How America's progressive tax system works (2024)

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• America has a progressive tax system. That means as a person earns more and progresses through tax brackets, their tax rate increases for each level of income.
• In 2020, the highest tax bracket is 37% for single filers earning more than $518,400 and married filers earning more than $622,050.
• But your marginal tax rate, as it's known, applies only to the amount you earn above the minimum income threshold for that tax bracket.
• Your effective tax rate is the flat percentage of your income you actually pay in taxes.
• See Business Insider's picks for the best tax software »

The United States government operates a complicated tax system — one in which the President, a billionaire, can pay $750 in federal income taxes two years in a row thanks to perfectly legal tax breaks.

Strictly speaking, the federal government taxes individual income progressively. As a person earns more and progresses through the tax brackets, their tax rate increases. But it's not a monumental change when you jump from one tax bracket to another, as only a portion of your income is taxed at the highest level.

If your taxable income (gross income minus any deductions) is $50,000 a year as a single filer, that puts you in the 22% federal tax bracket in 2020 — but while 22% of $50,000 is $11,000, you're not paying $11,000 in taxes.

How taxes work in the United States

Think of it like a set of stairs. A portion of your income is left at each step and taxed at the flat rate tied to that tax bracket. If your income exceeds the threshold for one stair, that amount will progress to the next stair and be taxed at the next highest rate, which currently tops out at 37%.

Put another way, your marginal tax bracket — or the highest tax rate you fall into — applies only to the amount of your taxable income above the minimum threshold. For income below that limit, you pay the same amount of federal income taxes as everyone else, even if they earn less overall.

Below are the federal tax brackets for 2020:

How much you ultimately pay in taxes depends on several factors, including whether you're single or married, what tax deductions are available to you, and of course, how much you earn.

Some states also tax income progressively, while others have a flat tax rate or don't tax income at all.

How the calculation works for a single taxpayer in 2020

1. Figure out your taxable income: gross income minus deduction(s).
2. Everyone pays a 10% federal-income tax rate on their first $9,875 of taxable income.
3. Everyone pays a 12% federal-income tax rate on their next $9,876 to $40,125 of taxable income.
4. Everyone pays a 22% federal-income tax rate on their next $40,126 to $85,525 of taxable income.
5. And so on and so forth.

Let's run through how this would work for an imaginary person: John, who earns $40,000. To keep it simple, let's say he makes all his money from his work salary and has no dependents.

For his 2020 taxes, John would subtract the standard deduction ($12,400) and take zero personal exemptions, since they were eliminated with the Tax Cuts and Jobs Act.

That makes his taxable income $27,600, giving him a marginal tax rate of 12%.

Here's how to estimate how much he would owe in taxes:

• The first $9,875 of his $27,600 total taxable income is taxed at a 10% rate, yielding $987.50 in taxes.
• Then, his income between $9,875 and $27,600 — a total of $17,725 — is taxed at a 12% rate, yielding $2,127 in taxes.
• So, adding $987.50 to $2,127, John might owe about$3,114 in federal taxes, rather than the $3,312 he would owe if his entire taxable income were evaluated at the 12% rate.

Marginal tax rate vs. effective tax rate

You might hear someone say they are in the 24% tax bracket, because their income falls between those thresholds. That's their marginal tax bracket. It's called marginal because only a portion of income is taxable at that rate.

To get the flat percentage of your income (both earned and unearned) that is actually taxed, you need to find your effectivetax rate. You can do that by dividing your tax liability by your gross income. In the example above, John's effective tax rate would be about 7.78%.

It's worth noting that the federal income tax brackets above don't include any state and local taxes, property taxes, or sales tax. Social Security and Medicare taxes, collectively referred to as FICA taxes, are a separate calculation. Employers withhold these taxes from your paycheck at a flat rate of 6.2% on up to $137,700 of earned income and 1.45% on all earned income, respectively, and pay the same share themselves for each worker. Self-employed people pay both the employer's and employee's portions.