Statutory Tax Rate

Published on :

21 Aug, 2024

Blog Author :

Edited by :

Reviewed by :

The statutory tax rate refers to that rate imposed on an individual's taxable income falling under a predefined government tax bracket within a tax area. It serves as benchmark rates formulated by the government to tax corporations and individuals while acting as comparison standards for corporation tax rates.

It aids in generating revenue for government programs for essential activities like healthcare, education, and infrastructure. Moreover, it helps to promote economic activity, like incentivizing green energy or encouraging investments in a region. Progressive taxes having tiered statutory rates try to ensure just contribution per income level.

What Is Statutory Tax Rate?

A statutory tax rate is a rate applied to taxable income that falls inside a predetermined government tax bracket within a tax region.
It functions as the government's benchmark rate for taxing people and corporations, providing a baseline by which corporation tax rates are measured.
Hence, it is a government-set legal percentage contrasting with the effective tax rate, representing the actual percentage paid on total income by individuals and corporations.
It signifies the percentage in specific tax brackets as per law, while the marginal tax rate reflects the tax paid on each additional dollar, influencing economic incentives.

Statutory Tax Rate Explained

A statutory tax rate is defined as the maximum official tax percentage set up by law applicable to taxable income. This is based on a particular tax bracket and income group for individuals and corporations. The tax bracket is the highest tax rate for which a corporation or an individual qualifies.

It is needed to provide constrained information on the fairness and simplicity of the tax system. Every taxpayer has to pay lesser average tax rates below it. Moreover, statutory rates help in determining effective marginal tax rates. Besides, it cannot be accurately said that statutory taxes never reflect the overall tax burden or precise metric of taxes paid for higher income. However, these rates have often been raised in tax reform discussions. Statutory rates provide little information regarding economic subsidies formed by the tax code. The United States corporate statutory tax rate is 21%; however, these changes are as per the laws and implications.

Under the US statutory tax rate or federal statutory tax rate framework, statutory rates have been made to follow a progressive system. Hence, this means lower taxes for low-income and higher taxes for higher income. It also means that income falling under each tax bracket faces the rate prevalent in that tax bracket only. Hence, almost all tax returns filed get in the lower tax slabs.

Furthermore, most of the taxpayers experience the vast difference between their average tax rates and marginal tax rates. Consequently, taxpayers within higher tax slabs face an effective marginal rate, which is quite higher than their statutory rate. So, there is a smaller difference between statutory rates and effective marginal rates. It happens because of numerous provisions like phase-outs, phase-ins, and floors.

Examples

Let us use a couple of examples comprising real and imaginary to understand the topic.

Example #1

Let us assume that in the fictional city of Harmonyvilla, there lives a talented florist named Alex who falls under the middle-income tax category. For his income category, the statutory tax rate is 20 percent of the annual income of 2023. During the 2023 fiscal year, Alex earned $80000 from floral sales conducted through cash and online transactions. Hence, at the end of the fiscal year, Alex calculated the statutory income tax to be :

20% of annual income = 1/5 * $80,000= $16,000

Therefore, Alex had to pay $16,000 as statutory tax to the government, making him happy to contribute towards the welfare of the nation.

Example #2

As per a news report published on CNBC on Nov 9, 2023, the IRS has announced a higher federal income-tax bracket for all in 2024. It has increased the income limit for everyone's tax bracket. As a result, married couples earning jointly over $731,200 and individuals earning more than $609,350 will have to pay an increased tax rate of 37 percent.

It also stated that the standard deduction has also increased in 2024 to $29200 from $27,700 in 2023 for married couples, whereas individual taxpayers have to pay $14,600 instead of $13,850. Besides, low to moderate-income payers can earn higher income tax credits to a maximum of $7,830.

Statutory Tax Rate vs Effective Tax Rate

Both play an important role in tax collections & payment, albeit some differences as listed below:

Statutory Tax Rate	Effective Tax Rate
The government sets the legal percentage of tax payments.	Percentage of actual tax paid on total income of individuals and corporates.
Applicable to all eligible taxpayers.	Calculated only after-tax bills are adjusted by tax credits
Relies on a fixed percentage of gross income	Adjustable by virtue of considerations of tax deductions and credits.
Offers standard rate related to taxation	Represents the actual tax burden considering the tax burden
Varies from time to time as per government policy	Frequently changes due to adjustments in credits and deductions.
Any change affects all segments of corporates and individuals	The wealthiest benefit more from effective tax rate reductions.
In the long term, it has decreased significantly.	Already lower in value but may fall more because of innovative tax strategies.
Affects the Rich and the poor equally.	Only large corporations and wealthy individuals have benefited from it.
Based on tax law, taxable income is defined.	Calculated upon earned/unearned individual income or pretax-profits of corporation
Inaccurate representation of the tax burden	Provides a realistic tax burden

Statutory Tax Rate vs Marginal Tax Rate

The difference between the two, as listed below, arises out of complex phase-outs and -ins:

Statutory Tax Rate	Marginal Tax Rate
Percentage of tax applicable in specific tax brackets as per law.	Tax paid per additional dollar income affecting economic incentives
Calculated on the fixed percentage of tax by law	Depicts extra tax paid per extra dollar of income.
Acts as standard taxation rate.	It affects taxpayer's subsidies by seeking and reporting extra income.
Applies to taxable income under the law.	Shows results of changing tax policies impacting economic decisions.
Generally, it is a straightforward tax regime.	A complex and variable rate due to phase-ins and phase-outs.
Provides clarity on tax burden	Makes the understanding of economic incentives offered by tax codes too complex

Frequently Asked Questions (FAQs)

1. How to calculate the statutory tax rate?

Governments provide various tax slabs where a certain percentage has been assigned to be calculated over the income and deducted from the corporate's and individuals' income. It differs from individual to individual as per the tax category they fall in. Federal and state tax laws may have different percentages of income.

2. What are the negatives of the statutory tax rate?

Its negatives are:
1. It does not reflect the actual tax paid by an entity or individual.
2. These seem high for many, leading to finding routes to reduce or avoid taxation.
3. Moreover, at times, it may negatively affect the economy if it is not found business-friendly by corporates.

3. What effect do new technologies like cryptocurrencies and blockchain have on statutory tax rates?

Emerging technology taxation can be complicated. In order to handle the special qualities of these technologies, jurisdictions may create particular statutory tax rates or guidelines.