Subject: Marginal Tax Rates of the Poor (and rich) Date: Fri, 24 Sep 1999 23:46:25 GMT From: oldnasty@mindspring.com (Grinch) Organization: Happy Skeptics of America Newsgroups: sci.econ, alt.politics.economics _ Effective Marginal Rates on Low-Income Households_ [This is an extract and data from a paper by Professor Daniel N. Shaviro, New York University Law School, published by Tax Analysts. It's on their web site, http://www.tax.org, maybe the very best source around for truly non-partisan analysis of tax policy (and practice). But so far it's on the closed part of their site, which requires a very hefty subscription fee. It's also in the 8/23/99 issue of their publication Tax Notes, which you might find in a library.] [Fair use! fair use! fair use!] ~quote~ If a family with income between zero and $25,000 (roughly 180 percent of the federal poverty line for a one-parent, two-child family) earned an extra dollar, how much of that dollar would it get to keep? [E]ffective marginal tax rates can exceed 100 percent, and the price of earning extra income may be to leave one's family worse off than previously. This is especially likely to be so for near-poor families and those that are just escaping (or trying to escape) poverty. This little-known effective marginal tax rate structure, which results from layering multiple income-conditioned transfer phaseouts on top of various income-related taxes, is hard to rationalize. Excessive marginal tax rates ought to be objectionable across the ideological spectrum -- whether one is liberal or conservative, favors increasing or reducing aid to the poor, and supports or opposes work requirements in transfer programs. Yet this problem received little attention during the debate that culminated in the enactment of 1996 welfare reform, and remains underappreciated. Indeed, various new proposals that are being widely discussed, such as adopting income-conditioned school voucher programs at the state and local government level, could make the problem worse. No one deliberately designed the effective marginal tax rate structure that applies to low-income households in this country. Indeed, it is inconceivable that anyone would deliberately design such a structure, or consider it desirable once correctly understood... [T]here has been a widespread failure to understand that phasing out a benefit as income increases has identical incentive and distributional effects to explicitly imposing a positive marginal income tax rate.... Marginal tax rate analysis thus must take account of all government programs that are either directly or indirectly income-conditioned. Without attempting to list all such programs, the principal examples under current law include: (1) the federal income tax, through its marginal tax rates, (2) within the federal income tax, the granting and then phaseout of the earned income tax credit, (3) federal payroll taxes, (4) state and local income, sales, excise, and property taxes, (5) welfare benefits (in common parlance) under Temporary Aid to Needy Families (TANF) (6) Food Stamps (7) Medicaid, and (8) federal housing subsidies. [A]ccurate computations of broad applicability are hard to provide for a number of reasons ... Nevertheless, illustrative calculations based on simplifying assumptions have value simply to demonstrate -- without any pretense of precision -- the approximate magnitude of the problem.... [T]his section therefore provides calculations ... for one-parent, two-child households as income increases from zero to $25,000, assuming compliance with various eligibility requirements (income aside) for receiving transfers, such as time limits and willingness to work. I further assume that one of the children is above the age of 6 and the other below; this matters under Medicaid... I divided ... states into two groups: those that provide more than the median annual Temporary Aid to needy Families (TANF) benefit for the group, and those that provide less than the median ... [fixed-pitch font helps make these tables line up] TABLE 1: ONE-PARENT, TWO-CHILD HOUSEHOLD RESIDING IN A HIGH-TANF BENEFIT STATE AND RECEIVING A FEDERAL HOUSING SUBSIDY Income Range Marginal Tax Rate $ 0 - $ 1,550 -6.7% 1,550 - 1,650 21.2% 1,650 - 9,800 52.4% 9,800 - 12,850 89.6% 12,850 - 14,350 109.2% At $14,350 "Notch" loss of $1,800 14,350 - 14,700 78.0% At $14,700 "Notch" loss of $2,250 14,700 - 15,050 61.3% 15,050 - 19,550 78.5% At $19,550 "Notch" loss of $1,000 19,550 - 25,000 78.5% .... TABLE 3: ONE-PARENT, TWO-CHILD HOUSEHOLD RESIDING IN A LOW-TANF BENEFIT STATE AND RECEIVING A FEDERAL HOUSING SUBSIDY Income Range Marginal Tax Rate $ 0 - $ 1,550 -6.7% 1,550 - 1,800 21.2% 1,800 - 7,550 56.7% At $7,550 "Notch" loss of $1,800 7,550 - 9,800 21.2% 9,800 - 12,850 58.4% 12,850 - 14,700 78.0% At $14,700 "Notch" loss of $2,250 14,700 - 15,050 61.3% 15,050 - 19,550 78.5% At $19,550 "Notch" loss of $1,000 19,550 - 25,000 78.5% .... No plausible modifications would eliminate the core features of extremely high marginal tax rates that approach or even exceed 100 percent, along with notches that can cause an extra dollar of earnings to result in the