Effective Tax Rate

Because progressive tax systems tax different slices of income at different rates, the rate on your top slice, the marginal rate, does not tell you what share of your whole income you pay in tax. The effective rate does.

For example, under a hypothetical system, someone earning 50,000 might pay nothing on the first 10,000, 10% on the next 30,000 and 20% on the final 10,000, for a total of 5,000. Their effective tax rate is 5,000 divided by 50,000, or 10%, even though their marginal rate is 20%.

The effective rate is useful for comparing tax burdens between people, years or countries, and for understanding how much of total income is really taken in tax.

The term is also used for companies. A company's effective tax rate is its income tax expense divided by its pre-tax profit. It can differ from the official corporate tax rate because of tax credits, deductions, losses carried forward, profits earned in countries with different rates and items treated differently for tax and accounting purposes. Analysts compare effective rates over time and between companies.