The Truth About Taxes and Redistribution
Do the rich pay their fair share?
Editor's Note: Reason columnist and Mercatus Center economist Veronique de Rugy appears weekly on Bloomberg TV to separate economic fact from economic myth.
Myth 1: The wealthy aren't paying their fair share.
Fact 1: The wealthy disproportionately fund the United States federal government.
As you can see, the top earning 1 percent of Americans (or 1.4 million returns making more than $380,000) paid 38 percent of federal personal income taxes. However, they made only 20 percent of income. The top 5 percent of income earners pay almost 60 percent of income taxes and make almost 35 percent of all personal income. The Americans at the lower half of the income spectrum (or 70 million returns) paid 2.7 percent of the total. This chart also shows that roughly half of taxpayers pay for almost all of the federal personal income taxes.
It means that the income tax in America is extremely progressive.
This week, E.J. Dionne's Washington Post column quoted writer David Cay Johnston: "The effective rate for the top 400 taxpayers has gone from 30 cents on the dollar in 1993 to 22 cents at the end of the Clinton years to 16.6 cents under Bush. So their effective rate has gone down more than 40 percent."
In fact, the top 400 aren't a static group. There's lots of income mobility in and out of the "top 400" every year, and most of their income is due to highly fluctuating capital gains (which is taxed lower than ordinary income). IRS data for the top 400 over a 15-year period show that 72 percent of them appeared only once. A little more than 12 percent appeared twice and a little over 15 percent appear three times or more. Trying to fine tune tax policy to attack the "top 400" will only tax different people tomorrow than are there today.
Myth 2: Top earners in the United States are millionaires.
Fact 2: Only 2% of the top 10% of earners are millionaires.
When Americans think of the top earners in the United States, they often overstate the earnings of those with the highest reported earnings. The top 10 percent of United States tax returns report $114,000 in earnings, the top 5 percent of households report $169,000 in earnings, and the top 1 percent report $380,000.
Furthermore, these earnings should be taken in their geographic context. This chart shows what a worker would need to earn in each of 5 different cities in order to maintain the same standard of living as a person living in DC making $250,000.
As we can see, it takes roughly $170K in Kansas or Georgia to have the standard of living of someone making a $250,000 in Washington DC. However, to have that standard of living in New York, you need almost $400,000.
Myth 3: All Americans pay income taxes.
Fact 3: An estimated 45% of Americans will pay no federal income taxes this year.
According to the Tax Policy Center, this tax season, an estimated 45 percent of tax units will pay no federal income taxes. In 2009, federal non-income taxpayers were distributed throughout the earnings spectrum, with 26.3 percent of tax returns reporting less than $10,000 paying no income tax, 29.1 percent of those making between $10,000 and $20,000 paying no income tax; the remaining 44.6 percent of Americans not paying income taxes were distributed throughout all cash income levels.
Myth 4: The key to our deficit problems rests in our ability to increasing the top marginal tax rates leads to increased tax revenues
Fact 4: From 1930 to 2010, tax revenue collection in the United States has never topped 20.9 percent, averaging 16.5 percent of GDP over these 80 years—despite drastic fluctuations in the rate of taxes on the wealthiest Americans.
This chart shows the historical path of federal taxation as a percentage of GDP using the earliest records available from the Office of Management and Budget and top marginal tax rate data from the Tax Policy Center. In red, the historical path of the highest marginal income tax rates (right axis), in green, historical federal revenues as percentages of GDP (left axis). From 1930 to 2010, tax revenue collection in the United States has never topped 20.9 percent of GDP, averaging 16.5 percent of GDP over these 80 years.
This comes despite the drastic historical fluctuation in the rate of taxes on the wealthiest Americans.
During the time period examined above, the rate of income taxation on the highest earning Americans has fluctuated drastically, from 25 percent of income in 1930 to 92 percent of income in the early 1950's. Despite these vast differences in these top marginal rates, the total percentage of GDP the federal government has collected in revenue has changed little.
The bottom line is that any claim that the revenue problems could be solved by raising revenue as a percentage of the economy above 19 percent is unrealistic. Also, raising the top marginal rates has never proven to generate sustainable increase in revenue.
Contributing Editor Veronique de Rugy is a senior research fellow at the Mercatus Center at George Mason University.