Average Tax Rate: Definition & Formula

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  • 0:00 What Is the Average Tax Rate?
  • 0:27 Conceptual Framework
  • 2:14 Formula
  • 3:17 Lesson Summary
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Lesson Transcript
Instructor: Shawn Grimsley

Shawn has a masters of public administration, JD, and a BA in political science.

Knowing the average tax rate in a progressive tax system is useful in understanding your tax burden. In this lesson, you'll learn about the average tax rate, related concepts, and how to calculate it. A short quiz follows.

What Is the Average Tax Rate?

The average tax rate is the tax rate you pay when you add all sources of taxable income and divide that number into the amount of taxes you owe. In other words, you can calculate your average tax rate by dividing your total tax obligation by your total taxable income. Now, before we explore average tax rate further, let's quickly review the concepts we need to know to fully grasp this type of tax rate.

Conceptual Framework

As you may already know, a tax is a governmental fee levied on a product, income, or activity. Examples of taxes include sales tax and income tax. You can also think of licensing fees as taxes, such as license fees for car registration, driving, hunting, and forming a business entity. A tax rate is the percentage of the value of property or income to be paid to the government as a tax. For example, if you earn $50,000 in salary for one year, and the applicable income tax rate is 20%, then you must pay $10,000 in taxes, which is 20% of the value of your annual income.

The United States uses a progressive income tax system, which means that the income tax rate increases as the taxpayer's income increases. It is a common public misconception that your tax bracket rate is the rate you pay on all of your income. This is incorrect. You are actually paying different tax rates on different portions of your income. Your marginal tax rate is the extra taxes you pay on each additional dollar of income you make. Sometimes your marginal rate will increase. In fact, in a progressive income tax system, the average tax rate will be lower than your top marginal tax rate. Let's look at a hypothetical tax table to illustrate the concept:

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