The Negative Income Tax
A Moral Economy #13. Part III: How do we get from here to there?
This continues a three part series of excerpts from Social Security Basic Income: A Safety Net for All Americans, which I published in March 2020. Part I: What would it look like? concluded with #2 and Part II: What do we have? concluded with #8. This essay includes text from Chapter 5 Slaying the Payroll Tax Dragon. Refer to #1 in the series for a brief introduction of my purpose and perspective on this subject.
Smith and Jones again
In #12, I presented the impact on low and middle class household incomes of Free to Work (FTW), my bold scheme to fund Social Security and Medicare benefit payments with income taxes instead of payroll taxes. This essay will do the same for Social Security Basic Income (SSBI), a safety net that guarantees a minimum income of $15,000 annually to every adult citizen, starting with two examples of what SSBI would mean for a middle-income family and for a single, self-employed individual with higher earnings.[1]
Payroll taxes for the Smiths, a married couple with two children and combined wages of $75,000, which is slightly above the median household income, would be $5738. Their taxable income is $49,900 and they pay $1607 in income tax (after deducting $4000 for the child tax credit). Their federal tax total is $5738 + $1607 = $7345 and their net disposable income is $63,555 after paying for health insurance ($4100). Under SSBI, they receive a payment of $16,152 (including the child allowance of $10,000 and their health insurance bill). Their disposable income is $87,052, which is higher than their combined wages and $23,497 (37 percent) higher than the status quo.
Ms. Jones is a single, self-employed woman making $120,000 net profit annually, with itemized deductions of $20,000 for mortgage interest, $5,000 for charitable deductions, and the maximum $10,000 for state and local income and property taxes. She pays $7700 annually for health insurance. Her self-employment tax (OASDI + HI) liability (15.3 percent) is $17,182 and FIT is $12,755, which yields a net disposable income of $82,364.[2] Under SSBI, her taxable income is much higher, but her total tax bill is much lower ($22,936), and her disposable income is $89,364 — $7000 (8 percent) higher than under SQ, despite the 10 percent surtax on taxable income above $50,000.
These hypothetical scenarios illustrate that for ordinary tax situations, SSBI effective tax rates are much lower for workers — especially those who are self-employed — at all income levels. Those with above average unearned and/or Social Security income will pay slightly more in taxes. People with very high incomes will pay significantly more. For example, singles with ordinary unearned income (e.g., pensions or interest) of $500,000 and couples with unearned income of $1,000,000 would see their average tax rates rise from 28 or 29 percent to 50 percent, raising their tax bills by $112,000 and $212,000, respectively. This is a lot of money, but they were already paying six figure tax bills.
An extreme case is the rich person or couple with 100 percent capital gains income. While they pay just 20 percent federal tax under SQ, they would be subject to ordinary income tax rates under FTW or SSBI. Their average tax rates would rise to the same 50 percent, but the increase would more than double their tax bills. In addition, my calculations of status quo (SQ) taxes do not account for large tax deductions that may apply, in which case they could be paying an average rate below 20 percent and therefore face even larger increases. There is no denying these are large sums, even for millionaires. My response to the outrage sure to come from this group is:
1. This is not restitution but cessation of indefensible redistributions from the working poor to the wealthy;
2. High marginal tax rates on upper incomes (up to 67 percent) merely restore the more equitable balance between taxation of labor and capital that allowed the working class to prosper in the US prior to 1980; and
3. These policies will strengthen incentives to work by reducing marginal taxes on wages for those with low and middle incomes, thereby addressing the chronic reduction in labor force participation that acts as a brake on our economy.
[1] Calculations use 2021 tax brackets. Health insurance cost for individuals and families with wages at or above $40K and $80K, respectively, and higher Sched. C or unearned incomes estimated using the 2021 Kaiser Annual Survey of Employer Health Benefits. Other estimates use the Kaiser 2021 Health Insurance Marketplace Calculator. Those with very low incomes or OASDI as a sole source of income are assumed to be receiving Medicare or Medicaid.
[2] To maintain comparability with those taking the standard deduction, items like mortgage interest and state taxes are not subtracted from disposable income, whereas (per the preceding Smith example), out-of-pocket health costs are subtracted.
Really bending the curve
The two tables below each add one column to the tables in the preceding essay to show the impact of SSBI on net incomes of single and married filers with five levels and four types of income: $10k, 20k, 40k, 80k, and $160k for single filers and twice the amounts for married filers; wages, Schedule C (self-employment), OASDI (Social Security), and unearned income.[1]
The most interesting results are in the last three columns, which compare tax rates for individuals and families with different sources of income and tax rates for individuals and families at different levels of income. In the preceding essay, we saw that FTW nearly eliminates the punitive taxation of wage earners and self-employed individuals compared to those with unearned income and lowers all tax rates at lower levels of income, thereby creating a truly progressive federal income tax. These results hold for SSBI, which raises the level of taxation by a few percentage points at the high end but dramatically lowers tax rates for all types of income at the low end. This is best illustrated by the two charts below, which focus on wage incomes for single and married filers.
Single filers with low- and middle-income wages pay much less in taxes under FTW, but they receive assistance under SSBI. For example, a single person with wage income of $20,000 pays 11 percent under SQ, 4 percent under FTW, and gets a 46 percent payment ($9255) under SSBI. A married couple with $80,000 gross income and two children pays 9 percent under SQ but only 5 percent under FTW and receives a 13 percent payment ($12,586) under SSBI.
Average tax rates for single and married filers are 15–16 percent at incomes of $80K and $160K under both FTW and SSBI, compared to 19 percent and 17 percent, respectively, for the SQ. At the top end ($160K and $320K), SQ and FTW rates are 23–24 percent, while SSBI rates climb to 27–28 percent. Five percentage point tax increases do not seem like enough to pay for the huge increases in lower incomes. There are a couple of simple explanations. First of all, one percentage point applied to $320,000 is 32 percentage points for someone earning $10,000.
Second of all, the highest surtaxes do not even affect incomes shown on these charts; they kick in at $200K and $400K for single and married filers, respectively. Under SSBI, single and married wage earners with incomes of $250K and $500K, respectively, will pay 38 percent of their adjusted gross income in taxes; those with unearned incomes of $500K and $1 million will pay 50 percent. These rates compare to 27–29 percent under SQ, meaning very high-income households with ordinary deductions will face tax increases amounting to tens of thousands and even hundreds of thousands of dollars. Those currently enjoying tax breaks that will be eliminated to keep overall rates at this level will see even greater tax increases. There aren’t many of them, but extra taxes on one multimillionaire can cover dozens of basic income payments.
[1] All examples include estimated health insurance premium payments and standard or itemized deductions based on recent national averages from reliable sources. For married filers, I assumed two children and included the EITC and proposed child allowance. Then I calculated taxable income, taxes (including payroll for SQ), and net incomes under all three scenarios. Finally, I compared net incomes and average tax rates (total federal taxes as a percentage of gross income, including employer-paid health insurance premiums).
The next essay in this series will continue Part III: How do we get from here to there? It will include text from Chapter 6 American Dream Reboot.
