OVERVIEW OF FEDERAL INCOME TAX REALITIES

There has been much discussion of Federal income tax policy in the 2008 campaign.  Especially by political candidates seeking to use economic class resentments to motivate voters to support their campaigns.   These people have been  aggressively promoting the following perceptions:

• The "Bush Tax Cuts" of 2001 and 2003 were a huge giveaway to the "wealthy".
• The tax cuts have placed an "unfair " tax burden on the lower and middle economic tax payers.
• The tax cuts are responsible for the federal budget deficits that have occurred in recent years.
• The tax cuts have "cost" the American public billions of dollars in lost tax revenue.
• Because of the above, the Bush tax cuts should be repealed or allowed to expire in 2010. 
  

There is substantial evidence that all of the above perceptions are at odds with the reality, but no one in either political party is educating the voters about the facts.  

Since Federal income tax policy plays an important role in the economy, it is very important to separate the political myths from the facts surrounding income taxes. 

In truth, every tax dollar taken by the Federal government from tax payers is a dollar that is not available for personal consumption and capital investment that drives economic growth.  Therefore, it is in the national interest to minimize personal and Corporate income taxes.

Who Pays Federal Personal Income Taxes?

Please consider the following data on who actually pays Federal personal income taxes in the USA before and after the "Bush Tax Cuts":

                                            Percentage of Federal
Percentile Ranked By     Personal Income Tax Paid
Adjusted Gross Income          2000              2005        Change              Top  1%                      37.4%          39.4%       +2.0%             Top  5%                      56.5%          59.7%       +1.2%                   Top 10%                     67.3%          70.3%       +3.0%
            Top 25%                     84.0%           86.0%      +2.0%                    Top 50%                     96.1%           96.9%      +0.8%
            Bottom 50%                 3.9%             3.1%       -0.8%                 Middle 50%                16.0%          14.0%       -2.0%

Source - Internal Revenue Service

This data clearly debunks the notion that the "Bush Tax Cuts" have unfairly shifted the income tax burden from the the "wealthy" to the lower and middle class tax payers.  In truth, millions of people in the lower 50% of earners no longer pay any federal income taxes, and the middle class tax burden was reduced as a percentage of total taxes paid by 12.5% between 2000 and 2005.

By contrast, the already heavy 84% tax burden of the upper 25% of wage earners in 2000 increased by 2% by 2005.  This means that higher wage earners are paying more of the tax burden so that the lower and middle class can pay significantly less after the "Bush Tax Cuts".  Thus the reality is exactly the opposite of the prevailing political perceptions.

What has happened with Federal income tax receipts since the "Bush Tax Cuts" went into effect?

Contrary to popular belief, Federal income tax receipts have risen dramatically since the "Bush Tax Cuts" went into effect.  Please consider the following data:

                                        2003                           2006
                           $Billions     % of GDP     $Billions     % of GDP    

Individual
Income Taxes     $794          7.3%        $1,044        8.0%

Corporate
Income Taxes     $132          1.2%        $   354        2.7%        
    Total               $926           9.5%        $1,398       10.7%    

A 51% rise in total income tax receipts from 2003 to 2006

Source - Congressional Budget Office        

This data clearly exposes the fact that the "Bush Tax Cuts" have not created huge tax receipt reductions that have caused the recent Federal budget deficits. In fact, Federal income tax receipts increased 51% from 2003 through 2006.

Then why are the federal budget deficits continuing?

Since the full implementation of the "Bush Tax Cuts" in 2004, the Federal budget deficits  have reduced significantly as follows:    

$Billions                   2003     2004     2005     2006    2007

Federal Spending   $2,524  $2,517  $2,603  $2,867  $2,731  

Federal Receipts    $2,146  $2,104  $2,285  $2,619   $2,568               
Budget Deficit        ($  378) ($  413) ($318) ($248)     ($163) 

Significant increases in Federal spending have prevented the balancing of the Federal budget despite the dramatic increases in federal income tax receipts. 

While substantial progress has been made in reducing the deficits, the economic slowdown that began in the fourth quarter of 2007 is already slowing tax receipts while Federal spending is expected to rise above $3 trillion even in Bush's conservative budget estimates. Absent unlikely spending responsibility by Congress, the 2008 budget deficit will likely increase as the economy slows.

Should we increase income taxes to eliminate the budget deficit?

Absolutely not.  America is already experiencing a significant economic slow down, and the worst possible thing  the Federal government could do would be to increase income taxes. 

The data above is strong evidence that reducing taxes produces higher income tax receipts as consumers have more dollars to spend and firms and individuals have more dollars to invest.  The resulting economic growth produces stronger economic growth that increases Federal income tax receipts at a faster pace than the growth in GDP.

The most economically productive taxpayers in America are already bearing a huge tax burden. Tax increases would damage the already fragile USA economy by reducing consumer spending and capital investment dollars that drive economic growth. The best things America could do are:

• Cut wasteful Federal spending and limit the growth rate of discretionary spending overall.
• Implement the recommendations made in the "Energy Prices" tab of this website.  These actions would reduce the high cost of oil, and thereby stimulate economic growth that would increase Federal income tax and other receipts.
  

Lower Federal spending and strong economic growth are the only way to productively reduce the Federal deficit.

Please proceed to the  "The Economy" tab for further analysis.