Taxes--Things I Never Knew

I haven't found a good calculator out there that figures out your effective tax rate yet (I may try to create a code for one if I get ambitious), so I did it by hand:

I made $41,962 last year. Roughly $600 of it was in interest income! Gotta love those high rates (but it's oh so sad when they decrease).

It's crazy, because you not only have the federal and state taxes, but also Medicare, Social Security, and in the state of California, CA State disability insurance. So while my federal tax rate is a measly 11.28%, my overall effective tax rate was almost 24% last year.

Here's how it breaks down:

My Flexible Savings Account for medical expenses like prescription copays is not taxed. Nor are medical insurance premiums. These amounts are taken straight off the top.

Medicare takes a flat 1.45% out of your paycheck (minus FSA and medical insurance premiums)--meaning, no matter how much you put in your 401K, they still tax the whole amount you make by 1.45%. There is no income cap or contribution limit, they can tax you all day long and you can't do a dang thing about it.

Social Security tax adds another 6.2% to your effective tax rate. so far, the tax rate totals 7.65%--not even counting your federal and state taxes yet! My sister and father actually benefit from this one, as they are both on disability, so I just pretend the money is going to them. The income cap is $102,000 for 2008, meaning of a salary of $103K, $102K is taxed for social security at a rate of 6.2%. This one is also straight off the top--401K contributions are also taxed. It must be nice for those that make more than $102K and actually see the benefit of the cap. Hrmph.

In California, we add another 0.6% into the mix for the state disability insurance (CA SDI). It increased to 0.8% for 2008, and the income cap on this one is $86,698 for 2008. 401K contributions are taxed.

So, at this point, 8.25% of my 2007 income WITH 401K contributions is gone through taxes!

In 2007, I paid roughly 4.2% of my income to the state of California for income taxes. Thankfully, my 401K contributions are not counted as income in the state of CA--apparently this is not always the case in other states. They operate on a tiered income tax bracket, much like the Federal tax system.

And, finally, the Feds took 11.28% of my hard-earned money to pay for the Iraq War.

In total, I calculated that 23.7% of my money went to various taxes. This percentage doesn't include medical insurance premiums, so I actually got paid much less than the remaining 76.3%.

Basically, I feel that the financial industry lied to me--or I didn't do my homework. I realized:

1) My 401K contributions are NOT "PRE-TAX." Argh. I wish it wasn't in the literature as such so much. I still have to pay CA SDI, SS, and Medicare taxes on them RIGHT NOW. This makes the Roth an even more attractive option for me. I do get out of paying state income taxes on the contributions, though. I guess a good strategy is to move to a state with no state income taxes and a low sales tax when I retire. Also, a question to ask is, "Do I pay SS and Medicare and CA SDI when I start taking money out of my 401K?"

2) My FSA and medical insurance premiums are completely tax-free. This is nice.

As a quick comparison, the 2007 tax rate in New Zealand is 19.5% for every dollar up to $38K, and 33% for every dollar between $38K and $60K. No idea if they do, like, province or city or local taxes, but using that criteria, my effective tax rate in New Zealand would have been less than 21% in 2007 (I did not convert US $ to NZ $)...and they have a MUCH better health care system, from what I've heard.

Also, they levy some sort of tax (1.3%) to pay for their version of national disability insurance, run by the government's "Accident Compensation Corporation," which supports citizens, residents, and temporary visitors who have suffered accidental injuries (like in car wrecks, trips, slips, falls...I guess the only thing this doesn't cover is long term illnesses like diabetes or cancer). Up to 80% of your previous salary is paid out after you've been out of work for a week, the cost of treatment is paid, and even home or vehicle modifications for the seriously injured are paid for (info from Wikipedia). So my final tally for NZ would STILL be lower, at 22%--and I would have disability insurance and a better health care system at my disposal. Perhaps Muirie and other NZ readers can help me out with the fine details there (like how hard it is to get the accident coverage, and other taxes you pay over there).

New Zealand is looking ever more attractive in this light.