When Marginal and Statutory Tax Rates Differ

When Marginal and Statutory Tax Rates DifferBenjamin H. Harris, Ruth Levine

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From an economic perspective, marginal tax rates play a critical role in determining the consequences of a change in tax policy. In an uncomplicated tax system the marginal rate is simply equal to the statutory rate. For millions of taxpayers, however, marginal tax rates differ markedly from statutory rates. Because of the tax code's wide array of phase-ins and phaseouts the majority of taxpayers face a different marginal rate than their statutory rate. Marginal and statutory rates differ for about two-thirds of married filers and heads of households and for about one-third of single filers.

From an economic perspective, marginal tax rates the tax paid on an additional dollar of income play a critical role in determining the consequences of a change in tax policy: Marginal rates influence a taxpayer's incentive to seek (and report to the IRS) extra income. Low marginal tax rates on labor may provide wage earners additional incentive to work more; low marginal rates on capital gains or dividends may increase the incentive to save and invest.

In an uncomplicated tax system, determining a taxpayer's marginal tax rate is straightforward: The marginal rate is equal to the statutory rate, the actual rate applied to taxable income. The current federal income tax has six statutory rates 10, 15, 25, 28, 33, and 35 percent that apply to most income. Preferential rates apply to long-term capital gains and qualified dividends as well as to other forms of income.

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