Sunday, March 08, 2009
Would you give up $10,000 to save $300?
Dan Radmacher
Recent columns
- Kaine saw much progress in his four years
- Virginia voted for gridlock on Tuesday
- Project Vote Smart tries to educate Virginia voters
- America should listen to this Cassandra
From the RoundTable blog
On the heels of the release of President Obama's budget confirming his campaign promise to raise taxes on the nation's wealthiest citizens, there has been much gnashing of teeth and rending of garments, especially among those in the targeted demographic making more than $250,000 a year.
What has surprised me is the level of ignorance about this nation's tax system the complaints have displayed.
Take, for instance, a woman featured in an ABC News story. The 63-year-old attorney said that if Obama's plan passed Congress, she would cut back on her practice so that she earned less than $250,000.
"We are going to try to figure out how to make our income $249,999," she said. "We have to find a way out where we can make just what we need to [get] just under the line so we can benefit from Obama's tax plan."
I can only hope she is not a tax attorney, because she clearly does not understand the vital concept of marginal tax rates.
I would hope that anyone making that kind of money would understand that, even if Obama's tax plan goes through, no one would actually save money by cutting their income to less than $250,000 a year.
Here, in a slightly simplified manner, with numbers rounded for convenience, is how marginal tax rates work: On the first $16,000 or so of income each year, billionaire Bill Gates is taxed at the same rate as any other taxpayer (assuming they have the same filing status). The fact that it takes him a couple of hours or days to earn that much while it takes most taxpayers a few months is irrelevant; both pay 10 percent.
Same for the next bracket. Gates pays the same 15 percent income tax rate as anyone else for income between $16,000 and $65,000. And so on up the 25 percent, 33 percent and 35 percent brackets. The bulk of Gates' income is taxed at the top bracket (discounting whatever loopholes his accountants can find), but the first couple hundred thousand dollars are taxed in lower brackets.
Obama wants to increase the top two brackets to 36 percent and 39.5 percent, which he says would affect individuals making more than $200,000 and families with household incomes above $250,000.
So, let's go back to that attorney in the ABC story. Say she and her husband are making $260,000 a year now. Obama's plan goes into effect (this won't happen, if Congress approves, until 2011 at the earliest, by the way). The attorney decides to restrict her practice to throttle her household income back to $249,999.
What has she accomplished?
Today, she's in the 33 percent bracket. Under Obama's plan, she'd be in a 36 percent bracket, but that bracket doesn't kick in until $250,000. Reducing her income doesn't change the rate on what she earned below $250,000.
So she's saying she would give up $10,000 in income because the taxes on that income would go from $3,300 to $3,600. That's right: She would give up $6,400 in net income to protest a $300 increase in taxes.
The bar exam must not be as difficult as I have been led to believe.
This is not to say that the wealthy wouldn't see their taxes go up under Obama's proposal. But we're simply not talking confiscatory levels of taxation here.
According to an analysis by Deloitte Tax LLP cited in a recent Associated Press story, a family of four with a household income of $300,000 would pay $1,100 more in federal income taxes.
Would that family really be better off dropping its income to $249,999 to avoid that increase? You don't give up $50,000 to save $1,100.
The Deloitte analysis found that a similar family earning $500,000 a year would pay $11,000 more in federal income taxes. That's a big chunk of change. Something tells me, though, no such family would want to halve their income to duck Obama's plan.
After a torrent of ridicule, ABC News rewrote its original story, which didn't get around to mentioning marginal tax rates until about half way through. But there's still a pretty broad misconception out there about what Obama's income tax proposal would mean to most people.
For the vast majority of Americans, it will mean a very modest tax cut. Extremely modest. For a few million very well-off Americans, it will mean a relatively small increase (about $300 per $10,000 in income above $250,000). For a very small percentage of very wealthy Americans, it will mean an increase of about $450 per $10,000 in income above $350,000 or so.
Are the rest of us really supposed to buy the argument that such an increase will be a disincentive to make that kind of money?
Radmacher is the editorial page editor of The Roanoke Times.
