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Eff Tax Rate; Net or Gross

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  • Eff Tax Rate; Net or Gross

    I know there was just a (long) thread on effective tax rate for 2016.  Buried in that thread there were bits and pieces of an interesting conversation.  Basically, it was this ... How do you calculate your effective tax rate?  I would like to focus more on that question in this thread.  It seems like most people use adjusted gross income as the denominator, but why?  When I calculate my effective tax rate, I want a more full picture.  I want to know what rate I paid on all the money made and the tax paid out.  Other than the argument "we use AGI because that's they way its always been done", why do people use this, am I missing something?  My wife and I both fully funded 401k's and HSA (plus my wife has some stock purchasing options) last year so to me, I would rather use the net as the denominator because that is "real money" that we earned.  The way I look at it is this ....

     

    Net Income = 455,886

    AGI = 414,044

     

    Effective Tax Rates (of Net)

    Fed 24.8 (113,06)

    State/Local 4.5 (20,418)

    Property 0.7 (3,073)

    Med/SS 4.4 (20,212)

    Total Effective Tax Rate = 34.4%

     

    Could WCI (or someone who knows more about taxes than me) please tell me if this is a right or wrong way to think about this.  I will be paying estimated taxes in the near future (next couple of years) so I think it is important for me to have a percent that I should with hold as I go thru the year.

  • #2
    Don't you mean $455,886 is your gross income, not your net?  Net I'd think would be after all those things are taken out, and your rate would be net over gross.

    Seems like a good way to think about it, IMO.  Most of what we're able to affect is the federal withholding rate, defined as WH paid divided by overall income, since using the AGI given excludes adjustments or "above-the-line deductions" from the calculation, and many of us have a very large chunk ($53,000 or more) of our tax deductions coming in the form of 401(k) contributions.

    However, some of us are able to change what the SS/MCR rates are by decreasing income as well, such as S-corp shareholder-employees taking a corporate distribution instead of counting it as W-2 income, or making "employer" contributions to solo-401(k) instead of "employee" salary deferrals which are still subject to SS/MCR.

    So I think most of us will report what our effective WH rate is since that's easier and bracket-based (HR Block gave it to me), but imo a more accurate way is the total overall tax burden which you've done.

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    • #3
      Effective income tax is (federal+state+local) / gross.

      property taxes are not based upon your income. Your calculation may be meaningful to you, but it is not conventional. Wow! your property taxes are low. !

       

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      • #4
        I just throw out whatever turbotax says, its too much work to worry about doing anything more.

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        • #5
          I definately look at gross, otherwise "above the line actions" like 401k contributions would have no effect in my tax rate which is obviously untrue.

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