The amount you pay in taxes is determined by your income and filing status, which determine your tax rates and tax brackets. Your tax rate is the percentage of income you pay in taxes, but it isn’t the same for all the money you earn. Different portions of income you earn are taxed at specific rates called tax brackets.
For tax years 2023 and 2024, there are seven different tax brackets: 10%, 12%, 22%, 24%, 32%, 35%, and 37%. These tax brackets were put in place by the Tax Cuts and Jobs Act of 2017 and will remain in effect through tax year 2025. The Internal Revenue Service (IRS) provides annual inflation adjustments to the income ranges within each bracket.
Note that capital gains tax brackets are different from the federal income tax rates listed above. Most capital gains are taxed at rates of 0%, 15%, or 20%, depending on your overall taxable income.
How tax brackets work
The U.S. has a progressive tax system. Essentially, that means that as your income rises, the total tax you pay is also supposed to increase.
Because Americans with higher incomes are taxed at a higher rate, some taxpayers worry that getting a pay raise will put them in a higher tax bracket. However, this concern reflects a common misconception about how tax brackets and tax rates work.
There are two basic types of tax rates.
-
Marginal tax rate: Your marginal tax rate is the percentage of income tax you owe on the last dollar earned.
-
Effective tax rate: The percentage of your income that you actually pay to the Internal Revenue Service (IRS) in taxes.
Your marginal tax rate is different from your effective tax rate because your income is taxed at different rates. Think of tax brackets as a series of buckets. When one bucket reaches the tipping point, the extra amount flows over into the next.
For example, suppose you’re a single taxpayer who has taxable income of $40,000 in 2023. As you can see from the federal income tax brackets, your marginal tax rate would be 12%.
But calculating your effective tax rate is a little more complicated. Here’s how your income would be taxed:
-
You’d owe 10% in taxes on the first $11,000 you earned, or $1,100.
-
You’d owe 12% in taxes on the next $29,000 ($40,000-$11,000) you earned, or $3,480.
Your total tax bill would be $4,580. Since your total income is $40,000, your effective tax rate is 11.4%.
Now imagine your boss gives you a $10,000 pay raise, bringing your income to $50,000. Your marginal rate would shoot up to 22% to 12%, which sounds like a pretty steep hike. But since different portions of your income are taxed at different rates, the impact isn’t so bad. Here’s how your tax bill would break down:
-
You’d owe 10% in taxes on the first $11,000 you earned, or $1,100.
-
You’d owe 12% in taxes on the next $33,725 ($44,725-$11,000) you earned, or about $4,047.
-
You’d owe 22% in taxes on the remaining $5,725 ($50,000-$44,275) you earned, or about $1,160.
Your total tax liability is $6,307, which is an effective tax rate of about 12.6%. Even though you’re in a higher tax bracket, your effective tax rate only increases slightly because only a small portion of your income is subject to the higher tax rate. You owe an additional $1,727 in taxes, but you get to keep $8,273 of your $10,000 raise.
Of course, the example above is a bit oversimplified because federal income taxes aren’t the only taxes you pay. Most people pay the first 7.65% of their income toward Social Security and Medicare taxes — or 15.3% if you’re self-employed. It also doesn’t account for state and local taxes, sales taxes, or property taxes.
But the bottom line is, even if you’re pushed into a higher federal tax bracket, it’s not a bad thing. You may owe more in taxes, but you’ll get even more extra money in your paycheck.
Read more: Here are 7 free tax filing options
How to get in a lower bracket and reduce your taxes
No one likes paying taxes, so you generally want your taxable income to be as low as possible. We’ll explain some steps you can take to lower your tax liability.
Weigh the standard deduction vs. itemized deductions
When you file your taxes, you’ll need to figure out whether the standard deduction or itemized deductions will provide a larger reduction to your taxable income.
The standard deduction is $13,850 for single filers and $27,700 if you’re married filing jointly in tax year 2023. If you opt for the standard deduction, you can subtract the full deduction for your tax filing status from your taxable income.
