November 30, 2020
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Knowing the federal income tax brackets for the 2020 and 2021 tax year can help you maximize tax savings and retain more of your hard-earned money. The U.S. has a progressive tax system, meaning the higher your taxable income, the higher your tax rate. The income tax rates go up in steps called tax brackets. There are seven brackets that apply to taxpayers’ ordinary income: 10%, 12%, 22%, 24%, 32%, 35% and 37%.

Each year the IRS makes inflation adjustments to increase the tax brackets. With each new year you can earn a bit more before being taxed at a higher tax rate.

Finding the tax bracket that applies to you depends on two pieces of information. First you must determine your filing status: individual, married filing jointly, married filing separately, and head of household. Second, it depends on your taxable income.

This article covers rates for tax returns for 2020 income (for returns due in 2021). Tax brackets and rates for 2021 (for returns due in 2022) are also included.

2020 Federal Income Tax Brackets and Rates

The following seven federal tax rates apply to tax returns due in April 2021.

Tax Rate Single Married Filing Jointly Married Filing Separately Head of Household
10% $0 to $9,875 $0 to $19,750 $0 to $9,875 $0 to $14,100
12% $9,876 to $40,125 $19,751 to $80,250 $9,876 to $40,125 $14,101 to $53,700
22% $40,126 to $85,525 $80,251 to $171,050 $40,126 to $85,525 $53,701 to $85,500
24% $85,526 to $163,300 $171,051 to $326,600 $85,526 to $163,300 $85,501 to $163,300
32% $163,301 to $207,350 $326,601 to $414,700 $163,301 to $207,350 $163,301 to $207,350
35% $207,351 to $518,400 $414,701 to $622,050 $207,351 to $311,025 $207,351 to $518,400
37% $518,401 or more $622,051 or more $311,026 or more $518,401 or more

Source: Internal Revenue Service

2021 Federal Income Tax Brackets and Rates

The following tax rates apply to tax returns due in April 2022.

2021 Tax Rate Single Married Filing Jointly Married Filing Separately Head of Household
10% $0 to $9,950 $0 to $19,900 $0 to $9,950 $0 to $14,200
12% $9,951 to $40,525 $19,901 to $81,050 $9,951 to $40,525 $14,201 to $54,200
22% $40,526 to $86,375 $81,051 to $172,750 $40,526 to $86,375 $54,201 to $86,350
24% $86,376 to $164,925 $172,751 to $329,850 $86,376 to $164,925 $86,351 to $164,900
32% $164,926 to $209,425 $326,601 to $414,700 $163,301 to $207,350 $164,901 to $209,400
35% $209,426 to $523,600 $418,851 to $628,300 $209,426 to $314,150 $209,401 to $523,600
37% $523,601 or more $628,301 or more $314,151 or more $523,601 or more

Source: IRS

Understanding How Tax Brackets Work

Our progressive tax system means we have different tax rates. It’s important to understand that tax brackets apply “up to” a certain level.

Every time you jump up an income bracket, you pay a higher rate on the portion of your earnings that is above that level — but only on that portion. For most people, parts of your earnings will be subject to several different brackets. Therefore, different chunks or portions of your taxable income will be taxed at different percentage rates.

Income Brackets Example

For example, if you are a single filer with a taxable income of $95,000, you would fall in the 24% bracket. However, if you merely multiplied .24 by all your taxable income you’d be paying too much.

Instead you are taxed at different rates in different brackets:

  • Part of your income will be subject to the lowest rate of 10%.
  • Some of it will be subject to 12%.
  • Another portion will be subject to 22%.
  • The remainder will be subject to 24% tax.

The higher your income, the higher your highest tax bracket and the higher your taxes. The following illustration shows how tax brackets work:

income tax brackets example

In our example, the taxpayer would owe $16,821 in federal income tax on a taxable income of $95,000 for the 2021 tax year. That works out to an effective rate of 17.7%.

Our example does not include any state income tax — that would be a separate calculation. Each state’s tax system is different and the state tax brackets will differ from the federal tax brackets. Moreover, some states have a flat rate, meaning all taxable income is taxed on the same percentage amount — there are no brackets. See state tax websites.

In addition, keep in mind that the above example does not include Social Security tax, Medicare tax or other taxes or withholding amounts.

Marginal Rate vs Effective Tax Rate

The marginal tax rate means the rate that some portion — even one dollar — of income is taxed.

When someone asks ‘what is your marginal rate?’ they usually mean what is the top federal income tax bracket you are in. Let’s say your highest bracket is 24%, as in our example above. Your marginal tax rate would be 24%.

