Tropes and truths about true tax rates
(Fair warning, extremely long post follows)
It's an old standby of election politics that taxes are too high. No one gets elected promising to raise taxes, and no politician would even risk saying that the current tax rates are generally fair. Questions about details generally get limited play because they aren't easily reduced to soundbites. Do we pay more than people in other developed countries? The federal income tax is progressive, but does that reflect the real burden of taxes in the U.S.? Are our corporate tax rates uncompetitive and likely to drive business elsewhere?
Bruce Bartlett is a former tax policy advisor for the Reagan and Bush administrations and a former senior staff member for Congressmen Jack Kemp and Ron Paul. Since May he's been a regular columnist for the New York Times Economix blog, and he recently wrote two interesting posts regarding the comparative burden of taxes in the United States. Here is the first, and here is the second. He addresses the questions above in both posts. Here is a chart comparing the effective federal corporate tax rate in the U.S. to the same rates in other countries:
As you can see, of the 31 nations in the OECD (Organization for Economic Cooperation and Development, an umbrella economic group for developed nations) the United States is tied with Turkey for the lowest corporate tax revenue percentage of GDP. To be clear, this measures the ratio of revenue from corporate taxes to the GDP, not the theoretical revenue if all corporations paid the statutory tax rate. Corporations, like individuals, can take advantage of an enormous array of tax strategies to reduce their tax burden, and the overall impact of the corporate tax rules in the U.S. is most clearly shown by the actual revenue collected through corporate taxes.
Of course many other factors than taxes establish the "business climate" for a particular nation - the complexity of the tax code, prevalence of official corruption, access to capital, stable and accessible markets, political stability, etc. But it should be clear that at least in the effective corporate tax rate, the United States is at little risk of corporations fleeing to other developed nations for their lower taxes.
What about individuals? David Leonhardt, an economist, columnist and reporter for the New York Times wrote an article in 2010 (seen here) addressing certain myths about individual taxes in the U.S. A common trope of anti-tax crusaders is that nearly half (47% of) the people in the United States pay no taxes at all, and some significant portion of this group actually receive rebates from the government on taxes they didn't pay - in effect earning net income from taxes by using tax credits like the Earned Income Tax Credit. The argument appeals to our sense of justice - we know that the wealthy are subject to a very high tax rate (35% for those earning over $372k per year), and it seems unfair for so many others to pay no taxes at all.
As it happens, the illusory nature of the official tax rate applies for individual taxes as well as corporate taxes. According to the Bartlett article linked above, the top 400 earners in the U.S. (not the 400 richest, but the 400 people who report the most income in a particular year) pay an average effective federal income tax rate of just 18%. For income in the tens and hundreds of millions, these folks pay taxes at approximately the same percentage as that established for people earning between $8k and $33k per year.
But let's parse the 47% number a little more carefully. First, this particular figure comes from two years in which federal stimulus spending substantially expanded the credits, rebates, deductions etc. available to all people filing income tax returns. Second, it depends on how you define "taxes." Net federal tax rates can either include only the income tax, or both the income tax and FICA (for Federal Insurance Contributions Act, or the combined charges for Social Security and Medicare). While the income tax is purely a progressive tax (meaning the more you earn, the more you pay both in absolute and percentage terms) the FICA payroll taxes are a mixed bag. Because the total amount that can be collected in payroll taxes is capped, for wealthy earners (those earning over approximately $180k per year) the proportion of payroll taxes paid relative to total income decreases. In addition, the system of tax deductions and credits is regressive - while itemizing certain expenses and charitable contributions could lead to a much larger total deduction for wealthier taxpayers, two thirds of all tax return filers take the standard deduction of $5,700.
The upshot is that only about 10% of taxpayers in the U.S. pay no net federal taxes. This might still seem unfair, but remember two things - these are the poorest people in the U.S., and there are still state and local taxes to consider.
To track back to international comparisons of tax revenue as a proportion of GDP, the "total effective tax rate" in the U.S. is pegged by the OECD as 24%. That means that 24% of all monetary value produced in a given year is remitted to some level of government in the form of taxes. Again, this rate puts the U.S. at the very bottom of OECD nations - above only Chile and Mexico, in this case, and below virtually every other industrialized nation in the world.
Despite this, as Bruce Bartlett notes in his second post:
So what does the total effective tax burden mean for individual taxpayers? Leonhardt uses those 10% of all taxpayers who pay no net federal taxes as an example. Calculating their total tax burden based on averages of state and local taxes, even those people (again, the poorest people in the U.S.) pay about 14% of their income in taxes. My own state, Vermont, taxes residents at highest rate of any state in the U.S. after Alaska. The 2007 effective rate of 10.6% equates to over $4k in tax revenue for the state per person - meaning both the per cap revenue and the effective percentage are the second highest in the U.S, despite Vermont being square in the middle (25th) in average income per capita. The number of people who escape paying taxes altogether is vanishingly small, and because of the byzantine structure of the tax system the wealthiest of all people nearly always pay a much smaller share of their wealth in taxes than the middle class, and the middle class often pays in at rates similar to the merely wealthy.
It's an old standby of election politics that taxes are too high. No one gets elected promising to raise taxes, and no politician would even risk saying that the current tax rates are generally fair. Questions about details generally get limited play because they aren't easily reduced to soundbites. Do we pay more than people in other developed countries? The federal income tax is progressive, but does that reflect the real burden of taxes in the U.S.? Are our corporate tax rates uncompetitive and likely to drive business elsewhere?
