PPI PUBLIC POLICY INSTITUTE PRESIDENT BUSH S TAX PLAN: IMPACTS ON AGE AND INCOME GROUPS I S S U E B R I E F Introduction President George W. Bush fulfilled a 2000 campaign promise by signing the $1.35 trillion Economic Growth and Tax Relief Reconciliation Act in June of 2001. The tax bill passed both houses of Congress with unusual speed, and by May 26 the conference report passed with relatively minor changes from the initial Bush plan. Most of the attention during the debate over the Economic Growth and Tax Relief Reconciliation Act (EGTRRA) (H.R. 1836; P.L.107-16) focused on the overall size of the tax cut and the amount received by higher income people, with the estate tax provisions receiving the most comment. Less attention was paid to how different age groups or different types of filers singles, married couples, or heads of households would fare, except for the occasional discussion of the so-called marriage penalty and the provisions to reduce it. Since certain costly sections of the bill, such as the expansion of the child credit, the Earned Tax Credit, and marriage penalty relief, targeted married couples and families with children, older persons and single persons without children would likely fare less well. In this Issue Brief, we examine the individual impacts of the EGTRRA by income class (defined both in dollar terms and as shares of the population) and by age group (under age 50, 50 to 64, and 65 and older). Next, we estimate the share of the tax cut by income class, and then explore the impacts by type of filing unit (singles, married couples, and heads of households). Then we compare the relative burdens of income and Social Security taxes paid by different income groups. Finally, we examine the impact of the tax cut on the federal budget surplus. The Provisions of the President s Plan Contrasted with the Final Bill The President s original plan proposed reductions in income tax rates, including carving out a 10 percent bracket at the bottom third of the existing 15 percent bracket; combining the 28 and 31 percent brackets and reducing the rate to 25 percent; and combining the 36 and 39.6 percent brackets while lowering them to 33 percent. In addition, the Administration proposed that the child credit be doubled from $500 to $1,000; that the so-called marriage penalty be addressed by providing a deduction of 10 percent of wages on up to $30,000 of the wages of the lower-earning spouse; that charitable contributions be made deductible for nonitemizers; that the limits on educational Individual Retirement Accounts (IRAs) be increased to $5,000; that taxpayers aged 55 or older be allowed to make tax- and penalty-free withdrawals from IRAs for charitable contributions; that the Research and Experimentation Tax Credit be made permanent; and that the estate tax be repealed. As enacted, the rate changes in H.R. 1836 were very similar to those proposed in the original Bush plan. Existing statutory tax rates were lowered to 15, 25, 28, 33, and 35 percent, with a new rate of 10 percent carved out of the bottom third of the 15 percent bracket for incomes up to $6,000 for singles and $12,000 for couples. Effective marginal rates were further lowered for high-income people by phasing IB Number 54
out the limitation on itemized deductions for those with high incomes (the Pease provision) and also repealing the phaseout of personal exemptions for those with high incomes (the PEP provision). All these provisions will cost $875 billion between 2001 and 2011, by far the largest portion of the tax bill. In addition, the child credit was doubled to $1,000 by 2010 (at a cost of $172 billion over 10 years). The marriage penalty was addressed by allowing married couples to claim twice the standard deduction of single filers, by widening the 15 percent bracket for couples to twice that of singles, and by increasing the beginning and ending points of the range over which the Earned Tax Credit is phased out for married couples (costing $63 billion over 10 years in lost revenue). Various pension and IRA changes included placing higher limits on IRA and 401(k) contributions (costing $50 billion over 10 years overall), repealing the estate tax ($138 billion), and adding other provisions ($50 billion), all phased in by 2010. The annual revenue loss is shown in Figure 1. Figure 1. Revenue Loss From EGTRRA Tax Cuts $200 $Billion $180 $160 $140 $120 $100 $80 $60 $40 $20 $0 73.8 37.8 90.6 107.7 107.4 135.2 151.7 160.1 167.8 The major difference between the President s proposal and the EGTRRA as enacted by the Congress is that the latter s 187 129.5 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Source: Joint Committee on Taxation, 2001 entire package of changes will expire the year after they are fully phased in that is, in 2011. Although the President s original plan was estimated to cost $1.6 trillion over 10 years (not counting additional interest costs on the added public debt), the bill passed by the Congress officially 1 cost only $1.35 trillion, as shown in Figure 1. However, those costs were reduced on paper by sunsetting (repealing) the law at the end of 2010 rather than 2011. 