Odessa Parks
customer service rep
income $35,363
effective average federal tax rate 7%
(income & payroll tax combined)
effective marginal federal tax rate 82%
(income & payroll tax combined)
Odessa Parks is divorced and lives with her son and daughter. Odessa pays for all the household expenses, all the support of her children, and most of the support for her elderly mother, Angie, who also lives with them.
Odessa earned $30,612 as a customer service rep and she also collects Social Security widow's benefits of $8,250 based on her first husband's earnings record. She had no other income.
Her complete annotated Intake and Interview form and tax documents are available here.
Her filing status is Head of Household (HoH), due to the fact that she pays more than half of the cost of keeping up the home for herself and at least one qualifying dependent. She can claim four exemptions on her return, one for herself, two for her Qualifying Children (QC) Corey and Asia, and one for her Qualifying Relative (QR), Angie. She will also be able to claim her two children as "Qualifying Children" for Earned Income Credit and for Child Tax Credit.
Before entering the data into TaxWise, I recommend making up a rough pro forma estimate of what the 1040 will look like, which you can use later as part of the quality review. You can see that pro forma estimate here.
Her actual tax return is here.
Odessa's total income on line 22 is $35,363.
She had no above-the-line deductions ("adjustments"), so her adjusted gross income on line 37 is also $35,363.
Her HoH standard deduction is $8,400 and she can also subtract the value of her four exemptions (4 x $3,650 = $17,300) from her AGI to compute her taxable income of $12,363.
The first $11,950 of her income is taxed at 10% and the remaining $413 is taxed at 15%, yielding a tax on line 42 of $1,259.
But...as they say on late night TV, "Wait! There's more!"
She is entitled to $2,000 in child tax credit. The first $1,259 of that credit wipes out her tax liability down to zero, so we enter that in line 51 as a "nonrefundable credit."
Her tax liability is now zero.
But, again as they say on late night TV, "Wait! There's more!"
She qualifies for the remaining $741 as a refundable "Additional Child Tax Credit" on line 65. She also qualifies for $400 in the refundable Making Work Pay Credit and $1,050 in refundable Earned Income Credit, making her tax liability AFTER credits equal to NEGATIVE $741 + 400 + $1,050 = NEGATIVE $2,191.
Thus, Odessa's effective average federal income tax rate is negative $2,191/35,363 = -6%.
If we consider her payroll tax (FICA contributions for Social Security and Medicare) as well, and use the standard CBO assumptions about payroll tax incidence, her total federal effective average tax rate is actually a positive 7%.
Her marginal federal tax rate is far higher than her average federal tax rate.
To see that, let's imagine she got an additional thousand dollars worth of income. If that income came in the form of wages, her total federal tax bill (income and payroll tax combined) would increase by about $820, giving Odessa an effective marginal tax rate of 82%!
As we talked about in class last week, Odessa's effective marginal tax rate is well above her statutory marginal tax rate for several reasons: 1) she is on the phase-out portion of the Earned Income Credit schedule, so her EIC goes down as her income increases and 2) the amount of her taxable Social Security income increases as her other income increases.
Other taxpayers will often have effective marginal tax rates that differ a good bit from their statutory marginal rates--in both directions. We will talk about this more in class.
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