Marginal Tax Rates Primer

Graphic Designed by: Jennifer Tran

BRB Bottomline: Do you know how your income taxes are being collected? Understanding the progressive tax system is crucial, especially now when federal legislators and public discourse constantly discussing how  to fairly implement taxes on the American public.

As the government dictates the rates, a big point of discussion in politics is the candidate’s proposed size and structure of taxes. In early 2019, Rep. Alexandria Ocasio-Cortez suggested adding a 70% tax bracket for income above $10 million USD, but controversially, opposing parties misconstrued her words, with the message being that the 70% tax would impact all Americans and ‘take away’ 70% of everyone’s income. Read on to find out why this isn’t the case, and the implications of twisting the rhetoric around marginal tax rates on voters.

What are marginal tax rates (MTR)?

We’ve all heard the term ‘tax rate’ thrown around, whether in math class or while watching the news. Taxes take a small portion of each citizen’s annual income and in return pay for many important functions of society.

A marginal tax is an income tax in which the quantity that a person earns directly impacts the rate applied to their income. Fundamentally, we understand that $1 for a poor person is worth much more than $1 to a wealthy person: money is perceived relatively. (If you had no money in your pocket, you would likely bend over to pick up the quarter on the ground, while, if you had $10,000 in your pocket, you would be more inclined to ignore the dirty, grimy quarter.) Money, like any good, has diminishing marginal returns the more we have of it. A tax system that acknowledges this fact can distribute money more fairly—compared to a tax that takes equally from all.  In the United States, this model is often referred to as a ‘progressive’ tax system, because the government sets certain thresholds in the form of tax brackets to determine how much tax should be deducted on certain income amounts.

2019 Federal Income Tax Income Brackets:

Below is a table of the 2019 tax income brackets. Notice how the tax rate per income bracket increases in tandem with the total income.

Adopted from Tax Foundation -

Example #1

Situation 1: Susy is an unmarried investment banker with taxable income of $145,200 in 2019.

Commonly perceived tax calculation method:

(Wrong Method)

In order to calculate the total tax that Susy needs to pay, all we need to do is identify which tax bracket her income fits into, then apply the relevant percentage, right? If we were to do that, Susy would fit into the 24% tax bracket as her income is between $84,200 and $160,725.

$145,200 x 24% = $34,848

Therefore, Susy would have to pay $34,848 in federal income tax.

True tax calculation method (calculating by bracket):

(Correct Method)

10% bracket: ($9,700 – $0) x 10% = $970

12% bracket: ($39,475 – $9,700) x 12% = $3,573

22% bracket: ($84,200 – $39,475) x 22% = $9,839.50

24% bracket: ($145,200 – $84,200) x 24% = $14,640

32% bracket: N/A

So in total, Susy would pay $28,225.50 in federal income taxes.

The difference: $34,848 – $28,225.50 = $6622.5

Example #2

Situation 2: Susy is promoted to a managerial position at work, and she now is projected to earn $6,500,000 in 2019.

(Correct Method)

10% bracket: ($9,700 – $0) x 10% = $970

12% bracket: ($39,475 – $9,700) x 12% = $3,573

22% bracket: ($84,200 – $39,475) x 22% = $9,839.50

24% bracket: ($160,725 – $84,200) x 24% = $18,366

32% bracket: ($204,100 – $160,725) x 32% = $13,880

35% bracket: ($510,300 – $204,100) x 35% = $107,170

37% bracket: ($6,500,000 – $510,300) x 37% = $2,216,189

So in total, Susy would pay $2,369,987.50 in federal income taxes using our current progressive system. If we calculated her taxes using a flat rate system (like the incorrect method of Situation 1), her taxes would have totaled $2,405,000.

The difference: $2,405,000 – $2,369,987.50 = 35,012.50

Marginal Tax Rates in Public Policy

Now that we understand what exactly marginal tax rates are, let’s take a closer look at their implications on society.

There are two main perspectives when it comes to managing the tax brackets. The first ideology is centered around the concept of motivation: that American citizens have a greater incentive to earn more money if the amount that is taxed decreases—and this idea is valid. If someone is working at a restaurant, earning $15 an hour, yet the tax bracket makes it so that in reality, they are only earning $8 an hour, it can stifle their motivation to work harder. Instead, if they retained the majority of their earnings after taxes, the individual would be much more willing to work.

The second ideology is that marginal tax rates should be a income smoothing device, so that those who make hundreds of thousands or millions of dollars are taxed significantly more than the average working-class citizen. Freshman congresswoman Alexandria Ocasio-Cortez, widely referred to as AOC, is a big proponent of an increase in the marginal tax rate for high income earners because she believes that tax breaks directly benefit the rich and do little to nothing for the less fortunate.

Recently, a controversy surrounding Congressman Steve Calise and AOC received a lot of media attention. AOC proposed her 70% marginal tax bracket on those earning more than $10 million a year to fund her New Green Deal. On January 5th, 2019, Calise went on to tweet, “Republicans: Let Americans keep more of their own hard-earned money. Democrats: Take away 70% of your income and give it to leftist fantasy programs,”

insinuating that AOC was proposing an outright 70% tax rate on income regardless of their financial demographic. In response, AOC tweeted, “You’re the GOP minority whip. How do you not know how marginal tax rate work?…”

While we can’t confirm whether Carlise intentionally deceived the public to sway opinion along his party’s lines, this case still highlights how marginal tax rates are often misconstrued and misunderstood—even by those in political office.  By simplifying AOC’s message and twisting her words, Calise confused voters with misinformation, and regardless of political affiliation, doing so is inherently wrong.

Take Home Points

As with all financial literacy, it’s important to educate oneself in order to prevent costly mistakes. Marginal tax rates play a crucial role in determining how much income you actually get to keep and who voters select to represent them in government. Like any issue, it’s important to understand the system before making decisions or developing opinions on what changes should be made.Every voter should be able to make informed decisions especially with such important ramifications—for their own benefit, and the benefit of society.

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