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Marriage Tax PenaltyAre you in a dual income marriage? If so, familiarize yourself with the marriage tax penalty.
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When the economy is tough, pay attention to your taxes to properly plan for your financial future. |
We know, you've recently filed your taxes and you either just paid money to Uncle Sam or you collected it. Not to mention that the rebate checks are starting to roll in. But if you're new to this marriage thing, the tax rules are different than when you were single. With the economy slumping, it's more important than ever to pay attention to your money.
Since 2003 when it was first introduced, the marriage tax penalty has evolved into more of a tax planning consideration than a surprise liability. To understand the concept you need to have a basic understanding of how tax rates work. I have always used the analogy of "walking up a staircase" when describing the progressive nature of tax rates. Each step represents an increased level of income and a corresponding higher tax rate. The concept of a "penalty" comes into play because the heightened tax rates are the same for married people as they are for singles.
Before your were married, you and your future spouse walked hand-in-hand on the same staircase and each was taxed individually. Now that you're married, there is a difference between what you pay in taxes as a couple compared to when you were filing as individuals. Here's a quick breakdown:
* As a single filer in 2008, you would have been taxed in the following. The first $8,025 of taxable income would be taxed at 10%; the next $24,525 at 15%; the next $46,300 at 25%; and the rest at 28%, 33% and 35% (the stair steps), depending on your level of income.
* As a married couple you might expect that you can earn twice as much and still be taxed at the same rate. While this is true for the first few steps, you will find that as you climb higher, one of you will start to lose a little ground. The first two steps for the 10% and 15% tax rates remain the same, but if you both earn enough to be taxed at 25% there begins to be dispersion. Suddenly you can’t earn twice as much and pay the same tax; it’s higher, and therefore you suffer a "penalty."
Marriage Tax Bonus
The flip side to the marriage tax penalty is the marriage tax bonus. You are eligible for the tax bonus when only one of you is employed. For example, singles start paying the 28% rate at $78,850. Joint-filers don't jump into this tax bracket until they reach taxable income of $131,450. The bonus is that a married couple pays less tax than a single person on the same money.
The next step is a matter of planning. Since you are dealing with something that you can’t make go away, planning should allow you to maximize the bonus or minimize the penalty depending on your side of the issue. Take the time to consider your year-to-date earnings and try to determine your level of taxation.
Start with your combined incomes and subtract your standard deduction ($10,900 MFJ for 2008) and two exemptions ($3,500 x 2 for 2008) to find your marginal tax bracket. If you find that you are paying some tax at the 25% rate, it’s likely that you can benefit greatly from accelerating deductions when possible and by reviewing your alternatives to defer income like your employer’s 401(k). The married couple with only one spouse working has the opportunity to accelerate currently taxable income or defer deductions. This allows you to stockpile the deductions for the following year and possibly get a bigger bang at that time.
When it comes to taxes, the lack of good planning can leave you feeling like more of a victim than a taxpayer. Take the time to get the details right and I assure you it will pay in the long run.
Donald E. Hodson, EA, RFC for the Financial Enhancement Group in Anderson, Indiana. You can contact Donald at 765-640-1524 or dhodson@yourlifeafterwork.com.
Since 2003 when it was first introduced, the marriage tax penalty has evolved into more of a tax planning consideration than a surprise liability. To understand the concept you need to have a basic understanding of how tax rates work. I have always used the analogy of "walking up a staircase" when describing the progressive nature of tax rates. Each step represents an increased level of income and a corresponding higher tax rate. The concept of a "penalty" comes into play because the heightened tax rates are the same for married people as they are for singles.
Before your were married, you and your future spouse walked hand-in-hand on the same staircase and each was taxed individually. Now that you're married, there is a difference between what you pay in taxes as a couple compared to when you were filing as individuals. Here's a quick breakdown:
* As a single filer in 2008, you would have been taxed in the following. The first $8,025 of taxable income would be taxed at 10%; the next $24,525 at 15%; the next $46,300 at 25%; and the rest at 28%, 33% and 35% (the stair steps), depending on your level of income.
* As a married couple you might expect that you can earn twice as much and still be taxed at the same rate. While this is true for the first few steps, you will find that as you climb higher, one of you will start to lose a little ground. The first two steps for the 10% and 15% tax rates remain the same, but if you both earn enough to be taxed at 25% there begins to be dispersion. Suddenly you can’t earn twice as much and pay the same tax; it’s higher, and therefore you suffer a "penalty."
Marriage Tax Bonus
The flip side to the marriage tax penalty is the marriage tax bonus. You are eligible for the tax bonus when only one of you is employed. For example, singles start paying the 28% rate at $78,850. Joint-filers don't jump into this tax bracket until they reach taxable income of $131,450. The bonus is that a married couple pays less tax than a single person on the same money.
The next step is a matter of planning. Since you are dealing with something that you can’t make go away, planning should allow you to maximize the bonus or minimize the penalty depending on your side of the issue. Take the time to consider your year-to-date earnings and try to determine your level of taxation.
Start with your combined incomes and subtract your standard deduction ($10,900 MFJ for 2008) and two exemptions ($3,500 x 2 for 2008) to find your marginal tax bracket. If you find that you are paying some tax at the 25% rate, it’s likely that you can benefit greatly from accelerating deductions when possible and by reviewing your alternatives to defer income like your employer’s 401(k). The married couple with only one spouse working has the opportunity to accelerate currently taxable income or defer deductions. This allows you to stockpile the deductions for the following year and possibly get a bigger bang at that time.
When it comes to taxes, the lack of good planning can leave you feeling like more of a victim than a taxpayer. Take the time to get the details right and I assure you it will pay in the long run.
Donald E. Hodson, EA, RFC for the Financial Enhancement Group in Anderson, Indiana. You can contact Donald at 765-640-1524 or dhodson@yourlifeafterwork.com.
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