Macro Roundup

Gramm/ Solon on effective tax rates, “it’s worth examining how many taxpayers actually paid those top rates and what percentage of their income high earners actually paid in taxes. Economists Gerald Auten of the Treasury Department and David Splinter of the Joint Committee on Taxation have compiled an extraordinary new database using Internal Revenue Service data on taxes actually collected since 1962. The top marginal income-tax rates and the taxes actually paid, including payroll taxes, as a percentage of income for the top 1%, top 10% and bottom 50% of income earners are shown in the nearby chart. The figures for 2016-20 are comparable estimates by the Urban-Brookings Tax Policy Center. The top tax rate of 91% in 1962 applied to families with joint incomes, in today’s dollars, of $3.38 million. After deductions and credits, only 447 tax filers out of 71 million paid any taxes at the top rate. The top 1% of income earners paid only 16.1% of their income in federal income and payroll taxes, while the top 10% paid 14.4% and the bottom 50% paid 7%. This followed the pattern set by the top Depression-era and wartime tax rates. Only three filers out of six million paid any taxes at the top Depression rate and only 13 out of 50 million paid any taxes at the top wartime rate. The top 1% of earners paid 12.6% and 23.5% of their income in federal income and payroll taxes in 1938 and 1945, respectively….”

Phil Gramm and Mike Solon, "The Biden Tax Mirage,"Wall Street Journal, May 12, 2021, https://www.wsj.com/articles/the-biden-tax-mirage-11620837568

The Biden Tax Mirage

With deficits at levels not seen since World War II, the March $1.9 trillion stimulus only beginning to spend out, and President Biden calling for significantly higher marginal tax rates to help fund another $4 trillion of spending, maybe it’s time for a reality check on how high marginal tax rates, and the actual tax rates paid by Americans, can be raised without crushing economic growth. Proponents of massive tax increases will argue that economic growth and prosperity are compatible with high tax rates by pointing to the 35 years of postwar prosperity in America, when the top federal tax rate was 70% or higher.

But before accepting this as proof by example, it’s worth examining how many taxpayers actually paid those top rates and what percentage of their income high earners actually paid in taxes. Economists Gerald Auten of the Treasury Department and David Splinter of the Joint Committee on Taxation have compiled an extraordinary new database using Internal Revenue Service data on taxes actually collected since 1962. The top marginal income-tax rates and the taxes actually paid, including payroll taxes, as a percentage of income for the top 1%, top 10% and bottom 50% of income earners are shown in the nearby chart. The figures for 2016-20 are comparable estimates by the Urban-Brookings Tax Policy Center.

The top tax rate of 91% in 1962 applied to families with joint incomes, in today’s dollars, of $3.38 million. After deductions and credits, only 447 tax filers out of 71 million paid any taxes at the top rate. The top 1% of income earners paid only 16.1% of their income in federal income and payroll taxes, while the top 10% paid 14.4% and the bottom 50% paid 7%. This followed the pattern set by the top Depression-era and wartime tax rates. Only three filers out of six million paid any taxes at the top Depression rate and only 13 out of 50 million paid any taxes at the top wartime rate. The top 1% of earners paid 12.6% and 23.5% of their income in federal income and payroll taxes in 1938 and 1945, respectively.

The 1986 tax reform reduced the top rate to the postwar low of 28%. The reform also closed loopholes, offsetting the rate reductions and other changes in the tax code. Revenues grew as the economy expanded and asset sales surged at the lower marginal tax rate. Twenty-six million out of 115 million filers paid taxes at the 28% rate. The top rate was raised to 39.6% in 1993 and has fluctuated between 39.6% and 35% since. Only 453,000 out of 123 million filers paid any taxes at the 39.6% rate in 1993.

Remarkably, while the top marginal rate fell from 91% in 1962 to 28% in 1988, the percentage of income actually paid in income and payroll taxes by the top 1% and 10% of filers rose to 21.5% and 19.6% from 16.1% and 14.4%, respectively. As the top tax rate fell by two-thirds, the percentage of income paid in federal income and payroll taxes by the top 1% and 10% of earners rose by a third.

The percentage of income actually paid by the top 1% of earners, which the Tax Policy Center estimates to be 25.7% in 2020, is close to the average rate paid during the last quarter-century. Whether the federal government could actually impose a top rate of 50% on a significant number of taxpayers, or actually collect much more than 30% of the income of the top 1% of earners in income and payroll taxes, without crippling economic growth is a question our postwar experience certainly doesn’t answer.

It is also worth noting that the Organization for Economic Cooperation and Development has found that high-income Americans already bear a higher relative share of the income-tax burden than the rich do in other developed nations. The top 10% of American households earn about 33.5% of all earned income but pay 45.1% of all income taxes, including Social Security and Medicare taxes. That progressivity ratio of 1.35 is far higher than the German ratio of 1.07, French ratio of 1.1 and Swedish ratio of 1. As a percentage of their incomes, the top 10% of earners in Germany, France and Sweden paid 21%, 19% and 26% less than the top 10% in America. And the bottom 90% of earners paid 17%, 34% and 21% more as a percentage of their incomes respectively than the bottom 90% in America paid. While the OECD study predates the 2017 Tax Cuts and Jobs Act, the Congressional Budget Office found the act made the U.S. tax code even more progressive.

