This fact may not sit well: Americans are under-taxed
WASHINGTON — Here's a dirty little secret that most Americans don't want to hear: We're under-taxed.
That may sound like heresy; nobody wants to pay more taxes. But by historical standards, what we pay in federal taxes — rich, poor and everyone in between — has gone down.
At a time when Washington is wrestling with how to end federal budget deficits and trim the national debt — huge questions that are expected to dominate the nation's politics through the 2012 elections — the fact that Americans are under-taxed compared with U.S. historic norms is central to the discussion.
This fact is separate from the politically charged questions of whether government spends too much, the fairness of who pays how much and what we value or don't in government spending. It's simply that our tax burden is low in the long view of U.S. history, and there are many ways to measure that central truth.
One way is to look at the trend of total federal revenues, 81 percent of which come from income and payroll taxes, 9 percent from corporate taxes, 3.5 percent from excise taxes and 6.5 percent from other sources, according to the Office of Management and Budget.
The post-World War II historic average is that federal revenues equal about 18 percent of the U.S. gross domestic product, the broadest measure of annual economic production. In the year 2000, after the longest economic expansion in U.S. history, federal revenues equaled almost 21 percent of the economy. As a result, Washington cut taxes in 2001 and 2003.
Revenues plunged to around 15 percent of the economy in 2009 and 2010 amid the deep financial crisis, and dipped even further this year, to 14.4 percent, the lowest level since 1950.
Meanwhile, federal spending soared this year to 25.3 percent of the GDP, the highest since 1945, the last year of World War II.
The difference between spending and revenue yielded the federal budget deficit: $1.6 trillion this year, the highest ever.
Don't like that tax measure? Here's another:
Americans across all income classes paid lower effective tax rates in 2007, the last year of complete Internal Revenue Service data, than they did in 2000. The effective tax rate is what people pay after all exemptions and deductions. This is according to the most recent comprehensive look at taxes by the nonpartisan Congressional Budget Office.
The highest 20 percent of tax filers saw their total average federal effective tax rate fall from 28 percent in 2000 to 25.1 percent in 2007, according to the CBO. That's considerably lower than the current top marginal tax rate of 35 percent, and lower than the 27.5 percent effective rate in 1979, the first year that CBO data are available.
For the wealthiest 1 percent of filers, the effective tax rate fell from 33 percent in 2000 to 29.5 percent in 2007. The poorest 20 percent of filers saw their effective rate fall from 6.4 percent to 4 percent.
That's not to say the wealthy don't pay taxes — the top 1 percent paid 39.5 percent of all U.S. income taxes in 2007 — but taxes take a smaller share of their wealth today than historic post-World War II norms.
"They've been coming down for everybody, but we're taking more income at the top. Even if their rates are lower than they used to be, you are applying those lower rates to much larger income," said Roberton Williams, a senior fellow at the nonpartisan Tax Policy Center who spent 22 years as a CBO tax and income analyst. "The share of revenue being paid at the top end rises as their income rises too. But looking at the trend in effective rates, the rate has come
down" for all income groups.
The CBO data are instructive because 2007 was the last year before the U.S. economy slipped into recession and nearly crashed. Comparing with 2000 is equally instructive because it's the final full year before the Bush-era tax cuts. They became the Obama tax cuts last December when he agreed to extend them until Dec. 31, 2012.
"It's hard to argue that we're overtaxed, and we're low by world standards," said David Wyss, the chief economist for the New York ratings agency Standard & Poor's.
Joseph Thorndike, a tax historian and visiting professor at the University of Virginia, concurred that Americans are "under-taxed relative to historical averages." However, he cautioned that what Americans pay in taxes can't be seen in isolation from what their government is spending.
"I think it's half of the discussion," he said. In his view, the high level of today's deficits and debt dictates two responses: Federal spending must fall and taxes must rise.
"The hard reality that people should be alerted to is these taxes are going up. They have fallen for most of us to varying degrees, but it is hard to imagine a scenario where they don't all go up."
There's yet another way to gauge the tax burden, using data from the Commerce Department's Bureau of Economic Analysis that go back to 1929. The bureau's data on personal income make it possible to guess roughly what portion of income goes to the taxman.
Under this calculation Americans on average saw 17.3 percent of their income go to federal taxes in 2009 and 2010. The last time the percentage was this low was 1975, and during the late 1960s.
If you exclude social insurance taxes on wages — for Medicare and Social Security — the share of taxes as a percentage of income drops to 9.4 percent in 2009 and 9.3 percent in 2010, the lowest since 1950.
The overall tax burden rose sharply in the late 1960s, as Americans began paying for Medicare, which was created in 1965. The burden rose again in 1983 with an increase in tax for Social Security. And tax revenue reached record levels in the late 1990s because the economy was booming and people moved up the tax ladder as they grew wealthier.
Whatever the facts, however, Americans think they're overtaxed, and polls show that they've thought that to be true for more than 50 years.
The American Enterprise Institute, a conservative research center, in April updated its report on "Public Opinion on Taxes: 1937 to Today."
Never have more than 3 percent of Americans thought their taxes were too low, the institute's poll research shows. And never have more than half of Americans considered their taxes "about right," although in 2003 that was the answer for exactly 50 percent of respondents to a Gallup poll.
For most of the period between 1980 and 2000, more than 60 percent of poll respondents thought their taxes were too high. This number dropped sharply beginning in 2003 — perhaps partly because tax rates also declined — falling to less than half of respondents for most years since then. It was 48 percent in a Gallup poll in April 2010.
Why do so many people think their taxes are too high, in good times and bad?
"I think people see a real disconnect between what they pay in and what they get out. We pay a lot for defense, yet we don't have a tangible sense of what we actually spend in Afghanistan or Iraq. Almost half of unemployment insurance recipients say they've never benefited from a government program," said Andrew Fieldhouse, an economist with the liberal Economic Policy Institute.
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