Key Tax System Concepts, Explained

With lawmakers likely to debate tax policy later this year, discussion about marginal tax rates is increasing.

It’s important, then, to clear up a common misunderstanding about marginal tax rates (the tax rate imposed on a taxpayer’s last dollar of income) and average tax rates (the share of income that he or she pays in taxes).  Taxpayers’ average tax rates are lower — usually much lower — than their marginal rates.

For instance, as shown in the chart below, a family of four in the “25 percent tax bracket,” earning $100,000 annually, could pay an average income tax rate of 8.3 percent.

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The Center recently issued two backgrounders to shed light on key elements of the tax system.  The first, on marginal and average tax rates, is here.

The second explains tax exemptions, deductions, and credits, which can reduce a filer’s tax liability — that is, the amount of taxes that the filer owes.  Some of these tax benefits are intended to reflect a taxpayer’s ability to pay tax; others are incentives intended to advance specific social policy goals.