The hidden tax that Washington doesn’t want you to know about
By Allan Sloan,
Okay, middle-class taxpayers: Listen up. Our national government in Washington is whacking you again. This time the whacking involves the way that two new income tax surcharges, supposedly designed to affect only the “rich,” will reach deeper and deeper into the middle class unless something is done now to rein them in.
I’m talking about the 0.9 percent tax surcharge on the amount by which individuals’ “earned income” — such as salaries and fees — exceeds $200,000 this year, and the 3.8 percent surcharge on some or all the investment income of single households with an adjusted gross income of more than $200,000, and married households with an adjusted gross of $250,000 and up.
These surcharges were built into the Affordable Care Act (a.k.a. Obamacare). The problem isn’t the tax surcharges themselves — it’s the fact that the thresholds for them aren’t indexed for inflation. This means that unless something is done, more and more people will be subject to these taxes as inflation boosts incomes.
Let me show you how this works, using numbers from a study that the nonpartisan Tax Policy Center did a year ago.
For 2013, the TPC said, about 2.4 percent of households would pay one or both of the surtaxes. By 2022, the level will have risen to 4.6 percent. Project it out another decade, and you’re at 9 percent. Given how things work, you would probably be looking at the surtaxes affecting 20 percent or more of taxpayers in places such as New York and California. (You can find the relevant page from the TPC study at fortune.com/sloan.)
You can make the case that people who are subject to either or both taxes — who include me — are upper-middle-class or rich, and can and should fork over some extra money to help the rest of the country. But when you look 10 or 20 years out, you see that unless you index the tax thresholds, these taxes will have expanded well beyond the “rich,” however you define that, and will be clawing away at increasing swaths of the middle class.
We’ve seen this show before. Take the alternative minimum tax, enacted in 1969, for which the threshold was not indexed for decades. A tax designed to catch a handful of rich tax avoiders — 155 taxpayers with incomes of $200,000 and up didn’t pay income tax for 1967, news that touched off an uproar — morphed into something that affects more than 3 million taxpayers. It would have affected an additional 30 million had it not finally been indexed as part of the deal that reversed the George W. Bush tax cuts on higher-income households.
A second example of what happens when you don’t index is the tax that some Social Security beneficiaries pay on as much as 50 percent of their benefits. This started in 1984 as part of the grand bargain enacted in 1983 that increased Social Security taxes and raised the retirement age.
The threshold was fairly high for 20 years ago — single taxpayers with $25,000 of income, married taxpayers with $32,000 of income (in both cases including half their Social Security). About 15 percent of Social Security beneficiaries paid this tax when it first took effect. Now, however, about 35 percent of beneficiaries pay, because incomes — including Social Security benefits — have risen substantially since 1984, but the cutoff points haven’t moved.
(A second tax, adopted in 1993, taxes as much as 85 percent of benefits and also has non-indexed thresholds. But I’ve made my point. Enough numbers, already.)
Look, I’m not pleading my own case. I’m subject to both surcharges and pay tax on 85 percent of my Social Security benefits, but I can afford it. And when I retire from full-time work — I’m 68; I’ve got to stop doing this sometime, right? — I won’t be subject to either of the surcharges.
My concern lies with the future, when — unless something is done — these surcharges will affect people who aren’t rich by any rational definition. I believe in taxing people to pay for the government — but I don’t believe in whacking people in sneaky ways, the way the AMT did and the way the Affordable Care Act surcharges will. Repeat after me: Index, now!
Sloan is Fortune magazine’s senior editor at large.
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