But itemizing could yield a bigger amount of tax savings if you paid substantial mortgage interest, made large charitable contributions, or had unreimbursed medical expenses above 7.5% of your adjusted gross income. Consult with a tax professional to determine which option is best for your situation.
Increase your 401(k) contributions
You can lower your taxable income if you contribute to a workplace retirement account like a 401(k) or 403(b). Note that only contributions to pre-tax accounts will reduce your taxes, and withdrawals will be taxed as ordinary income later on. If you contribute to a Roth account, you won’t get a tax break for the current year, but you can take tax-free withdrawals in retirement.
Look for above-the-line tax deductions
A tax deduction lowers your taxable income. Some tax deductions are known as above-the-line deductions, which means you can take them even if you don’t itemize your return. Some common above-the-line deductions you can take include:
-
Traditional IRA contributions: You may be able to deduct contributions to a traditional IRA, though income thresholds apply if you or your spouse are covered by a retirement plan at work. You have until Tax Day to fund an IRA for any given tax year, so funding a traditional IRA before April 15, 2024, could lower your 2023 tax bill.
-
Student loan interest: If you paid interest on your student loans, you can deduct up to $2,500 of interest payments, though income limits apply.
-
Health savings account (HSA) contributions: You can deduct HSA contributions even if you don’t itemize your return. Your withdrawals will never be taxable either, as long as you use them for qualifying medical expenses. As with IRA contributions, you can make a contribution until Tax Day, so you can still make 2023 HSA contributions up until April 15, 2024.
If you’re self-employed, you may be eligible for additional tax deductions for small-business owners.
Maximize your tax credits
Tax credits are even more valuable than tax deductions because they reduce the amount you owe in taxes dollar-for-dollar. If the credit is refundable, you can get any amount that exceeds your tax liability as a tax refund. Here are some popular tax credits you could qualify for in the 2023 tax year:
-
Child tax credit: The child tax credit is worth up to $2,000 per qualifying dependent child under age 17. There’s a refundable portion of the credit called the additional child tax credit that’s worth up to $1,600.
-
Child and dependent care credit: If you paid someone to care for your child younger than 13 or a qualifying tax dependent who was unable to care for themselves — and you needed to do so because you were working or looking for work — you could qualify for the child and dependent care credit. The credit is worth between 20% and 35% of your expenses, with a cap of $3,000 for one dependent or $6,000 for two or more dependents.
-
Earned income tax credit: The earned income tax credit (EITC) provides a tax break to lower- and middle-income families who earned money from working during the year. The maximum value ranges from $600 for those with no qualifying children to $7,430 for families with three or more qualifying children.
-
Education tax credits: If you paid for higher education expenses for yourself or your dependent, you may be able to take one of two education tax credits: the American Opportunity Tax Credit, worth up to $2,500 per qualifying student, or the Lifetime Learning Credit, worth up to $2,000 per income tax return. You can claim both on the same return, but you can only claim one for the same student or expense.
-
EV credit: You may qualify for a tax credit of up to $7,500 if you bought a new electric vehicle in 2023. A credit of up to $4,000 is also available to those who purchased a used EV for less than $25,000 from a dealership.
-
Saver’s credit: The saver’s credit is available to low- and middle-income workers who save for their retirement in an account like a 401(k) or an IRA. The maximum credit is $2,000 for single couples or $3,000 for married couples filing jointly.
Frequently asked questions (FAQs)
Is taxable income the same as gross income?
No, but gross income is the starting point for determining taxable income. You take your gross income and subtract any above-the-line deductions, like pre-tax retirement contributions and student loan payments, to arrive at your adjusted gross income. Then, you apply the either standard deduction or your itemized deduction, which gives you your taxable income.
How do I get in a lower tax bracket?
To get in a lower tax bracket, contribute as much as you can to tax-advantaged accounts like 401(k)s, IRAs, and HSAs, and look for any tax deductions and credits you may qualify for. Check with your tax preparer about whether you’ll save more from itemizing or claiming the standard deduction.
What states have the highest taxes?
According to TurboTax, the states with the highest taxes in 2023 were California, Hawaii, New York, New Jersey, and Washington, D.C.