2 Extending the provisions for another year, and allowing for other likely legislation (such as Alternative Minimum Tax (AMT) 3 relief), would make the law s cost soar to $1.8 trillion, according to the Joint Committee on Taxation (JCT) of the Congress. This does not count the added interest costs that would result from the smaller amount of debt that could be retired due to reduced federal budget surpluses. According to the Center on Budget and Policy Priorities, the added interest would raise the overall costs to $2.3 trillion (2001a). Through 2021, the aggregate costs would be $4.1 trillion, not including the added interest costs. Our analysis employs the AARP- Barents Group Individual Tax Model. Note that we analyzed the impacts 1 As scored by Congress Joint Committee on Taxation. 2 Sunsetting the law after 2010 was a technical requirement of the budget rules, but it did not have to occur until the end of 2011. Sunsetting after 2010 made it possible to include larger tax cuts and still fit within the budget resolution target of $1.35 trillion. 3 The AMT is a second (or alternative) tax system first enacted in 1969 and amended in 1986, 1990, and 1993 to prevent high-income filers with large deductions from avoiding any tax liability. Because its thresholds are not indexed for inflation, and because of changes made in the EGTRRA, the Joint Committee on Taxation projects that the AMT will eventually affect almost one-third (or 35.7 million) of tax filers by the end of the decade (U.S. Congress, Joint Committee on Taxation, 2001). Page 2
of the income tax provisions only, not the estate tax. We modeled the following provisions: (1) the statutory tax rate reductions and the phaseouts of the Pease and PEP limits on itemized deductions and personal exemptions; (2) the increased child credit; (3) the marriage penalty changes, including the increase in the standard deduction, widening the 15 percent bracket for married couples, and changes to the EITC; (4) the increased IRA and 401(k) contribution limits; and (5) the increases in the Child and Dependent Care Credit. We estimate the impacts of these provisions as of 2009, by which time all of the provisions except the child credit and the Pease and PEP limitations already will be fully phased in. s are trended forward year by year, rate brackets are adjusted for inflation and indexing, and then the taxes are calculated according to the provisions in place for 2009. Finally, all totals are restated in 2001 dollars. The estimate of the revenue loss in 2009 for these provisions is $152.2 billion, slightly greater than the $149.8 estimate published by the Joint Committee on Taxation, which is the official estimating group for the Congress. Our analysis is carried out on the provisions as of 2009, but at 2001 income levels, to illustrate the dollar impacts as if the provisions of the law were in effect today. In our analysis, we divided taxpayers into three age groups families headed by a person under age 50, a person aged 50 to 64, and a person aged 65 and older. The income concept used is the same used by the JCT. 4 4 The JCT income concept used to classify taxpayers includes adjusted gross income (AGI), tax-exempt interest, employer contributions to health insurance plans, employer FICA contributions, workers compensation, nontaxable Impacts by As noted earlier, in 2009 the tax cut would be in the range of $150 billion at 2009 income levels, or about $106 billion at 2001 income levels. Table 1 divides taxpayers into the three age groups and reports the percentages of taxable families, total income, taxes paid, and share of the tax cut accounted for by each age group (summing to 100 percent). Table 1. Age Distribution of Tax Variables Percent of: <50 50-64 65+ Total Taxable families 57.4 25.4 17.3 100.1 54.6 28.3 17.2 100.1 Pre-EGTRRA taxes paid 53.6 35.7 10.7 100 EGTRRA tax cut received 61.0 30.5 8.5 100 Numbers do not total to 100 due to rounding. Source: All data are from simulations using AARP-Barents Individual Tax Model Of all taxable families, slightly more than 57 percent are headed by a person under age 50, about 25 percent are headed by a person aged 50 to 64, and slightly more than 17 percent are headed by someone aged 65 or older. Each age group has income shares similar to their representation among taxable families 55 percent of income and 57 percent of taxable families are in the youngest group, 28 percent of income and 25 percent of families among 50- to 64-year-olds, and 17 percent of both income and families among those 65 and older. The 50- to 64- year-olds pay a disproportionate share of taxes relative to their incomes, which suggests that more of their income falls in the higher tax brackets, not surprising given that incomes peak in the period before retirement. Those aged 65 and older pay a Social Security benefits, insurance value of Medicare benefits, and AMT preference items. Page 3
