income-tax-history

= **Income Tax History** =

With the nation experiencing debt and yearly deficits there are always discussions no how to increase revenue and/or cutting spending. Cutting isn’t politically attractive to politicians (even though there is a lot of wasteful spending). Income tax (as well as other taxes) increases are common ideas for more revenue. It stands to reason that if you increase taxes you’ll get more money. However, this isn’t always the case. The other point of view is that lowering taxes will actually increase revenue since it encourages business growth and consumer spending, which lowers unemployment (less money the government has to pay out in entitlements). This is called supply-side economics.
 * Lowering taxes and Government Revenue:**

The Laffer curve is a representation between the level of income tax with government revenue. The idea is that if the tax rate is 0% the government will obviously collect $0. If the government set the rate at 100%, the revenue would also be $0 since no incentive to work if you give it all to the government. As the % goes up, revenue will go up, but at some point the rate will be too high that revenue will actually decrease since there will be less incentive to grow and hire as a business. The Laffer Curve sets the highest rate at 33% as best to collect the most revenue. Once the rate goes higher, revenue tends to decrease (or prices increase) with less incentive for businesses to take risks, grow, expand, or hire. media type="custom" key="26294434"
 * Laffer Curve:**

When the income tax first went into effect, the rate was very low and only for the wealthiest. This didn’t last long as America entered WWI in 1917. Wars cost money and therefore spending went up dramatically in the war. Income tax did as well. However, revenue didn’t increase like one would think. A man named Andrew Mellon wanted to know why and what he found was that higher rates decreased incentive to expand and hire. Entrepreneurship was scrutinized heavily in the start of the Progressive Era of the early 1900s. Before this time period, America grew as an economic power in the Industrial Revolution, a time that entrepreneurism was encouraged. However, by the end of the 1910s heading into 1920, America appeared to be heading into a depression as the war was over and all of the soldiers would be coming home.
 * History of Income Tax in Relation to the Economy:**

The president elected in 1920 was Warren Harding. He was presented with an economic stimulus plan to increase spending to help avoid a depression. He did the opposite. With the advice of Mellon, his Secretary of the Treasury, Harding cut taxes and government spending. Also, he encouraged entrepreneurship. As a result, America entered the Roaring 20s. Tax rates were slashed dramatically during the 1920s, dropping from over 70 percent to less than 25 percent. What happened? Personal income tax revenues increased substantially during the 1920s, despite the reduction in rates. Revenues rose from $719 million in 1921 to $1164 million in 1928, an increase of more than 61 percent.

According to then-Treasury Secretary Andrew Mellon: “The history of taxation shows that taxes which are inherently excessive are not paid. The high rates inevitably put pressure upon the taxpayer to withdraw his capital from productive business and invest it in tax-exempt securities or to find other lawful methods of avoiding the realization of taxable income. The result is that the sources of taxation are drying up; wealth is failing to carry its share of the tax burden; and capital is being diverted into channels which yield neither revenue to the Government nor profit to the people.”

President Hoover dramatically increased tax rates in the 1930s and President Roosevelt compounded the damage by pushing marginal tax rates to more than 90 percent. In 1930, Herbert Hoover raised tax rates from 25 percent to a maximum of 63 percent, and Franklin Roosevelt boosted them to 79 percent later in the decade. The 1930s, to put it mildly, are not remembered as one of the American economy's better decades. This high rate continued (although there were a large number of loopholes that basically know one truly paid that rate. The 1950s were a time that entrepreneurship was encouraged, but high rates and numerous tax loopholes continued. Recognizing that high tax rates were hindering the economy, President Kennedy proposed across-the-board tax rate reductions that reduced the top tax rate from more than 90 percent down to 70 percent. What happened? Tax revenues climbed from $94 billion in 1961 to $153 billion in 1968, an increase of 62 percent (33 percent after adjusting for inflation).

According to President John F. Kennedy: “Our true choice is not between tax reduction, on the one hand, and the avoidance of large Federal deficits on the other. It is increasingly clear that no matter what party is in power, so long as our national security needs keep rising, an economy hampered by restrictive tax rates will never produce enough revenues to balance our budget just as it will never produce enough jobs or enough profits… In short, it is a paradoxical truth that tax rates are too high today and tax revenues are too low and the soundest way to raise the revenues in the long run is to cut the rates now.”

However, Lyndon Johnson’s Great Society dramatically increased spending, the entitlement mentality, government reliance, and obviously – a want to increase taxes. In addition, the government had to print a lot more money to keep up with the spending. The Johnson surtax, enacted in 1968 during the administration of President Lyndon Johnson, combined with the inflation-induced bracket creep of the 1970s (subjecting taxpayers to higher rates even though their real incomes had not changed), resulted in a decade of stagflation. The 1970s saw major economic recessions and high inflation. In other words, more proof that tax and spend doesn’t work. Thanks to "bracket creep," the inflation of the 1970s pushed millions of taxpayers into higher tax brackets even though their inflation-adjusted incomes were not rising. To help offset this tax increase and also to improve incentives to work, save, and invest, President Reagan proposed sweeping tax rate reductions during the 1980s. What happened? Total tax revenues climbed by 99.4 percent during the 1980s, and the results are even more impressive when looking at what happened to personal income tax revenues. Once the economy received an unambiguous tax cut in January 1983, income tax revenues climbed dramatically, increasing by more than 54 percent by 1989 (28 percent after adjusting for inflation).

