Tag Archives: income tax

04.16.2013 | Income Tax History: Timeless Issues

In 1789, Benjamin Franklin said that “…in this world nothing is certain but death and taxes.” With taxes, we can also be certain that the system will be complex and people will question its fairness.

Complexity:

Because professional athletes pay taxes in many of the places they’ve played, they have to navigate a tax maze. Any hockey, baseball or basketball player who had games in Pennsylvania paid taxes based on a ratio between total games played (including pre- and post- season) and games in the state. Athletes who played in Michigan have the same ratio but without the pre-season. For football players who had Pennsylvania games, the ratio compares total days worked. Meanwhile, Pittsburgh’s 3% tax for the games played there can be offset with a federal deduction. In addition, there are reciprocity deals where paying tax in one state like Pennsylvania (a 3.07% rate) means not paying in NJ (8.97%) or Indiana (3.4%).

You can see where this story is going. Not really about athletes, it is all about a complex tax system. While the first 1040 form in 1914 had a single instruction page, the current one has 189 pages. Add to that the different state regulations and the average person devotes 27 hours annually to tax preparation.

100 years ago, on February 25th, the 16th Amendment to the US Constitution legalized an income tax. Implementing the tax, the House passed legislation during May that was signed by President Woodrow Wilson in October, 1913. That bill was 14 pages long. As for rates, the maximum was 7% on incomes over $500,000 and 1% for those at $3,000 (equal to $69,649.80 today). The forms? The first 1040 form was 3 pages long. Still though, even then, there were deductions and loopholes.

Fairness:

Before that first federal tax was passed, many thought the tariffs that had been providing most federal revenue were unfair. Consumers were bearing the burden, domestic manufactures were protected, and prices were higher than they might have been. During the 1920s, the debate centered on tax rates with Treasury Secretary Mellon saying that high income tax rates ”kill the spirit of business adventure” while cutting taxes will “advance general prosperity.” (sound familiar?) The, during the 1930s, add the onset of Social Security and questions about the size of a safety net.

Fast forward to today and we have the same complexity challenges and fairness debates.

Tax rate history for someone with income of $10,000,000.

A tax rate history for the most affluent: Someone currently earning $10,000,000.

Sources and Resources: Sadly, two excellent tax history articles, one at WSJ.com by John Steele Gordon and the other at The New Yorker by Jill Lepore, are both gated. I do recommend, though, this Forbes blog from which I got my sports tax facts and this Quartz interactive for a history of individual income tax rates and the source of the above graph.

Posted by: adminEcon
Tags: 16th Amendment, income tax, progressive taxation, tariffs, tax fairness
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09.10.2012 | Election Economics: Tax Matters

The candidates agree that tax proposals need to focus on reducing the deficit and on government spending. After that, the divide on tax policy is considerable.

To narrow the gap between revenue and spending, President Obama supports a higher tax rate for the more affluent to fund government spending. By contrast, former Governor Romney says let’s avoid tax increases and be more frugal about most of what we spend.

For us to decide and defend the position that we support, first let’s look at a definition, then at some history and finally at where we are now.

A Definition:

With marginal rates, we divide income into slices, each having a different tax rate. So, very hypothetically, if you earn $30,000, then for the first $10,000 of income, you could pay 5%, then 10% on the next $10,000, and, 20% for the next $10,000.

Some History:

1) Tax rates: Going as far back as the constitutional amendment that legalized the income tax, in 1913 the top marginal rate was 7%, in the 1950s a whopping 92%, and then between 1986 and 1993, 28%. During 1993, the top rate increased to 39.5% and now it is 35%. In 1985, there were 14 marginal tax brackets with the highest, 50%. The 1986 tax act cut the number of brackets down to 2 although some say there was a third 33% bracket because of a surcharge on certain high incomes.

2) Tax revenue: Since 1945, whatever the top rate, the amount of revenue has remained a somewhat constant proportion of GDP. (Please see graph at bottom.)

Where are we now?

1)Those who are more affluent receive a higher proportion of the nation’s income and are paying a larger proportion of all taxes. Specifically, while the income of the top 5% has increased, they are the source of more than 40% of all tax revenue.

2) Due to expire at the end of 2012, the top marginal income tax rate is 35%. Should it and other temporary tax relief provisions be extended? The list of all the possible extensions is here (at the end of the attached article).

This takes us to your goals and always remembering that whatever you support, you are creating incentives, tradeoffs (there is no free lunch), and unintended consequences.

Sources and Resources:

When people say to you that the tax system has become more complex than ever before, you can show them this 1915 tax form. For a superb discussion of current tax dilemmas through the lens of history, this econtalk interview is ideal and well worth the hour or at least a look at the transcript. Finally, if you can access WSJ.com, this (gated) David Wessel analysis of tax issues is very good.

If you want to smile, this 5-minute Pink Panther video about the tax collector is fun.

Election Economics Topics:

More of the Jobs Story: 9/3
Aging Challenges: 8/27
A Healthcare Overview: 8/20
Paul Ryan and economist Friedrich von Hayek: 8/13
Unemployment: 8/6
Minimum Wage: 7/30
Dodd-Frank: 7/23
Outsourcing: 7/16

Posted by: adminEcon
Tags: deficit, expenditures, GDP, incentive, income tax, marginal tax rates, presidential election, tax proposals, tax revenue, tradeoffs, unintended consequences
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05.18.2011 | An Optional Income Tax

What if you could decide whether to pay an income tax?

Boston University economist Laurence Kotlikoff has a plan that gives us a choice. His basic message, though, is that Congress had better start to think creatively because our current system is “dysfunctional.” With a new approach, we can create better incentives.

Hoping to prove that neither liberal nor conservative ideas will work, he starts by explaining why an income tax and a sales tax are similar. Both affect our purchasing power and purchasing decisions. One just happens beforehand because it limits what we can spend while the other is after because it makes purchases more expensive. You can read his 3 billion steak example (!) here.

He calls his plan the purple tax because it combines a red state philosophy (with revenue primarily coming from a sales tax instead of an income tax) and a blue state approach (dependence on an income tax for most revenue). Red + Blue = Purple. The purple tax plan lets people decide whether they want to pay a sales tax or a “wealth” tax. You can see the details here.

The Economic Lesson

Sometimes, when you look at something different, you can better judge something that is familiar. By considering the purple tax, you can see our current tax system as just an alternative approach.

The most typical tax approaches include revenue coming from individual income, corporate income, and the VAT. Smaller categories are estate taxes, capital gains, sales taxes, and tariffs.

An Economic Question: The proposal for the purple tax plan says that it will “help the economy save, grow, produce jobs, and deliver high wages.” After looking at a summary here or the plan here, decide whether you agree.

Posted by: adminEcon
Tags: incentive, income tax, purple tax plan, Sales tax, taxation
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