loss of at least hundreds of dollars worth of in-kind benefits. The tables should be taken [seriously] if ... one is trying to understand how the American tax-transfer system affects work incentives and the ability to escape poverty through work in poor and near-poor households. No matter what one's stance on various controversial issues in the ongoing welfare debate, one probably should agree that this marginal tax rate structure makes no sense. For example, from the standpoint of efficiency, it is a truism in economics that the distortion caused by a tax rises more than proportionately with the marginal tax rate -- indeed, roughly with the *square* of the rate. Thus, a 90 percent marginal tax rate is likely to induce not three times but rather *nine* times as much distortion as a 30 percent rate.... The problem goes beyond mere lack of coordination between programs. In large part, policymakers have erred due to an important misconception: the belief that it makes sense, as a matter of general program design, to think in terms of phasing out specific benefits, rather than directly in terms of marginal tax rates.... [An] illusion that underlies the appeal of phaseouts is that people at a given income level (such as poverty) face fundamentally different, not just marginally different, circumstances from those who have slightly more income. Income transfer programs are phased out rapidly to limit them to the poor or near-poor, as opposed to being an instrument of progressive redistribution (at whatever level one thinks desirable) across the entire income spectrum. However, limiting progressive redistribution in this way necessarily implies having the tax-transfer system start to treat people much more adversely as soon as they start to escape from poverty. To say that transfers should be limited to the poor is just a nice (and perhaps inadvertent) way of saying that, as one moves past the poverty line, one should have little if any incentive to work and retain little if any of the net reward if one does work. Mitigating Excessive Marginal Rates Unavoidably, correcting [this] problem would involve real distributional shifts in tax-transfer policy. As a pure matter of arithmetic, the reason marginal tax rates are so steep for low-income households is that current policy treats the poorest families so much more favorably than those who are almost as poor. Thus, one cannot correct the problem without some combination of worsening the current treatment of the very poorest, and/or improving the treatment of the almost as poor. Either choice may be politically unpopular -- the former due to its effect on the social safety net and our society's neediest people, and the latter due to its possibly adverse financial effect on middle-class voters (who might have to bear the revenue cost of more favorable treatment for the near-poor). Nonetheless, the mitigation of these excessive marginal tax rates is hard to argue against as policy.... Indeed, it is even possible that slower benefit phaseouts would pay for themselves, thus permitting marginal tax rates to be lowered for some families and increased for none. This possibility arises because marginal tax rates as high as many of those shown in Tables 1 through 4 may lie above the revenue-maximizing point, suggesting that their reduction might sufficiently increase labor supply and equilibrium employment levels to leave people throughout the income distribution at least as well-off as previously. While, pending further research, this is no more than a hope, it is worth keeping in mind during the ongoing debate about welfare policy.... ~end quote~ AND RICH: On 29 Aug 2000 18:53:15 GMT, mwitte@merle.acns.nwu.edu (Mark Patrick Witte) wrote: Mark Patrick Witte wrote: >>>....I guess I'll have to stay a >> >>> heritic and hold to my odd notion that monetary policy matters more than the >>> MTR faced by the richest. >>> >>> Mark Jim Blair: >> >>While I agree that monetary policy can screw up an economy, ultimately growth >>and prosperiy are the result, not of manipulation of money (only paper after >>all), but of work and investment and ideas of people. > > Never doubted, but the top MTR is but a very small part. > >>And people respond to the incentives they face. Reduce the incentive, and >>growth will be reduced. > > So in the 1950 and 1960s, the top MTR and growth rates were what? Grinch: Nobody paid the top marginal tax rates in those days. In fact effective tax rates often declined as income rose under those steeply "progressive" tax rates. For instance in 1965, when the top marginal tax rate was 70%, people with income ... * Over $1 million paid an effective tax rate of 30%. * From $500k to $1 million paid an effective tax rate of 33%. * From $100k to 550k paid an effective tax rate of 36%. [From IRS Statistics of Income] [Which just goes to show that calling something, including oneself, "progressive" doesn't really mean it is so, but perhaps only that we like to enjoy the warm cuddly feeling of believing it is so.] IMHO, FWIW, real income doesn't show a very high response to marginal tax rates at tax-rate levels we are experienced with, but