Effective vs. Marginal Tax Rate Explained

When someone asks "what's your tax rate?" the honest answer is: which one? You actually have at least two important tax rates, and understanding the difference between them can change how you think about earning money, getting raises, and planning your finances.

Your marginal tax rate and your effective tax rate are both real numbers, but they tell you very different things. Let's break down exactly what each one means, how to calculate them, and why the distinction matters for your financial decisions.

What Is Your Marginal Tax Rate?

Your marginal tax rate is the rate you pay on your last dollar of taxable income. It's determined by which tax bracket your income falls into at the top. If you're a single filer with $85,000 in taxable income in 2025, your top bracket is 22% (which covers income from $48,476 to $103,350). That means your marginal rate is 22%.

The marginal rate is what matters when you're thinking about the tax impact of the next dollar you earn. If you're considering picking up a freelance gig that'll pay $5,000, your marginal rate tells you roughly how much of that extra income you'll pay in federal tax. At a 22% marginal rate, you'd owe about $1,100 in federal income tax on that additional income.

Your marginal rate is also what makes pre-tax deductions so valuable. When you contribute to a traditional 401(k), every dollar you contribute saves you taxes at your marginal rate. A $1,000 contribution saves $220 in taxes if your marginal rate is 22%.

What Is Your Effective Tax Rate?

Your effective tax rate is the average rate you pay across all your income. It's calculated by dividing your total tax bill by your total taxable income (or sometimes total gross income, depending on context). The formula is straightforward:

Because the U.S. has a progressive tax system, your effective rate is always lower than your marginal rate (unless all your income falls in the lowest bracket). Here's why: even if your top bracket is 22%, a big chunk of your income was taxed at 10% and 12% before reaching the 22% bracket. Those lower rates pull your overall average down.

Side-by-Side Comparison

Let's look at a concrete example. Take a single filer earning $90,000 in gross income. After the standard deduction of $15,000, their taxable income is $75,000. Here's the tax calculation:

• 10% on the first $11,925 = $1,192.50
• 12% on $11,926 to $48,475 = $4,386.00
• 22% on $48,476 to $75,000 = $5,835.50

Total tax: $11,414

Now let's calculate both rates:

• Marginal rate: 22% (the bracket that contains the last dollar of income)
• Effective rate on taxable income: $11,414 / $75,000 = 15.2%
• Effective rate on gross income: $11,414 / $90,000 = 12.7%

See the gap? Your marginal rate is 22%, but your effective rate is only about 15%. That's a difference of nearly 7 percentage points. The higher your income climbs, the wider this gap can become, but it never disappears as long as there's more than one bracket.

Calculate Your Effective Tax Rate

Use the calculator below to see your own marginal and effective tax rates based on your income and filing status. It does all the bracket math for you instantly.

Why This Distinction Matters

Understanding both rates helps you make smarter financial decisions in several ways:

For Evaluating Raises and New Income

When you get a raise, the extra money is taxed at your marginal rate, not your effective rate. If someone offers you a $10,000 raise and you're in the 22% bracket, you'll keep about $7,800 of that raise (before FICA and state taxes). Don't use your effective rate to estimate the impact of new income since it'll give you an overly optimistic number.

For Retirement Contributions

Traditional 401(k) and IRA contributions save you taxes at your marginal rate now, but when you withdraw in retirement, you'll pay tax at your effective rate then (assuming your income is lower). This is one of the core arguments for traditional pre-tax contributions: the rate you save at today (marginal) is often higher than the rate you'll pay later (effective on a lower retirement income).

For Roth vs. Traditional Decisions

This is where it gets interesting. If you think your effective rate in retirement will be higher than your marginal rate today, Roth contributions make more sense. If you think the opposite, traditional is better. For most people who'll have lower income in retirement, the traditional pre-tax route wins, but early-career workers in low brackets might benefit from Roth since their marginal rate is already low.

For Freelancers and Side Income

If you have a day job and a side hustle, all of your side income is taxed starting at your marginal rate. Your effective rate is irrelevant for that extra income. A freelancer making $20,000 on top of a $70,000 salary is paying 22% (or possibly 24%) in federal tax on every dollar of side income, plus self-employment tax. Knowing this helps you price your freelance work and set aside enough for quarterly estimated tax payments.

Total Effective Tax Rate: Beyond Federal

So far we've been talking about federal income tax, but your true effective tax rate includes much more:

• FICA taxes: 7.65% for employees (6.2% Social Security + 1.45% Medicare), or 15.3% for self-employed. This applies to nearly every dollar of earned income up to the Social Security wage base.
• State income tax: Ranges from 0% (nine states) to over 13% (California's top bracket). This adds directly to your overall effective rate.
• Local taxes: Some cities and counties have their own income taxes. New York City residents, for example, pay an additional 3-3.9% on top of state and federal taxes.

When you add these together, your total effective tax rate on earned income can range from about 20% for moderate earners in no-tax states to over 40% for high earners in high-tax states and cities. It's important to look at the full picture rather than just your federal bracket.

Common Mistakes People Make

• Using marginal rate for total tax estimates: If someone in the 24% bracket multiplies their full income by 24%, they'll overestimate their tax bill by thousands of dollars. Always use effective rate for overall tax burden estimates.
• Using effective rate for decisions about new income: Your effective rate understates the tax impact of additional dollars. Use marginal rate when evaluating raises, bonuses, or side income.
• Ignoring FICA in total tax calculations: FICA taxes are flat and substantial. Leaving them out gives an unrealistically low picture of your overall tax burden.
• Confusing taxable income with gross income: Your effective rate changes depending on which denominator you use. Be consistent when comparing rates across years or against other people.

The Bottom Line

Your marginal rate tells you what happens to the next dollar. Your effective rate tells you what happened to all your dollars combined. Both are useful, but for different purposes. Use your marginal rate when planning for additional income, evaluating deductions, or deciding between Roth and traditional accounts. Use your effective rate to understand your overall tax burden and compare it year over year. Once you're comfortable with both numbers, you'll find it much easier to plan your finances and make confident decisions about earning, saving, and investing.