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How much is America taxing its rich?
Lots, at least for some:
It might be fair to have the rich pay half their income . . . but when you factor in other taxes, many of them do. My old colleagues moving to New York City from London were frequently heard to say "What is this rubbish we've been talking about America having low taxes? My taxes are higher here!" That's because New York State and New York City together levy an additional income tax of 10% once your income is over $100K, which pushed two-income families above Britain's 40% top tax bracket. A 50% tax rate on top incomes would result, for New Yorkers, in a 60% effective total income tax rate total, with their incomes further eroded by the city's 10% sales tax. Since pretty much the entire increase in inequality in the last few decades seems to have come from a few zip codes in the high tax zones around New York and San Francisco, this matters.
There are broader lessons. First, tax incidence is tricky. If location is such an enormous source of economic value, will local income tax rates, and also sales tax, in fact fall on landowners in those cities?
Second, not all of these people can convert their labor income into capital gains income, which is taxed at a much lower rate. In other words, high-earning Manhattan journalists face exorbitant rates of taxation, as do doctors without their own practices. That's one reason why it is becoming a city of equity holders.
Third, those who can opt for capital gains, for tax reasons, end up with more exposure to income risk than they ideally want. Boo-hoo for the billionaires you might say, but the added risk raises income inequality for the winners who constitute the top one percent, relative to other income classes. That doesn't bother me much, but the policy is helping create a result it was designed to counteract.
Fourth, if you're planning on raising marginal tax rates on the wealthy, there may be less "give" in the system than you might have thought. This of course depends on tax incidence, but if behavioral considerations matter, many people resent nominal marginal rates of 60 percent, even if they are earning some of it back in the form of higher wages.
Posted by Tyler Cowen on October 23, 2007 at 01:42 PM in Data Source | Permalink
Comments
I'm confused how a 50% top marginal rate could ever result in a 60% effective rate, even given an extra 10% to the state (which is generally deductible unless you are under AMT).
If the effective rate is ever greater than the marginal rate, something is strange.
Also, we can look at the opposite correlation of the inequality/greater equity holdings equation.
Rising inequality increases the pool of folks with excess income beyond whatever luxury purveyors may soak from them. Most aren't gonna want their x bazillion dollars sitting around in a savings account. Some advisor told them that was a bad idea.
So they'll buy equities or property. That might help explain some of the curious lack of volatility and easy credit over the last several years.
Posted by: talboito at Oct 23, 2007 2:16:44 PM
Let me be the first to say, boo-hoo for the billionaires. Even with your sort of back-of the envelope calculation, the tax burden in New York is still lighter than in London (and would be even with a marginal rate of 50%). The UK has a 17.5% sales tax and no tax write-offs for the mortgage of that million-dollar mansion like in the US. Add the $2500+/yr/household "council tax", and you will see that the tax rate is easily above 60%, even without social security.
Does this discourage the hedge-fund/banking high-flyers from working weekends? Not at all. The Laffer curve threshold is not that low.
Posted by: Marton at Oct 23, 2007 2:24:54 PM
Marton: What are the outlays for healthcare in London vs. Manhattant?
Not that I want to swap systems.
Posted by: caveat bettor at Oct 23, 2007 2:48:10 PM
My old colleagues moving to New York City from London were frequently heard to say "What is this rubbish we've been talking about America having low taxes? My taxes are higher here!"
Classic McArdle "evidence." She knows someone who told her something.
talboito,
Presumably, the 50% marginal rate becomes the effective rate, more or less, because some people make so much more than Reich's suggested $500K threshold that lower rates on income up to $500K don't have much impact. Think about that. The effective rate approaches 50% only at incomes well up in the millions. That suggests that wealthy journalists, and even most physicians will not pay the 50% rate on average.
Posted by: Bernard Yomtov at Oct 23, 2007 2:49:52 PM
She probably meant "total effective marginal rate," not "total effective average rate." That would make the marginal rate only 55% if state income taxes are deductible, but most of the high earners are probably hit by the AMT, so 60% is the right marginal rate.