disproportionately small share of total taxes (11 percent) relative to their incomes, reflecting their lower incomes, the taxexempt nature of most Social Security benefits, and their concentration in the lowest tax bracket. In terms of their share of the tax cut, those under age 50 received a larger share of the tax cut relative to their share of taxes paid, due most likely to the increase in the child credit. Both the 50- to 64-year-olds and those 65 and over received a smaller share of the tax cut relative to their pre- EGTRRA share of taxes paid. Impacts by Age and Groups In the analysis below, we examine the impact of the tax bill in terms of two measures: changes in tax liability and changes in taxes as a percentage of income, which we refer to as the effective tax rate. The latter measure is more informative. Dollar changes in tax liability would normally be larger for those with higher incomes, so the dollar totals are provided mainly as a point of reference. The percentage point reductions in effective tax rates afford more meaningful comparisons. 5 We carry out the analysis using three different income classifications first by standard dollar income breaks; second by income deciles; and third, by income quartiles (with a more concentrated look at the top quintile). Impacts by Dollar Classes. Table 2 shows that, although the average (total) tax 5 Another way of viewing the change in tax as a percentage of income is as the percent change in income resulting from the tax, but with a reversed sign. Thus, the reduction of 1.58 percent in the effective tax rate for those under age 50 is equal to an increase in pre-tax income of 1.58 percent. change in dollars is more substantial for those aged 50 to 64 than for the other age groups, the tax cut has its largest impact on the under 50 age group for most income classes up to $100,000. However, above $100,000, the 50- to 64-year-old group receives the largest tax cut, and for those above $200,000, it receives the largest cut by a wide margin. Table 2. Average Change in Taxes Due to EGTRRA (2009 at 2001 Levels) class (in $000) <50 50-64 65+ All <10 -$306 -$116 -$12 -$175 10-20 -30-11 0-23 20-30 -259-157 -8-161 30-40 -520-308 -46-320 40-50 -883-628 -225-626 50-75 -1,074-833 -499-917 75-100 -1,147-1,051-750 -1,069 100-200 -1,472-1,727-1,275-1,538 >200-6,476-11,514-7,106-8,223 Total -$923 -$1,160 -$326 -$843 The 50 to 64 age group has the highest income and is likely to benefit most from the rate reductions in the 28 percent and higher tax brackets. In addition, this group will benefit as much as low-income taxpayers from the new 10 percent bracket and the widening of the 15 percent bracket for couples. Families headed by persons aged 65 or over who earned less than $200,000 in income will receive the smallest dollar reductions in tax, which are significantly smaller in most income classes than the other two age groups. The income tax rate reductions have the largest impact of any provisions in the tax bill across all age groups. However, since the top of the 15 percent rate bracket is left unchanged (although the bracket is Page 4
widened for couples), families with heads aged 65 and older (who have most of their income in that bracket), receive a smaller tax reduction than younger age groups. The doubling of the child credit and the increase in the EITC, both of which benefit the youngest age group the most, have little or no effect on the taxes of those aged 65 and older. The pattern of change in effective tax rates (Table 3) is similar to the pattern of dollar impacts seen above. Effective tax rates are defined here as taxes paid as a percentage of total pre-tax income. 6 To illustrate, families whose head is under age 50 paid an average of 11.7 percent of income in income taxes prior to the tax cut, and would pay 10.1 percent of income in taxes afterward, a reduction of 1.6 percentage points in their effective tax rate. Table 3. Change in Effective Tax Rate by Class Due to EGTRRA (%) class (in $000) <50 50-64 65+ All <10 0.39 0.13 0.01 0.17 10-20 -1.53-0.48-0.01-1.04 20-30 -1.78-1.04-0.05-1.06 30-40 -2.07-1.23-0.19-1.28 40-50 -2.22-1.56-0.58-1.59 50-75 -1.76-1.35-0.82-1.5 75-100 -1.33-1.21-0.87-1.24 100-200 -1.15-1.32-0.97-1.19 >200-1.51-1.96-0.95-1.61 Total -1.58-1.53-0.7-1.42 Families in the 50- to 64-year-old age range paid 15 percent of income in taxes under the previous law, and would pay 13.5 percent under EGTRRA, a reduction of about 1.5 percentage points in the effective tax rate. Effective tax rates are reduced by 6 Effective rates are lower than statutory tax rates because of exemptions