Tax & income

Marginal vs. effective tax rate: Definition, Formula and Example

A marginal tax rate applies to an additional amount of taxable income; an effective tax rate divides a stated tax amount by a stated income measure.

Scope: Progressive income-tax concept with U.S. explanatory sources. The worked brackets are fictional and not a filing calculation.

Other names and related labels: Marginal tax bracket; Average tax rate.

How it works

In a progressive system, different layers of taxable income face different rates. Entering a higher bracket does not ordinarily apply that rate to all earlier layers. Credits, phaseouts and other taxes can affect the actual tax change from extra earnings.

Effective rate = tax / defined income base; marginal rate = change in tax / change in income for the increment considered

State whether the denominator is taxable income, gross income or another measure. Different definitions produce different effective rates.

A two-bracket hypothetical tax system

Tax the first $20,000 at 10% and the next $10,000 at 20%.

  1. Tax on $30,000: $20,000 × 10% + $10,000 × 20% = $4,000.
  2. Effective rate on taxable income: $4,000/$30,000 ≈ 13.3333%.
  3. An extra $1,000 in the same upper bracket adds $200 of tax.

The illustrated marginal bracket is 20%; the effective rate on taxable income is about 13.3333%.

Invented brackets for explanation, not a U.S. tax-year table; no deductions, credits, phaseouts or other taxes.

The worked example uses the assumptions above. Related tools may model a different scope; check their descriptions before comparing results.

A tax bracket is not the percentage lost from every dollar earned

Payroll taxes and benefit phaseouts can also affect additional take-home income. Withholding is a payment toward tax and need not equal final liability or an effective rate.

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Sources and checks

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