Nearly half of US households escape fed income tax

In the April 7, 2010 article "Nearly half of US households escape fed income tax," Associated Press writer Stephen Ohlemacher reports that almost half of all U.S. households pay no income tax. Does this infer that the Tea Party movement is people of modest means advocating for more financial gains for the wealthy?

According to Ohlemacher:

WASHINGTON (AP) -- Tax Day is a dreaded deadline for millions, but for nearly half of U.S. households it's simply somebody else's problem.

About 47 percent will pay no federal income taxes at all for 2009. Either their incomes were too low, or they qualified for enough credits, deductions and exemptions to eliminate their liability. That's according to projections by the Tax Policy Center, a Washington research organization.

Most people still are required to file returns by the April 15 deadline. The penalty for skipping it is limited to the amount of taxes owed, but it's still almost always better to file: That's the only way to get a refund of all the income taxes withheld by employers.

In recent years, credits for low- and middle-income families have grown so much that a family of four making as much as $50,000 will owe no federal income tax for 2009, as long as there are two children younger than 17, according to a separate analysis by the consulting firm Deloitte Tax.

Tax cuts enacted in the past decade have been generous to wealthy taxpayers, too, making them a target for President Barack Obama and Democrats in Congress. Less noticed were tax cuts for low- and middle-income families, which were expanded when Obama signed the massive economic recovery package last year.

The result is a tax system that exempts almost half the country from paying for programs that benefit everyone, including national defense, public safety, infrastructure and education. It is a system in which the top 10 percent of earners -- households making an average of $366,400 in 2006 -- paid about 73 percent of the income taxes collected by the federal government.

The bottom 40 percent, on average, make a profit from the federal income tax, meaning they get more money in tax credits than they would otherwise owe in taxes. For those people, the government sends them a payment.

"We have 50 percent of people who are getting something for nothing," said Curtis Dubay, senior tax policy analyst at the Heritage Foundation.

The vast majority of people who escape federal income taxes still pay other taxes, including federal payroll taxes that fund Social Security and Medicare, and excise taxes on gasoline, aviation, alcohol and cigarettes. Many also pay state or local taxes on sales, income and property.

That helps explain the country's aversion to taxes, said Clint Stretch, a tax policy expert Deloitte Tax. He said many people simply look at the difference between their gross pay and their take-home pay and blame the government for the disparity.

"It's not uncommon for people to think that their Social Security taxes, their 401(k) contributions, their share of employer health premiums, all of that stuff in their mind gets lumped into income taxes," Stretch said.

The federal income tax is the government's largest source of revenue, raising more than $900 billion -- or a little less than half of all government receipts -- in the budget year that ended last Sept. 30. But with deductions and credits, especially for families with children, there have long been people who don't pay it, mainly lower-income families.

The number of households that don't pay federal income taxes increased substantially in 2008, when the poor economy reduced incomes and Congress cut taxes in an attempt to help recovery.

In 2007, about 38 percent of households paid no federal income tax, a figure that jumped to 49 percent in 2008, according to estimates by the Tax Policy Center.

In 2008, President George W. Bush signed a law providing most families with rebate checks of $300 to $1,200. Last year, Obama signed the economic recovery law that expanded some tax credits and created others. Most targeted low- and middle-income families.

Obama's Making Work Pay credit provides as much as $800 to couples and $400 to individuals. The expanded child tax credit provides $1,000 for each child under 17. The Earned Income Tax Credit provides up to $5,657 to low-income families with at least three children.

There are also tax credits for college expenses, buying a new home and upgrading an existing home with energy-efficient doors, windows, furnaces and other appliances. Many of the credits are refundable, meaning if the credits exceed the amount of income taxes owed, the taxpayer gets a payment from the government for the difference.

"All these things are ways the government says, if you do this, we'll reduce your tax bill by some amount," said Roberton Williams, a senior fellow at the Tax Policy Center.

The government could provide the same benefits through spending programs, with the same effect on the federal budget, Williams said. But it sounds better for politicians to say they cut taxes rather than they started a new spending program, he added.

Obama has pushed tax cuts for low- and middle-income families and tax increases for the wealthy, arguing that wealthier taxpayers fared well in the past decade, so it's time to pay up. The nation's wealthiest taxpayers did get big tax breaks under Bush, with the top marginal tax rate reduced from 39.6 percent to 35 percent, and the second-highest rate reduced from 36 percent to 33 percent.

But income tax rates were lowered at every income level. The changes made it relatively easy for families of four making $50,000 to eliminate their income tax liability.

Here's how they did it, according to Deloitte Tax:

The family was entitled to a standard deduction of $11,400 and four personal exemptions of $3,650 apiece, leaving a taxable income of $24,000. The federal income tax on $24,000 is $2,769.

With two children younger than 17, the family qualified for two $1,000 child tax credits. Its Making Work Pay credit was $800 because the parents were married filing jointly.

The $2,800 in credits exceeds the $2,769 in taxes, so the family makes a $31 profit from the federal income tax. That ought to take the sting out of April 15.