and deductions which cause taxable income to be lower than total income. less than half as much for families aged 65 and older (from about 7.4 percent to 6.7 percent), although their effective tax rate was only half as great to begin with. In contrast to the tax liabilities shown in Table 2, those under age 50 have the largest reductions, on average, in their effective tax rates slightly larger than those aged 50 to 64. Those aged 65 and over receive the smallest reductions in effective tax rates. Further, as in Table 2, 50- to 64-year-olds have the largest reductions in tax rates above the $100,000 income range. This probably occurs because they benefit more from the repeal of the limitations on itemized deductions and the repeal of the phaseout of personal exemptions that affect only those in the highest income groups. On average, taxpayers aged 65 and older will receive reductions in effective tax rates that are less than half as large, overall, as those received by younger taxpayers. This will occur because filers age 65 and older are unlikely to be able to take advantage of either the expansion of the child credit or the EITC changes; they are more concentrated in the 15 percent bracket; and, because they are less likely to be itemizers, they are therefore less likely to take advantage of the repeal of the limitations on itemized deductions. Impacts by Deciles. Tables 2 and 3 above compared the impacts of the EGTRRA on specific dollar income classes. However, these tables can be misleading because the income classes are not of equal size. If two income classes have very different changes in tax liability, it is not possible to tell how significant the aggregate impacts are because one may have a relatively small percentage of cases. For this reason, income and tax analysts often look at income classes containing the same numbers of people or families. Page 5
In this section, we divide the entire population into income deciles (tenths) to see how equal numbers of the population fare under the tax cuts. Once we divide all families into population deciles, we again segment the population of families into our three age groups. When we segment each tenth of the population by age, as in Table 4, the under 50 and 50 to 64 age groups tend to have slightly more people in the lower and higher ranges than in the middle income ranges, with the 50- to 64-year-olds skewed slightly toward the top end. By contrast, the 65 and older population tends to have fewer families at either extreme and a higher concentration of the population in the third through the sixth deciles. Table 4. Distribution of Families Within Deciles and Age Ranges Decile and Top of Range <50 50-64 65+ 1 st ($3,205) 12.4% 10.0% 3.9% 2 nd ($15,837) 10.4% 9.4% 9.7% 3 rd ($24,010) 7.8% 7.9% 17.8% 4 th ($31,552) 9.0% 8.0% 14.6% 5 th ($39,823) 8.4% 7.2% 16.9% 6 th ($49,935) 9.5% 9.3% 12.1% 7 th (62,635) 10.9% 9.2% 8.5% 8 th ($80,838) 10.8% 10.6% 7.5% 9 th ($113,075) 10.7% 13.2% 5.1% 10 th (>$113,075) 10.3% 15.2% 3.9% Percentage of all families 56.0 22.0 22.0 The oldest group would normally be expected to have a smaller percentage in the higher income ranges and a higher percentage in the lowest income ranges. The main reason they have a smaller percentage in the low income ranges here is the use of the Congressional Joint Committee on Taxation income definition, which includes the average value of Medicare benefits in the income of those aged 65 and older. The tax cut increases incrementally for each income decile in 2009 through the ninth decile, then it increases more substantially for the top decile, especially for the 50- to 64-year-olds and those aged 65 and older (Table 5). Nevertheless, the tax reduction in dollar terms is much more equal across the 10 deciles than it was in Table 2. In other respects, the patterns are the same as in Table 2. Families under age 50 in the first nine deciles received larger tax reductions than the other age groups, with the age 65 and older families receiving the smallest tax cuts. However, in the highest income decile, the under 50 age range actually received the smallest tax cut, on average, with the largest tax cut received by the families in the 50 to 64 age range. Table 5. Average Change in Taxes by Decile Due to EGTRRA (2009 at 2001 Levels) Decile and Top of Range <50 50-64 65+ All 1 st ($3,205) -$16 -$7 -$2 -$12 2 nd ($15,837) -171-86 -2-117 3 rd ($24,010) -389-225 -16-214 4 th ($31,552) -592-376 -74-387 5 th ($39,823) -875-551 -224-580 6 th ($49,935) -925-693 -252-697 7 th (62,635) -1,031-814 -418-871 8 th ($80,838) -1,116-870 -628-978 9 th ($113,075) -1,262-1,226-820 -1,202 10 th (>$113,075) -2,826-4,406-3,012-3,374 Total $-923 -$1,160 -$326 -$843 In terms of changes in effective tax rates, the patterns are similar to those in Table 3, with relatively equal reductions in effective rates across the top seven income deciles (see the last column in Table 6). With respect to effective tax rates by age Page 6
