The marginal tax rate is the rate of tax you paid on the last dollar you earned and is used as an estimate of the tax you pay on the next dollar earned.
The Canadian tax system is tiered or progressive tax system where a higher rate of tax is applied to higher income levels and a lower tax rate is applied to lower income levels. The marginal rates of tax are lower on capital gains and dividends because:
- Only 50% of a capital gain is taxed, and
- Dividends from Canadian corporations have a gross up and tax credit applied.
The marginal tax rate is used to compare the after tax returns of investment alternatives and it is important to look at the marginal rate for the type of income you are evaluating.
Note that the marginal tax rate is not the same as the average tax rate.