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What is a "Tax Torpedo" in Tax Clarity?

A tax scenario your client may face in which the marginal tax rate they pay on their income exceeds their statutory tax rate.

Within Tax Clarity reporting, the Tax Map often highlights sharp increases in the Effective Marginal Rate (EMR) at specific income levels. For example, consider a married couple over age 65 receiving $90,000 in combined Social Security benefits, $30,000 of net long-term capital gains, and $50,000 of Required Minimum Distributions (RMDs). Given this mix of Social Security, capital gains, and RMD income, the EMR rises dramatically at certain thresholds—illustrating the well-known “Tax Torpedo.”

55.95% How did that happen?

Impact of $1,000 IRA Withdrawal Tax Rate Additional Tax
$1000 IRA withdrawal 12% $120.00
Causes $850 Social Security taxation 12% $102.00
Causes $1850 Capital gains taxation 15% $277.50
Phase-out $222 of Additional Senior Deduction  12% $26.64
Pushes another $222 Capital gains into taxation 15% $33.30
Total Tax Burden on $1000 IRA withdrawal   $559.44

The Details tab in Tax Clarity will also show this information in a Base Case vs Scenario output:

Based on the example above, there are several key items to review in the calculated fields. First, note that Adjusted Gross Income (AGI) increases by only $1,850. At the same time, deductions and exemptions are reduced by $222 due to the phase-out of the temporary senior deduction.

The total amount of capital gains shifted from the 0% bracket to the 15% bracket is $2,072. This consists of $1,850 of capital gains becoming taxable as a result of the $1,000 IRA withdrawal and the associated increase in taxable Social Security, plus an additional $222 of capital gains pushed into the 15% bracket due to the deduction phase-out.

AGI increases by only $1,850 because the capital-gain bracket shift and the loss of deductions affect taxable income, not AGI. These interactions create a disproportionate increase in taxes relative to the change in AGI—an example of the Tax Torpedo effect.