Answer:
1. Taxpayer O earns $450,000 after-tax income over the 10-year period.
Taxpayer P earns $414,000 after-tax income over the same period.
2. Taxpayer O's average tax rate for the 10-year period = 10%
Taxpayer P's average tax rate for the 10-year period is 17.2%
Explanation:
a) Data:
Percentage Rate Bracket
6% Income from –0– to $30,000
10 Income from $30,001 to $70,000
20 Income from $70,001 to $200,000
28 Income in excess of $200,000
b) Taxpayer O:
Annual earnings = $50,000 from year 1 to year 10
Total income = $500,000 ($50,000 * 10)
Tax bracket = 10%
After-tax income = $500,000 * 90% ( 100 - 10%)
= $450,000
Total Tax Liability = $50,000 ($500,000 * 10%)
Average tax rate = 10%
c) Taxpayer P:
Annual earnings = $20,000 from year 1 to year 5
and $80,000 from year 6 to year 10
Total earnings = ($20,000 * 5) + ($80,000 * 5)
= $500,000
After-tax income for 5 years = $100,000 * 0.94 (1 = 0-06)
= $94,000
After-tax income for another 5 years = $400,000 * 0.80 (1 - 0.2)
= $320,000
Total = $414,000
Total tax liability = $86,000 ($500,000 - 414,000)
Average tax rate = $86,000/$500,000 * 100 = 17.2%