group, the pattern is the same as in Table 5 except that in the highest income decile the smallest change in effective tax rates goes to those over age 65. Table 6. Change in Effective Tax Rate Due to EGTRRA, by Age and Decile (%) Decile and Top of Range <50 50-64 65+ All 1 st ($3,205) 0.74 0.22 0.01 0.30 2 nd ($15,837) -1.66-0.86-0.02-1.12 3 rd ($24,010) -1.93-1.12-0.08-1.06 4 th ($31,552) -2.15-1.36-0.27-1.4 5 th ($39,823) -2.45-1.54-0.63-1.63 6 th ($49,935) -2.07-1.55-0.57-1.56 7 th (62,635) -1.84-1.46-0.75-1.56 8 th ($80,838) -1.57-1.22-0.89-1.38 9 th ($113,075) -1.32-1.29-0.87-1.26 10 th (>$113,075) -1.31-1.7-0.97-1.41 Total -1.58-1.53-0.7-1.42 Impacts by Quintiles. The Citizens for Tax Justice, a non-profit tax research organization with its own microsimulation model, typically structures its analyses by income quintiles (fifths), with a detailed focus on the top quintile of the income distribution. One reason for such a comparison is that income and wealth have become more unequal in the past two decades, and focusing on the top percentiles allows us to determine if the very top groups are receiving disproportionate shares of the tax benefits. Tables 7 and 8 show the impacts of the tax legislation using the income groupings typically employed by the Citizens for Tax Justice (CTJ). The dollar impacts and the effective tax rate changes through the first 80 percentile resemble those seen earlier in Tables 5 and 6. Note what happens when the top 20 percent are disaggregated. The 81 st to 95 th percentiles (through $145,720) show larger tax reductions in dollar terms than the quintiles below them (Table 7). The effective tax rate reductions for the 95 st to 99 th percentiles, at least for those under age 65, are noticeably smaller than the rate reductions for the lower income quintiles and highest percentile (Table 8). Table 7. Average Change in Taxes Due to EGTRRA, by Age and Quintile ($) Quintile and Top of Range <50 50-64 65+ All 1st 20% ($15,837) -$86 -$45 -$2 -$65 2nd 20% ($31,552) -498-301 -42-301 3rd 20% ($49,935) -901-631 -236-639 4th 20% ($80,851) -1,074-844 -516-925 Next 15% ($145,720) -1,351-1,418-926 -1,329 Next 4% ($340,856) -1,229-1,782-1,431-1,431 Top 1% ($340,856<) -17,235-25,234-15,695-20,111 Total -$923 -$1,160 -$326 -$843 Table 8. Change in Effective Tax Rate Due to EGTRRA, by Age and Quintile (%) Quintile and Top of <50 50-64 65+ All Range 1st 20% ($15,837) -2.43-1.43-0.14-2.05 2nd 20% ($31,552) -2.06-1.26-0.18-1.26 3rd 20% ($49,935) -2.23-1.54-0.6-1.59 4th 20% ($80,851) -1.69-1.32-0.82-1.46 Next 15% ($145,720) -1.28-1.33-0.9-1.26 Next 4% ($340,856) -0.6-0.89-0.73-0.71 Top 1% ($340,856<) -2.22-2.4-1.09-2.12 Total -1.58-1.53-0.7-1.42 Page 7
This pattern may be due to the Alternative Minimum Tax, which affects a much higher percentage of high-income than low-income filers. Filers with large amounts of itemized deductions, with many dependents, or who live in high-tax states are the most likely to be affected by the AMT (Rebelein and Tempalski, 2001). The expansion of the child credit and the increase in allowable itemized deductions and personal exemptions increased the likelihood that tax filers would be affected by the AMT after the enactment of the EGTRRA. Although H.R. 1836 increased the AMT exemption amount, it phases out by 2004. For many high-income filers, their tax cut is offset by the AMT, resulting in a smaller percentage tax reduction for some in the 81 st to 95 th percentile. The Joint Committee on Taxation projected that, prior to EGTRRA, 17.5 million taxpayers would have been affected by the AMT by 2010, but that percentage would increase to 35.5 million after EGTRRA (U.S. Congress, Joint Committee on Taxation, 2001). Those returns would be concentrated among people with incomes exceeding $100,000. Tax experts acknowledge that AMT relief is one of the top tax policy items likely to be addressed by the Congress in the near future; thus, the official estimated cost of EGTRRA in a sense understates its impact on the budget, since AMT relief will cost tens of billions of dollars to remedy. Percent Distribution of the Tax Cut We examined the percentage distribution of the tax cut by income class to understand how the benefits of the cuts are distributed. Tables 9 and 10 show the distribution using deciles and the CTJ income breaks. Our analysis shows that the top income decile received 40 percent of the total income tax cut (and it paid 52 percent of the income taxes). Further, the top one percent of filers received 23.8 percent of the tax cut (but paid 37 percent of the taxes). Table 9. Percentage of Tax Cut Going to Each Decile Decile and Top of Range <50 50-64 65+ All 1 st ($3,205) 0.2 0.1 0.0 0.1 2 nd ($15,837) 1.9 0.7 0.1 1.4 3 rd ($24,010) 3.3 1.5 0.9 2.5 4 th ($31,552) 5.8 2.6 3.3 4.6 5 th ($39,823) 7.9 3.4 11.6 6.9 6 th ($49,935) 9.5 5.5 9.4 8.3 7 th (62,635) 12.2 6.5 11.0 10.3 8 th ($80,838) 13.0 8.0 14.4 11.6 9 th ($113,075) 14.6 14.0 12.8 14.2 10 th (>$113,075) 31.6 57.7 36.5 40.0 Total 100.0 100.0 100.0 99.9 Our estimated 23.8 percent share of the tax cut going to the top one percent overall is close to the estimate by the CTJ of 25.1 percent when fully phased in and at 2001 income levels. 