What is a Tax Bracket?

Published by Thomas Herold in Accounting, Economics, Laws & Regulations

'Tax Bracket' is explained in detail and with examples in the Accounting edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.

A tax bracket refers to a certain income range against which the government levies a specific income tax rate. With the majority of income taxing systems in the world today, lower incomes fall under lower income rates tax brackets. At the same time, higher incomes are taxed at greater rates. The idea behind such brackets is to ensure that a progressive income tax system remains in place.

In the tax year for 2016, the Internal Revenue Service decreed there would be seven different tax brackets. Each of these offers minute variations on the theme for married filers, single filers, and head of household filers. This led to the de facto establishment of 21 real tax brackets for the tax year.

Importantly, the tax bracket thresholds did increase a little for tax year 2016. As an example, the lowest bracket proves to be under $9,325 for individual taxpayers, which was raised from $9,275 back in tax year 2015. The highest possible tax bracket for this tax year 2016 is now $418,041, itself raised from the 2015 tax bracket high of $415,051. This changes every year, so it is important to consult the IRS.gov website for current information annually.

Those individuals whose incomes are under the minimum bracket of $9,275 have income which is taxed according to the minimum 10 percent tax rate. For everyone filing singly who earns over this amount, the first $9,275 becomes taxed at the rate of 10 percent. Earnings which exceed this on up to $37,650 are then taxed at 15 percent. From $37,650 to $91,150 the earnings become taxed at a steeper 25 percent rate. Income beyond the $91,150 is taxed at still higher rates. This means that many tax filers actually fall into several tax brackets and not only the first one.

The tax bracket should never be confused with the tax rate. Tax rates represent the actual percentage at which the given income becomes taxed. All tax brackets possess their own unique tax rates. Many people simplify and call their tax rates the bracket at which they are taxed as if they were identical. The comparison is not valid since the majority of Americans have earnings which fall into more than one tax bracket.

An example helps to make the tax bracket concept clearer. Consider an individual who earns a hefty $500,000 every year. At such a lofty level as this, the filer will have income that goes into each of the single filing tax brackets. This means the person will pay many different tax rates (seven in fact). This will depend on which part of his or her income is being considered. On all earnings which exceed $406,751 the tax rate will be a punishing 39.6 percent. On the initial $9,075, the rate will merely be the 10 percent rate of the first tax bracket. This means that the actual tax rate of such an individual will lie somewhere in the middle of the two tax rate extremes of 10 percent and 39.6 percent, making it closer to 25 to 35 percent effectively.

The opposite of such a progressive income tax system as this one is a flat tax system. In these taxing arrangements, every individual becomes taxed on all income at the identical rate. It does not matter how much people make in this type of tax setup.

Those analysts and economists in favor of the tax bracket system in particular and progressive tax systems in general argue that the people who make higher incomes can bear a heavier taxing burden and still enjoy a comfortable, high standard of living. Lower income earners will struggle to cover their basic human needs at any tax rate.

The other argument is that such a system will cushion and stabilize against losses in after tax income. The reason is because a real salary decrease becomes counterbalanced out by a drop in the effective tax rate. In this way, people who suffered a pay cut would feel the blow to their post-tax income less severely since the tax rates would drop alongside the income decline.

It is worth noting that such tax brackets do not only apply to individuals who file their income taxes. The IRS also sets the rates and brackets for trusts, companies, and corporations. They adjust both these and the personal tax brackets for the impacts of inflation from time to time.

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The term 'Tax Bracket' is included in the Accounting edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.