Posted by: ed at Oct 23, 2007 3:45:35 PM
There is a reason why of the $1.2 trillion invested in hedge funds worldwide, $120 billion (10 percent) is managed in Greenwich CT .
Size, of the income tax rate, matters.
Posted by: happyjuggler0 at Oct 23, 2007 4:04:41 PM
Caveat Bettor- I've seen a number of British executive contracts and without exception they obtain their own helath insurance and try to get the employer to cover it. Its anecdotal, but conforms to intuition: what wealthy Brit permits the Government to ration his medical care?
I still don't understand where we get to a 60% income tax rate in the U.S. New York State's highest rate is 6.85%, or 4.45% if you account for its deductibility against the highest federal rate (and the very, very wealthy won't pay AMT). NYC is 3.648%. The highest federal rate is 35%.
That cannot add up to 60% or even 50%. I'm not sure how you translate sales tax or property tax into an incoem tax rate, but I can't imagine it delivers you to 60%.
Posted by: guy in the veal calf office at Oct 23, 2007 4:25:23 PM
I doubt that many of these hedge-fund types go without employer health insurance...
Anyway, my wife's marginal tax rate is just under 50%, and we make about $230K/year combined. She is self-employed, and pays 28% federal tax, 9.3% (CA) state income tax, and 15.7% self-employment tax. Some of these are deductible from each other, so just adding them isn't quite right, but she still pays slightly less than 50% tax on her income.
I suppose pedants would argue that self-employment tax is some sort of pension payment and not a "tax", but it walks like a tax and quacks like a tax...
Posted by: Foobarista at Oct 23, 2007 4:29:58 PM
Like Megan, I'm always a little disappointed when articles about total taxes paid ignore plenty of the other taxes that people pay. Incidence on sales and businesses taxes can be tricky, but it's important, too. As are licensing and registration fees, excise taxes, and all the rest of the ways that governments raise revenue from the citizenry.
If you want to be overly judicial, you might even check to see if public business-like services charge you a premium for their services. (Does your state charge a premium on your energy bills to cover costly renewable energy?) That, too, taxes our incomes, even if it's not directly a tax.
All things considered, I wouldn't be surprised if most people end up generating government revenues of over 50 percent of their income.
Posted by: JH at Oct 23, 2007 4:30:35 PM
guy in the veal calf office - the 50% is Robert Reich's proposal for federal tax rates, not the currently existing rate.
Posted by: Anthony at Oct 23, 2007 5:02:48 PM
It was several years ago that I last went through the exercise of determining the total tax bite on my New Jersey based household. Tallying all income taxes (Federal and State), "social" taxes and unemployment taxes, County and Municipal Property Taxes, Fire District taxes, sales and use taxes, excise taxes, Franchise taxes (on all utility bills), various taxes disguised as "fees" (i.e.,"phone and internet connectivity fee".etc.), the amount of taxes actually paid in a year came to 48.9% of our two-earner household income.
Posted by: persiflage at Oct 23, 2007 5:06:23 PM
Marton,
I believe there is no ad valorem property tax in the UK. So that should be factored into the comparison.
Posted by: at Oct 23, 2007 9:28:51 PM
There are also no state/county/local income taxes in Britain. But there is a 17.5% (hidden) sales tax on everything, as wll as much higher taxes on gasoline.
Posted by: bartman at Oct 23, 2007 10:54:51 PM
One consideration when discussing top tax rates is who pays it. There's often a pretty general "rich people" group that gets thrown about - but the top marginal tax rate often kicks in well below an amount that anyone on Wall Street would consider "rich".
The top 1% is a different group from the top 5% or the top 0.1%. One of the problems we have with our tax system up here in Canada is that the top rate starts a but over $100k in annual income. Now I don't weep for people who make $100k, but I think there are extremely different considerations in taxing them versus in taxing those who make greater than, say $500k a year.
I'd be all for a very high tax rate on the very richest - someone who makes $1M a year can afford a tax that would be punitive on those who make even $200k a year.
