Understanding How Much the IRS Takes in Taxes!

Taxes can seem like a mysterious black hole, consuming a substantial portion of your income and leaving you with less savings than anticipated. It can be disheartening to see a significant part of your hard-earned money go towards taxes, with little clarity on how much is being taken.

Now, if you are asking how to reduce taxable income – then, with the right tax planning, you can significantly cut down on what you owe and take control of your future. 

Curious how? Read on to uncover practical tips and insights that will help you keep more of what you earn.

How Much Does the Government Take in Taxes?

Understanding the extent of government taxation can be eye-opening. With multiple tax layers impacting your income, from federal and state taxes to Social Security and Medicare contributions, it’s crucial to get a clear picture of how much is being deducted.

1. Federal Income Tax:
   • If you’re curious about how federal income tax works, the IRS uses a progressive tax system, which means your tax rate goes up as your income increases.
   • Tax brackets range from 10% to 37%, depending on your taxable income.
2. State Income Tax:
   • In addition to federal taxes, most states also impose their income tax.
   • California, for example, has state income tax rates ranging from 1% to 12.3%, depending on your income level.
3. Social Security and Medicare Taxes:
   • Employees pay 6.2% for Social Security and 1.45% for Medicare, with employers matching these contributions.
   • Self-employed individuals pay both the employee and employer portions, totaling 15.3%.
4. Property Taxes:
   • Property owners pay annual taxes based on the assessed value of their property.
   • For instance, California property taxes are generally around 1% of the property’s assessed value.
5. Sales Taxes:
   • Sales taxes are applied to the purchase of goods and services.
   • California has a base sales tax rate of 7.25%, with additional local taxes potentially increasing the rate.
6. Capital Gains Taxes:
   • Profits from the sale of investments are subject to capital gains taxes.
   • Long-term capital gains are taxed at 0%, 15%, or 20%, depending on your income.
7. Estate Taxes:
   • The federal government imposes estate taxes on the transfer of wealth after death.
   • The tax rate can be as high as 40% on estates valued over the $13.61 million threshold. Beyond the initial federal estate tax tier, you’re responsible for a base tax and an additional marginal rate. 

So, as you’ve figured out how much the government takes from your paycheck, it’s crucial to tackle this tax burden head-on. To avoid overpaying and keep more of your money, diving into comprehensive tax planning solutions is essential before it is too late. 

Understanding Income Tax Rates

Income tax rates are a critical component of your overall tax liability, and understanding how they work can help you make informed financial decisions. Here’s a breakdown of the key aspects:

1. Marginal Tax Rate:
   • What It Means: The marginal tax rate is the rate at which your last dollar of income is taxed. The U.S. tax system is progressive, meaning that as your income increases, you are taxed at higher rates on the additional income.
   • Example: If you move into a higher tax bracket, only the income within that bracket is taxed at the higher rate, not your entire income. IRS tax consultants know the tricks to make your taxes easier. With advanced estate planning strategies, along with other tactics, they can help you organize your assets in a way that cuts down on taxes and keeps more of your money in your pocket. 
2. Tax Brackets:
   • How They Work: The IRS divides income into different tax brackets, each with its own tax rate. For example, in 2024, the tax brackets for single filers range from 10% for income up to $11,600 or less to 37% for income over $609,351.
   • Why It Matters: Understanding which tax bracket you fall into helps you estimate how much of your income will be taxed at each rate.
3. Average Tax Rate:
   • Definition: Your average tax rate is the percentage of your total income you pay in taxes. This rate is typically lower than your marginal tax rate because not all of your income is taxed at the highest rate.
   • Calculation: To find your average tax rate, divide your total tax liability by your total taxable income.
4. Effective Tax Rate:
   • Importance: Your effective tax rate represents the average rate at which your income is taxed, taking into account all sources of income and deductions.
   • Why It’s Useful: It gives you a clearer picture of your overall tax burden and is useful for comparing tax liabilities across different income levels.
5. Federal vs. State Income Tax Rates:
   • Federal Taxes: The federal government imposes income taxes that apply to all U.S. taxpayers. These rates are set by the IRS and adjusted annually for inflation.
   • State Taxes: In addition to federal taxes, most states impose their income taxes, which vary widely. For instance, California has one of the highest state income tax rates, while some states like Texas and Florida have no state income tax at all.
6. Impact of Deductions and Credits:
   • Deductions: Tax deductions reduce your taxable income, which can lower the amount of income subject to higher tax brackets. Common deductions include mortgage interest, charitable contributions, and retirement account contributions.
   • Credits: Tax credits directly reduce your tax liability, dollar for dollar. For example, the Child Tax Credit or the Earned Income Tax Credit can significantly lower the amount of taxes you owe.
7. Alternative Minimum Tax (AMT):
   • What It Is: The AMT is a parallel tax system designed to ensure that high-income earners pay a minimum level of tax, even if they have significant deductions.
   • Who It Affects: The AMT primarily impacts taxpayers with higher incomes who claim certain deductions. It requires recalculating income tax using the AMT rules and paying the higher amount if applicable.
8. Capital Gains Tax Rates:
   • Long-Term vs. Short-Term: Long-term capital gains (for assets held longer than a year) are taxed at lower rates (0%, 15%, or 20%) compared to short-term gains, which are taxed as ordinary income.
   • Why It Matters: Understanding the difference can help you plan when to sell investments and minimize tax liability

