NCPA - National Center for Policy Analysis

The Increasing Progressivity of U.S. Taxes

May 6, 2011

Recent discussions of tax reform and tax expenditures mistakenly assume that static tax expenditure estimates predict that $402.9 billion of added revenue could be raised from 2010 to 2014 by taxing capital gains and dividends at the same rate as ordinary income.  On the contrary, such a policy would surely reduce federal tax revenue by greatly reducing the reported amount of capital gains and dividends, says Alan Reynolds, a senior fellow at the Cato Institute.

  • Average individual income tax rates fell most dramatically for the bottom 80 percent of taxpayers from 1979 to 2007, with the bottom 40 percent now receiving more in refundable tax credits than is paid in taxes.
  • The highest marginal tax rate fell from 70 percent to 15-35 percent on investment income and from nearly 40 percent on capital gains in 1976-1977 to 15 percent after 2003.
  • Revenues from the individual income tax nonetheless remained close to 8 percent of gross domestic product (GDP) whenever the economy was doing well, regardless of top tax rates, and overall revenues remained close to 18 percent of GDP.

The dramatic tax cuts for the bottom 80 percent were made possible by greatly improved incentives to report and pay taxes on the highest incomes in recent years, particularly on realized capital gains, taxable interest and dividends.  To put that process into reverse, by moving back toward the higher tax rates of the past, would clearly reduce the amount of capital gains, dividends and other income reported by the top 1 percent.  Unfortunately, it would probably also reduce the share of taxes paid by the top 1 percent, says Reynolds

Source: Alan Reynolds, "The Increasing Progressivity of U.S. Taxes: And the Shrinking Tax Base," Cato Institute, May 3, 2011.

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