America’s Tax Confusion

Published April 24, 2014

On April 15, nearly 90 percent of American adults filed their income tax returns for the 2013 tax year. And at the end of that day, I finished drinking a glass of truly tremendous bourbon; 130 proof seems appropriate to numb the pain.

A big check to the state, and a much bigger one to the federal Treasury, reminds us of how little we get for the taxes we pay and how much the tax system is distorted to favor special interests and buy votes. (If you have to write a particularly egregious check to your state, you might want to consider this new and helpful Laffer Center calculator called “Save Taxes by Moving.” Those living in Tennessee get the best of both worlds: No earned-income tax but some very fine local whiskeys.)

With more than half of President Obama’s 442 proposed tax increases as well as some of the heftiest Obamacare taxes (since Chief Justice Roberts told us that that’s what they are) coming (or hoped by the administration to be imposed) in the next two years, we will soon look back on this tax season the way you fondly recall getting a filling when the dentist tells you that today you need a root canal.

But even now, the American people despite being woefully misinformed about our tax system — exactly as the left wants them — are adding the federal income tax to their many dissatisfactions with Obama administration.

According to a Gallup poll released on April 14, 10 percent more Americans now think their taxes are too high than think their taxes are about right. That level has only been matched once, and only briefly, since the Bush tax cuts of 2003 that Democrats hate with such a passion.

Not surprisingly, a majority of Democrats think their taxes are “about right,” whereas only 38 percent of Republicans share that view. Independents seem to be even more concerned about excessive tax rates (for their own taxes) than Republicans are — which should scare the bejesus out of Democrats going into the 2014 elections, as if they don’t have enough to worry about.

But beyond the expected partisan differences in satisfaction with taxes, this week’s polling also shows a remarkable cluelessness among the American population when it comes to “who pays what” in federal income tax. It proves, sadly, that class warfare rhetoric, as spouted by President Obama and the great unwashed of Occupy Wall Street and many others, is having an impact (because the well-off are apparently too ashamed of success to mount a credible defense of economic liberty).

Forty-nine percent of Americans, according to another Gallup poll, believe that the middle class pays too much in taxes. It is by far the highest number on this question since Gallup started asking it 15 years ago. A stunning 41 percent believe that lower-income Americans pay too much in taxes, this despite the fact that most of them are net receivers of tax dollars.

Yet 61 percent of Americans continue to believe that their upper-income friends pay too little.

A Rasmussen Reports survey released last year, offers an explanation: “68% believe middle-class Americans pay a larger share of their income in taxes than wealthy Americans do” and “only 24% think the wealthy pay their fair share.”

But it’s all BS.

Ronald Reagan, paraphrasing Civil War-era humorist Josh Billings, put it this way: “The trouble with our liberal friends is not that they are ignorant, but that they know so much that isn’t so.”

Like a noxious weed, Warren Buffett’s hypocritical ramblings about his secretary have taken root in the American psyche. Unfortunately, Republicans who should be the “Roundup” of economic debates, often act instead like weed fertilizer — allowing the unchecked spread of misinformation and bad policy by being too stupid or too timid to tell the public the truth they desperately need to know. Perhaps manure is a better metaphor since the GOP does such a crappy job where it’s needed most. (Did I mention how good this bourbon is?)

A few facts to consider, based on 2010 Congressional Budget Office data:

The bottom 40 percent of earners in this country, with average pre-tax earnings up to nearly $50,000, have a negative tax rate. The bottom 20 percent have a negative tax rate averaging more than 9 percent. In other words, if you earn $24,000, not only do you not pay income tax, you receive over $2,000 in income tax transfers (in addition to other forms of welfare) from those who do pay tax.

The average federal tax rate — individual income taxes, excluding payroll taxes — for those in the fourth quintile, meaning those between 60 percent and 80 percent of earners ranked by income (average pre-tax earnings of about $95,000) is about 5 percent. That is not a typo.

For those in the highest quintile (average earnings $239,000), the average tax rate is just under 14 percent, but even that understates how steeply “progressive” our tax code is: Breaking down the top quintile further, the average tax rate for those in approximately the 85thpercentile (income about $135,000) is 8 percent. Those earning about $275,000 pay 15 percent of their income to the Treasury. And the evil “top 1 percent” (average pre-tax income of $1.4 million) pay over 20 percent of their income in taxes.

