The Truth About Raising Taxes

Hello! Hope you are doing well =)   I want to spend a little time talking to you about taxes. Being an economics major, I really enjoy getting into “wonkish” talk about policies affecting the economy that some people say is too far out into the weeds for most to understand. First off, I give you more credit than that. If explained without terms that are unnecessarily convoluted, I think people are interested and want to know what different policies and actions will do to the economy.

Let us start by discussing the most imminent issue: President Obama wanting to raise taxes on those that earn above $250,000 per year. First off, there is no tax bracket that includes income specifically above $250,000 per year. The closest is the bracket making between $178,651 and $388,350 (33% tax rate), with the highest being $388,351 and above (tax rate of 35%). To even increase taxes as the President says he would like to do would require altering the tax rates of multiple income brackets, which is much trickier than just raising the rates on one bracket of income earners. Keep in mind I am not trying to bash the President, I am just breaking down his own numbers to try and explain things.

[For information on tax rates, check out the IRS PDF at http://www.irs.gov/pub/irs-drop/rp-11-52.pdf, or to find it easier look it up on Wikipedia, http://en.wikipedia.org/wiki/Income_tax_in_the_United_States]

The President says the tax hikes should bring in roughly $1.6 trillion over ten years. That works out to $160 billion per year. While that is by no means a small chunk of change, compare it to our deficits to get an idea of the numbers. This year we are running a $1.1 trillion deficit, with trillion dollar deficits on the horizon for the foreseeable future. If the President is correct in his estimations of new revenue, then we will still have at least a $940 billion deficit. We only solved 15% of our deficit! Don’t be fooled into thinking that raising taxes on the “wealthy” will take care of our problems.

[The information I got on our deficit came from a great website, usdebtclock.org, which gets its information from the CBO and Treasury Department. Here is an article explaining the President's plan for tax hikes: http://www.foxnews.com/politics/2012/11/14/obama-enters-fiscal-cliff-talks-calling-for-16t-in-tax-hikes/ ]

I get to go into the weeds here a bit, but there’s an important distinction people need to know about economic numbers. People can do two types of studies to come up with numbers from tax revenue, economic growth, etc. They are based on either static or dynamic analysis. Static analysis studies say people do not change their behavior due to changes in their situations (i.e. an increase in taxes, consumer confidence change, surprising market news). However, if you think about an example for yourself, would you change your behavior when circumstances change? If you are very un-confident about the economy, wouldn’t you spend a little less to make sure you had enough if things got worse? If tax rates for you went up, wouldn’t you do things a little differently if it means avoiding paying more money to the government? If you got a huge pay raise, wouldn’t you plan on spending more? These are things static analysis doesn’t account for, and what creates its biggest flaw. Dynamic analysis tries to take those factors into account, and while it is tough, it generally offers more accurate numbers than static analysis. So why is static analysis the most commonly used in economic studies? I have no idea. Maybe it’s because dynamic analysis is harder and more time consuming to do? Either way, when you look at the President’s estimates of how much extra money will come into the Treasury, he bases those numbers on the fact that they believe no one who has their taxes raised will change their behavior, and therefore affect how much they actually pay in taxes. This has turned out not to be the case in history; the higher tax rates are the more people try to avoid paying taxes.

So, if we can’t solve our problems by taxing those that make $250,000 and above, what is the next solution? Do we tax those making less than $250,000? If so, how much do their rates go up? Do we tax the middle class more? I thought that is what the President said he did not want to do. But unfortunately for the middle class, they pay the majority of income taxes, so they would be the biggest target to increase taxes and get the most money for the Treasury. The sad truth is that in order for us to “tax our way out of the deficit,” we would have to dramatically raise taxes on everyone in the United States. The federal government raises $2.4 trillion in total revenues per year! Unfortunately, we spend $3.55 trillion per year! That means in order for us to completely cover the deficit with tax increases, we would have to raise ALL taxes by 50%! That’s not just income tax, that’s gas tax, payroll taxes, corporate taxes, and more. Your costs of goods would increase, gas would be more expensive, and you would get less money from your paycheck. Does that seem like a good idea? Even if we did increase all taxes by 50%, do you think we would actually bring in 50% more revenue. I bet not, because I believe most people would change their habits and behavior to adjust to the new rates. Then we still wouldn’t have enough tax revenue to fund the government!