Before Congress bets the future of America on the federal government’s ability to soak the rich without crippling the economy, lawmakers need to recognize that the marginal rates being proposed have never been collected from any significant number of taxpayers except under the direst circumstances such as a war for survival. Voters might also note that in the rest of the developed world, where government takes a larger share of GDP in taxes, high earners pay about the same share of GDP in income taxes that high-income Americans pay today, but everybody else pays a lot more.

Gerald Auten and David Splinter, "Top Income Shares and the Difficulties of Using Tax Data," Oxford University Press, 2020, http://www.davidsplinter.com/AutenSplinter-TopIncomes-Oxford.pdf

The data sources follow

Gerald Auten and David Splinter, "Comment: Tax Evasion at the Top of the Income Distribution: Theory and Evidence," Working Paper, May 5, 2021, http://www.davidsplinter.com/AutenSplinter-TaxEvasion.pdf

Their takeaway, “…While some increase in high-income audit rates may be appropriate, additional enforcement resources could also help audit selection by better identifying returns with lower reported incomes but higher likelihood of evasion. The combined efforts and increased cooperation of IRS divisions could lead to improved methods of selecting returns for audit and help maintain high ROIs for enforcement activities…. We note in this comment, however,that estimates of evasion not detected in NRP audits using simple DCE multipliers and allocating in proportion to reported income are not distributionally consistent. Moreover, we believe these approaches tend to overstate true top incomes and underreporting rates. We suggest alternative methods that would be more distributionally consistent. These suggest substantially less impact of evasion on top income shares. We are aware that there is considerable additional sophisticated evasion by some high-income individuals not found in NRP audits….”

They make the case this overstates the top income share, “.. Two-thirds of the estimated increase in top income shares results from applying DCE multipliers. This approach causes exaggerated upward re-ranking of returns with large amounts of detected evasion,shifting estimated evasion from the bottom and middle to the top of the income distribution. The second largest increase in top shares results from allocating additional passthrough evasion by reported income. However, returns with business losses appear to be allocated little additional evasion despite accounting for over one third of evaded income….While offshore evasion has received considerable attention, it accounts for only a small portion of the total effect on top income shares….”
Bottomline, “…National accounts explicitly break out proprietor evasion (combined amount for sole proprietors and partnerships) of $561 billion and wage evasion of $75 billion when averaging 2006-2013 (at 2012 dollars). Auten and Splinter (2019a, online data Table T1) provide estimates of likely evasion in national accounts for other income sources. For 2006-2013, there is annual evasion of about $44 billion for farms, $43 billion for rents, and $80 billion for S corporations. To compare with GLRRZ, there are smaller amounts for dividends and interest evasion that should be added and non-filer portions that should be removed from the values above. If we assume the former is $50 billion and the latter is 10 percent,this suggests about $770 billion in filer evasion in national income. In comparison, GLRRZ add $1,304 in audit-based evasion in 2012 (Table A6, exam and DCE columns). But this amount includes capital gains realizations that are not in national income. Excluding $70 billion in added evaded capital gains (5.3 percent of total based on Table A1) suggests that GLRRZ add audit-based filer evasion comparable to national income definitions of about $1,230 versus about $770 billion in national income.11 Therefore, the GLRRZ filer evasion estimate appears to exceed amounts in national income by $460 billion, or more than one half.This represents an additional 3 percent of national income…”

They describe Zucman’s methodology, “…GLRRZ’s analysis has four steps. First, it uses audit study micro data to add detected evasion. Second, GLRRZ imputes undetected evasion using a set of multipliers developed from earlier audit data. These multipliers are from detection-controlled estimation (DCE) and can nearly quadruple the amount of evasion in audit studies.Third, it adds imputations of additional evasion from passthrough entities (including partnerships, S corporations, and certain other sources). The amounts already in the NRP audits are removed and then this assumed total passthrough evasion is allocated by reported income, such that essentially all goes to the top of the distribution. Fourth, GLRRZ estimates how income from offshore wealth affects income distributions... Combining the four components of estimated evasion, GLRRZ argue that top 1% fiscal income shares increase by 1.5 percentage points (pp). This includes a 0.5pp decrease from detected evasion, 1.1pp increase from undetected evasion using DCE multipliers, 0.6pp increase from additional business evasion, and 0.3pp increase from income of offshore wealth..”

Ben and I both read Auten and Splinter arguing Zucman and his fellow travelers are likely overstating tax evasion at the top. However they don’t have a quantification table in the paper so we can’t exactly draw out the calculation you were interested in. AS do note a directional answer in the text, “…this suggests about $770 billion in filer evasion in national income. In comparison, GLRRZ add $1,304 in audit-based evasion in 2012 (Table A6, exam and DCE columns). But this amount includes capital gains realizations that are not in national income. Excluding $70 billion in added evaded capital gains (5.3 percent of total based on Table A1) suggests that GLRRZ add audit-based filer evasion comparable to national income definitions of about $1,230 versus about $770 billion in national income.11 Therefore, the GLRRZ filer evasion estimate appears to exceed amounts in national income by $460 billion, or more than one half…”