Income Inequality and the U.S. Tax System

Brief Analyses | Taxes

No. 824
Wednesday, March 23, 2016
by Pamela Villarreal

Income inequality has become a hot button topic of late. Two years ago, Thomas Piketty’s book on the causes of income inequality rallied people on the left to call for more taxes on the wealthy. As the 2016 presidential election draws near, some candidates are talking about income inequality and the need for higher taxes on the rich in order to redistribute wealth and level the playing field. However, the rhetoric does not reflect some truths about inequality and the progressivity of the tax and benefits system today.

Problems in Measuring Income Inequality. In order to measure the extent of inequality, it is important to accurately measure income. But this is not simple for several reasons:

  • Reported income usually does not include the value of benefits received by the poor, including Medicaid, food stamps, education grants, cash assistance and subsidized housing.
  • Reported income does not include employer-provided benefits, such as health insurance, that carry an implicit value.
  • Furthermore, income reporting in surveys can be inaccurate; for instance, according to the Federal Reserve Bank of New York, the self-employed underreport their income by an average of 25 percent.

Thus, using income to assess how people are doing in terms of well-being — having housing, food, transportation, health care and so on — is a poor way to distinguish the haves from the have-nots.

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