To accurately measure lifetime average and marginal net tax burdens, we have included in fine detail every major tax and transfer program affecting American households. What emerges is a picture of a fiscal system with six characteristics:

• Our fiscal system is highly progressive over the bottom half of the income distribution. Couples working full-time and earning the minimum wage get back 32 cents in benefits (net of taxes) for every dollar they earn, while couples earning $64,000 (or three times the minimum wage) pay 30 cents in taxes (net of benefits) per dollar earned. Over the top half of the income distribution, the system is only mildly progressive.

• Most of the progressivity in our fiscal system comes from means-tested spending programs rather than taxes, and these are concentrated at the bottom of the income ladder.

• Workers at every income level face very steep lifetime marginal tax rates. Virtually all full-time American workers lose more than half of their earnings in taxes and forgone transfer benefits.

• The very highest marginal net tax rates are imposed on the lowest-income earners, largely because of the withdrawal of means-tested transfers and tax benefits. Indeed, working couples in the bottom half of the income distribution keep only a third or less of the income they earn, on net.

• If low-income household members work at all, our system strongly encourages them to work part-time rather than full-time. Couples earning 1.5 times the minimum wage actually reduce their standard of living if they work full-time rather than half-time.

• The principal reason for very high marginal net tax rates for low-income households is the existence of means-tested tax and welfare benefits tied to children. For example, a 25-year-old couple with children, earning 1.5 times the minimum wage, gives up 60 cents for every dollar earned; the marginal net tax rate on the same couple drops to 14 percent at age 55, when they are well past the child-rearing years.

Overall, our system is very generous to those at the bottom of the income ladder. But the price of that generosity is an incentive structure that strongly discourages those with the lowest skills from participating in the labor market.

NOTE: Nothing written here should be construed as necessarily reflecting the views of the National Center for Policy Analysis or as an attempt to aid or hinder the passage of any bill before Congress.

To those for whom progressivity is an important value, these results should be heartening. Yet this progressivity comes at a terrible price. Many entitlement benefits, it turns out, are available to people whether they work or not. And when they decide to work, the withdrawal of benefits plus the imposition of taxes creates very high marginal tax rates.

Working Versus Not Working. To calculate marginal tax rates, we ignore benefits to which people are entitled whether they work or not. We want to identify changes in taxes paid and benefits received as a result of the decision to work rather than not work. The additional taxes paid plus the net reduction in transfer benefits received divided by the income from working is called the marginal net tax rate. These are depicted in Table II.

The first thing to note is that all full-time working households face marginal net work tax rates in excess of 50 percent! In going to work, all American households hand over half or more of every dollar they earn to state and federal government in taxes paid net of benefits received.

The second thing to note is that the lowest-income households face the highest marginal net tax rates:

• The marginal net tax rate of households earning 1.5 times the minimum wage is 81 percent; families at this income level keep less than one-fifth of the income they earn.

• At two times the minimum wage the marginal net tax rate is 72 percent; these families keep less than 30 cents out of each dollar they earn.

The third thing to note is that at higher income levels, marginal net tax rates decline as income rises. On the whole, marginal net tax rates tend to be regressive, imposing the highest burdens on those with the lowest earnings. [See Figure IV.]

Perhaps the most striking feature of Table II is that the minimum wage household faces a 67 percent net marginal tax on working full time. This family keeps only one in every three dollars it earns on net! The principal reason is that households in which no one works receive very substantial transfer benefits. Many of these benefits are either entirely lost or greatly reduced when household members go to work full time. In addition, the household must pay federal income, state income, and FICA taxes on its earnings. Offsetting these factors is the increase in Social Security benefits associated with working and the availability of the Earned Income Tax Credit.

Households earning 1.5 times the minimum wage also lose benefits when they go to work. In addition, they lose virtually all of their Earned Income Tax Credits. In addition, their higher earnings limit the degree of progressivity of the Social Security benefit schedule.2 This is the reason marginal net tax rates are higher for households earning 1.5 times the minimum wage than for those with higher incomes.

The Composition of Marginal Net Tax Rates. Figure V shows the composition of marginal net tax rates for couples at different income levels. Note that the lower the family's income, the more important the loss of the transfer benefits is. Conversely, the higher the family's income, the more important direct taxes on income are. For example:

• At $32,100 (1.5 times the minimum wage), two-thirds of the marginal net tax rate consists of the loss of transfer benefits, while a little more than one in five dollars is lost to income and payroll taxes.3

• At $64,300 (triple the minimum wage), half of the marginal net tax rate consists of a loss of benefits, while two in five dollars are lost to income and payroll taxes.

• At $321,400 (15 times the minimum wage), four in five dollars of the marginal net tax are lost to income and payroll taxes.

Working Part-Time. Table II also shows marginal net tax rates for those who go from no work to part-time work and from part-time to full-time work. As the table reveals, fiscal policy discourages full-time work more than half-time work for low- and moderate-income couples:

• At the minimum wage, the marginal net tax rate on going to work half-time is 36 percent versus 67 percent for working full-time.

• At 1.5 times the minimum wage, the rate for half-time work is 55 percent versus 81 percent for full-time work.

• At two times the minimum wage, the rate for half-time work is 67 percent versus 72 percent for full-time work.

Thus fiscal policy encourages families at the bottom of the income ladder to work half-time rather than full-time, if they work at all. However, at higher income levels, these incentives are reversed.

• A family earning three times the minimum wage faces a marginal net tax rate of 81 percent for half-time work versus 63 percent for full-time work.

• At four times the minimum wage, the rates are 72 percent for half-time versus 59 percent for full-time.

Another way of looking at this issue is to ask what happens to people who move from half-time to full-time work. As Table II shows:

• A minimum-wage couple that moves from half-time to full-time work will lose 97 cents out of every extra dollar they both earn.

• At 1.5 times the minimum wage, the couple will lose $1.06 for every $1.00 they earn; for this couple, working more literally means having less.

Marginal Net Tax Rates at Different Ages. Figure VI shows marginal net tax rates for couples at different ages. Note that at higher income levels, marginal net tax rates are roughly the same regardless of the amount earned. However, at lower income levels, there is a significant difference. Specifically:

• At 1.5 times the minimum wage, the marginal net tax rate is 60 percent and 61 percent for couples ages 25 and 35 respectively.

• At ages 55 and 65, these rates drop to 14 percent and 22 percent respectively.

The difference stems from taxes and spending programs that relate to children and are means-tested. These programs impose steep marginal net tax rates on young couples. It is ironic that the very fiscal policies designed to help children are the ones most responsible for discouraging low- and moderate-income families from working.