $11,000 is taxed at 10%, a total of $1,100 in taxes for the first $11,000. The second bracket is from $11,000 to $44,725, taxed 12%. So, if we look at the earnings of $15,000 and $35,000, both will pay 10% on their first $11,000 earned. The remaining in wages would be 12%, so the total Federal Taxes paid for the year would be 10% on $11,000, or $1,100, plus the remaining $4,000 at 12% and $24,000 at 12% or a total of $1,580 and $3,980, respectively. If you earned above $44,725, or in this case, $75,000, you pass two tax brackets: $11,000 and $44,725. You'd pay 10% on the first $11,000, 12% on the second $33,725, and 22% on the last $30,275. Adding up all the taxes from each bracket for wages of $75,000, total federal taxes would be $11,807.50. You might have noticed the big jump. After $44,725, taxes almost doubled to 22%. Nothing can be done about this, as this is the current tax law.

Sometimes your tax prepper or CPA says your taxes are effectively 11% for $15,000 and 11% for $35,000 in earnings, and 16% for $75,000; why does it seem more? The difference you notice is that your "effective" tax rate is the average tax rate you pay for earnings and the number of brackets you passed. The taxes you paid at the top of the tax bracket were 12% for $15,000, 12% for $35,000, and 22% for $75,000. Those taxes are called marginal tax rates, or the marginal tax you pay per extra dollar earned.

Now let's look at State Income Taxes. The bracket system works identically to the Federal Income Tax brackets. However, the rate of taxes is different, and the earned income brackets are also changed. We will be looking at California's tax bracket. You can find your tax bracket on the state's website or ask your tax prepper or CPA. The tax brackets that will interest our examples in California are the following ones. Any income earned at or below $10,099 is taxed at 1%; at or less than $23,942 is taxed at 2%; at or less than $37,788, it is taxed at 4%; at or less than $52,455 is taxed at 6%; at or less than $66,295 is taxed at 8%, and lastly at or less than $338,639 is taxed at 9.3%. So immediately, we notice that there are more brackets or partings in income, but the tax rate is far less steep than the Federal Income Tax. In our examples, yearly earnings of $15,000 pass through 1 tax bracket and thus pay two tax rates, $10,099 at 1% and $4,901 at 2%, with a total State Income Tax of $199.01, an effective tax rate of 1%, but a marginal tax of 2%. An earned income of $35,000 would pass through 2 tax brackets paying three tax rates, the first $10,099 at 1%, the second at $13,843 at 2%, and the remaining at $11,058 at 4%; for a total of $820.17 taxes paid with an effective tax rate of 2% and a marginal tax rate of 4%. An income earned of $75,000 would pass through 5 tax brackets, paying six different tax rates, the first $10,099 at 1%, the second amount of $13,843 at 2%, the third amount of $13,846 at 4%, the fourth amount of $14,667 at 6%, the fifth of $13,840 at 8%, and the last $8,705 of the total $75,000 earned is taxed at 9.3%. Total taxes paid would be $3,728.48, with an effective tax rate of 5% and a marginal tax rate of 9.3%.

We are nearly done, but we still have more income taxes. The last set of taxes I called, unofficially, Social Program Taxes include Social Security Tax, Medicare Tax, and CA SDI Tax. This list needs to be complete and may differ from state to state. These taxes are flat at all rates, but a few, such as Social Security Tax, are cut at about $150,000, and no more is taxed above that. Social Security Tax is 6.2%, Medicare Tax is 1.45%, and CA SDI Tax is 1.1%. We will not go into what they are for, but they are required taxes that when taxes are submitted for deductions or credits, we cannot see taxes returned from these.

Total taxes for each bracket are as follows: for $15,000, Federal Taxes are $1,580; State Taxes are $199.01; and Other Taxes are $1,312.50. Thus total taxes are $3,091.51 for yearly earnings of $15,000. For $35,000, Federal Taxes are $3,980, State Taxes are $820.17, and Other Taxes are $3,062.50. thus our total taxes are $7,862.67, for yearly wages of $35,000. For $75,000, Federal Taxes are $11,807.50, State Taxes are $3,728.48, and Other Taxes are $6,562.50. Thus total taxes are $22,098.48 for earnings of $75,000.

In summary, taxes do not have to be dreaded but can give us a leg up if we know how it works and how to minimize income taxes. To review, we looked at taxes for "Single Filer" or "Unmarried Individuals.” We pay three separate categories of taxes, Federal Income Tax, State Income Tax and Social Program Taxes. There are also two measurements of how much we are taxed: the effective tax rate, which is the estimated total taxes we pay across all brackets in our progressive tax system, and the marginal tax rate, which is the rate of taxes paid for every additional dollar we earn. Our tax system is progressive because the tax rate increases arbitrarily with predetermined income amounts. Our most significant advantage in tax saving is understanding how it works and knowing what possible deductions exist, such as the 401k, Traditional IRA, and donations. Taxes don't have to be an impossible enigma. Remember to go to your CPA or tax prepper for details and a plan for next year.