Posted by: Andrew Edwards at Oct 24, 2007 12:51:11 AM
When I discovered that Australia now collects a smaller percentage of GDP in tax than the U.S. I was surprised. But then I realized that most workers in the U.S. will receive social security whereas most Australians currently working will receive little or no government pension. Instead we have a forced savings program that isn't counted as tax to fund retirement. These sorts of things will need to be considered when comparing tax rates.
Posted by: Ronald Brakels at Oct 24, 2007 2:08:59 AM
The only difference between the US forced saving program and our forced saving program is that in Australia we can self manage ours. We're not stuck buying your worthless treasury paper.
Posted by: Christine at Oct 24, 2007 2:28:18 AM
"There are also no state/county/local income taxes in Britain."
Huh? Ever heard about council tax? I pay 1400 pounds per month for a 1 bdrm flat. To which I must add 105 pounds per month in council tax.
http://www.adviceguide.org.uk/index/
life/tax/council_tax.htm
Posted by: J at Oct 24, 2007 3:53:39 AM
"The only difference between the US forced saving program and our forced saving program is that in Australia we can self manage ours. We're not stuck buying your worthless treasury paper."
And the US system isn't even a forced savings system. That money is not in an account by contributor; there is no guarantee that we will get that money when we retire. If we could invest it ourselves, it would be ours and we would probably get a much better return than the gov't does. I'd much rather have a forced savings program than our SS tax.
Posted by: class factotum at Oct 24, 2007 7:42:05 AM
J: What you're describing is a property tax. I was speaking of income taxes.
Your property tax of 105 quid/month is aboput $2500/year, which is not so different from what you'd pay in many parts of the US. However, my point was that when comparing US to UK rates, in the UK there is but one income tax, whereas in the US people often look only at the federal income tax, overlooking the state and local level ones (which, in my case are about 5% combined.) Also, those taxes are totally non-progressive and you do not get to deduct a penny from them.
Posted by: Bartman at Oct 24, 2007 8:50:13 AM
I can't believe people defend such high taxation. At what point do you start to think "this just feels wrong"?
Posted by: josh at Oct 24, 2007 9:29:40 AM
If taxes were too high in NY or SF, rich people would be living in cheaper areas, say, Indianapolis.
Not happening. Arguably, we should raise the tax rate in NY so that we can redistribute the nation's wealth more equitably, geographically speaking.
Posted by: Allan at Oct 24, 2007 10:09:29 AM
Allan: raising the State income tax in NY will distribute income around NY state, not the nation. Are you implying that the IRS have different marginal rates for different areas? Given that NYC has a high concentration of billionaires relative to most of the rest of the country (save, perhaps, Greenwich), then Manhattan is paying a larger per capita amount of income tax than most of the rest of the country, which is causing geographical distribution. Lots of Manhattanite tax dollars are ending up in the hands of military contractors in Kansas and bureaucrats in DC.
What, exactly, are the benefits of geographical distribution that warrant the 40% destruction of the wealth that is stolen by taxation?
Posted by: Bartman at Oct 24, 2007 11:29:41 AM
I did not say that there was a general benefit to geographical distribution. What I was saying is that, if the taxes in NY or SF are too high, we would be seing an exodus of the rich to places with lower marginal tax rates (caused by lower state tax rates).
Since those who are most affected by the tax rates are staying, one can only conclude that they think the benefits of living in NY or SF are worth the costs. Isn't that the invisible hand of the market working?
Posted by: Allan at Oct 24, 2007 11:58:13 AM
Bear in mind, council tax is paid whether you OWN or RENT the property.
Posted by: U at Oct 24, 2007 12:29:24 PM
First, tax incidence is tricky. If location is such an enormous source of economic value, will local income tax rates, and also sales tax, in fact fall on landowners in those cities?
Uh... New York and SF landowners are not exactly poor, so I'm not sure what your point is. Of course taxing the urban land rent directly would involve no excess burden (so the effective tax rate might be lower) but this is a pure gain in efficiency, not a change in progressivity.