7 Table 10. Percentage of Tax Cut Going to Each Quintile Quintile and Top of Range <50 50-64 65+ All 1st 20% ($15,837) 2.1 0.8 0.1 1.5 2nd 20% ($31,552) 9.0 4.1 4.2 7.1 3rd 20% ($49,935) 17.4 9.0 21.0 15.2 4th 20% ($80,851) 25.2 14.4 25.4 21.9 Next 15% ($145,720) 23.3 25.4 19.3 23.6 Next 4% ($340,856) 5.5 9.1 7.8 6.8 Top 1% ($340,856<) 17.4 37.2 22.2 23.8 Total 99.9 100.0 100.0 100.0 7 The CTJ s estimate of the tax cut share going to the top one percent if one includes the estate tax cuts is 37.6 percent. Page 8
Impacts by Type of Family Tables 11 through 13 show the impacts of the EGTRRA on effective tax rates by type of family for each of the three age groups. Note that for all three age groups, married filers consistently experienced larger tax reductions than single filers, and they had larger tax reductions than heads of households in most income groups. Table 11. Change in Effective Tax Rate for Persons Under Age 50 Head Decile and Top of Range Single Married of House hold All 1 st ($3,205) 0.50 0.72-8.03 0.74 2 nd ($15,837) -1.59-1.41-1.96-1.66 3 rd ($24,010) -1.36-3.87-1.46-1.93 4 th ($31,552) -1.33-4.00-1.71-2.15 5 th ($39,823) -1.22-3.91-2.51-2.45 6 th ($49,935) -1.37-3.00-1.97-2.07 7 th (62,635) -1.37-2.30-1.73-1.84 8 th ($80,838) -1.42-1.66-1.55-1.57 9 th ($113,075) -1.23-1.38-0.77-1.32 10 th (>$113,075) -1.28-1.32-1.21-1.31 Total -1.33-1.69-1.79-1.58 This favorable treatment of married couples is a result of the expansion of the standard deduction and the 15 percent brackets for couples. Even more advantageous (for the under 50 age group) are the tax benefits from the child credit. In the oldest age group, the marriage penalty remedies are the most beneficial since few of these families will have children who are eligible (under age 17) for the credit. Also notable is that heads of households consistently receive larger percentage reductions in taxes than single filers among the under 50 age group, probably due to the child credit. The differences are much smaller or reversed for the 50-to-64 and 65- and-older age groups. Table 12. Change in Effective Tax Rate for Persons Aged 50-64 Head Decile and Top of Range Single Married of House hold All 1 st ($3,205) 0.28 0.17 0.33 0.22 2 nd ($15,837) -1.49-0.35-0.17-0.86 3 rd ($24,010) -1.23-1.28-0.41-1.12 4 th ($31,552) -1.2-1.69-1.21-1.36 5 th ($39,823) -0.99-2.25-1.33-1.54 6 th ($49,935) -1.07-2.01-1.32-1.55 7 th (62,635) -1.21-1.64-1.26-1.46 8 th ($80,838) -1.28-1.19-0.82-1.22 9 th ($113,075) -1.16-1.35-1.18-1.29 10 th (>$113,075) -1.62-1.75-1.29-1.7 Total -1.41-1.62-1.06-1.53 Table 13. Change in Effective Tax Rate for Persons Aged 65+ Head Decile and Top of Range Single Married of House hold All 1 st ($3,205) 0.02 0 0 0.01 2 nd ($15,837) -0.02-0.04 0-0.02 3 rd ($24,010) -0.06-0.25-0.04-0.08 4 th ($31,552) -0.28-0.31-0.13-0.27 5 th ($39,823) -0.67-0.38-0.72-0.63 6 th ($49,935) -0.61-0.48-0.69-0.57 7 th (62,635) -0.61-0.84-0.76-0.75 8 th ($80,838) -0.75-1.01-0.57-0.89 9 th ($113,075) -0.89-0.9-0.33-0.87 10 th (>$113,075) -1.03-0.92-1.33-0.97 Total -0.64-0.83-0.42-0.7 The skewing of tax benefits to those with the highest incomes is particularly noteworthy given some recent findings by the Congressional Budget Office (CBO). The CBO has reported that the top one percent of the income distribution had the largest reduction in taxes of all income groups over the past two decades, even before EGTRRA was enacted. CBO reported that, from 1979 to 1997, every income quintile received reductions in their Page 9
effective tax rates. However, the one percent of Americans with the highest incomes experienced the largest reduction a 4.6 percentage point drop in their effective tax rate (CBO, 2001). versus Payroll Taxes In the debate over the tax bill, one of the points of controversy was that the bill did little to benefit low-income individuals who do not pay income taxes. Although everyone who paid income taxes would receive a tax cut, many people with incomes too low to pay income taxes in fact pay substantial payroll taxes. EGTRRA offered little tax relief for these taxpayers. At the same time, at the other end of the economic spectrum, those who paid estate taxes were given tax relief ranging from a slightly larger exemption in the early years to complete forgiveness of the estate tax by 2010 (although this is repealed in 2011). The significance of the payroll tax burden cannot be ignored. For about three-fourths of taxpayers, the payroll tax exceeds their income tax liability (CBO, 