What is Your Effective Tax Rate?
We just finished our Federal and State 2013 tax returns. We had overpaid on both, so it was imperative to get the returns filed as soon as possible so we could get our refunds. Every year, our goal is to be as close to 0 as possible for refund or amount due. The reasoning is simple, if you owe too much then you could end up with a penalty. If you pay too much and are owed a refund, then you gave the government an interest free loan. That money could have been working for you instead of Uncle Sam.
Over the past three years we have been getting better at estimating our final tax bill.
In 2011, we had an underpayment of almost $9000 (OUCH).
In 2012, we had an underpayment of about $4500.
In 2013, we had an overpayment of $1000.
There is obviously still room for improvement, but it is encouraging to see the numbers moving in the right direction (closer to 0).
One of the benefits of doing your own taxes is that it helps you learn the system. After a few years of filling out your own taxes you can see where you are getting punished and where you can get rewarded. Using this information, you can make informed decisions for the next tax year so you can reduce your effective tax rate. A good CPA should also be able to make recommendations for your specific circumstances, but I doubt your average national tax chain shop like H&R Block or tax software such as TurboTax will give much insight into the process. Those types of places want you to be confused and scared so you keep on coming back to them each year.
Anyway, getting back to the point. I like to use the effective tax rate to see how well we are managing our tax burdens. You can figure your own effective tax rate by taking the number on form 1040 line 61 (or whatever is marked total tax) and dividing it by line 22 (or whatever is marked total income). You can see how our effective tax rate has gone down over the past three years as we have learned to take advantage of tax protected retirement accounts like a 401k.
You can even compare your tax rate to the 2012 presidential candidates courtesy of the Wall Street Journal. Mitt Romney was at 14% and Barack Obama was at 19%. MSN also has some additional reading and statistics on effective tax rates.
I suspect that we will be able to reduce our effective tax rate even further as we add a dependent child to our household and take advantage of tax protected accounts even more (Health Savings, 401k, 529, etc. etc.).
Do you know what your effective tax rate is/was?