Marginal and Effective Tax Rates A marginal tax rate is the tax rate you would pay on one more dollar of taxable income (Orem, 2020). In other words, if you look at Exhibit 4.2, Sam's marginal tax rate is 12%. If you look at the example we did regarding Sam and her earnings of $38,000, you will notice that each additional dollar up until the $44,725 amount would be still taxed at 12%. Why are marginal tax rates important? Marginal tax rates are important to understand because depending on the type of retirement accounts you have (traditional 401(k), 403(b), IRA), you may be able to reduce your taxable income by contributing to those accounts and deducting it from your taxable income; ultimately, lowering your marginal tax rate. Let us say Sam decides to contribute $100 into her 401(k). Sam is in the 12% marginal tax bracket we showed above. If Sam contributes $100 to her retirement account she will end up deducting $100 in her taxable income but because she lands in the 12% tax bracket, she ends up only giving $88 to her retirement account while the government ends up paying for the other $12. This occurs because $12 dollars is the reduction in her federal income tax ($100 x 0.12). Another calculation that can also help you make wise decisions is your effective tax rate. Your effective tax rate is the average tax rate paid by an individual using only the total tax divided by taxable income. This calculation is useful for tax filers to compare and contrast tax rates of two or more individuals, to do determine what the average tax rate would be if that individual took a pay raise or decrease, or what that person may pay in taxes if they lived in another state (Kagan,2020). To calculate the effective tax rate, we can use the formula: Remember Sam from our previous example? We determined in the example above that Sam landed in the 12% marginal tax bracket; however, we calculated Sam's tax liability based upon her taxable income to be $4,340. Let's say after completing her taxes she had no credit, which gave her a total tax liability of $4,340. We were given Sam's total taxable income at $38,000. We can find Sam's effective tax rate by dividing $4,340 of total tax by her taxable income $38,000. 11.42% As you can see, because Sam is on lower tax bracket her effective rate is close to her marginal tax rate. As Sam increases her wealth, that rate will change due to the passing through of many tax brackets. For example, if Sam earns $50,000, her marginal tax rate would be 22% while her effective tax rate will increase to 13.58%, which is significantly lower than her 22% marginal tax rate. Question 4.2 Hon work Unanswered Due Sep 28th, 11:59 PM Effective Tax Rate = Tazable Income Total Tar a 14% b 15% Lori has $68,000 of taxable income. After calculating her tax liability her intital tax liability is $10,267.50. What is her effective tax rate (Round to the nearest whole percent)? 16% 12.62% Select an answer and submit. For keyboard navigation, use the up/down arrow keys to select an answer. d 17% $4,340 $38,000 Unanswered 3 attempts left $50,000 $6,307.50 O Submit

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