Arnold Kling  

Taxes and the Two-Income Trap

Are They All Orphans?... Reality and Health Care Spendi...

Todd Zywicki writes,

In turns out that for the 1970s family, paying 24% of its income in taxes works out to be $9,288. And for the 2000s family, paying 33% of its income (a higher rate presumably because of progressivity hitting the second wage-earners income) in taxes works out to be $22,374.

Thus, taxes increase in the example by $13,086. By contrast, annual mortgage obligations increased by only $3690 and automobile obligations by $2860 and health insurance $620.

Indeed, because of this huge increase in the tax bite, the percentage of family income dedicated to payments for health insurance, mortgage, and automobiles actually fell between the two periods.

He doesn't even mention payroll taxes. Note also that the effect of payroll taxes on take-home pay is somewhat hidden by the fact that employers pay half the tax, although the incidence is thought to fall on labor. Also note that for people with combined incomes of $100,000 or more, the payroll tax hits you harder if your income is earned by two people than by one person.

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CATEGORIES: Income Distribution

COMMENTS (12 to date)
Bruce Jenks writes:

What about self employed people? Don't they pay the incresing payroll taxes, too, as well as the regular taxes? What if both earners are self employed?

Mr. Econotarian writes:

A self-employed person pays 15.3% payroll tax. The tax is composed of a Social Security tax of 12.4% on the first $87,900 of wages, and a Medicare tax of 2.9% on all wages. (You figure this on Schedule SE)

Alex writes:

The numbers are a crock. The family with the "33% of income in taxes" sees $4000 subject to the 25% bracket; the rest is taxed at 15%. After you include the mortgage-interest deduction and the child tax credits, their income tax rate will be lower than 15%.

Of course, if you get the numbers right, it's a lot tougher to justify an anti-tax screed, isn't it?

Patrick writes:

Alex is right - there is no source for either the 24% figure or the 33% figure in either the Warren & Tyagi/Warren piece, or in Zywicki's analysis.

But just thinking about it shows that the numbers don't add up: what would the marginal rate have to be in order for tax payments to rise to 33% of income? Husband was earning $39K, and say that some new tax bracket kicks in at $40K, so *all* the wife's income is taxed at the higher rate. They say that the wife increased family pre-tax income by 67%, so she must have added $26K, for a total of $65K pretax. 33% of that is $22K. Find X:

($39K)(.25) + ($26K)(X) = $22K

X = .47

No individual or family was paying a marginal tax rate of 47% in 2000.

Bottom line: Warren & Tyagi/Warren confused average and marginal rates, pulled the 33% figure out of their ears, and then Zywicki and Kling accepted the figures uncritically.

I'm all for lower taxes and smaller government - but I expected Arnold to be better at the math!

Josh writes:

RE: Alex,

Using the current federal income tax rates, I get a roughly 15% tax rate on reported gross income for the $68k couple. Then add a 15.3% payroll tax on adjusted gross income (assuming, as Arnold does) that the tax incidence for the employer's contribution is on the employee. This gives you a 28% tax rate (of adjusted gross income with the employer's payroll contribution added) without even taking into account state income tax (which is several % in most places), sales taxes (which are again, probably several % of income), property taxes, gas taxes, tolls, etc.

I would say, as Arnold suggested, that they aren't taking into account the employer's contribution to the payroll taxes because that's going to add up to a lot more than 33%.

Alex writes:

Absolutely, but the payroll tax was there in 1975 too. It was 11.7% instead of 15.3%, but at the same time, the income tax rates were higher. Doing the math for the couples listed shows the following:

1975 couple (38,700 in income): 26.7% income tax rate + 11.7% payroll tax rate = 38.4%

2005 couple (68,700 in income): 15.2% income tax rate + 15.3% payroll tax rate = 30.5%

The difference from 26.7% to 24% and from 30.5% to 33% is probably due to some variation in the tax rates during the 1970s and 2000s. I picked 1975 and 2005, and the original author probably picked some other year (my guess is whatever numbers gave the highest taxes in the 2000s and the lowest in the 1970s).

It sure looks like the numbers the original author is using do NOT include payroll tax in the 1970s, but then do include payroll tax in the 2000s. I smell someone cooking the data to get it to support his point.

Worse, even the real analysis, which shows a LOWER effective tax rate, is cheating in favor of the anti-tax screeders - I'm not taking into account the much larger child tax credit in 2005 over 1975, plus the increase in the mortgage interest deduction that accompanies the increased mortgage amount that the original author describes.

