Knowing how tax brackets work is essential if you have multiple sources of income. Your total income determines how much tax you owe, and without proper planning, you could end up paying more than necessary.
The Progressive Tax System
The U.S. tax system is progressive, meaning different portions of your income are taxed at different rates. As your income increases, you move into higher tax brackets, with rates ranging from 10% to 37%.
How Multiple Income Streams Affect Your Taxes
All your income sources—wages, business earnings, rental income, and investments—are combined to determine your taxable income. If you earn $50,000 from a job and $30,000 from a business, your total taxable income is $80,000. This places you in a higher tax bracket than if you had just one source of income.
Marginal vs. Effective Tax Rate
Your marginal tax rate is the rate applied to your last dollar earned. Knowing this helps you understand the tax impact of earning more money. Your effective tax rate is the average tax you pay on all your income. Understanding both helps you plan better.
Smart Tax Planning Can Lower Your Bill
If you’re close to a higher tax bracket, strategies like deferring income or increasing deductions can help keep you in a lower one. Business owners and investors can use timing strategies to control their taxable income.
Different Income Types Are Taxed Differently
Not all income is taxed the same way. Long-term capital gains and qualified dividends often have lower tax rates than ordinary income. Knowing how your income is taxed helps you optimize your earnings.
Beware of Phaseouts and Extra Taxes
Higher-income can phase out tax benefits like the Qualified Business Income (QBI) deduction. You may also face additional taxes, like the Net Investment Income Tax (NIIT) or the Additional Medicare Tax, which apply at certain income levels.
Don’t Forget State and Local Taxes
Your state and local taxes may have their own brackets and rates. Understanding both federal and state taxes gives you a full picture of your tax liability.
Take Control of Your Taxes
Understanding tax brackets helps you make smarter financial decisions. With the right strategies, you can lower your tax burden and keep more of your hard-earned money.
If you have questions about this topic or how other tax strategies can help you save taxes book a FREE Tax Advisory Call Today.