Does It Pay Both Spouses to Work?
Wednesday, May 14, 2003
by Jagadeesh Gokhale and Laurence J. Kotlikoff
Table of Contents
- Executive Summary
- Calculating the Effects of Social Security on Two-Earner Couples
- Lifetime Taxes and Lifetime Transfer Benefits
- Lifetime Marginal Net Tax Rates for Working Spouses
- Components of Marginal Net Tax Rates
- The Impact of Social Security on Lifetime Marginal Net Tax Rates
- Present Value of the Loss from Forced Participation in Social Security
- About the Authors
Lifetime Taxes and Lifetime Transfer Benefits
9In order to assess the consequences of going to work, we need to calculate over a lifetime the extra taxes paid and extra benefits received or sacrificed as a result of that decision. In what follows, all lifetime taxes and transfer benefits are reported as present values.
Lifetime Taxes. Consider couples in which both spouses earn the same wage. Ignoring the lowest income levels, consider that:
- A couple earning an annual income of $42,800 can expect to pay more than $300,000 in taxes over the course of their lifetimes - an amount equal to about seven times their initial annual income.10
- A couple earning about $100,000 can expect to pay close to a million dollars in lifetime taxes - an amount equal to almost 10 times their initial annual earnings.
- At higher levels of income, expected lifetime taxes tend to be between 10 and 11 times initial annual earnings, regardless of the amount earned.
On the tax side, then, our system is mildly progressive. As a percent of lifetime income, the tax burden rises modestly as income rises, then levels off once income rises above $100,000.
The Composition of Lifetime Taxes. One reason why the overall tax system is not more progressive is that people pay different types of taxes at different income levels. Although the rate structure of the federal income tax system is fairly progressive, payroll taxes tend to be proportional to income (although typically capped at a certain income level) and consumption taxes tend to be regressive, taking a larger portion of lower family incomes. In general, the tax burden borne by lower-income families tends to be weighted toward proportional and regressive taxes:11
- For a family earning $32,100 a year, half the taxes paid are payroll taxes and only 30 percent are income taxes.
- By contrast, for a family earning 10 times as much, three-fourths of all taxes are paid in the form of income taxes, and less than one in five tax dollars comprises payroll taxes.
"A minimum wage couple can expect to pay $100,000 in taxes and receive $270,000 in entitlement benefits over their lifetimes."
Lifetime Transfer Benefits. A couple in which both spouses initially earn the minimum wage and remain at the bottom of the income ladder throughout their working lives can expect to pay more than $100,000 in taxes over their lifetimes. However, they can expect to receive back almost $270,000 in benefits. Thus a low-income household gets a very good return on its taxes. (Note, however, that it is very difficult to work full time and earn only the minimum wage for four to five decades.) Going beyond the lowest income level, consider that:
- A couple earning an annual income of $42,800 can expect to receive about $94,000 in lifetime entitlement benefits, measured in current dollars.
- At $85,700, the couple's expected entitlement benefits rise to $104,000.
- At an income level of about $170,000, the couple's entitlement benefits reach about $127,000, where they remain, regardless of the size of the family's income.
Unlike taxes, which tend to be proportional to income once a certain income level is reached, transfer benefits tend to be constant once a certain income level is reached. This means that benefits as a percent of income tend to fall as income rises.
- At $42,800, couples can expect to get back about $1 in transfer benefits for every $3 they pay in taxes.
- At $85,700, couples can expect to get back less than one in seven dollars they pay in taxes.
- At about $200,000 in income, they can expect to get back less than one in 16 tax dollars.
Composition of Transfer Benefits. The principal reason why transfer programs tend to be more progressive than the tax system is that many programs are means-tested. Although rich and poor alike participate in Medicare and Social Security, only low-income families have access to means-tested benefits, the most important of which is Medicaid. Moreover:
- About 70 percent of all transfer benefits received by a couple earning the minimum wage over the course of their working lives consists of Medicaid benefits, and only one in four dollars is in the form of Social Security and Medicare benefits.
- By contrast, a couple earning $150,000 receives all of its transfer benefits in the form of Social Security (73 percent) and Medicare (27 percent).