Marginal Tax Rate

DEFINITION of 'Marginal Tax Rate'

A marginal tax rate is the tax rate incurred on each additional dollar of income. The marginal tax rate for an individual will increase as income rises. This method of taxation aims to fairly tax individuals based upon their earnings, with low-income earners being taxed at a lower rate than higher income earners.

BREAKING DOWN 'Marginal Tax Rate'

Under a marginal tax rate, tax payers are most often divided into tax brackets or ranges, which determine the rate applied to the taxable income of the tax filer. As income increases, what is earned will be taxed at a higher rate than the first dollar earned. While many believe this is the most equitable method of taxation, many others believe this discourages business investment by removing the incentive to work harder.

Marginal Tax Rates and Example

New tax rates went into effect in the United States as of January 1, 2018, with the passage of the Tax Cuts and Jobs Act (TCJA). Under the previous law, the seven brackets were 10 percent, 15 percent, 25 percent, 28 percent, 33 percent, 35 percent and 39.6 percent. The new plan, signed into law by President Donald Trump in December 2017, keeps the seven bracket-structure. However, adjustments were made to the tax rates and income levels. Under the TCJA, the new rates are 10 percent, 12 percent, 22 percent, 24 percent, 32 percent, 35 percent and 37 percent. The tables below show the rates and income levels for each type of filer: single, married filing jointly and heads of household. 

Rate For Singles With Taxable Income Over For Married Filing Jointly With Taxable Income Over For Heads of Household With Taxable Income Over
10% $0  $0  $0  
12% $9,525   $19,050   $13,600  
22% $38,700   $77,400   $51,800  
24% $82,500   $165,000   $82,500 
32% $157,500  $315,000  $157,500 
35% $200,000  $400,000   $200,000  
37% $500,000 + $600,000 + $500,000 +

Individuals who make the lowest amount of income are placed into the lowest marginal tax rate bracket, while higher earning individuals are placed into higher marginal rate tax brackets. However, the marginal tax bracket in which an individual falls does not determine how the entire income is taxed. Instead, income taxes are assessed on a progressive level. Each bracket has a range of income values that are taxed at a particular rate. 

So, under the new plan, if an individual taxpayer earned $150,000 in income, they would owe the following income taxes, as shown below:

10% Bracket: ($9,525 - $0) x 10% = $952.50

12% Bracket: ($38,700 - $9,525) x 12% = $3,501.00

22% Bracket: ($82,500 - $38,700) x 22% = $9,636.00

24% Bracket: ($150,000 - $82,500) x 24% = $16,200.00

32% Bracket: Not applicable

35% Bracket: Not applicable

37% Bracket: Not applicable

If you add these up, the entire tax liability for this individual would be $30,289.50. Though the actual marginal tax rate brackets remain constant regardless of a person's filing status, the dollar ranges at which income is taxed at each rate can change depending on whether the filer is a single person, married joint filer or head of household filer.

Marginal vs. Flat Tax Rate

The other type of tax rate is the flat tax rate. In this case, people aren’t taxed on a scale (like the marginal tax rate), but rather, flat across the board. That means that regardless the income level, everyone is charged the same rate. Most systems that use a flat tax rate do not allow for deductions and are seen in countries with a rising economy. Those who support this kind of system of taxation call it fair, saying it taxes all people and businesses at the same rate.