Rich People's Tax Rates

The federal tax system is extremely "progressive" or graduated, meaning that top earnings pay substantially higher tax rates than those in the middle or at the bottom, according to all standard data sources.

Conservative economists want fewer progressive tax codes than liberals because progressive tax systems are harmful to economic growth. However, economists on both sides of the debate agree that the existing tax structure is quite progressive.

At least they used to. Not content with data from the Congressional Budget Office, Joint Committee on Taxation, Tax Policy Center, and the Internal Revenue Service showing that high earners pay the highest tax rates, far‐​left economists are inventing dubious figures to try and show the opposite. They do not like what the accepted data shows, so they are trying to move the goalposts to fit their anti‐​wealth narratives. Two Biden appointees in the White House have concocted data purporting to show that the rich pay an average income tax rate of just 8 percent.

Let’s look first at data published by career experts at the Treasury. The chart below shows estimated average effective tax rates by income decile under current law for 2022. It includes federal individual income, corporate, payroll, excise, and estate taxes. Within each decile (or 10 percent group), the figures are total taxes paid divided by income. The chart also shows the Treasury’s data for the top 0.1 percent of families.

The red bars show that average income tax rates range from less than zero for the bottom 40 percent of families to 22.7 percent for the top 0.1 percent. The bottom 40 percent pay less than zero because of refundable tax credits. Note that the top group’s tax rate is much higher than the rates on middle‐ and upper‐​middle income groups.

The blue bars show that average rates for total federal taxes range from near zero for the bottom 30 percent of families to 31.8 percent for the top 0.1 percent. The top group’s tax rate is about twice as high as the rate on middle‐​income groups.

 

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The Treasury data in the chart is roughly consistent with data from CBO, JCT, TPC, and the IRS as I show here. But it is entirely inconsistent with frequent claims by President Biden that high earners are not paying their “fair share” and rhetoric from Bernie Sanders that CEOs pay lower tax rates than their secretaries.

The left has a solution to this glaring inconsistency: invent new data that tries to buttress the Biden‐​Bernie claims about taxes on the rich.

A recent article on the White House website by Greg Leiserson and Danny Yagan argues that the top 400 wealthiest families pay an average income tax rate of just 8 percent. The media immediately jumped on the new figure and widely reported it. Never mind that the average income tax rate for the top group in the Treasury data is 22.7 percent, in CBO data 24.4 percent, in JCT data 29.5 percent, in TPC data 24.0 percent, and in IRS data 22.9 percent.

The fact that Leiserson and Yagan included unrealized capital gains in the denominator of their computed tax rate is the key reason for the low figure of 8%. The strategy is based on Haig Simons' communist theory that the tax system should account for changes in all asset values in income each year. Even if Jeff Bezos' Amazon shares increase in value by $10 billion, it is "income" that should be taxed immediately, even if Bezos has not realized the gains or utilized them for consumption.

The left likes to focus on companies with high profits and rising values, but large wealth disappears all the time as companies fail and investors lose money. If we had a Haig‐​Simons tax, the government would be hitting shareholders with taxes on unrealized gains in companies that haven’t figured out yet how to earn profits. The graveyard of failed technology companies is vast. They generated unrealized gains at one time, but then they vanished.

The Leiserson and Yagan article only examines the top 400, but consider if we included unrealized gains in calculating tax rates for the middle class. A person earns $60,000 in wages and pays $6,000 in income taxes for a 10 percent tax rate. But if her house increased in value by $20,000, her “income” would now be $80,000 and her tax rate just 7.5 percent. Or consider a small business person with $100,000 of income and $15,000 in income taxes for a 15 percent tax rate. Her hard work is paying off and her business gains $50,000 in value as demand for her products increases. Then her “income” would now be $150,000 and her tax rate just 10 percent.

Leiserson, Yagan, and other analysts on the left write as if everyone agrees that income for tax purposes should be Haig‐​Simons income, but many economists do not agree. They argue that such a tax base would favor consumption over savings, unfairly favor the spendthrift over the frugal, and undermine economic growth, as I examine here. Haig‐​Simons taxation would also be more complex than consumption‐​based taxation, as I examine here.

Left-wing analysts make a mistake by confusing gains with typical income flows. Their methodology contradicts the definition of income in the National Income and Product Accounts, which includes labor and capital returns but excludes asset price fluctuations. When predicted future returns fluctuate, asset prices change, and a well-designed tax system would tax those returns when they are earned or consumed in the future. Taxing them again in the form of gain is a sort of double taxation that is bad.

Consider the value of human capital. When a student graduates from college with a degree in high demand, her human capital grows, and she can expect to earn a higher wage in the future. But imagine the government imposed a capital gains tax on the increase in her estimated future wages when she graduated. Such a tax would be insane since it would discourage individuals from learning new skills and developing themselves. A Haig Simons tax, on the other hand, punishes gains in value and inhibits investment in other sorts of capital.

In sum, the denominator of the claimed 8 percent tax rate is not an appropriate measure of income for a fair and efficient tax system. Because of the impracticality, unfairness, and anti‐​growth aspects of a Haig‐​Simons tax base, the federal income tax has always been a compromise between Haig‐​Simons and consumption‐​based taxation, as have the income taxes of other countries. No high‐​income country taxes unrealized gains in their income tax, and just about every country has favorable treatment of realized capital gains as well.

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