The recent history of the federal income tax in the United States is often presented as a shift away from the high levels of progressivity that characterized the system in the mid-20th century. This conventional account points to top marginal tax rates that were over 90 percent for the wealthiest Americans in the 1950s, and remained at 70 percent until the sweeping tax reforms of the Reagan era. By comparison, the top marginal rate sits at 39.6 percent today, having only fluctuated from this point slightly in the past 30 years.
The pattern in statutory tax rates seems to confirm a similarly popular historical narrative. At mid-century, the wealthy appear to have paid the largest share of the federal tax burden as exemplified by the extraordinarily high rates. Since 1980 that pattern has shifted, with successive tax cuts primarily benefitting the highest income earners – or so the story goes.
Prodded by the work of economists Thomas Piketty and Emmanuel Saez, the conventional account also attributes a claim, albeit disputed, that there has been a rise in inequality to the reduction of top income tax rates over the same period. It is but a short step from this claimed causal link to the advocacy of tax hikes, aimed at bringing the federal tax system closer to its mid-20th century levels.
As policymakers begin discussions of what may entail the largest tax system overhaul in decades, there is reason to be skeptical of what this conventional narrative implies. Statutory tax rates can be misleading for two reasons. First, they do not tell us the rate that top earners actually pay, which tends to be significantly lower due to a wide array of deductions, exemptions and other legal loopholes.
For example, in 1960 the statutory top marginal rate on filers reporting over $1 million in income sat at 91 percent. The actual effective tax rate paid for the same million-dollar bracket was just 46 percent due to the use of deductions and other legal techniques to reduce one’s overall tax burden. Second, top marginal rates tell us very little about where the locus of the actual tax burden sits across all income earners.
To illustrate this second point, let’s consider another set of statistics. Since 1979 the Congressional Budget Office has tracked the overall share of federal income tax liability paid by the top earners. These figures include the top 1 percent and top 10 percent of all tax filers, and show a marked increase since the start of the series. For example, the top 1 percent of tax filers paid 18.4 percent of the federal income tax share in 1979. In the most recent set of figures, they paid 38.3 percent of the burden.
This upward trend suggests the locus of the federal income tax burden has shifted toward the wealthiest earners, despite the tax rate reductions over the same period. But how does it compare to earlier parts of the 20th century?
To find out, I estimated the federal income tax share of the top 1 percent and top 10 percent of filers dating back to the earliest complete IRS records in 1916. When joined with the CBO series in 1979, they reveal a fascinating century-long pattern that complicates the conventional narrative about the effects of high statutory rates on the wealthiest earners.
The share of the federal income tax liability paid by the wealthiest tax filers follows a pronounced U-shaped pattern over the course of the 20th century. When the income tax was adopted in 1913, the federal tax burden fell almost entirely upon upper-middle and upper class incomes and the wealthiest earners among them shouldered nearly the entirety of the federal income tax burden. The wealthiest 1 percent of tax filers routinely paid in excess of 70 percent of the federal income tax burden. The top 10 percent of filers often provided over 90 percent of tax payments.
All of this changed with a succession of tax code overhauls at the outset of World War II. As a result of wartime spending demands, Congress lowered the minimum income tax cutoff making tens of millions of middle and lower income Americans eligible to pay income taxes for the first time. In 1943, the IRS also imposed automatic payroll deduction as a way to increase tax compliance. Previously, taxes were self-reported and self-collected. By shifting this task to employers, the IRS dramatically increased tax enforcement upon earners in lower income brackets. Combined with the imposition of new rates on these same brackets, the federal tax base exploded in numbers almost overnight. In 1939, the IRS received just under 7 million tax returns from persons earning less than $5,000 a year. By 1944, that number had ballooned to over 44 million filers.
The World War II tax measures had another effect: The tax base expansion actually shifted the locus of the federal income tax burden away from the wealthiest earners, and onto middle income Americans.
Congress retained many of these wartime tax measures after the conclusion of hostilities in 1945 and converted them into a permanent peacetime tax system. With almost all income earners now eligible to pay taxes, the burden of that system also shifted sharply toward the middle class and remained there until the Reagan tax cuts. Since the early 1980s, the income tax burden has shifted back towards the wealthiest filers even though top statutory rates have been reduced.
The shift of the last 30 years reflects a movement away from the World War II-era tax code in which almost all income earners were brought into the revenue streams of the federal government. It stands in contrast against the mid-century policies of an expansive tax base that imposed a far more expansive tax burden on lower and middle income earners, even as the top statutory rates on the wealthy reached their historical high mark. Perhaps it’s time to shed the myth that depicts the mid-20th century as a golden age of tax progressivity and fairness.
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