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A fact that should be more well-known is that when you get a raise that puts you into a higher tax bracket, the only part of your pay that is taxed at the higher rate is the amount above the bar of the next tax bracket. No, seriously, it’s the truth.
The concept is called progressive taxation. Members of a prominent Internet forum discussed the issue to call attention to the fact that many people are unaware of this and are afraid of getting a raise for fear of being taxed even more, which is unnecessary. The discussion brought up many interesting facts about taxation and how it works.
1. First Of All
The commenter who brought the subject up first noted how progressive taxation works. The example is that if your salary was nine hundred thousand, nine hundred and ninety-nine dollars a year, and you got a raise to one hundred thousand and one dollars, the amount of money taxed at the higher rate would only be two dollars, not your entire salary. What a relief!
2. Benefits Cliff
If you are in a situation where you get your health care through the state, a raise can affect you adversely. If you make one cent more than the benefits cutoff level, you will go from paying nothing for healthcare to paying one hundred and twenty-five dollars a month.
The second cutoff level raises the amount of money you need to pay for healthcare services to seven hundred dollars a month, potentially requiring an additional fifteen thousand dollars a month to balance out.
3. Food Assistance
One issue related to benefits is that once you pass a certain level, you can lose all the food benefits you might be getting from the state. For example, a forum member mentioned that he and his wife had about three thousand in aid, and his wife got a new job. Once his wife got a raise of about two thousand dollars, they passed the threshold and lost all the benefits, which put them back about a thousand dollars realistically.
The further disturbing point is that people working a job need to make more money to not qualify for state aid for groceries and health care. It would mean employers must pay them more to be financially independent of state aid, but they aren’t.
4. Childcare Is Expensive
Parents noted that another challenge to people who get a raise is if they have state-subsidized childcare, especially if the childcare makes it possible for them to go to work while the child stays home, which is usually the case.
A specific user told of a case where a family member got a raise that put them above the hard cutoff for free childcare and that paying for childcare themselves was so expensive that it cost them nearly double the amount that the raise brought into their budget.
5. Employer-Based Healthcare
For better or worse, health insurance is a benefit that employees get from their jobs. As part of this discussion, an individual told of their employer’s “salary band-based” tiers of insurance premiums. These pay classes set the amounts of an employee’s contribution to their health insurance policy.
When this employee received a six hundred dollar raise that placed them on another tier, their contribution went up two hundred dollars. So he said, effectively, the raise cost him two hundred dollars.
6. Working Overtime
Another hot topic was the tax burden on compensation earned through overtime hours. Some people mistakenly believe that overtime hours are subject to higher taxes, but it turns out that payroll workers treat overtime wages as if that is the amount that you are making all year.
A forum member exasperatedly explained that each check with overtime is taxed more per check but that the employee gets some of that money back during tax season.
7. You Get A Bonus!
Bonuses are another bone of contention among those needing help understanding the mysteries of the tax code. Like overtime wages, the withholding on bonuses is often higher when an employee receives the check.
Disappointment follows because the amount of money they get is lower than expected. Because the bonus amount is much higher, payroll withholds taxes at a higher rate using the employee-submitted withholding information, which results in a larger refund at tax time.
8. How Does Withholding Work?
Payroll companies and their software function based on a 52-week year approach each new check as fresh information. That is, they assume that the employee is making that amount of money every week, regardless of the source of the funds.
If you get a paycheck for ten thousand dollars, the payroll software adds up to ten thousand dollars times fifty-two weeks, as if you make that rate every time you get compensation. If your employer calls a bonus income, the system then withholds one fifty-second of the check at your stated withholding rate. If your employer reports the bonus is a bonus, it will be taxed at the Federal bonus rate of twenty-two percent.
9. But Why Is This Money Withheld?
Each of your paychecks has an amount that your employer’s payroll withholds a potential amount of tax based on how you file your W-4 and ask them to withhold an amount to cover your taxes based on your tax situation. The system works this way because no one knows how much you will make during a year. You could lose the job, get a raise, and many different things could happen.
10. The Actual Amount Of Tax
Withholding is only a projection of what you may owe at tax time. We file taxes and get tax refunds because the circumstances surrounding our employment and the projected amount of tax owed through withholding are based on our earnings, not the projection.
Other factors come into play, like items or actions that we can use as tax deductions that reduce our actual tax bill, and no one knows what our earnings will be until after the end of the year. So even if the withholding took more out of your check than you owe, you get that money back as a tax refund.
This thread inspired this post.
This article originally appeared on Financially Well Off.
