Peter Schiff and a 91% Top Tax Rate: Who's Fantasy Is It?

     The Wall Street Journal has a few pieces today accusing Obama and liberals of living in a fantasy land and just not getting it.

      We just looked at Kimberley Strassel's belief that while the GOP may have to accept higher rates for the rich, once that's done they will have all the power based on perpetually holding the nation hostage to defaulting on the debt ceiling.

     The world according to GOP la la land 

    http://diaryofarepublicanhater.blogspot.com/2012/12/kimberley-strassel-explains-world.html

     http://online.wsj.com/article/SB10001424127887324640104578163463238620682.html

     Now we have Peter Schiff explaining to us that we're all hopelessly ignorant and uninformed about taxes-at least if we're slightly Left of Center. Schiff gives us a history less of the old 91% tax rate that held from the start of WWII in 1942 through the 50s, until Kennedy dropped it to 73% in the early 60s. Liberals often point to this as proof that despite all the breast beating we here about the pall on economic activity higher taxes on the rich are supposed to cause, the economy did quite well in a time of a very high top nominal tax rate.

      Schiff starts off by arguing that in reality the tax rate was never that high. That's true, although his implication that no liberals who call for higher rates know this is false. I knew this, and I'm certain Krugman knows this. Michael Lind in his book Up From Conservatism knew this. He said that even when we had a 91% top rate, in reality no one ever really paid $.91 of every $1 in income taxes. At the time Lind had argued that they did pay about $.45 however, That does sound like a pretty fair rate. It's been my observation that generally speaking the effective top rate is usually about half of the nominal top rate.

      So it is that we've seen that the top effective tax rate is actually more like 17.2% compared with the 35% official top rate. So by that principle a call for a tax rate of 70% or even 9!% doesn't sound so outrageous.

      So Schiff is correct that no one every paid that top rate, though I don't know who it is that claims they did. He makes the argument that in truth what they pay in taxes hasn't changed much:

       "In 1958, the top 3% of taxpayers earned 14.7% of all adjusted gross income and paid 29.2% of all federal income taxes. In 2010, the top 3% earned 27.2% of adjusted gross income and their share of all federal taxes rose proportionally, to 51%."

        "So if the top marginal tax rate has fallen to 35% from 91%, how in the world has the tax burden on the wealthy remained roughly the same? Two factors are responsible. Lower- and middle-income workers now bear a significantly lighter burden than in the past. And the confiscatory top marginal rates of the 1950s were essentially symbolic—very few actually paid them. In reality the vast majority of top earners faced lower effective rates than they do today. "

     http://online.wsj.com/article/SB10001424127887324705104578151601554982808.html

     There's more than a few moving parts in this and if you don't follow the moving balls you can get mislead. He's actually arguing that lower and middle income workers have a much lighter burden today. This is surely not true-though it depends crucially on how you define burden. Put it this way, whatever their federal income tax rate was-bearing in mind there are many other taxes that they pay besides the federal income tax-would you say that middle and lower income workers are better off today than they were in say 1957, 1957, or even 1977?

       "In 1958, approximately 28,600 filers (0.06% of all taxpayers) earned the $93,168 or more needed to face marginal rates as high as 30%. These Americans—genuinely wealthy by the standards of the day—paid 5.9% of all income taxes. And now? In 2010, 3.9 million taxpayers (2.75% of all taxpayers) were subjected to rates that were 33% or higher. These Americans—many of whom would hardly call themselves wealthy—reported an adjusted gross income of $209,000 or higher, and they paid 49.7% of all income taxes."

       "In contrast, the share of taxes paid by the bottom two-thirds of taxpayers has fallen dramatically over the same period. In 1958, these Americans accounted for 41.3% of adjusted gross income and paid 29% of all federal taxes. By 2010, their share of adjusted gross income had fallen to 22.5%. But their share of taxes paid fell far more dramatically—to 6.7%. The 77% decline represents the single biggest difference in the way the tax burden is shared in this country since the late 1950s."

