Congress leaves for its August recess with no formal deficit-reduction proposals on the table, but it made some progress. The administration has admitted that a credible budget package requires both revenue increases and spending cuts. Also, the tax proposals floated by the administration last week -- while not without problems -- show a recognition of the need to shift more of the tax burden to wealthier Americans.
During the past decade, the cost of government has shifted to less well-off. The rich grew richer, and their tax rate declined. The poor grew poorer, and their tax rate rose. The overall tax burden -- federal, state and local -- has become more regressive, shifting to those least able to pay.
The 1981 tax cuts are mostly responsible for the shift. The 1986 tax reform was more fair, but it did not fully offset the 1981 changes. The poorest fifth of households will pay an average $85 less in federal income tax in 1990 than they would have had to pay at 1980 tax rates; the richest fifth of households will enjoy an average tax break of $1,578, and the top one percent will pay an average $13,175 less.
Some argue that lower tax rates boosted growth, which explains why wealthier Americans now pay a greater share of federal taxes than 10 years ago. But this is not a good measure of progressivity. The affluent paid a somewhat bigger share of taxes during the 1980s, because they received a much bigger share of the income. The richest fifth of families saw their income rise an average 31.7 percent, while the poorest fifth's income dropped by 3.2 percent. The average income for households in the top one percent grew from $313,000 to almost $550,000 during the decade -- an astounding 75 percent increase.
This disparity in income shares is the largest since these statistics were first compiled in 1947. Affluent people's share of the taxes went up a lot less than their share of the income, and thus their tax burden went down. Meanwhile, payroll taxes were going up, increasing the tax burden for most working Americans.
Social Security payroll taxes are particularly regressive. They are levied at a flat percentage rate and apply only up to certain income levels (now $51,300). Only income from employment is taxed, not that from interest, dividends and capital gains -- types of income that are more important to wealthier taxpayers. And Social Security taxes have continued to increase in recent years, from 12.6 percent (split between employee and employer) in 1980 to the present 15.3 percent. Most Americans -- nearly 75 percent -- now pay more Social Security tax than income tax, counting the employer's share.
State and local taxes have also increased during the past decade, largely to offset transfers of responsibility and declining contributions from the federal government. State and local general revenues from non-federal sources increased from 11.4 percent in 1980 to 13.5 percent in 1988. That increase converts roughly into $95 billion in added taxes in 1988, or $1,000 for every American household.
State and local taxes tend to be more regressive than federal taxes because of a heavy reliance on flat-rate sales tax and fees. Property taxes may often be passed on to renters.
My view is that more of the tax burden should be shifted from low- and middle-income Americans to wealthier Americans. This could be achieved in several ways. Some ways of limiting itemized deductions, for example, would affect mostly wealthy taxpayers without raising rates. A new tax bracket for higher-income Americans could be created. Corporate taxes, which dropped off sharply in the '80s, could be raised. No one wants to choke off income-producing activity; we accomplish nothing if we discourage upper-income taxpayers from making money and leave the less well-off stagnant. But that is not the choice. Since 1980, income tax rates on the most affluent have plunged dramatically (from 70 percent in 1980, to 50 percent in 1982, to 28 percent in 1988). A small reversal of that trend would discourage no one, but would exact a slightly greater contribution to our economic system from those who benefit most from it.
Social Security payroll taxes could be made more equitable by applying them to higher income levels or increasing an offsetting tax credit for low-income Americans. State and local officials could also consider drawing more revenues from income taxes rather than from sales and property taxes. The administration's proposal to cap deductions for state and local income taxes -- while an effort to tax wealthier individuals -- would penalize the states with the most progressive tax systems.
We should avoid tax changes that would worsen progressivity. President Bush's proposal to reduce the capital gains tax would be a windfall for wealthy Americans. By one estimate, 83 percent of the tax-cut dollars would go to taxpayers with annual incomes of at least $100,000; two-thirds would accrue to those with $200,000 or more in annual income. Those families would receive an average annual tax reduction of $15,900 each. By contrast, families with annual incomes of $10,000 to $20,000 would get an average cut of $10.
Any measure to raise tax revenues should also aim to increase progressivity, not decrease it.
The writer, a Democratic representative from Indiana, is chairman of the Joint Economic Committee.