In practice, most people pay an average tax rate that’s lower than the top tax bracket because it takes into account all the rates below it and blends them. This average rate you pay is also known as the “effective tax rate.” It means you don’t actually owe 24%; in effect you might pay 17.7%, as in our example.

The average income tax rate that middle-class Americans pay is 9.9%, and at least 40% of Americans effectively don’t pay any income taxes at all. With the Earned Income Credit some people can actually get back more than they paid to the IRS. Those people have a negative tax rate.

Strategies to Get into a Lower Tax Bracket

Some people are shocked to discover they are in a high tax bracket and want to know how to lower it.

To lower tax brackets, one way is to reduce your taxable income. You could make bigger contributions to retirement accounts to reduce taxable earnings and therefore your tax. With many types of accounts such as IRAs you can contribute all the way up to tax day (e.g., April 15th) and have it count.

Another strategy to lower tax brackets is to rack up more deduction amounts. Tax brackets apply to taxable income, not gross income. Deductions reduce your taxable income, and that can reduce the tax you owe and even put you into a lower bracket altogether.

Example 1: Let’s assume you fall into the 24% bracket. You claim deductions totaling $2,000. That could reduce your tax liability by up to $480. (2,000 x .24 = 480) This is a simplified example that assumes the entire $2,000 falls in the 24% bracket.

However, if you are close to a tax bracket cut off, the savings on taxes might be slightly less, as this demonstrates:

Example 2: If only $800 of your taxable income is in the 24% bracket, that would mean the other $1,200 is in the next lower bracket of 22%. In this case, your savings on taxes will be $456. You arrive at this number as follows:

  • Calculate the deduction on the amount in the 24% bracket: 800 x .24 = 192
  • Calculate the amount applicable to the 22% bracket: 1200 x .22 = 264
  • Add the results to get to the amount: 192 + 264 = 456

Be sure to differentiate deductions from tax credits. Credits reduce your final tax bill. However, credits do not impact your federal tax brackets. That said, credits may be more valuable when it comes to saving money on taxes. A credit reduces your final tax bill, dollar for dollar at the end.

Other 2021 Changes

If you take the standard deduction, the Internal Revenue Service has increased it for 2021 over 2020 levels by an additional $150 for individuals, head of household filers, and married couples filing separately. It goes up $300 for couples filing jointly. This deduction amount reduces taxable income for taxpayers, and can effectively put taxpayers in a lower income bracket. See more on the standard deduction.

Finally, remember that for 2020 and 2021 the personal exemption is $0 and no longer applies following passage of the 2017 Tax Cuts and Jobs Act (TCJA). The TCJA tax reform was designed to reduce federal taxes for consumers and businesses. The TCJA is temporary and 23 provisions of the tax code applicable to individuals are currently set to expire on December 31, 2025, unless extended. If they expire it will result in higher income taxes for individuals according to the Tax Foundation.

Small Business Owner Strategies

Small business owners often have a better opportunity to find and utilize deductions on their Schedule C or Subchapter-S business earnings than non-business owners. That’s because there are many more business deductions available than for personal returns.

Small business tax deductions reduce taxable income “passed through” to the personal tax return if the owner is a sole proprietor, or has an LLC or Subchapter-S election.

If you are a do-it-yourselfer, small business tax software will help you calculate brackets and any amount you owe with a minimum of hassle.

Don’t Forget the Alternative Minimum Tax

If you are a higher earner or have a lot of capital gains, remember the Alternative Minimum Tax (AMT) may kick in and override the regular taxes calculation. Think of AMT as a “floor” that must be paid, regardless of how many deductions the taxpayer has.

The AMT has two rates (26% and 28%) versus the seven ordinary income tax brackets. However, you can claim an exemption against AMT, depending on filing status.

For the 2020 tax year (returns due in 2021) the AMT exemption amount is:

  • For single filers it is $72,900, and starts phasing out at $518,400.
  • For married couples filing jointly it is $113,400 and begins to phase out at $1,036,800.

For tax year 2021 (returns due in 2022), the AMT exemption amount is:

  • For single filers it is $73,600. But once AMT taxable income exceeds $523,600 the exemption begins to phase out.
  • For married couples filing jointly the exemption is $114,600 — and begins to phase out at $1,047,200.

Note how our system affects married couples. The joint filers tax rate is more advantageous than couples filing separately. However, in other ways couples can fare worse than an individual – a condition called the marriage penalty. Finally, be sure not to confuse head of household status, which is for people such as brothers or children who provide more than half the support for others in the house.

Image: Depositphotos

This article, “Income Tax Brackets for 2020 and 2021” was first published on Small Business Trends