       There it is. How could we have it so wrong?! I mean they have to be better off today as according to his numbers their share of (federal)taxes dropped by 77%. So they're better off right? I mean case closed right? Let's just assume for argument's sake that his numbers are right. So their share of federal income taxes fell by 77%. They must be better off if all that matters to your economic welfare is  what percentage of total federal income taxes comes from you. Of course, that's not the only factor to consider. He leaves wholly out of account the other taxes lower income people pay-in fact the taxes that most Americans pay-payroll taxes.

       As 75% of Americans pay most of their taxes in the form of payroll taxes, this is no small omission. Then again, there was another top line number that Schiff gave but didn't comment on. While nonrich Americans saw their share of taxes fall from 22.5% to 6.7%, what about their adjusted gross income? According to his numbers this fell from 41.3% to 22.5%, a drop of 50%.

      Maybe Schiff will argue that it's ok as their share of taxes fell by 77% which is more than the 50% their AGI dropped but why is this what matters? Would you welcome your pay being cut in half even if you were told that your taxes paid would decrease by 77%? If I offered you that deal today would you take it? 

       Let's do a hypothetical. You make $100,000 a year(lucky you!). Today your boss calls you into his office and says "Good news, Lucky U! I'm cutting your pay to $50,000 a year effective immediately. Now don't worry! I'm also going to cut your taxes paid on your income from 22.5% to 6.7%. Merry Christmas! You can't thank me now by working harder!"

        Yes, your name is LuckyU-you're a very lucky person. But do you feel jazzed this conversation?  Let's do a "back of the envelope calucation."

         Until your "raise."

         Yearly pay: $100,000.

         Federal tax rate: 22.5%

         Take home (after taxes): $77,500

         Note that it's still $27,500 more than your pretax new salary of $50,000-it's 55% more.

          New Yearly pay: $50,000

          New tax rate: 6.7%

           New take home: $47,600.

           So your pay has still be cut by way over 40%.  Schiff finishes off with the usual conservative boiler plate about how what matters is not rates but making the code "simple" and "broad" and promoting incentive.

            "The changes came about not so much by movements in rates but by the addition of tax credits for the poor and the elimination of exemptions for the wealthy. In 1958, even the lowest-tier filers, which included everyone making up to $5,000 annually, were subjected to an effective 20% rate. Today, almost half of all tax filers have no income-tax liability whatsoever, and many "taxpayers" actually get a net refund from the government. Those nostalgic for 1950s-era "tax fairness" should bear this in mind."

             "The tax code of the 1950s allowed upper-income Americans to take exemptions and deductions that are unheard of today. Tax shelters were widespread, and not just for the superrich. The working wealthy—including doctors, lawyers, business owners and executives—were versed in the art of creating losses to lower their tax exposure."

              "For instance, a doctor who earned $50,000 through his medical practice could reduce his taxable income to zero with $50,000 in paper losses or depreciation from property he owned through a real-estate investment partnership. Huge numbers of professionals signed up for all kinds of money-losing schemes. Today, a corresponding doctor earning $500,000 can deduct a maximum of $3,000 from his taxable income, no matter how large the loss."

              "Those 1950s gambits lowered tax liabilities but dissuaded individuals from engaging in the more beneficial activities of increasing their incomes and expanding their businesses. As a result, they were a net drag on the economy. When Ronald Reagan finally lowered rates in the 1980s, he did so in exchange for scrapping uneconomical deductions. When business owners stopped trying to figure out how to lose money, the economy boomed."

                Notice how he simply assumes that there was a net drag on the economy in the 50s? This is simply assumed by conservative theory. He doesn't feel like he actually has to show us proof that there was any net drag in the 50s. In doing so he doesn't  meet the liberal argument head on: that despite high nominal rates the economy did very well. On what basis does he claim that the post-Reagan economy has performed better than the pre-Reagan one?