Broker Check

Is "Tax Logic" an Oxymoron or a Paradox?

April 22, 2022

An oxymoron is a combination of words that have opposite meanings.1 A common example is “giant shrimp.” In fact, it may be possible to have a one-word oxymoron such as “bittersweet” or “spendthrift.”4

In contrast, a paradox is a statement that says two opposite things, each of which may be true.2 An example of a paradox from the Merriam-Webster dictionary: the actor’s goal is to produce real emotion, on cue.3 Another example might be statements like: “deep down, you’re really shallow” or “if I know one thing, I know nothing.”8

By posing the “tax logic” question in the title, an inference may reasonably be drawn that I believe our tax system may not be intuitive or logical. To help address the tax logic oxymoron-paradox enigma, we need to make sure we’re on the same taxonomy wavelength. When discussing income taxes and referring to your tax rate or tax bracket, it’s important to know whether we’re talking about your marginal tax rate or your effective tax rate?

  • The marginal tax rate is the tax rate on each additional dollar of income. Here’s where the statutory tax brackets come into play. In 2021, if your federal taxable income was between $40,526 and $86,375 as a single filer, you’re in 22% marginal federal tax bracket. Your marginal tax rate on the next dollar of income would be 22% - unless of course it increases your taxable income to $86,376, in which case your marginal tax rate on the next dollar of income would be 24% as you enter the next tax federal income tax bracket.5
  • Your effective tax rate is more of a blended number. It refers to the percentage of your income that you pay in income tax6. If our single taxpayer in the example above has a 2021 federal taxable income of $80,525 may pay a federal income tax $13,464.7 Dividing the total tax ($13,464) by the taxable income ($80,525) results in an effective rate of 16.52%. This is a very different number from the marginal tax rate of 22% or possibly 24%.6

Many of us (if not most of us) may assume that as our federal taxable income increases, so does our federal income tax, effective and marginal tax rates. In addition, it might not be unusual to also assume that these increases occur with a high degree of correlation among them. It would be nice if our income tax system was this simple.

A hypothetical retired male single taxpayer has taxable income of $42,275 ($38,000 from IRA distributions and $25,000 Social security income) and is in the 22% marginal tax bracket. He needs to take an additional $1,000 from his IRA.  Instead of an expected $220 additional tax (at his 22% statutory marginal tax rate), he actually experiences an additional $407 of tax. This illogical outcome is a result of tax technicalities in the way Social Security benefits are taxed.

  • The level of Social Security tax depends on a calculation of “provisional income,” which in our retiree’s case would include his IRA income and 50% of his Social Security benefits. For our hypothetical single taxpayer, this means that up to 85% of his Social Security may be taxed at his marginal rate.9
  • Refiguring hypothetical taxable income after making the additional $1,000 withdrawal, our taxpayer’s taxable income may increase by the $1,000 withdrawn and by an additional $850 of taxable Social Security benefits. That’s a total of $1,850 of taxable income taxed at 22% resulting in $407 of tax on account of the $1,000 IRA withdrawal.  It represents a 40.7% marginal tax rate on that $1,000 of extra income.14

Many financial professionals have referred to cases where you might face a marginal tax rate that exceeds your statutory tax rate as a “tax torpedo.”13 What about other types of situations where additional income may have unintended consequences? 

  • Additional income may cause the imposition of, or an increase in, the Income Related Monthly Adjustment Amount (IRMAA) increasing the cost of Medicare Part B and Part D premiums for Medicare recipients.12
  • Additional income may cause a phase-out of some tax benefits such as the Qualified Business Income (QBI) deduction11 and Alternative Minimum Tax (AMT) exemption.10
  • We haven’t even considered the potential impact of additional income on state income tax.

The risk of falling prey to the types of situations referred to above may be higher than you think, especially where a coordinated withdrawal strategy has not been designed or where a tax professional is not consulted in advance of a specific withdrawal decision to assess its impact.

So, regardless of whether “tax logic” is an oxymoron or a paradox, we know that the federal income tax calculation is complicated and that its influence may be felt far beyond the tax return itself. The existence of this outsized influence may not be top of mind for many taxpayers. We, at the Family Wealth Decisions Group, believe that a holistic understanding of income tax impacts on investing, retirement, spending and planning decisions should be a core consideration.

We are happy to discuss this subject further, just ask*. Remember we are here to help.

  13. Reichenstein, William, and William Meyer. 2018. “Understanding the Tax Torpedo and Its Implications for Various Retirees.” Journal of Financial Planning 31 (7): 38–45.
  14. See for a more complex calculation example:


*The Family Wealth Decisions Group does not provide tax or legal advice. Always consult a qualified tax or legal professional where such advice is needed before taking any action.