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What is the Marriage Penalty

What is the Marriage Penalty

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Recently we looked at how Charitable Contributions come into play for taxes. In this article, we will look at the “Marriage Penalty” and how painful and unnecessary it can be.

The “Marriage Penalty” refers to paying more taxes after getting married compared to if the couple were to stay single. This is not because the government assesses a fine on you for getting married. Rather it is a result of the graduated tax brackets and the fact that the ranges for married filing jointly status are not exactly double that of single filing status. As a result, a married couple filing jointly gets pushed into higher tax brackets sooner compared to if they were filing separately as single filers. Let’s take a look at an example using 2017 tax brackets and then take a look at how it would change for the new tax regime starting in 2018.

The Assumptions

I will use the following assumptions. These are large, round numbers to illustrate the point. The assumptions are also not inclusive of all possible deductions you could take during the year.

  • Each person in the relationship makes an income of $250,000
  • They max out their 401k each year ($18,000 in 2017, $18,500 in 2018)
  • State income tax is 5%
  • They own a $500,000 home with $350,000 left on the mortgage; the mortgage interest rate is 4%
  • Property taxes are 2% on the $500,000 assessment



Comparing what you would pay in 2017

The assumptions laid out above are input into the table below. We assume that Person 1 takes the property tax and mortgage interest deductions for the property.

Because the Adjusted Gross Income (AGI) of both filers is below the $261,500, there is no phase out of the personal exemption.

Both Persons 1 and 2 itemize their deductions because they are greater than the standard deduction of $6,350 each. Also, because the AGI of both single filers is below the $259,400 maximum, there is no Pease Rule phase out of itemized deductions.

2017 Marriage Penalty

The tax picture changes quite a bit when you look at Persons 1 and 2 filing jointly as a married couple.

Because the Adjusted Gross Income (AGI) of the filers is above the $436,300, there are no personal exemptions.

Deductions are itemized because they are greater than the standard deduction of $12,700. Also, because the AGI is above the $313,800 maximum, the Pease Rule phase out reduces itemized deductions by 2% of AGI above the maximum.

Taken together, you can see that filing jointly as a married couple results in a “marriage penalty” of approximately $12,500. That is some serious leakage.

Comparing what you would pay in 2018

The assumptions laid out above are input into the table below. We assume that Person 1 takes the property tax and mortgage interest deductions for the house. However, the deductions for state income and property taxes is limited to $10,000 under the new tax code.

Personal exemptions have been eliminated for 2018.

Person 1 continues to itemize deductions in 2018, but Person 2 takes the new $12,000 standard deduction.

The Pease Rule for the phase out of itemized deductions has been eliminated for 2018.

Using the tax tables that are currently available it appears that the tax bill for Person 1 will increase slightly and the tax bill for Person 2 will decrease slightly, when they file as single filers.

2018 Marriage Penalty

The tax picture still changes but not quite as much when you look at Persons 1 and 2 filing jointly as a married couple.

Again, personal exemptions have been eliminated for 2018.

Deductions can be itemized or the standard deduction can be taken because they are equal to $24,000 in this example. This is because a cap of $10,000 is applied to the state income and property taxes. The Pease Rule phase reduction of itemized deductions has been eliminated for 2018.

Taken together, you can see that filing jointly as a married couple results in a lesser “marriage penalty” of approximately $4,200. That’st still a lot of leakage (it’s more than two months rent for us!)

Parting thoughts

To avoid the marriage penalty, we know a couple who had a wedding ceremony and reception to celebrate with their family and friends. They did not sign a marriage license, choosing to remain “single” in the eyes of the tax authorities. Since they make ~$500,000 combined each year, they have been spending the ~$12,500 savings each year on a nice vacation with their families.

For us, we are going to pay a similar sized chunk this year, the exact number is TBD. Regardless, it will hurt a lot, and I wish the 2018 rules could apply immediately.

Taxes are one of many expenses you should keep track of during the year. If you’re not withholding enough from your pay statements, the IRS could assess a fine on you.

 

What have been your experiences with the Marriage Penalty?



 

Comment(2)

  1. This is awesome. We ran into this issue when we got married and didn’t realize it until 3 days before our wedding. At the end of the day, it’s more about the marriage than money. Excellent post on breaking down the numbers.

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