Purpose of Tax Brackets

• Most countries employ some variation of a progressive income tax, which means that people who make more money pay a higher percentage of their income in taxes. Tax brackets in a progressive system increase as the amount of income increases. For example, in 2009, the tax brackets for singles in the United States are 10 percent for the first $16,700 of taxable income, 15 percent on taxable income between $16,700 and $67,900, 25 percent on taxable income between $67,900 and $137,050, 28 percent on taxable income between $137,050 and $208,850, 33 percent on taxable income between $208,850 and $372,950, and 35 percent on income above $372,950.
  
  

How to Calculate Your Tax Bill

• When you pay your taxes, you do not pay your marginal tax rate on your entire taxable income, you only pay the tax bracket rate for the income in that bracket. For example, assume the tax brackets are 10 percent on the first $20,000, 15 percent on income between $20,000 and $40,000 and 20 percent on any income above $40,000. If your taxable income is $50,000, you would pay taxes of 10 percent on your first $20,000, 15 percent on the next $20,000 of income, and 20 percent on the remaining $10,000 for a total tax bill of $7,000.
  
  

Origination of Tax Brackets in the U.S.

• The 16th Amendment, which gave Congress the ability to collect an income tax, was passed in 1913. The first permanent income tax in the United States was instituted by the Tariff Act passed on October 3, 1913. This law instituted seven income-tax brackets which were 1 percent on taxable income up to $20,000, 2 percent on income between $20,000 and $50,000, 3 percent on income between $50,000 and $75,000, 4 percent on income $75,000 and $100,000, 5 percent on income between $100,000 and $250,000, 6 percent on income between $250,000 and $500,000 and 7 percent on income over $500,000.
  
  

Filing Status Tax Brackets

• The first tax bill from 1913 didn't distinguish between singles and married couples. It wasn't until 1949 that married couples had their tax brackets determined by the "married filing separately" filing status that corresponded to half their income. For example, if you filed a joint return with your spouse and had a combined income of $70,000, you would fall into the same tax bracket as single person who made $35,000. In 1952, the head-of-household filing status was introduced to give tax advantages to unmarried individuals who had dependents.
  
  

How to Take Advantage of Tax Brackets

• If you have a small amount of taxable income in a higher tax bracket, you should consider ways to reduce your taxable income to avoid having to pay the higher tax rate. For example, if the 15 percent tax bracket stops at $40,000 and the next bracket has a tax rate of 25 percent, you would pay 10 percent more tax on each dollar over $40,000 that you make. You can avoid this by making contributions to a tax-deferred 401k plan or traditional IRA or deferring income.