Internal Revenue Service: http://www.irs.gov

Tax Policy Center: http://www.taxpolicycenter.org

The Flat Tax

The Flat Tax

An alternative to the current individual income tax structure is the flat tax. The flat tax has been proposed since 1983 by various people, including Congressman Richard K. Armey, who was a Republican representative from Texas from 1985 to 2003 and Malcolm S. "Steve" Forbes, Jr., a billionaire candidate for the Republican nomination for the U.S. presidency in 1996 and 2000.

Under most flat tax proposals, the current individual and corporate income tax structures would be replaced by a system in which every taxpayer is subject to the same marginal tax rate.

Proponents of a flat tax system argue that it would simplify the income tax structure because most deductions would be eliminated. A simpler tax system would have a smaller administrative burden and thus would be more efficient.

Opponents of a flat tax argue that it would shift a significant amount of the tax burden from the wealthy to middle class Americans. Thus, they think a flat tax system does not have enough vertical equity. Vertical equity is the principle that taxpayers with a greater ability to pay taxes should pay larger amounts. Vertical equity is a justification for wealthy people to pay more in taxes than poor people.

Under "H.R.1040", the Armey-Shelby Flat Tax proposal of 1997, every worker would pay 17% of what is left of their total annual income from all wages, salaries, and pensions after subtracting a personal allowance. The only four allowances would be:
- $23,200 for a married couple filing jointly- $14,850 for a single person who is the head of a household- $11,600 for a single person who is not the head of a household, - $5,300 for each dependent child
No other tax credits or deductions would be used. The entire tax return form would be simple enough to fit on a postcard.
Source: U.S. Rep. Dick Armey's flat tax summary web site.
Because of the personal allowances, taxpayers would not pay the same percentage of their income in tax. For example, Rep. Armey suggested that given the exemptions shown above, a family of four earning $25,000 would owe no tax. A family of four earning $50,000 would owe 6%, and a family of four earning $200,000 would owe14% in tax.

The flat tax proposal would also eliminate the marriage penalty, almost double the deduction for dependent children, and end multiple taxation of savings.

Social Security and Medicare payroll taxes would not be affected under the flat tax proposal. Social Security benefits would not be taxed.

Businesses would take their total income, subtract total expenses and if the result is a positive amount (profit), pay tax on that amount at a rate of 17%. Expenses would include purchases of goods and services, capital equipment, structures, land, wages and contributions to retirement plans.

Critics of the Armey-Shelby Flat Tax proposal note that much of the complexity of the current system would remain. Businesses would still need to withhold taxes from workers’ wages and record keeping for businesses would not be significantly reduced. Some people would still have an incentive to cheat on their taxes.

According to the U.S. Treasury Department, the Armey-Shelby Flat Tax proposal would have added $138 billion to the annual budget deficit (in 1996 dollars). Even at the break even rate of 20.82%, Rep. Armey’s plan would increase taxes sharply on all income groups except those earning more than $200,000 a year. (Others believe that the break-even rate would have to be considerably higher than the Treasury’s estimate.)

The flat tax proposal of Malcolm S. Forbes, Jr., was similar to Rep. Armey’s. Mr. Forbes suggested larger exemptions from the wage tax: $13,000 per taxpayer plus $5,000 per child. Forbes also considered retaining the earned-income tax credit. Based on the U.S. Treasury's analysis, the Forbes's proposal would have resulted in a revenue shortfall of between $180 and $210 billion a year (in 1996 dollars). Others believed the revenue losses would be much larger.



A flat tax is a type of income tax in which every taxpayer is subject to the same marginal tax rate.

The Individual Income Tax

The Individual Income Tax

These marginal tax rates for a single taxpayer in 2003, 2004, and 2005 are listed below.

Federal Income Tax Rates: 2005
On Taxable Income . . .
The Tax Rate is . . .
Up to $7,300
10%
From $7,300 to $29,700
15%
From $29,700 to $71,950
25%
From $71,950 to $150,150
28%
From $150,150 to $326,450
33%
Over $326,450
35%
This table shows the marginal tax rates for an unmarried taxpayer. The taxes owed by a taxpayer depend on the marginal tax rates up to his or her income. For example, a taxpayer with income of $26,000 pays 10 percent of the first $7,300 of income, and then 15 percent of the rest.

Federal Income Tax Rates: 2004
On Taxable Income . . .
The Tax Rate is . . .
Up to $7,150
10%
From $7,150 to $29,050
15%
From $29,050 to $70,350
25%
From $70,350 to $146,750
28%
From $146,750 to $319,100
33%
Over $319,100
35%
This table shows the marginal tax rates for an unmarried taxpayer. The taxes owed by a taxpayer depend on the marginal tax rates up to his or her income. For example, a taxpayer with income of $26,000 pays 10 percent of the first $7,150 of income, and then 15 percent of the rest.

