Question

The statutory marginal tax rate for income levels between $0 and $100,000 is 25%. The statutory marginal tax rate for income levels above $100,000 is 50%. A family with a child purchases 800 hours of childcare per year. The hourly rate for childcare was $10 in 2022 . Families can deduct childcare expenditures up to $8,000. What is the after-tax income available to the family when the spouse that worked earned $100,000 in 2020 ? What is the effective tax rate (taxes paid over total pre-tax income). What is the after-tax income available when the family earned $200,000 in 2022 ? What is the effective tax rate (taxes paid over total pre-tax income). How does the after-tax price of childcare differ compared to the family with income =$100,000.

Answer 1

The family earning $100,000 has an after-tax income of $77,000 and an effective tax rate of 23%. The family earning $200,000 has an after-tax income of $127,000 and an effective tax rate of 36.5%. The higher earning family has a larger tax saving on childcare due to a higher marginal tax rate.

Step-by-step explanation:

The statutory marginal tax rate is used to calculate the taxes owed on the last dollar of income. For a family earning $100,000, with a tax rate of 25% on income up to that amount, the total tax without deductions would be $25,000. However, with the given childcare expenditure deduction of $8,000, their taxable income becomes $92,000, which results in a tax payment of $23,000. Thus, the after-tax income is $77,000. The effective tax rate is calculated as taxes paid over total pre-tax income; $23,000/$100,000, which equals 23%.

For a family earning $200,000, the tax calculation is slightly more complex due to the progressive system. The first $100,000 is taxed at 25% ($25,000), and the remaining $100,000 is taxed at 50% ($50,000), which equals a total tax of $75,000. After the $8,000 deduction for childcare, the taxable income becomes $192,000, yielding a tax payment of $73,000. The after-tax income is $127,000. The effective tax rate is $73,000/$200,000, resulting in 36.5%. It reveals that as income increases, both the after-tax income and the effective tax rate rise.

The after-tax price of childcare for the family earning $200,000 is influenced by their higher marginal rate. While the deduction remains constant, the higher tax rate effectively means they save more on their taxable income by making the same childcare expenditure. The family with $200,000 income saves $4,000 in taxes (50% of $8,000), while the family with $100,000 income saves $2,000 in taxes (25% of $8,000), thus impacting the after-tax cost of childcare for the higher earning family.