My belief is that the federal government is simply too big. We spend far too much money as a nation, and that is a problem we need to address. I have heard people say that we need a mix of tax rate increases to increase revenue and cuts in government spending. I totally agree about the government spending, however I have a different idea on taxes. Do you know the best way to increase tax revenue? To get the economy roaring back to health, being the great engine of productivity that it can be. More people earning a paycheck and paying taxes will far outstrip increases in revenue over just raising the rates on people. President Obama himself said in times of economic uncertainty the last thing we want to do is raise taxes. He was exactly right!

I believe if the President gets his tax rate increases that he wants we will see less than $160 billion per year in increased revenue. I do think we need an increase in tax revenues; however I think the best way to do that is by getting the economy back on track, and raising taxes is simply not the way to do that. My opinions on how to get the economy going strong again will definitely be discussed in the future. I hope you found this an interesting topic, and I hope this helped you understand the situation a little more than what the politicians would have you believe.

What are your thoughts? Should we raise taxes on Americans that make a lot of money even though it won’t fix our deficit problem? Is spending our real problem, or that taxes aren’t high enough? If we do raise taxes do you think we can actually bring in $160 billion per year? Do you believe changes in tax rates cause people to alter their behavior to avoid paying more in taxes? Feel free to comment. Thanks for reading, have a great day!

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2 thoughts on “The Truth About Raising Taxes

  1. I think a big issue that we see today is that people do not understand the difference between raising tax REVENUE and raising tax RATES. People hear more money from taxes and assume it means higher rates and that’s simply not true. If you close loopholes and eliminate tax deductions revenue will go up, meaning more money from taxes, without raising the rates. A major problem is that the tax code is extremely complicated. Businesses spent millions of dollars to hire lawyers to help them shelter their funds from the government (hence why tax attorney’s still have jobs while the ambulance chasers are out of work but that’s another issue). But if we simplified the tax code and cut deductions and loopholes higher income Americans would actually pay the rate that they are supposed to pay. Part of why the middle class pays higher taxes in the end is that they can’t afford the lawyers that the big money guys have.

    So to sum up a long paragraph if we simplify the tax code by closing loopholes and cutting deductions we take a huge step towards actually raising the revenue that we should be raising with the current tax rates.

    Now, that being said, raising revenue is just the beginning. I agree we have to cut spending drastically if we want to see the debt go down. However, I don’t think its only an issue of cutting government programs from the budget. Partisan politics cause just as much trouble for the budget as so called “socialist” policies. Every day in congress millions of dollars of pork are slapped onto legislation in order to get one side or the other to agree to vote for it. To phrase it in a slightly skewed metaphor the national debt is essentially a major case of heartburn from swallowing too much pork. We have to regulate how many bridges we build for the cousin of a congressman from Montana.

    And lastly, we have to regulate what is actually spent by government programs and government employees. Not to be an ass but someone please explain to me how a $13k employee dinner party at a steak house helped the postal service get me my mail faster? Or how spending nearly a million dollars to ship two 19-cent washers (like, the little round circles) from South Carolina to Texas makes the Department of Defense better at fighting terrorism? The fact is that there is hardly any regulation or penalty for bad money management in Washington. I mean honestly how hard is it for a pentagon official to look at a shipping invoice and say “whoa! a million dollars?! that’s too expensive!” We have to get our current spending under control and actually budgeted and accounted for before we can even hope to begin making debt payments. I really think the congressional budget committee needs to get them some Dave Ramsey and soon!

    So now that I have railed on the government for 4 paragraphs the point is that I think we could balance the budget and begin making debt payments by simplifying the tax code, regulating pork legislation, and actually counting our pennies at the end of each year. This means no cutting programs (as much as it pains me to say it… Obamacare could probably stay if we really wanted it to stay) and no raising taxes. All I’m suggesting is that the federal government take lessons from the smart businessmen they are trying to save by not raising taxes. Governing is a business and we need to run a tight ship or else be prepared to reap the consequences.

    Just my opinion.

    http://www.heritage.org/research/reports/2009/10/50-examples-of-government-waste#_edn11
    (I know its conservative but can you seriously expect a “progressive” *cough* liberal *cough* source to talk about government waste?)

    http://www.daveramsey.com/home/
    (If you don’t know who Dave Ramsey is)

    • I agree with you about the confusion between raising tax rates and bringing in more revenue. Broadening the base is key. I think most forms of government spending needs to be cut, from pork all the way down to the military. I think we have to cut government programs, to save money and reduce dependency. I will talk about all three of these issues at length in the future.

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