Factors That Affect Your Tax Amount

Your tax bill isn’t just a random number—it’s influenced by several key factors:

1. Income Level:
   • Progressive Tax System: The U.S. has a progressive tax system where higher income levels are taxed at higher rates.
   • Investment Income: Income from investments, such as dividends and capital gains, is also taxed, but often at different rates compared to ordinary income. 
2. Property Ownership:
   • Property Tax Assessments: If you are asking, how to lower your property taxes, you need to know this. The value of your property is assessed by local authorities, and your property tax is based on this assessment. Regularly reviewing and appealing your property tax assessment can help ensure you’re not overpaying.
   • Proposition 13 in California: In California, Proposition 13 limits the annual increase in assessed property value to 2%, which can help keep property taxes predictable. However, changes in ownership or new construction can reset the assessed value, potentially increasing your tax bill.
3. Tax Planning Solutions:
   • Deductions and Credits: Utilizing tax deductions (such as mortgage interest or charitable donations) and credits (such as the Earned Income Tax Credit) can significantly reduce your taxable income and overall tax liability.
   • Retirement Contributions: Contributing to retirement accounts like a 401(k) or IRA can lower your taxable income. For instance, contributions to a traditional IRA may be deductible, reducing your current tax bill, while Roth IRA contributions grow tax-free.
   • Tax-Advantaged Accounts: Health Savings Accounts (HSAs) and Flexible Spending Accounts (FSAs) allow you to set aside pre-tax money for healthcare expenses, reducing your taxable income.

1. Filing Status:
   • Married vs. Single: Your filing status (e.g., single, married filing jointly, head of household) significantly impacts your tax rate and eligibility for certain deductions and credits.
   • Joint vs. Separate Filing: Married couples can choose to file jointly or separately, and the choice can affect your tax bracket and eligibility for deductions.
2. Location:
   • State and Local Taxes: States like California have their income taxes, which can add to your tax burden. In contrast, some states have no state income tax, potentially lowering your overall tax liability.
   • Local Taxes: Depending on where you live, you might also be subject to local income, sales, or property taxes, which can vary widely.
3. Dependents:
   • Child Tax Credit: Having dependents can qualify you for tax benefits like the Child Tax Credit, which directly reduces your tax bill.
   • Dependent Care Expenses: Expenses related to caring for dependents can also be deducted or used to claim credits, further reducing your tax burden.

Bottom Line 

As we wrap up, it’s crucial to grasp how the U.S. federal tax system works. It’s a progressive system, meaning as your income climbs, you hit higher tax brackets with rates from 10% to 37% for 2023 and 2024. Here’s the drill: you don’t pay the top rate on all your income.

Instead, only the income that exceeds each bracket’s threshold is taxed at that higher rate. This ensures not every dollar you earn is taxed at the highest rate. Still, it is always better to know how to save more money from going to the IRS with a Tax Planner in California.