Understanding Tax Brackets: How They Work and Their Impact on Your Take-Home Pay

If you’ve ever wondered how much tax you pay in Canada and how it’s calculated, you’ve likely come across the term “tax brackets.” Understanding tax brackets is crucial for managing your finances, especially as it directly impacts your take-home pay. This guide will break down how the Canadian tax system works, provide an example calculation, and show you the effect it can have on your income.

What Are Tax Brackets in Canada?

In Canada, the tax system is progressive, meaning that the more income you earn, the higher the tax rate you will pay on portions of your income. Tax brackets define the income ranges that are subject to different tax rates. These brackets apply to both federal and provincial taxes, although the rates and thresholds differ between the two.

The idea behind a progressive tax system is that people with higher incomes can afford to pay a larger percentage of their income in taxes, while lower-income individuals pay a smaller percentage.

For the 2025 tax year, the federal tax brackets in Canada are:

• 15% on the portion of taxable income that is $57,375 or less, plus

• 20.5% on the portion of taxable income over $57,375 up to $114,750, plus

• 26% on the portion of taxable income over $114,750 up to $177,882, plus

• 29% on the portion of taxable income over $177,882 up to $253,414, plus

• 33% on the portion of taxable income over $253,414

In addition to federal tax, each province has its own set of tax brackets. For instance, Ontario’s provincial tax brackets for 2025 range from 5.05% on income up to $52,886 to 13.16% on income over $220,000.

How Do Tax Brackets Work?

One common misconception is that once your income enters a higher bracket, all your income is taxed at the higher rate. However, this isn’t the case. Instead, only the portion of your income that falls within each bracket is taxed at that specific rate. This is what makes the system progressive.

For example, let’s say your taxable income is $100,000. You don’t pay 20.5% on the entire amount. Instead, your income is split into portions, and each portion is taxed according to the bracket it falls into.

Here’s how it breaks down:

• The first $57,375 of your income is taxed at 15%, so you’ll pay $8,606.25 on this portion.

• The next $42,625 (the amount between $57,375 and $100,000) is taxed at 20.5%, so you’ll pay $8,738.12 on this portion.

Therefore, your total federal tax is $17,344.37.

Next, let’s apply Ontario’s provincial tax to this example. Ontario’s 2025 tax brackets are:

• 5.05% on the first $52,886

• 9.15% on income between $52,886 and $105,775

• 11.16% on income over $105,775

Your provincial tax calculation would look like this:

• The first $52,886 of your income is taxed at 5.05%, which equals $2,670.74.

• The next $47,114 (from $52,886 to $100,000) is taxed at 9.15%, which equals $4,310.93.

Your total Ontario tax is $6,981.67

Total Tax Payable

When you combine both federal and provincial taxes, your total tax bill on a $100,000 income would be:

• Federal tax: $17,344.37

• Ontario tax: $6,981.67

Total taxes = $24,326.04

This means that out of your $100,000 income, you’ll take home roughly $75,673.96 before other deductions like Canada Pension Plan (CPP) and Employment Insurance (EI) contributions.

The Impact on Your Take-Home Pay

Understanding how tax brackets work helps you see the marginal effect on your income. The "marginal tax rate" refers to the rate you would pay on any additional income earned. In our example, if you earned an extra $1,000, that extra income would fall into the 20.5% federal bracket and the 9.15% provincial bracket. This means you would pay $205 in federal tax and $91.50 in provincial tax on that additional $1,000.

Your effective tax rate, however, is lower than the marginal rate because it accounts for all the different rates applied across your income. In this case, the effective tax rate is around 24.33% (total tax of $24,326.04 divided by total income of $100,000).

Tax Credits and Deductions

Tax credits and deductions can further reduce your tax bill. Deductions, like RRSP contributions, reduce your taxable income, meaning less of your income falls into higher brackets. Tax credits, like the basic personal amount, reduce the tax you owe directly.

For 2025, the federal basic personal amount is $16,129, meaning you can earn up to this amount before paying any federal tax. Provincial credits work similarly, further reducing your overall tax burden.

Final Thoughts

Understanding how tax brackets work is key to better managing your finances, planning your savings, and estimating your take-home pay. Whether you're working on a budget, planning for retirement, or considering extra income, knowing your marginal and effective tax rates can help you make informed decisions.

If you're unsure about your tax situation or want to optimize your tax planning, contact our team for expert advice. We’ll ensure you’re taking full advantage of the deductions and credits available to you.