Bruce Bartlett is a former tax policy advisor for the Reagan and Bush administrations and a former senior staff member for Congressmen Jack Kemp and Ron Paul. Since May he's been a regular columnist for the New York Times Economix blog, and he recently wrote two interesting posts regarding the comparative burden of taxes in the United States. Here is the first, and here is the second. He addresses the questions above in both posts. Here is a chart comparing the effective federal corporate tax rate in the U.S. to the same rates in other countries:
As you can see, of the 31 nations in the OECD (Organization for Economic Cooperation and Development, an umbrella economic group for developed nations) the United States is tied with Turkey for the lowest corporate tax revenue percentage of GDP. To be clear, this measures the ratio of revenue from corporate taxes to the GDP, not the theoretical revenue if all corporations paid the statutory tax rate. Corporations, like individuals, can take advantage of an enormous array of tax strategies to reduce their tax burden, and the overall impact of the corporate tax rules in the U.S. is most clearly shown by the actual revenue collected through corporate taxes.
Of course many other factors than taxes establish the "business climate" for a particular nation - the complexity of the tax code, prevalence of official corruption, access to capital, stable and accessible markets, political stability, etc. But it should be clear that at least in the effective corporate tax rate, the United States is at little risk of corporations fleeing to other developed nations for their lower taxes.
What about individuals? David Leonhardt, an economist, columnist and reporter for the New York Times wrote an article in 2010 (seen here) addressing certain myths about individual taxes in the U.S. A common trope of anti-tax crusaders is that nearly half (47% of) the people in the United States pay no taxes at all, and some significant portion of this group actually receive rebates from the government on taxes they didn't pay - in effect earning net income from taxes by using tax credits like the Earned Income Tax Credit. The argument appeals to our sense of justice - we know that the wealthy are subject to a very high tax rate (35% for those earning over $372k per year), and it seems unfair for so many others to pay no taxes at all.
As it happens, the illusory nature of the official tax rate applies for individual taxes as well as corporate taxes. According to the Bartlett article linked above, the top 400 earners in the U.S. (not the 400 richest, but the 400 people who report the most income in a particular year) pay an average effective federal income tax rate of just 18%. For income in the tens and hundreds of millions, these folks pay taxes at approximately the same percentage as that established for people earning between $8k and $33k per year.
But let's parse the 47% number a little more carefully. First, this particular figure comes from two years in which federal stimulus spending substantially expanded the credits, rebates, deductions etc. available to all people filing income tax returns. Second, it depends on how you define "taxes." Net federal tax rates can either include only the income tax, or both the income tax and FICA (for Federal Insurance Contributions Act, or the combined charges for Social Security and Medicare). While the income tax is purely a progressive tax (meaning the more you earn, the more you pay both in absolute and percentage terms) the FICA payroll taxes are a mixed bag. Because the total amount that can be collected in payroll taxes is capped, for wealthy earners (those earning over approximately $180k per year) the proportion of payroll taxes paid relative to total income decreases. In addition, the system of tax deductions and credits is regressive - while itemizing certain expenses and charitable contributions could lead to a much larger total deduction for wealthier taxpayers, two thirds of all tax return filers take the standard deduction of $5,700.
The upshot is that only about 10% of taxpayers in the U.S. pay no net federal taxes. This might still seem unfair, but remember two things - these are the poorest people in the U.S., and there are still state and local taxes to consider.
To track back to international comparisons of tax revenue as a proportion of GDP, the "total effective tax rate" in the U.S. is pegged by the OECD as 24%. That means that 24% of all monetary value produced in a given year is remitted to some level of government in the form of taxes. Again, this rate puts the U.S. at the very bottom of OECD nations - above only Chile and Mexico, in this case, and below virtually every other industrialized nation in the world.
Despite this, as Bruce Bartlett notes in his second post:
"...Former Gov. Tim Pawlenty of Minnesota, a candidate for the Republican presidential nomination, has proposed reducing the top statutory income tax rate on individuals to 25 percent and abolishing the taxation of interest, dividends and capital gains. The Tax Policy Center estimates that this plan would reduce federal revenues by $8 trillion over the next decade.
Governor Pawlenty contends that unprecedented growth will result — to such an extent that there will actually be no revenue loss at all.
I am not picking on Governor Pawlenty; all of the candidates for the Republican presidential nomination support similar policies, and not one has criticized him for making outlandish claims. Rather, I want to emphasize how widespread the view is, at least among Republicans, that Americans are overtaxed."
So what does the total effective tax burden mean for individual taxpayers? Leonhardt uses those 10% of all taxpayers who pay no net federal taxes as an example. Calculating their total tax burden based on averages of state and local taxes, even those people (again, the poorest people in the U.S.) pay about 14% of their income in taxes. My own state, Vermont, taxes residents at highest rate of any state in the U.S. after Alaska. The 2007 effective rate of 10.6% equates to over $4k in tax revenue for the state per person - meaning both the per cap revenue and the effective percentage are the second highest in the U.S, despite Vermont being square in the middle (25th) in average income per capita. The number of people who escape paying taxes altogether is vanishingly small, and because of the byzantine structure of the tax system the wealthiest of all people nearly always pay a much smaller share of their wealth in taxes than the middle class, and the middle class often pays in at rates similar to the merely wealthy.
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