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70% Rate: The Taxwoman Cometh
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In an interview on 60 Minutes, Congresswoman Alexandria Ocasio-Cortez asserted that it’s worth considering a 70% top marginal tax rate on incomes over $10 million to help pay for new federal programs like the “Green New Deal.” According to Representative Ocasio-Cortez, “People are going to have to start paying their fair share in taxes. As you climb this income ladder, you should be contributing more.” As one would expect, her controversial comments immediately ignited a firestorm of a debate.
Its favored by the public. Surveys taken earlier this year found that 59% of registered voters support Representative Ocasio-Cortez’s call for a 70% tax rate on high earners.
Historical rates were even higher, and the U.S. propsered. Many supporters of higher taxes on the top 1% point to the 1950s to the 1980s, when the top marginal tax rate varied between 70% and 91% and the U.S. economy continued to prosper.
Diminishing Marginal Utility. According to Paul Krugman, diminishing marginal utility is the notion that an extra dollar is worth a lot less in satisfaction to people with very high incomes than to those with low incomes. Mr. Krugman states, “Give a family with an annual income of $20,000 an extra $1,000 and it will make a big difference to their lives. Give someone who makes $1 million an extra thousand and he’ll barely notice it. What this implies for economic policy is that we shouldn’t care what a policy does to the incomes of the very rich. A policy that makes the rich a bit poorer will affect only a handful of people (according to federal data only 16,000 Americans earn more than $10 million a year), and will barely affect their life satisfaction, since they will still be able to buy whatever they want.”
Rising inequality. The gap between the rich and the poor in America has ballooned over the last several decades. According to a recent study released by the Economic Policy Institute, the top 1% of Americans in 2015 made 26.3 times as much income as the bottom 99 percent, which is up from 2013 when they earned 25.3 times as much. The top 1% of Americans took home more than 22% of all income in 2015, the study found. That’s the highest share since a peak of 23.9% just before the Great Depression in 1928. The Washington Post estimated the 70% rate could raise $700 billion in a decade.
Wealth concentration. When Ronald Reagan took office, affluent Americans paid a 70% tax rate on all income above $216,000. In the decades since, the country’s highest earners have seen their annual pay skyrocket, while the median household pay has barely budged. As a result, America’s 160,000 richest families now lay claim to 90% of its wealth. Studies suggest that this kind of inequality erodes social trust, abets plutocracy, and depresses economic growth.
Reduce the power of the wealthy. Taxes on the very wealthy are corrective taxes, like tobacco taxes, that should be judged by their societal impact, not simply their revenues. The purpose of high tax rates on the rich is the reduction of vast fortunes that give a handful of people a level of power incompatible with democracy.
The top 1% already pay a “fair share.” In 2016, the top 1% earned 19.7% of all income, but they paid 37% of all federal income taxes. The top 1% already pay more taxes than the bottom 90%.
Exemptions and dedcutions significantly reduced the 1950s 90% top tax rate. Supporters of the tax hike argue that historically speaking a 70% rate is not unprecedented. Although the statutory rate was 90% in 1953 when Eisenhower assumed office, the effective tax rate was just 62% of adjusted gross income, and by 1960 that effective tax rate was down to 46%, as tax payers took advantage of various exemptions, deductions, and tax shelters enacted by Congress.
Statutory rates versus effective tax rates. Over the past 40 years, the annual average tax rate of the top 1% has been around 20%, although the statutory top marginal rate has been as high as 70% in 1979, 50% in 1982, as low as 28% in 1988, and 37% today. As marginal rates varied over time, taxpayers adjusted their behavior so that the average rate paid remained remarkably steady.
Myth of a 1950s golden age. In actuality, the 1950s were not a “golden age.” The U.S. economy suffered three recessions during the decade. When the top marginal rate was raised to 90% in 1951, the U.S. economy grew at an average of 3.1% annually over the next decade, compared to 5.1% annually in the four preceeding years. It was because of World War II that the U.S. was the only fully-functioning industrial economy during this period.
Minimal amount of money raised. Representative Ocasio-Ortez did not release a specific proposal. However, an analysis by the Tax Foundation estimates the amount of revenue rasied could range from $291 billion to actually costing the Federal government $63.5 billion over a ten-year time frame. The study estimates a 70% rate on ordinary income over $10 million would raise about $291 billion, however, using a dynamic estimate and assuming the 70% rate included all income the proposal would actually reduced tax collections from this group by $63.5 billion given individuals would defer capital gains to reduce their effective tax rate. In any case, the amount of revenue raised through a 70% top marginal tax rate is dwarfed by the projected costs of programs put forth by Representative Ocasio-Cortez.
A shift from ‘pass through’ business to ‘C’ corporations. As happened historically, many experts predict a significant shift in businesses shifting from ‘pass through’ organiztions where profits are still at the individual rates to ‘C’ corporations to take advantage of the lower, 21%, corporate tax rate. In the period from 1950 to 1980, when the high personal income tax rates persisted the amount of ‘pass through’ income reported by the richest taxpayers fell from around 35% of reported income to just 7.8%. During this period taxpayers shifted to ‘C’ corporations where the tax rate varied from 22 percentage points to 39 percentage points lower than the top personal marginal rate. When the Reagan tax cuts were implemented, this shifted, with the number of pass through ‘S’ corporations exploding-from 826,000 in 1986 to over 4.2 million today-and the number of ‘C’ corporations declined from 2.6 million in 1986 to 1.6 million today. Again, taxpayers changed behavior to optomize their own personal income tax situation.Rising inequality is not supported by the facts. According to Phillip Magness, the rising inequality claims made by economists like Thomas Piketty and Emmanuel Saez fail to adequately recognize and adjust for variations in historical data. Adjusting for these variations, the top 10% income share seldom strays more than five percentage points away from its century-long average of approximately 35%, well below the 50% shares claimed by Piketty and Saez.