1998). Table 14 shows that, overall, the average annual income tax paid across all age and income groups is about $7,000, compared with approximately $5,500 paid in payroll taxes. Taxpayers under age 50 pay about equal amounts of income and payroll taxes, whereas the average income tax paid by 50- to 64-year-olds is much higher than their payroll tax. For those age 65 and older, income taxes paid average more than twice the amount of payroll taxes paid. Despite the fact that both aggregate and average annual income taxes paid exceed payroll taxes, the detail in Table 14 shows that, in the first nine income deciles for those under age 50 and age 50 to 64, average payroll taxes exceed average income taxes paid by a considerable margin. Even for those over age 65, relatively few of whom are working, average payroll taxes exceed average income taxes for the lowest 60 percent of families. For all age groups, the bottom nine deciles paid more in payroll than income taxes. Table 14. Average and Payroll Taxes Paid (Pre-EGTRRA), by Decile, 2001 Levels Decile and Top Under 50 50-64 65 and Older All Ages of Range Payroll Payroll Payroll Payroll 1 st ($3,205) $1 $137 $24 $153 $232 $296 $26 $154 2 nd ($15,837) -$930 $1,373 -$290 $1,028 -$113 $319 -$623 $1,077 3 rd ($24,010) -$1,199 $2,603 -$128 $1,972 -$442 $619 -$715 $1,713 4 th ($31,552) -$57 $3,555 $625 $2,851 -$108 $765 $47 $2,533 5 th ($39,823) $1,166 $4,703 $1,609 $3,798 $726 $1,345 $1,072 $3,305 6 th ($49,935) $2,634 $5,806 $2,735 $4,896 $1,214 $1,419 $2,274 $4,445 7 th (62,635) $4,447 $7,388 $4,149 $6,057 $1,923 $1,839 $3,909 $6,068 8 th ($80,838) $6,229 $9,378 $6,786 $8,161 $3,608 $2,850 $5,929 $8,016 9 th ($113,075) $10,117 $12,332 $10,501 $11,335 $7,841 $4,439 $9,975 $11,155 10 th (>$113,075) $42,771 $18,608 $56,024 $16,981 $61,586 $4,811 $48,878 $16,856 Total $6,803 $6,674 $11,397 $6,731 $3,437 $1,448 $7,077 $5,532 Page 10
Despite the high levels of payroll taxes paid, and their greater concentration in the lower income ranges, the EGTRRA offers much less tax relief as a percent of taxes paid for middle- and lower-income people, and it offers no relief for those who pay only payroll taxes. Aggregate Impacts of Tax Bill The Joint Committee on Taxation estimated the impact of the new tax provisions to be $1.349 trillion from 2001 to 2011. Approximately 65 percent of the overall cut comes from the statutory and implicit tax rate reductions, and 60 percent comes in the last half of the period. The 60 percent would be higher except that all provisions are sunsetted (repealed) after 2010, limiting the revenue loss that would otherwise occur after that year. $Billions 1000 900 800 700 600 500 400 300 200 100 0 Figure 2. The EGTRRA Tax Cuts Erode Future On-Budget Surpluses Total annual budget surplus Social Security surplus On-budget surplus EGTRRA revenue loss 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Sources: Congressional Budget Office, 2001; Joint Committee on Taxation, 2001. The impacts of the tax bill on the federal budget surplus are shown in Figure 2. The chart illustrates the total annual budget surplus (as projected by CBO in January 2001) rising from $280 to $890 billion between 2001 and 2011. Of this total surplus, however, the top portion shown in the figure is the Social Security (off-budget) surplus, which congressional leaders and the president have pledged for debt reduction. The combined middle and bottom sections of the chart represent the other part of the total surplus, the on-budget surplus, which was projected in January 2001 to grow much faster and larger than the Social Security surplus over the next 10 years. The middle section alone represents the portion of the on-budget surplus remaining after the tax cut, and the bottom portion of the chart represents the amount of the onbudget surplus that will be spent by President Bush s tax cut. The tax cut consumes a declining but substantial (42 percent) share of the annual on-budget surpluses from 2001 to 2011. If one assumes that the tax cuts will not be repealed after 2010, and cost $1.8 trillion rather than $1.35 trillion from 2001 to 2011 (as the Joint Committee on Taxation estimated), then the tax cut actually consumes 55 percent of the on-budget surpluses, not counting added interest costs. The size, structure, and timing of the overall tax cut remains an issue in light of U.S. domestic and international priorities and the pessimistic near-term economic forecast. The attacks on the World Trade Center and the Pentagon on September 11 worsened an economy already headed for recession, which the back-loaded elements of the tax cut will not ameliorate. At the same time, issues such as a prescription drug program for Medicare, education reform, energy policy, and Social Security reform will likely require revenues in the long term that the tax cut has now foregone. Although the tax cut was labeled modest and affordable by some of its advocates, it has been estimated as costing more than twice what it would require to make the Social Security system solvent for 75 years (Center on Budget and Policy Priorities, 2001b). The tax cut is both too large and too small too small and too poorly targeted in the near term to provide adequate stimulus, and much too large in Page 11
