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Income Taxation

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In 1913, the minimum marginal tax rate was 1 percent on income of $300,000 or more (measured in 1993 dollars). The top marginal tax rate was 7 percent on income above $7.5 million. Very few people had incomes that met the filing requirement. As a fraction of the labor force, far less than one-tenth of 1 percent had to file. Is it any wonder that political opposition to the federal income tax was not widespread? The tax was imposed only on the very rich, and the rate they paid was modest.

Provoked by World War I, within four years marginal tax rates were increased, income subject to taxation was lowered and the tax base was expanded. In 1917, a tax of 2 percent was imposed on incomes above $23,000 and 67 percent on incomes above $23 million. About 8.5 percent of the labor force filed a tax return that year.

Prior to World War II, a tax of 10 percent was imposed on incomes above $20,000 and a rate of 81 percent on incomes above $50 million in 1993 dollars. With the advent of war, the minimum marginal tax rate nearly doubled and the maximum marginal tax grew to 88 percent on incomes above $1.8 million. Presumably, patriotism overcame tax resistance. For the first time, employers were required to withhold income tax from wages. This increased compliance and 60.4 percent of the labor force filed returns. At this point, the majority of Americans were paying income taxes, leaving only the bottom third or so of the labor force free of taxation.

After the war, marginal tax rates fell, but so did the level of income subject to tax. By 1970, the minimum marginal tax rate was 14 percent on incomes above $1,900 and the maximum rate was 72 percent on incomes above $380,000; and 86.5 percent of the labor force filed returns. Since 1970, a creeping incrementalism has widened the tax base somewhat. During the Reagan administration, the top marginal rate was reduced to 28 percent. As a result, people were encouraged to realize more taxable income, and the share of total income taxes paid by the wealthiest 1 percent of taxpayers rose from 18 percent to 27 percent. . . .

Some of the gains achieved during the Reagan years have been reversed by the Bush and Clinton administrations. Today, the top income tax rate is 39.6 percent and, when the phase-out of the standard deduction and the personal exemption are figured in, the marginal tax rate on income reaches 43 percent for some taxpayers.

This is an excerpt from NCPA Policy Report No. 188, entitled “What Is the Optimal Size of Government in the United States?,” published by NCPA.

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    Dr. Scully is senior fellow of the National Center for Policy Analysis in Dallas, Texas, and a professor of economics in the school of management at the University of Texas at Dallas.