Part 2 - Tax confusion - understanding how the federal tax code works & what you really pay:
Bottom Line: As we're closing in on a federal tax reform package that has the potential to be in place for 2018 - I continue to hear, see and read confusion from people on the topic of what people pay. The tax code is complicated as can be. Being confused about how it works doesn't make you dumb or odd but it could cause you to make personal mistakes based on the code if you don't understand how it works. In the first part of today's story we took a look at the tax rates and explained how the progressive code/system works. In today's second part I want to get to the root of what we really pay (the net effective tax rate).
I'd be willing to wager that most Americans think they pay far more in federal taxes than they actually do. Let's start there...
The average net effective tax rate for all individuals filing taxes in 2015 was 13.5%. How is it so low that given the tax rate is higher as soon as someone earns more than $9,325? Deductions. This next piece of info isn't the most recent data available on net effective tax rates but it's instructive. The Tax Foundation found in a 2012 study that the average net effective Federal Tax Rates were the following:
- -14%: Those who filed with $15,000 or less income
- -5%: For those with under $30k of income
- +3%: For those with under $50k
- +8%: Under $100k
- +13% Under $200k
- +22%: Under $1 million
- +23% Over $1 million
Surprised? Tax rates are higher today compared to when this was done but it helps to paint the picture of who really ends up paying taxes, why the net effective tax rate is only around 13% and the enormous impact of deductions. In this 2012 example the average person earning $30,000 profited off-of the federal tax code by $1,500 and the average person earning a million would have paid about $230,000 in taxes. The one uniting trait is that both would tell you they probably paid too much in taxes. It's a similar but different story with business taxes. So, as we wait and watch what might be next on the tax front - a simpler code and process would go a long way towards helping people understand what's really going on and what they're really paying (or profiting) from in the code.