the long-term to allow us to finance high priorities as well as prepare for the retirement of the baby boomers. Summary and Conclusions It comes as no surprise, in light of the attention received in the media, that we found that the tax cuts are skewed toward those with the highest incomes. Also, we found that they are skewed toward age groups under 50. Taxpayers under age 50 received 61 percent of the tax cuts while they paid 54 percent of pre-egtrra taxes. Taxpayers aged 50 to 64 and 65 and older paid, respectively, 36 and 11 percent of pre-egtrra taxes and received 31 and 9 percent of the tax cuts. Although the average dollar change in taxes is greatest for 50- to 64-year-olds ($1,160), compared with $923 for taxpayers under age 50 and $326 for those aged 65 and older, the change in tax as a percentage of pre-egtrra income is slightly larger for those under age 50 (-1.58 percent) than those 50 to 64 (-1.53 percent), and twice as large as that of taxpayers aged 65 and older (-0.70 percent). Moreover, for all but those with $100,000 or more income or in the top 10 percent of the income distribution, taxpayers under age 50 in each income class received the largest tax reductions, while, for those above $100,000 income and in the top income decile, 50- to 64- year-olds received the largest dollar tax cut. Taxpayers aged 65 and older received much smaller dollar reductions in taxes in every income class. These patterns also generally held true for changes in effective tax rates they were smallest for those aged 65 and older and largest for those under age 50 up through $100,000 and the ninth income decile. As noted earlier, the smaller reductions in effective tax rates for those age 65 and over is in line with their lower initial effective tax rates. The benefits in the EGTRRA enjoyed by those under age 50 are due mainly to the child credit, while the relative advantage to the highest-income 50- to 64-year-olds may be due to the repeal of the limitations on itemized deductions. Married filers consistently received larger tax cuts than single filers, resulting from the child credit, the expansion of the 15 percent bracket, and the increase in couples standard deduction. However, among heads of households, only those under age 50 received larger tax reductions than single filers, most likely due to the child credit. Older heads of households (who were less likely to have children) received no benefit from changes in the standard deduction or the rate brackets. In each of our three age groups, average annual income taxes paid exceeded average payroll taxes paid, but the differences were negligible among taxpayers under age 50. And for the first nine income deciles, taxpayers under 50 and aged 50 to 64 paid higher amounts in payroll taxes than in income taxes. Even among taxpayers aged 65 and older, average payroll taxes exceeded average income taxes in the first six income deciles. Finally, the overall size of the tax cut continues to be an issue. It would absorb 42 percent of the on-budget surplus assuming that the entire bill is repealed after 2010. However, if not repealed, the cost is estimated at $1.8 trillion rather than the official $1.35 trillion and would consume 55 percent of the on-budget surplus. This cost has been estimated to be more than twice what it would take to make Page 12
the Social Security program solvent for the next 75 years. REFERENCES Congressional Budget Office (2001). Historical Effective Tax Rates, 1979-97. Washington, DC: U.S. Government Printing Office, 2001. (1998). Estimates of Federal Tax Liabilities for Individuals and Families by Category and Family Type for 1995 and 1999, Washington, DC: U.S. Government Printing Office, May, 1998. Friedman, J., Kogan, R., and Greenstein, R. (2001a). New Tax Cut Law Ultimately Costs as Much as Bush Plan, Center on Budget and Policy Priorities, Washington, DC, June 27, 2001(a). Orszag, P., Kogan, R., and Greenstein, R. (2001b). Social Security and the Tax Cut, Center on Budget and Policy Priorities Washington, DC, August 2, 2001(b). Rebelein, R. and J. Tempalski (2000). Who Pays the Individual AMT? OTA Paper 87, Office of Tax Analysis, U.S. Treasury Department, June, 2000. U.S. Congress, Joint Committee on Taxation (2001). Estimated Budget Effects of the Conference Agreement for HR 1836, JCX-51-01, May 26, 2001. Written by John R. Gist Public Policy Institute, December 2001 AARP 601 E Street, NW, Washington, DC 20049 http://research.aarp.org Reprinting with permission only. 2001 AARP Page 13