So Who Pays For the Government and How?

I’ve always found putting things in historical perspective and looking at the long-term trend of things usually illuminates a lot of policy discussions. It’s easier to see “what’s really happening” if you look at the long-term trend.  Taxes, tax rates, and the government budget are often hot topics of policy debate.  So is the future of the intergenerational social insurance programs such as Social Security and Medicare (also here).

As Paul Krugman has often mentioned, the best way to think of the U.S. federal government budget is to think of the government as “an insurance company with an army”.  But who pays for this insurance company (Social Security, Medicare, Medicaid) and it’s accompanying army?  The distinct trend of the last few decades is that individuals are being asked to shoulder more and more of the burden and that corporations are carrying a less-and-less share. In fact, as this graph shows, the corporations are nearing becoming insignificant in their contribution to the general welfare and maintenance of our government.

The data for this graph is from Office of Management and Budget in this file.

 

More on Tax Fairness – We Pretty Much Have Flat Taxes Now

In the last couple of days I’ve posted a couple times on taxes. In one post, I observed how hedge fund managers have radically lower tax rates than the most of us because of a loophole introduced in the Bush-era tax cuts.  Yesterday, I showed  graphically how average income tax rates are actually lower than most people think.  In that last post, I introduced the idea that comparing income tax rates alone isn’t adequate. Since incomes below $106,150 are fully taxed for payroll taxes (Social Security/Medicare) but income over that threshold is payroll tax-free, the gap in average tax burdern between high income and median income is much smaller than most think.  But you may be asking what about other taxes? What about property taxes and sales taxes and state income taxes?

Well it’s a big task to do this analysis, but the folks at  Citizens for Tax Justice  used 2008 data for all federal, state and local taxes combined to do the analysis.  Here’s their analysis (via New York Times – warning paywall):

It found that the average effective tax rate is 29.8 percent, and that including state and local taxes makes the tax curve look much  less steep:

INSERT DESCRIPTION
Source: Citizens for Tax Justice Horizontal axis shows the income group. Vertical axis shows the percentage of income that the average member of that group pays in taxes. Taxes include all federal, state and local taxes (personal and corporate income, payroll, property, sales, excise, estate, etc.). Incomes include cash income, employer-paid FICA taxes and corporate profits net of taxable dividends.

So what do we learn from this?  It shows us that if we look at the overall tax system in the U.S., the complex patchwork system of federal-state-local income taxes, payroll taxes, property taxes, sales taxes, etc., we are pretty close to having a flat tax system.  The poorest, lowest income folks pay 18.7% of income as some type of tax while the the richest 5% do pay more, but they only pay 32.2%.

What is really stunning is how the top 1%, the really-really rich multi-millionaires actually pay less average tax rate than the those who are only rich enough to make the top 5%.  It must really be nice to be so rich that Congress tweaks the tax code just for you.

So the system is very, very mildly progressive.  A progressive tax system is one where the higher your income, the higher your average rate is.  To make a system progressive, you must have higher marginal tax rates for higher income brackets.  A regressive system is one where the effective average tax rate goes down as your income goes up.  In general, sales taxes and payroll taxes are regressive.  That’s why the overall system is relatively flat.  While the federal income tax system is somewhat progressive (although much less so since the Reagan & Bush cuts), that progressivity is offset by a regressive payroll tax and the  regressive sales taxes of various states.