On the other hand, the middle 20 percent of American earners, average income just over $65,000, had an average tax rate of — wait for it — 1.6 percent.

[If you wonder about why average tax rates are so low, a few considerations: First, the lowest levels of income aren’t taxed. Second, there are large deductions and exemptions available. As a simplified example, imagine a scenario where there is zero tax until $15,000 of income with a tax rate of 10% above that threshold and a $7,500 personal exemption. Someone who earns $30,000 will have $22,500 of adjusted gross income, but no tax on the first $15,000, leaving a 10% tax on $7,500 for a tax due of $750, representing an average tax rate of 2.5% (one quarter of the marginal rate) on the total income. Additionally, upper-income earners can have a substantial percentage of their income derive from tax-free municipal bonds and from long-term capital gains which partially explains why their average rate is substantially lower than their marginal rate of approximately 40%. Their high marginal rate also encourages deductible charitable contributions.]

The idea that the rich pay less than the middle class is one of the most dangerous myths propagated by knowing leftists and their useful idiots throughout society, including among people like Warren Buffett who should know better and those like most Democrats in Congress and every talking head on MSNBC who have no clue nor an interest in getting one.

So what does all this mean in real money?

That the top 20 percent of earners paid (in 2010) 93 percent of all individual income taxes. Again, even that understates the penalty for success in the United States (which is not to say that it is a lot better in other places): The top 1 percent paid 39 percent of all taxes; the top 5 percent paid over 63 percent, and the top 10 percent paid 78 percent. Meanwhile, the bottom 40 percent collected 9 percent of income taxes paid by the more financially successful among us.

While the distribution of tax payments was slightly less “progressive” in 2011, America remains a society suffering — even if most people don’t know it — under steeply progressive taxes which former President of Estonia Mart Laar described (in a must-watch speech from 2006) as “the grand idea of Karl Marx.”

Liberals will argue, fact-free as always, that “the rich” who are funding approximately everything in this country should be doing so because they pay too little compared to their earnings. In fact, the top 1 percent pay nearly twice as big a share of all individual income taxes as their share of national income.

Others who still make very good incomes in this country, such as those earning $100,000, pay a lower proportion of the nation’s taxes than they earn of the nation’s wealth. The bottom 50 percent of earnings bring in (in 2011) 11.5% of the national income but pay less than three percent of the taxes, and — bear with me here — all of that 2.9 percent is among those at the top of the bottom 50 percent (because the bottom 40 percent have a negative tax rate.)

OK, enough numbers, especially because I’m well through my glass of bourbon.

When it comes to the changing views of Americans regarding income taxes, facts are useful intellectual ammunition but politicians must deal with the reality of an uninformed populace.

And that reality is a double-edged sword (which mostly cuts the wrong way): On one hand, the public has bought substantially into the view that the rich don’t pay enough, and that’s a recipe for extremely damaging public policy — attempting to “soak the rich” even more than our system already does and thereby damaging the incentive to be entrepreneurial, take risk, and create jobs and wealth for others.

Since the richest among us can often structure investments and income to delay paying the tax man, and since many of them can simply quit working (somewhere Ayn Rand is shouting “preach it, brother!”), raising income tax rates is unlikely to bring in more tax revenue. This is the message of the Laffer Curve and the lesser-known but even more on-point Hauser’s Law. (It’s also the reason the left so desperately wants to add a national sales tax.)

On the other hand, despite Barack Obama’s protestations that he hasn’t raised taxes, the public knows he is (how to put this politely?) a liar. When it comes to describing his tax hikes as anything but what they are, President Obama channels Humpty Dumpty: “When I use a word, it means just what I choose it to mean — neither more nor less.”

Still, the middle class is starting to feel resentful of their increasing tax burden. The problem is that those who are truly the median income earners in America pay almost nothing in tax so their focus will remain on going after the top quintile of earners — which is precisely the goal of Democrats in spreading their Through-The-Looking-Glass fabrications about tax fairness in America.

As our own Ben Stein’s brilliant father, Herb, noted, “If something cannot go on forever, it will stop.” Few things describe our nation’s fiscal path, including our tax policies, as accurately and as frighteningly.

Unless and until that message sinks in, as reality must eventually require but probably not before there is great national pain (and even then it does not necessarily lead to wiser political choices by voters), those who understand what is really happening in America can find a modicum of solace in knowing we’re right — though I also suggest a really fine glass of bourbon.

[First published at The American Spectator.]