To calculate the tax rate, you divide actual taxes paid by pre-tax income (EBT). Which type of tax rate is described by this formula?

• A. Effective Tax Rate
• B. Marginal Tax Rate
• C. Average Tax Rate
• D. Cash Tax Rate

Answer: (A)

The main idea is the overall tax burden on earnings. When you take the taxes recognized in the period and divide them by pre-tax income (EBT), you get the effective tax rate—the true share of earnings that goes to taxes after accounting for deductions, credits, and other tax planning effects. This differs from the marginal tax rate, which is the rate applied to the next dollar of income and says nothing about the total tax bite already incurred. It can also differ from a cash tax rate, which would use actual cash taxes paid; timing differences and deferred taxes can make cash taxes diverge from the amount reported as tax expense. So the ratio of tax expense to pre-tax income is the standard measure of the tax burden, i.e., the effective tax rate.