A liberal article of faith that confiscatory taxes fed the postwar boom turns out to be an Edsel of an economic idea.
By Peter Schiff
Democratic Party leaders, President Obama in particular, are forever
telling the country that wealthy Americans are taxed at too low a rate
and pay too little in taxes. The need to correct this seeming injustice
is framed not simply in terms of fairness. Higher tax rates on the
wealthy, we're told, would help balance the budget, allow for more
"investment" in America's future and foster better economic growth for
all. In support of this claim, like-minded liberal pundits point out
that in the 1950s, when America's economic might was at its zenith, the
rich faced tax rates as high as 91%.
True enough, the top marginal income-tax
rate in the 1950s was much higher than today's top rate of 35%—but the
share of income paid by the wealthiest Americans has essentially
remained flat since then.
In 1958, the top 3% of taxpayers earned
14.7% of all adjusted gross income and paid 29.2% of all federal income
taxes. In 2010, the top 3% earned 27.2% of adjusted gross income and
their share of all federal taxes rose proportionally, to 51%.
So if the top marginal tax rate has
fallen to 35% from 91%, how in the world has the tax burden on the
wealthy remained roughly the same? Two factors are responsible. Lower-
and middle-income workers now bear a significantly lighter burden than
in the past. And the confiscatory top marginal rates of the 1950s were
essentially symbolic—very few actually paid them. In reality the vast
majority of top earners faced lower effective rates than they do today.
In 1958, roughly
10,000 of the nation’s 45.6 million tax filers had income subject to a
rate of 81% or higher. In that year, an 81% marginal tax
rate applied to incomes above $140,000, and the 91% rate kicked in at
$400,000 for couples. These figures are in unadjusted 1958 dollars and
correspond today to nominal income levels that are about eight times
higher.
In 1958, about two million filers (4.4%
of all taxpayers) earned the $12,000 for married filers needed to face
marginal rates as high as 30%. These Americans paid about 35% of all
income taxes but could not all be defined as genuinely wealthy. And now? In 2010, 3.9 million taxpayers (2.75% of all
taxpayers) were subjected to rates that were 33% or higher. These
Americans—many of whom would hardly call themselves wealthy—reported an
adjusted gross income of $209,000 or higher, and they paid 49.7% of all
income taxes.
In contrast, the share of taxes paid by
the bottom two-thirds of taxpayers has fallen dramatically over the same
period. In 1958, these Americans accounted for 41.3% of adjusted gross
income and paid 29% of all federal taxes. By 2010, their share of
adjusted gross income had fallen to 22.5%. But their share of taxes paid
fell far more dramatically—to 6.7%. The 77% decline represents the
single biggest difference in the way the tax burden is shared in this
country since the late 1950s.
The changes came about not so much by
movements in rates but by the addition of tax credits for the poor and
the elimination of exemptions for the wealthy. In 1958, even the
lowest-tier filers, which included everyone making up to $5,000
annually, were subjected to an effective 20% rate. Today, almost half of
all tax filers have no income-tax liability whatsoever, and many
"taxpayers" actually get a net refund from the government. Those
nostalgic for 1950s-era "tax fairness" should bear this in mind.
The tax code of the 1950s allowed
upper-income Americans to take exemptions and deductions that are
unheard of today. Tax shelters were widespread, and not just for the
superrich. The working wealthy—including doctors, lawyers, business
owners and executives—were versed in the art of creating losses to lower
their tax exposure.
For instance, a doctor who earned $50,000 through his medical practice could reduce his taxable income to zero with $50,000 in paper losses or depreciation from property he owned through a real-estate investment partnership. Huge numbers of professionals signed up for all kinds of money-losing schemes. Today, a corresponding doctor earning $500,000 can deduct a maximum of $3,000 from his taxable income, no matter how large the loss.
Those 1950s gambits lowered tax
liabilities but dissuaded individuals from engaging in the more
beneficial activities of increasing their incomes and expanding their
businesses. As a result, they were a net drag on the economy. When
Ronald Reagan finally lowered rates in the 1980s, he did so in exchange
for scrapping uneconomical deductions. When business owners stopped
trying to figure out how to lose money, the economy boomed.
It's hard to determine how much otherwise
taxable income disappeared through tax shelters in the 1950s. As a
result, direct comparisons between the 1950s and now are difficult.
However, it is worth noting that from 1958 to 2010, the taxes paid by
the top 3% of earners, as a percentage of total personal income (which
can't be reduced by shelters), increased to 3.96% from 2.72%, while the
percentage paid by the bottom two-thirds of filers fell to 0.51% in 2010
from 2.7%. This starker division of relative tax burdens can be
explained by the inability of upper-income groups to shelter income.
It is a testament to the shallow nature
of the national economic conversation that higher tax rates can be
justified by reference to a fantasy—a 91% marginal rate that hardly any
top earners paid.
In reality, tax policies that diminish
the incentives and capacities of innovators, business owners and
investors will not spur economic improvement. Such policies will,
however, satisfy the instincts of those who want to "stick it to the
rich." Never mind that the rich have already been stuck fairly well.
Mr. Schiff is the author of "The Real Crash:
America's Coming Bankruptcy" (St. Martin's Press, 2012) and host of the
daily radio program "The Peter Schiff Show."
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