Federal Income Tax Rates: 2003
On Taxable Income . . .
The Tax Rate is . . .
Up to $7,000
10%
From $7,000 to $28,400
15%
From $28,400 to $68,800
25%
From $68,800 to $143,500
28%
From $143,500 to $311,950
33%
Over $311,950
35%
This table shows the marginal tax rates for an unmarried taxpayer. The taxes owed by a taxpayer depend on the marginal tax rates up to his or her income. For example, a taxpayer with income of $26,000 pays 10 percent of the first $7,000 of income, and then 15 percent of the rest.

Source: U.S. Internal Revenue Service
http://www.irs.gov

Historical Effective Federal Tax Rates: 1979 to 2005

Historical Effective Federal Tax Rates: 1979 to 2005

December 2007

The following tables update the series of historical effective tax rates estimated by the Congressional Budget Office (CBO) by providing values for an additional calendar year—2005.1 The tables show effective tax rates for the four largest sources of federal revenues—individual income taxes, social insurance (payroll) taxes, corporate income taxes, and excise taxes—as well as the total effective rate for the four taxes combined. The tables also present average pretax and after-tax household income; counts of households; and shares of taxes, income, and households for each fifth (quintile) of the income distribution and for the top percentiles of households.

Tax Cuts Don't Boost Revenues

In the December 6, 2007 TIME magazine article "Tax Cuts Don't Boost Revenues," Justin Fox explains that it is politicians, not economists, who claim that reductions in marginal income tax rates cause increases in revenues. "Virtually every economics Ph.D. who has worked in the Bush Administration acknowledges that the tax cuts of the past six years haven't paid for themselves."

If there's one thing that Republican politicians agree on, it's that slashing taxes brings the government more money. "You cut taxes, and the tax revenues increase," President Bush said in a speech last year. Keeping taxes low, Vice President Dick Cheney explained in a recent interview, "does produce more revenue for the Federal Government." Presidential candidate John McCain declared in March that "tax cuts ... as we all know, increase revenues." His rival Rudy Giuliani couldn't agree more. "I know that reducing taxes produces more revenues," he intones in a new TV ad.

If there's one thing that economists agree on, it's that these claims are false. We're not talking just ivory-tower lefties. Virtually every economics Ph.D. who has worked in a prominent role in the Bush Administration acknowledges that the tax cuts enacted during the past six years have not paid for themselves--and were never intended to. Harvard professor Greg Mankiw, chairman of Bush's Council of Economic Advisers from 2003 to 2005, even devotes a section of his best-selling economics textbook to debunking the claim that tax cuts increase revenues.

The yawning chasm between Republican rhetoric on taxes and even informed conservative opinion is maddening to those of wonkish bent. Pointing it out has become an opinion-column staple. But none of these screeds seem to have altered the political debate. So rather than write yet another, I decided to find out what Arthur Laffer thought.

Laffer is a bona fide economist with a doctorate from Stanford. He's also largely responsible for the Republican belief that tax cuts pay for themselves. Now 67, Laffer runs economic-consulting and money-management firms in Nashville. About the best I could get out of him on the question of whether the Bush tax cuts have paid for themselves was "I don't know." But that's only part of the story.

It's a saga that began in a bar near the White House on a December afternoon in 1974. Huddled at a meeting arranged by Wall Street Journal editorial writer Jude Wanniski were Cheney, then the deputy chief of staff to Republican President Gerald Ford, and Laffer, who was teaching at the University of Chicago's business school after a stint in the Nixon White House. In trying to explain to Cheney why a tax hike mooted by the President might not be such a great idea, Laffer drew a chart on a napkin that showed government revenues increasing as the tax rate moved up from 0% but then turning around and heading back toward zero as it neared 100%.

The idea that high tax rates brought diminishing returns was not controversial or even new--Laffer traces it to 14th century Muslim philosopher Ibn Khaldun. But few economists in the 1970s even considered that real-world tax rates could be on the wrong side of the Laffer Curve. Laffer thought they might be, and Wanniski argued on the Journal's editorial page and elsewhere that they almost certainly were. The claim became a key plank of Ronald Reagan's successful 1980 campaign for President.

And how did things work out? Laffer is convinced that the reduction of the top tax rate from 70% to 28% during the Reagan years paid for itself--in part by encouraging the rich to stop finagling--and the evidence mostly backs him up. "You find these enormous responses in the upper brackets," Laffer says. "These guys fire their lawyers and accountants and actually pay their taxes. Yay! Isn't that what we want them to do?"

But Reagan's tax cuts for the nonrich were big money losers, and it took the fiscal discipline of Bill Clinton to mop up the resulting red ink. Laffer gushes with praise for Clinton, but he's also a fan of Clinton's successor. "What Clinton did was, he gave Bush the fiscal flexibility to do what was right," Laffer says. In the face of the recession and terrorist attacks of 2001, Bush "needed to stimulate the economy and spend for defense, and Clinton gave him the ability to do that."

In other words, the Bush tax cuts were meant to create big deficits. But Laffer's O.K. with that. "The Laffer Curve should not be the reason you raise or lower taxes," he says. Perhaps not, but it does make for great campaign promises.