Why Saving Tax is All about Marginal Tax Rates (Almost)
Saving tax is all about marginal tax rates – almost. When you split, defer, offset, offshore or hide income to save tax – whether this is actually worth the effort depends on marginal tax rates.
2024 Tax Brackets
If you are an Australian tax resident, your 2025 marginal tax rate comes from these five brackets, until there is another change:
- 0% for your first AUD 18,200
- 16% for AUD 18,201 to AUD 45,000
- 30% for AUD 45,001 to AUD 135,000
- 37% for AUD 135,001 to AUD 190,000
- 45% from AUD 190,001
Marginal Tax Rate
Your marginal tax rate is the tax rate of the highest tax bracket you hit. Any additional income will be taxed at this marginal tax rate until you hit a new bracket.
You only ever have one marginal tax rate. ONE. Not more and not less. And it is always one of these five – 0%, 16%, 30%, 37% or 45%. Unless tax rates change, of course.
Everybody with an Australian tax file number has a marginal tax rate. Even if you have no income, you have a marginal tax rate. It just happens to be nil if your income is nil.
Income v Marginal Tax Rate
Reducing your income reduces your tax debt. But it doesn’t necessarily reduce your marginal tax rate. Why?
Because marginal tax rates move in jumps from bracket to bracket. So if your income changes within a tax bracket, there is no change to your marginal tax rate.
Let’s say your actual income is AUD 300,000 and now you move AUD 110,000 to your adult children via a discretionary trust. You save tax but your marginal tax rate doesn’t change.
But if your income drops further below AUD 190,000, then your marginal tax rate does change since you now hit a different tax bracket.
Tax Strategy
Why is saving tax all about marginal tax rates (almost)? The answer is about tax arbitrage. The gap between different marginal tax rates.
There are nine ways to save tax and all nine have something to do with marginal tax rates. Not always 100% exclusively, but marginal tax rates are there in all of them.
Summary
So this is why saving tax is all about marginal tax rates (almost). The higher your marginal tax rate, the more you benefit from moving income to lower marginal tax rates and expenses and losses to higher marginal tax rates.