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Taxing the Rich

Posted By Russ Roberts On April 16, 2007 @ 5:41 pm In Taxes | Comments Disabled

The top 1% paid 37% of the income taxes in the latest numbers from 2004.

Ari Fleischer points out other interesting aspects [1] of the US income tax burden and how it has changed over time. The problem with his analysis is that he sort of neglects payroll taxes. Why do I say "sort of?" Because he acknowledges the existence of the payroll tax but misses one key point:

The usual rebuttal made by those who support raising
top rates is that lower income Americans pay Social Security and
Medicare taxes and therefore need "relief." Of course they pay these
taxes. But then, they alone get a good return on their money.

Top earners, on the other hand, pay payroll taxes so
their money can be redistributed to others. According to the CBO study,
the top 20% of workers, those with incomes over $64,300, pay 44.2% of
the payroll tax while the bottom 20%, those who make less than $17,300,
pay 4.2%. In return, when it’s time to retire, lower-income workers
typically receive more in Social Security benefits than they paid in,
while the wealthy, who paid the most in taxes, simply can’t live long
enough to get back what they paid. For much of the middle class and the
wealthy, Social Security isn’t a retirement program — it’s another
program that redistributes their income.

As for Medicare, it doesn’t matter that the rich paid
far more in taxes; all recipients receive the same benefits. Think of
it this way. If Medicare were a car, its price for a low-income worker
would be $145 and its price for a millionaire would be $14,500, even
though it’s the very same car.

Here’s why. A taxpayer who makes $1 million a year
pays $14,500 in Medicare taxes while a worker who makes $10,000 a year
pays $145. But when they retire and visit their doctors or go to the
hospital, Medicare reimburses both an equal amount of money. That’s a
pretty big redistribution of income and a pretty good deal for the
low-income worker.

What he misses is that payroll taxes are not user fees. There is a pretense that they fund social security and Medicare. But they don’t. They fund everything right now. Right now payroll taxes cover more than the cost of those programs. The difference goes to fund everything else. So to correctly measure the effective tax burden by income, you really should just roll payroll taxes into the income tax collections. Those are the relevant numbers for looking at the political economy of taxation. But Fleischer makes some interesting observations. Just remember he’s leaving out the payroll tax.

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