How to Calculate (or Estimate) Your Income Tax Owed

At the end of each tax year, most people enter their income and tax information into a tax service website and either celebrate getting a refund or curse having to pay even more in taxes. Wouldn’t it be nice to know how much you'll actually owe in taxes and avoid the year-end game of tax roulette?

In this article, you’ll find out how to calculate or estimate your income tax owed. That way - come tax time - there won't be any unnecessary surprises!

How to Calculate Your Income Tax

Calculating your income tax is easier than you might think. It can be done in these 6 simple steps:

Determine gross income
Calculate adjusted gross income
Select deduction (standard vs. itemized)
Calculate your effective tax rate
Apply tax credits
Determine your taxes owed

While 6 steps may seem like a lot, they are fairly simple, and you already have most of the information you need to complete them.

Determine Your Gross Income

Your gross income is a combination of all the taxable income that you earn throughout the year. Gross income is typically broken up into two categories:

Earned income – this includes your salary, tips, commissions, and any bonuses you earn.
Unearned income – this includes income from sources other than where you work, including income from dividends, capital gains, alimony, gambling winnings, etc.

It’s important to consider all forms of earned income when you calculate your gross income, as this is the basis for all further calculations. However, you should only include taxable income. Certain things like inheritances and child support are not taxable.

Calculate Adjusted Gross Income

You actually aren’t taxed on your gross income. There are certain deductions you can take in order to reduce what gets taxed by the government. Your gross income minus these deductions equals your adjusted gross income (AGI).

Some of the deductions that go into calculating your adjusted gross income include:

IRA contributions
Self-employment tax
Qualified moving expenses for members of armed forces
Student loan interest
Alimony paid

Knowing your AGI is extremely important because it’s what determines if you are eligible for further deductions or credits.

Select Deduction Type

After determining your AGI, you’ll have an additional opportunity to further reduce your taxable income. At this point, you’ll need to choose one of the following options:

Standard deduction – a blanket deduction you can take regardless of how many deductions you qualify for. In 2023, the standard deduction for single filers is $13,850 and $27,700 for joint filers.
Itemized deductions – allows you to claim each individual deduction that you qualify for in lieu of the standard deduction.

You should itemize deductions if your allowable itemized deductions are greater than your standard deduction. Some of the allowable itemized deductions you can take include:

Property taxes
State and local income taxes
Medical and dental expenses that exceed 7.5% of your AGI
Mortgage interest
Charitable contributions
Casualty and theft losses

Remember that you have to choose to either itemize your deductions or take the standard deduction. You also can’t itemize your deductions if you file as married filing separately, and your partner opts for the standard deduction. (You must take the same deduction type.)

Calculate Your Effective Tax Rate

The amount you'll pay on taxes is based on a blended rate. This means that even if you reach the highest tax bracket there is, you won't be paying the same tax rate on all of your income. There are two different types of tax rates that you should be aware of:

Marginal tax rate – the tax you’ll pay on the last dollar of your taxable income (i.e., the highest tax bracket you reach).
Effective tax rate – the average rate you’ll pay on your taxes based on all of your income.

Your effective tax rate is what determines how much you’ll actually pay in taxes. You can calculate your effective tax rate by dividing the total tax you pay in a year by your taxable income (your AGI).

Here is an example for someone who earns a $40,000 salary in 2023:

The first $11,000 of their income will be taxed at a 10% rate (which equals $1,100). The remaining $29,000 will be taxed at a 12% rate (which equals $3,480).

Between the two tax brackets, they’ll pay a total of $4,580 in taxes. When you divide $4,580 by $40,000, you get 11.45%. Therefore, their effective tax rate will be 11.45%, while their marginal tax rate will be 12% (the highest rate they're taxed at).

To learn the marginal tax rates for your income in 2023, click here.

Apply Tax Credits

After calculating your taxes owed, there is still one last opportunity to reduce what you’ll eventually pay to the government. If you qualify for any tax credit available in a given year, those credits can be directly applied to the taxes you owe.

Some of the most common tax credits include:

Earned Income Credit
American Opportunity Credit
Lifetime Learning Credit
Child and Dependent Care Credit

Click here to learn more about higher education tax credits. If you have kids, you can learn more about the credits you could be eligible for here.

Determine Your Taxes Owed

Once you apply the tax credits you're eligible for, you’ll finally have the amount of taxes that you'll owe the government in any given year. Then, you can compare it to the taxes that have already been taken out of each paycheck (you can annualize this by taking the amount of federal taxes taken out of your paycheck and multiplying that by the number of paychecks you get each year).

If you’ve paid more in taxes than your calculated number, you can expect a refund. However, if you paid less than what is owed, then you’ll need to pay the government additional taxes at the end of the year.

Keep Track of Your Taxes throughout the Year

Even if you're a salaried employee, your taxes can vary month-to-month depending on financial and life decisions that you make throughout the year. If you’re relying on your own calculations to determine how much to pay in taxes, you should keep track of how these changes could impact your tax rate.

Better yet, avoid tracking your taxes throughout the year by becoming a FileSmart member! As a member, you’ll be able to ask our team of tax experts up to five questions each month to understand how your decisions could impact your taxes. Then, at the end of each year, you’ll have access to our tax filing software to make filing taxes a breeze.