I didn't list all the math, but I took married filing jointly brackets and applied them to each bracket of income. See here for data source:

8 writes:

Go take a look at a graph of total government spending as a percent of GDP. It's higher now than it was in the 1970's. Add in increasing healthcare spending which belongs to the worker but is spent by the employer. Add in the changing mix of government spending, with education quality declining but prices increasing, and less spending on public goods like infrastructure in favor of transfer payments.

El Presidente writes:

I don't know about the individual circumstances of you all, and am not certain about the ETR on federal income taxes. Since it sounds about right and I have no reason to doubt it, let's say the 15% mentioned above is accurate. The excerpt did not say "income taxes"; it said “% of income”. Assuming I am a single man living in Los Angeles with an Federal ETR of 15%, I still must pay for sales tax (8.25% x approx. 35-40% of income), property tax (about 2% of assessed value per yr.), infrastructure maintenance and improvement factored into my public utility bills, at least 50 cents per gallon in gas taxes, California state income tax, and whatever fees and licenses I incur. If I understand the excerpt correctly they are referring to total tax burden. Sorta makes it hard to justify an incomplete rebuttal, no?

I am much more concerned about how that total tax burden is distributed and what we get for the money. As was noted, public education, especially in California, has declined in graduation rates and test scores. Our infrastructure is outdated and only satisfactorily maintained, if that. Our land use policies have distorted real estate markets and caused inefficient land use and low returns to infrastructure. There are a lot of things that we aren’t doing well together. As a political scientist, I can tell you we have muddied the water a great deal and can no longer tell whether the social contract is being honored. As a public administrator, I can tell you with certainty we can do better. As a budding economist, I am trying to learn how to bring it about.

If we would pay closer attention to what we get for our money (value) and place less emphasis on how much we spend (price) then I think we’d be able to come a lot closer to agreement on what is a reasonable tax burden and how it ought to be distributed. It reminds me of the first question you hear from car salesmen when you begin the sales conversation. "How much do you want to pay per month?" How about we stop being the suckers who shell out interest on bonds to finance things we could afford if we'd save and be clear on what it is we're buying? Deficits do matter because deficits increase the price and decrease the value. For all of the Reaganites in the crowd, quit trying to sell us cars in the form of corporate profits that are "good" for us. Start owning up to the fact that unless some of those monies are reinvested in public goods this is an unsustainable pattern and a system in peril. What are the real costs and benefits? Or have you forgotten that game?

Scott writes:

I don't know anyone paying only $9,000 in annual mortgage payments (you can't even rent a decent apartment for that). One other factor not mentioned is the cost of a college education; in 1970 that was $2,500 (about 2 months of disposable income according to Arnold) and today it's a minimum of $20,000 (over a years worth of disposable income according to his figures)- that's after tax dollars!

Tom Kurkowski writes:

I am too wondering how the tax rates are figured. Does this include state income taxes, sales taxes, property taxes, etc.?

R Noble writes:

All of the comments and examples are good reasons to scrap the income tax system for a sales tax. As that would require repealing the 16th amendment, it's probably unlikely. Slightly better would be a flat rate with no deductions that exempts the first X-Thousand of income; so that families making the same income pay the same amount regardless of how many children they decided to have our how big their mortgage is. I want reform that is behavior nuetral, just set the percentage so that enough tax is received. Income tax reform is always thwarted by trotting out some "working family of four" that would heaven forfend pay more ($200!!)under a flat tax plan. God bless the families filing below the median, but they pay 3% of the income tax bill. Should they pay zero and have representation without taxation?
Even without including employer contributions for Soc. Sec. and Medicare and our quaint "company store" way of purchasing health insurance, our tax bill is higher than our house payment, car payment, utilities, food, day care etc. combined. Somehow this seems wrong without a thank you note instead of a scary warning about under-withholding.

KMRoberts writes:

Most posts are discussing the diagnosis side of the article, which is great.

But the prescription of the WSJ opinion was another call for flat income tax to replace that horrible progressive income tax regime that is causing so many sleepless nights among the wealthy. Once again, the WSJ ignores the total tax burden which is greatly regressive.

Leaving the diagnosis debate to you all, I suggest that the prescription--if indeed the 2000 two-income family is being creamed by income taxes--is for better credits for things like childcare, for the second car et cetera.

We all do better when 2 parents work ... especially mothers who get to keep tracking in a career. If we can get quality childcare for the kids. The tax regime should encourage it.

Today, childcare credits cover on the order of about $1/hour of what it really costs to pay for full-time childcare all year. You can't even get an illegal immigrant to watch your kids for $1/hour!

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