Posted by: guest at Oct 24, 2007 1:45:08 PM
Is anyone interested in doing a proper comparison between, say, London and New York at a rate of $100K/£50K.
In British and know the system there, I can explain it a little. I'll show what in the London you can expect for £50K. Firstly, it must be understood that in the UK you pay two income taxes "income tax" and "national insurance". National insurance is a progressive/regressive tax it will cost £1689 for the first £34840, then 1% thereafter, that's £152. Income tax - This will cost 0 below £2150, 22% below £33.3K and 40% afterwards. In total it will cost £13534. So, for £50K you take home £34625. The aggregate tax rate is ~30.75%. The incremental tax rate for every extra £ earned is 41% because of the 40% top income tax rate and 1% national insurance rate.
This does not include Council tax though, if you live in a 4 bedroomed house in London you can expect to pay ~£2500 per year. Taking this into account brings the effective rate to 35.75%.
Overall income taxes and properties taxes are not so bad. But, as others have mentioned non-income taxes are higher in the UK. Value-added-tax (VAT) which is charged on most goods sold is 17.5%, that's 7.5% more than in the US. Also, income from dividends and government bonds attracts 32.5% income tax, unlike in the US. Also, capital gains attract a high tax and involve a very complicated system that sometimes results in some investors paying almost nothing and some investors paying lots. But the limit is £34K of divestment per year. Even someone earning £50K would find it difficult to invest enough to make it a big issue.
Lastly, a very important asset is exempt from UK capital gains tax - your house. Houses also only involve a small purchase tax. It is therefore possible to invest in a very tax efficient manner by buying and selling progressively larger houses. This is what most of the well off people I know do.
If someone could explain similarly the USA then a comparison could be made.
Posted by: Another guest at Oct 24, 2007 3:29:51 PM
Another quest:
In the U.S., state income tax varies by state from 0% to close to 20% top marginal rate. Some states allow localities to charge income taxes. California does not, though San Francisco (uniquely in CA) has a payroll tax of 1%, but that only applies to wages and salaries earned in SF proper (which holds maybe 10% of the Bay Area's population). People anticipating large capital gains can move to states with no (or low) income tax for the year of the sale, saving themselves the state income tax on the gain. Nevada has become popular with California retirees for this reason (among others).
Property taxes vary from 1% to slightly over 3% of the value of the house, with many local quirks. For example, California only allows re-assessment of 2% per year, until the house is sold, then the house is reassessed to the purchase price; Iowa has a system where the tax rate is close to 3%, but each county has a "rebate" based on growth in total assessed value in the county - the rebate is generally just below 50%.
Many states and localities have transfer taxes on real estate; mostly on the order of 1% as far as I know.
Renters do not directly pay property taxes.
The tax rules on houses have changed in the past decade - one may now realize up to $250,000 profit on a house tax-free ($500,000 if married filing jointly), provided one has lived in the house 2 of the past 5 years, and has not used the exemption in the previous tax year. People turning 65 can take a larger tax break on a house sale one time in their life.
Sales taxes vary from 0 to near 10% - I think Alameda County (in California) now has the highest sales tax, at 8.75%, since last I heard, Manhattan's 10% rate was lowered to 8%.
Posted by: Anthony at Oct 24, 2007 5:01:35 PM
.
[" I can't believe people defend such high taxation. At what point do you start to think "this just feels wrong"?
--Posted by: josh]
...American liberals/progressives will never say what level of taxation is enough for their government's 'needs'-- more is always required.
But it's a good question to toss at all the big-government types; the dumbfounded look upon their faces is always amusing:
'What is the 'maximum' percentage of income that the government should ever take from the citizens ??'
Posted by: Merced at Oct 24, 2007 5:31:57 PM
When my oldest child was contemplating a college education, my wife and I sat down and explained the economic "facts of life" to her, including the various sources of money and levels of taxation. When we were done answering questions and explaining figures, an appalled look set on her face. "Dad, this is nuts! No one should have to pay more than twenty percent of their income as their share of running the government!" From the mouths of children...