According to then-U.S. Representative Jack Kemp (R-NY), one of the chief architects of the Reagan tax cuts: “At some point, additional taxes so discourage the activity being taxed, such as working or investing, that they yield less revenue rather than more. There are, after all, two rates that yield the same amount of revenue: high tax rates on low production, or low rates on high production.”

Many often criticize tax cuts and spending cuts as only helping the rich. However, history shows that lower rates and encouraging entrepreneurship leads to more business growth and willingness to hire and expand which then results with more business profits. More business profits means more taxable income. Government will collect more revenue if it’s taxing a lot of profit at a lower rate than it will by having higher rates on less profit. History shows that the rich actually pay more in taxes when rates were lowered.

The share of the tax burden paid by the rich rose dramatically as tax rates were reduced. The share of the tax burden borne by the rich (those making $50,000 and up in those days) climbed from 44.2 percent in 1921 to 78.4 percent in 1928.

Just as happened in the 1920s, the share of the income tax burden borne by the rich increased following the tax cuts. Tax collections from those making over $50,000 per year climbed by 57 percent between 1963 and 1966, while tax collections from those earning below $50,000 rose 11 percent. As a result, the rich saw their portion of the income tax burden climb from 11.6 percent to 15.1 percent.

The share of income taxes paid by the top 10 percent of earners jumped significantly, climbing from 48.0 percent in 1981 to 57.2 percent in 1988. The top 1 percent saw their share of the income tax bill climb even more dramatically, from 17.6 percent in 1981 to 27.5 percent in 1988.

Cutting taxes isn’t as easy as one would think. Our tax code is very complicated with numerous tax credits and write offs – often called loopholes. Loopholes are put in the tax code in order to encourage certain behavior. For example, there are tax credits for making your home more energy efficient (buying new windows could be partially tax deductible) or giving to charity (tithing your church can do into tax deductions). If I buy materials to use in school, I can partially write that off on my taxes. Our tax code is extremely complicated. There are many who want to simplify the tax code – that is reduce the tax rates as well as closing some of the tax loopholes. Many in America call for a flat tax – everyone pays the same rate regardless of income, but no loopholes at all. Lowering taxes alone isn’t the easiest thing to do in terms of revenue. Remember the Laffer Curve…if the rate is too low, government revenue will decrease. So a question you have to answer is whether or not you want to increase government revenue – the more the government has and spends, the more power it has. Some want to see government cut its spending while others want to keep on spending but increase revenue. Tax reform isn’t as simple as raise or lower taxes or allow or not allow loopholes. The tax code, however, has been something that has grown as a political tool come election years and source of debates between liberals and conservatives and ultimately has given the federal government a lot more power since 1913.

In the 1950s, the tax rate on the highest income earners was 90% (after earning at a very high level). Many who want to increase taxes point to this and say about how the 1950s and early 1960s were good economic times (keep in mind JFK pushed tax cuts). So, what’s the answer? If rates were this high in the 1950s and the economy boomed after WWII, why not raise our current income tax at least a little to increase revenue, since the 1950s show this wouldn’t hurt the economy?
 * High Tax Rates of the 1950s – Debunking the Argument:**

There are several problems with that logic. First of all, after WWII, the U.S. was virtually the only economic industrial giant. Japan and Europe were ravaged by war, the Soviet Union was concerned with increasing power in Eastern Europe over industrial development and trade, and China was involved in a civil war and establishing communism. There was basically no foreign competition with American industry in the 1950s. Where would corporations set up businesses – the U.S. or war-ravaged Europe or Japan?

One answer is that taxes in the 50s weren’t really high. Yes, the top marginal tax rate was 90%, but it applied to almost no one. How did it apply to almost no one? Because there were a whole lot more loopholes than there are today. Tax rates were lowered with JFK. In the 1980s, Reagan and the Congress significantly reduced the tax rates and also closed numerous tax loopholes. What matters more is the average marginal tax rate – that is, the average rate paid on the next dollar of earned income. That figure tells you more about the incentives facing individuals working in the economy. In addition, there are a lot more taxes today than in the 1950s – at all three levels of government. The Social Security tax rate and Medicare tax rate both increased. States have their various taxes and fees as well.

And based on data from a study in 2009 by Robert Barro and Charles Redlick, the good old days in terms of economic growth were also pretty good in terms of taxes. Barro and Redlick calculated average marginal tax rates inclusive of federal income taxes, Social Security taxes, and state income taxes. In the 1950s, the average marginal rates equaled just 25%, versus 37% in the 2000s.

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