We are now into the 2024 tax compliance season and we couldn’t be more excited to assist our clients in getting their annual compliance lodged with the Australian Tax Office (ATO). At the start of every tax season, Marcus and I will review and update our workpapers, for the recent tax changes and rates to ensure accurate compliance with the ATO.
Recently we had a meeting with a client. This client was a first-time buyer who had come to see us to discuss a partnership opportunity. As we discussed the structures available and their pros and cons, they asked a question about the tax brackets and how they work. I am so proud of them for having asked that question. They were very hesitant and embarrassed to ask what they thought was something they should really know. I have to say it takes a lot of courage for these types of questions to be asked in any forum and I feel privileged I was able to assist and they were comfortable enough to ask me this.
From this encounter, we thought this a perfect time to give you, our readers and clients a refresher on the basics of the tax brackets. For many people talking about tax it can be, well taxing, but sometimes a refresh of the basics can help to overcome this and is key to improving your financial literacy. We all know that whether we are employees, business owners or investors, it’s vital to understand how your earnings are taxed.
Since July this year, stage 3 tax cuts have taken effect, providing tax relief to all Australian taxpayers. Let’s take a moment to review the current tax brackets, marginal tax rates, average tax rates and bracket creep. We will also explain how they impact your income.
What Are Tax Brackets?
Our tax system is progressive, with a high tax-free threshold followed by increasing tax rates at subsequent thresholds. Essentially it operates equitably – the more you earn, the more tax you pay.
How Do the Tax Brackets Work?
You’ll see below that the Australian tax system is divided into several tax brackets. Each bracket has a specific range of income and a corresponding tax rate.
Let’s say your annual income is $150,000. Your taxes would be calculated as follows:
They would pay no tax on their first $18,200
16% on their next $26,800
30% on their next $90,000
37% on their last $15,000
This results in a total tax of just over $36,800.
You may have noticed that although your highest income falls into the 37% bracket, you don’t pay 37% on your entire income—just the portion that falls into that income bracket.
Marginal Vs Average Tax Rate & Bracket Creep
Another important concept to understanding bracket creep is marginal vs average tax rates.
The marginal tax rate is the amount of tax an individual pays on additional income they earn according to the tax brackets. In the above example, it's the 16% (from $18,201 to $45,000).
An average tax rate on the other hand, is the total tax as a proportion of an individual's total taxable income.
Based on the example above, the individual with an income of $150,000, would pay total tax of $36,800. This total tax liability as a percentage of their income is 24.6%. This is their average rate of tax.
Bracket Creep is when an individual has rising taxable income, that causes them to pay a higher average tax rate, even though there are no changes to marginal tax rates and thresholds.
Why Do Tax Brackets Matter?
Tax brackets aren’t just for accountants – they matter to everyone. Understanding yours isn’t just about knowing what you owe, its about making smart financial decisions.
For many, income tax doesn’t dramatically impact workforce participation, but it can be more influential for certain groups such as low-income earners, secondary income earners in the household or high-income earners who may need to plan for their tax affairs.
How to Optimise Your Tax Bracket
When it comes to optimising your tax bracket, there are a few strategies you might like to consider:
Boost your superannuation contributions – implemented correctly, super contributions can reduce your taxable income.
Make the most of your deductions – remember to claim work-related expenses, donations and other eligible expenses to lower your taxable income.
Embrace tax offsets – discuss with your tax advisor if you qualify for any offsets.
Timing matters – where possible, legitimately manage the timing of your income to remain in a lower tax bracket, particularly with bonuses or capital gains.
Optimise your investments – consider strategies like negative gearing or investing in assets with tax benefits to manage your taxable income effectively.
What Next?
Mastering tax brackets is crucial for smart financial management and tax planning. The better you understand how your money is taxed, the more effectively you can organise your finances to maximise your earnings. Our progressive Australian tax system ensures that higher incomes are taxed at higher rates, maintaining fairness.
Now that you are more informed on how your taxes are calculated, some key points of advice I can give you is:
Stay informed, plan, and fully utilise deductions and offsets to maximise your savings.
Consulting a tax specialist can provide personalised guidance through Australia’s complex tax rules.
It’s always a good time to revisit your tax strategies and adapt to any changes in your financial situation.
No matter where you are in your financial journey, we’re here to help you plan for a tax-efficient future.