Posted by: persiflage at Oct 24, 2007 8:59:26 PM
Allan: "If taxes were too high in NY or SF, rich people would be living in cheaper areas, say, Indianapolis....Not happening."
Are all the rich people remaining in NY? I think it depends on what you mean by rich. If you are referring to those who pay lower federal tax rates on dividends and capital gains, and those who live on tax-exempt municipal bonds, well, they wouldn't suffer the high combined marginal tax rates cited in the post. But those who have high earned incomes are a different matter. Hundreds businesses - including corporate headquarters - have left NYC over the past four decades. Some knowledgeable people cite the high personal and business taxes as the cause for that exodus.
Steven Malanga, in a City Magazine article, points out that New York City employs 200,000 fewer people than it did 35 years ago. He blames high taxes:
"Over the past 35 years, those high taxes have sucked billions out of the private sector, depriving it of needed capital for expansion and ultimately driving away thousands of businesses, including around a hundred Fortune 500 firms, and leaving fewer quality jobs for New Yorkers."
Posted by: John Dewey at Oct 25, 2007 3:46:15 AM
The annoying issue is that billionaires aren't hurt by high taxes; they can structure their income so that they cook it into capital gains that are never realized, hide it in complex foundation/charitable schemes, or have it go offshore. Cashflow taxes hit the "upper-middle" hardest, since the type of income they have is the most heavily taxed kind: salary/wage/bonus income.
Income from assets is much easier to "reprocess" into lower tax schemes and is likely to form the bulk of the income of the very rich.
Posted by: Foobarista at Oct 25, 2007 4:05:51 AM
Allan: "If taxes were too high in NY or SF, rich people would be living in cheaper areas, say, Indianapolis....Not happening."
Maybe Californians aren't moving to Indianapolis, but aome apparently are moving to lower tax states:
Natalie Gulbis
"the state of California won’t see a cent of tax revenue from a native daughter’s success. That is because Gulbis, like many prominent California-born sports stars, has moved to establish residency in an income-tax-free state before her biggest paydays as a professional athlete."
Tiger Woods
"The state's best-known golfer, Tiger Woods, abandoned California for the tax-free confines of Florida when he signed a lucrative $40 million endorsement deal with Nike in 1996.
top athletes flee California to avoid high taxes
Entrepreneurs
"Fred Sibayan, co-founder of Exodus Communications ... moved to Nevada the year Exodus went public and his stock options turned into a bull's-eye target for the California taxman.
High-tech rich leave taxing problems behind
"Under California's backward tax policy, the very entrepreneurs responsible for economic growth and prosperity are being punished the most severely. Given California's tax-happy political culture, it is no wonder the wealthy and the successful are leaving the state in droves."
California Taxation Leads to Mass Migration
Posted by: John Dewey at Oct 25, 2007 12:20:49 PM
The top NY state rate is 6.85 and the top city rate is 3.648, according to the NY State website and the Federation of Tax Administrators. These taxes are deductible in computing federal tax, unless the taxpayer is subject to the AMT. Most of the super-rich (those who are well into the top federal bracket of 35%) are not subject to the AMT; it tends to be an upper middle phenomenon, where the AMT rates tend to be closer to the rates under the regular tax. I seriously doubt if they are many New Yorkers paying effective rates anywhere close to 50%. Keep in mind the FICA or self-employment tax (other than the Medicare portion) is capped at wasges of less $100K. This is likely a case of cognitive misperception by an unhappy Brit.
Posted by: JT Mike at Oct 25, 2007 11:13:37 PM
I personally would not mind if 69 year old James Simons paid 100% tax on all the dollars over $250m that he made just last year. Who needs all that money in one lifetime? I am ok with capitalism and greed, but he made something like $1.5b the year before?!? What happened to that? I doubt a 100% tax would even make him quit his job, but if he did, I'm sure he could fill a 40 hour week watching over his investments...
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