Demystifying Tax Brackets: Understanding How Your Income is Taxed

Most people get money from many sources, including salary from a job, investment returns, business revenue, Social Security benefits, and others. Some of that income is taxable, while some are not. Hence calculating your taxable income and forecasting how much tax you’ll owe is complex.

Estimating your taxable income before submitting your tax return can help you prevent surprises by giving you a sense of how much you’ll owe. Using the numbers before the end of the year also allows you to perform some tax planning to lower the amount you’ll owe or change your withholding.

What exactly is taxable income?

According to IRS standards, all income is taxed unless specifically exempted by law. As a result, the definition of taxable income is broad. However, some common taxable sources of income include:

  • Salary or wages
  • Commissions 
  • Tips 
  • Bonuses
  • Capital gains (with one exception, which we’ll discuss further below)
  • Freelancing, self-employment, or a business income
  • Royalties and rental income 
  • Some interest and dividends 
  • Gambling profits

Remember that while many of these types of income are cash, taxable income can also be property or services.

What Kinds of Earnings Aren’t Taxable?

The good news is that some sorts of income are not taxable. You don’t need to pay federal income taxes on the following:

  • Child support payments
  • Municipal bond interest 
  • Life insurance policy
  • Disability benefits (assuming you paid the policy’s premiums)
  • Capital gains from the sale of the primary house (capital gains are restricted to $250,000 for single taxpayers & $500,000 for married couples). In general, you must have owned and utilized the property as your primary house for at least two of the five years preceding the sale.)
  • Gifts and inheritance

Gifts aren’t taxable but are subject to particular tax laws. If a gift giver gives more than the yearly gift tax exemption ($16,000 in 2022 and $17,000 in 2023) to any one individual during the year, the giver may be required to submit a gift tax return. However, gifts to your spouse of any size usually are not taxable. Furthermore, while inheritances are not taxable at the federal level, certain states do. The IRS Publication 525 has a more comprehensive list of taxable and non-taxable income.

How do income tax brackets work?

The government defines how much tax you owe by splitting your taxable income into sections, often called tax brackets. You have to pay each of them at the appropriate tax rate. You may hear someone say they are in the 12% or 22% tax rate. This does not mean they are taxed at that proportion of all their income. Instead, it is the highest tax rate, the marginal rate that applies to a portion of their income. 

  • Being “in” a tax bracket doesn’t mean paying that federal income tax rate on all your earnings. The US has a progressive tax system. This means that different parts of your income are taxed at different rates since they fall into different tax categories. People with greater earnings pay higher federal income tax, while those with lower incomes pay lower federal tax rates under the progressive tax system. 
  • The benefit of tax brackets is that you will not pay that tax on your whole income regardless of your bracket.
  • Your tax rate is the percentage of your income you pay. Divide your total tax due (line 16 on Form 1040) by your total taxable income to calculate your effective tax rate.
  • Annually, the income thresholds for tax brackets are changed. Several sections of the tax code, notably the income criteria determining federal tax brackets, are modified periodically to account for inflation. This indexing keeps taxpayers from experiencing “bracket creep” or being forced into a higher tax rate due to inflation.
  • This is only applicable to federal income taxes. Your state may have multiple tax brackets, a flat or no income tax. 

What exactly are income tax brackets?

Tax brackets indicate the tax rate that will be charged to each portion of your taxable income. 2023, for instance, if you are single, the rate of 10% will apply to your first $11,000 taxable income. The next portion of your income is then taxed at 12%, and so on, until you reach the maximum taxable income. As a result, higher-income taxpayers often pay a higher tax rate than lower-income taxpayers.

current tax brackets in the United States

The IRS has adjusted the tax rates for 2023 because of inflation, which means that some individuals may find themselves in lower tax categories than in previous years. The current federal tax brackets for 2023 are listed below.

Single Filers:

10% $0 to $11,000
12% $11,001 to $44,725
22% $44,726 to $95,375
24% $95,376 to $182,100
32% $182,101 to $231,250
35% $231,251 to $578,125
37% $578,126 or more


Married, Filing Jointly:

10% $0 to $22,000
12% $22,001 to $89,450
22% $89,451 to $190,750
24% $190,751 to $364,200
32% $364,201 to $462,500
35% $462,501 to $693,750
37% $693,751 or more


Married, filing separately:

10% $0 to $11,000
12% $11,001 to $44,725
22% $44,726 to $95,375
24% $95,376 to $182,100
32% $182,101 to $231,250
35% $231,251 to $346,875
37% $346,876 or more


Head of Household:

10% $0 to $15,700
12% $15,701 to $59,850
22% $59,851 to $95,350
24% $95,351 to $182,100
32% $182,101 to $231,250
35% $231,251 to $578,100
37% $578,101 or more


What is a marginal tax rate?

It is applied to taxable income. This is usually your highest tax bracket. If you’re a single filer with $35,000 in taxable income, you’d be in the 12% tax rate. If your taxable income increased by one dollar, you would also be taxed 12% on that additional dollar. However, if you had $46,000 in taxable income, most of it would still be in the 12% tax band, but the last few hundred dollars would be in the 22% tax bracket. Then your marginal tax rate would be 22%.

Getting into a lower tax bracket & paying a lower federal income tax rate:

Credit expenses like salaries and deductions are essential strategies to reduce your tax payment. But it’s vital to maintain a pay stub record. However, you can use any good paystub template

  • Tax credits decrease your tax bill dollar for dollar; they do not affect your tax bracket. 
  • The tax deduction reduces how much of your income is due to taxes. If you pay 22% in taxes, a $1,000 deduction may save you $220.

In other words, take advantage of all tax breaks you can get; they can cut your taxable income and possibly move you into a lower tax bracket, which means you pay less tax.

In conclusion:

Income is any payment for delivering a service. Money is, of course, the most usual form. However, most people need to be aware that there are second types of income, such as property and in-kind services. And they’re all taxable. Knowing what to include can make tax preparation painless and straightforward. To prevent problems, use the information and recommendations provided above to calculate and disclose your taxable income appropriately.

Written by Eric

37-year-old who enjoys ferret racing, binge-watching boxed sets and praying. He is exciting and entertaining, but can also be very boring and a bit grumpy.