marginal tax rate

Examples of marginal tax rate in the following topics:

• Comparing Marginal and Average Tax Rates

  • The marginal tax rate is sometimes defined as the tax rate that applies to the last (or next) unit of the tax base (taxable income or spending), it is in effect, the tax percentage on the highest dollar earned.
  • For example, if a company pays 5% tax on its first $100,000 earned, and 10% on the next $100,000, the marginal tax rate of earning the $101,000th dollar is 10%.
  • Broadly, the marginal tax rate equals the change in taxes, divided by the change in tax base, expressed as a percentage.
  • The term "progressive" describes a distribution effect on income or expenditure, referring to the way the rate progresses from low to high, where the average tax rate is less than the marginal tax rate.
  • "Regressive" describes a distribution effect on income or expenditure, referring to the way the rate progresses from high to low, where the average tax rate exceeds the marginal tax rate.

• Tax Rate

  • A marginal tax rate is the tax rate that applies to the last dollar of the tax base (taxable income or spending) and is often applied to the change in one's tax obligation as income rises.
  • An individual's tax bracket is the range of income for which a given marginal tax rate applies.
  • The marginal tax rate may increase or decrease as income or consumption increases, although in most countries the tax rate is progressive in principle.
  • In such cases, the average tax rate will be lower than the marginal tax rate.
  • For instance, an individual may have a marginal tax rate of 45%, but pay an average tax of half this amount.

• Tax Deductions

  • A company's marginal tax rate is 35%.
  • To fully understand the effect of tax deductions, we must consider the marginal tax rate, which is the rate of tax paid on the next or last unit of currency of taxable income.
  • The marginal tax rate is dependent upon a jurisdiction's tax structure, usually referred to as tax brackets.
  • For example, a tax credit of $1,000 reduced taxes owed by $1,000, regardless of the marginal tax rate.
  • This graph plots the marginal income tax rates for the top tax bracket in the US from 1913 to 2009.

• Weighted Average Cost of Capital

  • The weighted average cost of capital (WACC) is the rate a company is expected to pay, on average, to its security holders.
  • The WACC is also the benchmark rate, or the minimum rate of return, a company must earn on a new venture in order to make the investment worthwhile.
  • In order to calculate WACC, a few inputs must be known, namely, the cost of debt, the cost of equity, and the company's marginal tax rate.
  • In this formula, V is equal to the value of the firm, or Debt (D) plus Equity (E). r(D) is the company's rate on debt, r(E) the rate on equity.
  • T is the company's marginal tax rate.

• Budget Cuts

  • Citing the economic theories of Arthur Laffer, Reagan promoted the proposed tax cuts as potentially stimulating the economy enough to expand the tax base, offsetting the revenue loss due to reduced rates of taxation, a theory that entered political discussion as the Laffer curve.
  • During Reagan's presidency, federal income tax rates were lowered significantly with the signing of the bipartisan Economic Recovery Tax Act of 1981 which lowered the top marginal tax bracket from 70% to 50% and the lowest bracket from 14% to 11%.
  • The Tax Reform Act of 1986 was another bipartisan effort championed by Reagan, further reduced the top rate to 28%, raised the bottom bracket from 11% to 15%, and, cut the number of tax brackets to four.
  • Reagan's policies proposed that economic growth would occur when marginal tax rates were low enough to spur investment, which would then lead to increased economic growth, higher employment and wages.
  • Along with Reagan's 1981 cut in the top regular tax rate on unearned income, he reduced the maximum capital gains rate to only 20% – its lowest level since the Hoover administration.

• Fiscal Levers: Spending and Taxation

  • The tax multiplier is the magnification effect of a change in taxes on aggregate demand.
  • where MPC is the marginal propensity to consume (the change in consumption divided by the change in disposable income), and MPS is the marginal propensity to save (the change in savings divided by the change in disposable income).
  • The multiplier effect of a tax cut can be affected by the size of the tax cut, the marginal propensity to consume, as well as the crowding out effect.
  • The crowding out effect occurs when higher income leads to an increased demand for money, causing interest rates to rise.
  • Analyze the use of changes in the tax rate as a form of fiscal policy

• Leverage Models

  • Another common way of defining operating leverage is by dividing total fixed costs by operating income, or EBIT (earnings before interest and taxes).
  • To calculate Degree of Operating Leverage, we divide the contribution margin by the difference between contribution margin and fixed costs:
  • The Degree of Operating Leverage is closely related to the rate of increase in the operating margin, which is the ratio of operating income to net revenue.
  • As sales increase past the break-even point, both operating margin and the DOL increase rapidly from 0%.
  • As sales continue to increase past break-even, the rate of change in operating margin decreases, as does the the rate of change of the DOL.

• Individual Taxes

  • State income tax rates vary from 1% to 16%, including local income tax where applicable.
  • Sales tax is calculated as the purchase price times the appropriate tax rate.
  • Tax rates vary widely by jurisdiction from less than 1% to over 10%.
  • These taxes are computed as the taxable amount times a graduated tax rate (up to 35%).
  • This graph shows the effective sales tax rates for the 50 states.

• Corporate and Payroll Taxes

  • Many countries impose a corporate tax, also called corporation tax or company tax, on the income or capital of some types of legal entities.
  • The taxes may also be referred to as income tax or capital tax.
  • The rate of tax varies by jurisdiction; however, most companies provide or make public the effective tax rate on the income earned.
  • The effective tax rate is the average corporate tax rate on the company's income and this takes into consideration tax benefits included in a current tax year.
  • Corporations are also subject to a variety of other taxes including: property tax, payroll tax, excise tax, customs tax and value-added tax along with other common taxes, generally in the same manner as other taxpayers.

• Trading off Equity and Efficiency

  • Income taxes are a laddered progressive tax where income tax rates are set in income bands or ranges.
  • Each tax rate corresponds to a particular income range; income above a tax range is subject to a higher tax rate that corresponds to a higher income range and income below a specific range is subject to a lower tax rate, similarly identified with a lower income range.
  • Within any given income range, the tax rate is the same.
  • At the highest income tax rate, income taxes can become regressive, since high earners are only subject to a constant albeit highest rate on their income.
  • Income tax is a progressive tax that assumes a regressive nature at the highest tax rate.