taxable income shows a much higher response, more than a lot of people think. As the declining effective rates above pretty well indicate. (The two kinds of income often are confused in these discussions, but shouldn't be.) If so, then cuts in high tax rates would have only a modest direct impact on real national income but could have a meaningful impact of finance, producing another modest indirect effect on real income. And over time a meaningful impact on finance combined with a modest direct effect on real income could have a meaningful effect on real income, because over time modest effects compound.... AND: On 29 Aug 2000 23:34:26 GMT, mwitte@merle.acns.nwu.edu (Mark Patrick Witte) wrote: >.... > Going back to a point raise by either >Blair or Conover about the current wealthy avoiding tax (which I laughed off >as unimportant in magnitude!), there is an article in the current Washington >Monthy by the infamous Bartlett and Steele that support that point. > >http://www.washingtonmonthly.com/features/2000/0009.barlettsteele.html More entertaining bs from B&S. Gosh, they couldn't do better than rehash the NY Post stories about Jocelyne Wildenstein? Did they print any pictures of her? How the plastic surgery turned out is her *real* claim to fame... But anyhow, one rather faulty anecdote does not a rigorous analysis of the tax system make. For Mr. Blair and Mr. Conover and anybody else who may be interested, the IRS did perform a fairly rigorous analysis of nonfilers not too long ago. It found that there are about 55 million nonfilers in the US annually -- a fairly stunning number, being that 130 million people file. It's 30% of everybody! However, of the 55 million more than 50 million either were owed a refund or owed tax of less than $200. The remaining nonfilers were estimated to owe a median tax of $687 on income of about $17,000. However, that estimated tax was computed assuming single filing status and no exemptions/deductions. Persons married and with a normal load of family of exemptions/deductions could have been owed refunds of up to $400 on the same median income amount. So, yes, it is true! There are literally tens of millions of nonfilers walking around, and the IRS does nearly *nothing* to pursue the vast majority of them! Because most are owed refunds, and the rest owe a tax too small to cover the cost of even a minimal collection effort. OTOH, there are indeed a number of "high income" nonfilers as well, about 70,000 with positive income over $100,000. These are targeted by IRS collection agents, of course. In the most recent year for which the numbers are in IRS collection agents took in $550 million in tax from these -- and also paid out $325 million in refunds to them. The IRS doesn't always collect tax when it catches a nonfiler. B&S's line that the IRS is ignoring millionaire nonfilers "whose numbers have soared" is them at their laughable worst. One of the few things the IRS *is* good at (maybe the only thing) is matching up information returns, bank transfer statements, etc. with tax returns that should have been filed to see that they were filed. As B&S say, the nonfilers who get away are... "the people for whom there are no W-2s or 1099s, no record of wages, annuities, gambling winnings, pensions, interest, dividends, or money flowing in from foreign trusts and bank accounts." Right. And just how many millionaires fit that description? Here's how skilled B&S are both as reporters and at shading a story to make it give the impression they want. They lead their story by reporting ominously.. "Informally, government tax authorities say there are 10 million nonfilers" ... when, heck, *officially* the IRS says there are 55 million! And B&S didn't know it. That's some talent for research and spinning, eh? I used to like the Washington Monthly. But... blechh! What ever happened to fact checkers? AND MORE FROM GRINCH: >> >>OTOH, there are indeed a number of "high income" nonfilers as well, >>about 70,000 with positive income over $100,000.... > I am always amazed when it is a politician who's caught for this. >What, he didn't think his opponent in a future election or some newspaper >would check this? David Dinkins, Mayor of NYC. And what a free pass he got from the NY Times et. al. "He was a law partner, he was very busy, it's very understandable he couldn't find time in all those years ..." Like a lawyer of all people has an excuse. Like I could try that. OTOH, if Guilianni hadn't filed tax returns, I can only imagine... And he's a lawyer too. Guilianni's been getting knocked around lately just because of gossip (produced for his supposed campaign run) that his immigrant father had criminal friends before Jr. was born. >>I used to like the Washington Monthly. But... blechh! >> >>What ever happened to fact checkers? > > What? You would doubt two fellow journalists who are known for >doing "serious" work and have published a couple books on hard hitting >social issues? These guys have been given journalism awards so of course >anything they would do thereafter must be golden. (If your sarcasm filter >is on, you should not be able to read this.) Read what?