Taxes are always on my mind, but I suspect we will all be hearing a lot about taxes for the rest of the year.
That’s because unless Congress takes action, several provisions of the 2017 Tax Cut and Jobs Act (TCJA) are set to expire on December 31st, 2025. According to the Tax Foundation about 62% of tax payers will see a tax increase if the TCJA is allowed to expire. About 29% of taxpayers would see no change.
Which bring me to the topic of today’s newsletter. How much Federal income tax do you *actually* pay?
I believe every American should know the answer to this question.
In my experience, most people don’t have any idea what they pay. In fact, take a guess as to what you actually pay before proceeding with this exercise to learn your number.
People who work for someone else typically pay most of their Federal income tax through withholding from their paychecks. If more tax is withheld during the year than is actually owed, they will get a refund at tax time. If not enough tax is withheld during the year, then they will pay in at tax time.
Retired people often pay their taxes via withholding from IRA/pension distributions and/or Social Security payments.
The group of taxpayers most likely to know how much federal income tax they actually pay are the self-employed. People like me! Self-employed people typically pay their taxes by writing quarterly estimate checks or paying them online.
So how much do you actually pay? Fortunately, there is an easy way to find out!
Take a look at your 2024 tax return. Go ahead and dig it up, I’ll wait.
First, find your Form 1040 (or your Form 1040-SR if you are over 65).
The 1040 is the main form and is usually toward the top of the pile.
Next, look on Page 2, Line 24 for your total tax due:
This is a client of mine who is single, under age 65, with no children and is not self-employed. She takes the standard deduction. She owed $22,962 of Federal income tax.
She had a little less than her total tax due withheld from her paychecks during the year so she paid in about $100. (My idea of a perfect tax return!)
If she’d had more than her total tax due withheld (smaller paychecks throughout the year) she would have received a refund.
Lastly, you can calculate your effective tax rate.
How much did you make?
Look at Form 1040 on Page 1, Line 9 for your total income (on the 1040-SR Line 9 is on Page 2):
My client paid $22,962 of Federal Income tax on a total income of $139,272.
Her effective tax rate = total tax due divided by total income =16.5% ($22,962/$139,272).
However, note that my client’s actual income was higher than $139,272. Her pre-tax 401k contribution (over 30K+) and pre-tax deductions for health/dental/vision insurance are not included on Line 9. Her contribution to her medical Flexible Savings Account is also not included. Her actual income was over $170K.
Now let’s look at a second taxpayer, this one imaginary. Like the first, she is single, under age 65, with no children, and is not self-employed. She takes the standard deduction.
But this taxpayer makes much more than the first. Her income is $800,000.
How much tax does she pay?
Taxpayer #2’s effective tax rate is 31.8% ($254,186/$800,000)
Note the second taxpayer makes almost 6x as much as the first, but she pays more than 11x as much tax. This is because the US Tax Code is progressive.
Note: If you are self-employed, Line 24 includes self-employment tax.
How does your total tax paid and effective tax rate compare to these two examples?
Stay tuned this year as Congress debates the extending the TCJA – your tax picture next year could look different.
