The federal income tax brackets are updated by the Internal Revenue Service every year. The agency renews the tax brackets against changes in the cost of living and inflation. This is for ensuring that you will pay the same portion of your income in taxes.
Same as any other year, the tax brackets will have seven different marginal tax rates: 10 percent, 12 percent, 22 percent, 24 percent, 32 percent, 35 percent, and 37 percent. Which tax bracket you will fall in depends on your adjusted gross income also known as the taxable income. This is the income you are going to be taxed at after deductions and adjustments to your gross income.
For example, a taxpayer’s income is $60,000. The deductions and the adjustments the taxpayer can make to his income is $15,000 in total. This means the taxpayer will be taxed at $45,000. With a $45,000 adjusted gross income and single as filing status, the taxpayer will pay 22% of AGI in taxes according to the 2020 tax brackets.
How does tax brackets work?
Since no changes in the tax law is expected to occur, the tax brackets will work the same in 2021. Instead of thinking tax brackets as something that will take a specific portion of your income, think of them as pockets you need to fill.
In the above example, the taxpayer will not exactly pay 22% of his AGI in taxes. If we were to take a straight look at it that way, it would be laziness. Instead of seeing tax brackets like that, think of them this way:
Pay 10% of $9,700: $970
Pay 12% of $39,475: $4,737
Pay 22% of $5,525: $1,215
In total, the tax owed to the IRS is $6,922
On the other hand, paying 22% of $45,000 would mean $9,900. With that said, the tax brackets will not exactly take a portion of your income based on the given marginal tax rate. Because of this, when there are talks about a higher marginal tax rate for the rich, it won’t really affect the middle class or even higher upper-middle class.
When the IRS will announce 2021 tax brackets?
The Internal Revenue Service will release the new tax brackets in the upcoming months. The agency usually publishes the new tax brackets along with the new standard deduction in around November.
As soon as the IRS announces the new tax brackets, we will keep you updated. In the meantime, to get an idea of which tax bracket you may fall in, read this post to see the 2020 tax brackets.