The current federal government income tax rates are not only very high, but it is also debatable as to their fairness. Everyone is in agreement that the federal income tax should be implemented on a progressive scale. In other words, the wealthy should pay a significantly higher percentage in income taxes than the poor. The million dollar question is what percent should the wealthy pay in income taxes? And is it fair that 50% of all Americans pay no income taxes because they do not make enough money? Based on the results from the previous blogs showing a direct relationship in consumer spending, income, and taxes, it is fair to surmise the method for calculating income tax rates must be altered.
Some feel the wealthy should pay a high percentage of their income in taxes (over 50%). However, there are many points that say this is a bad economic maneuver by the government. First, the more money the government takes from the wealthy the less money they have to spend on goods and services to keep the economy thriving. In 2010, the top 10% of income earners in the United States consisted of 40% of all consumer spending and had about 50% of the wealth. Secondly, it is wise to consider the economic phenomenon called the Laffer Effect. The Laffer Effect determines what income tax rate produces the highest revenues for the federal government. After centuries of data, most people feel the highest tax rate should be around 33% to 36%. Higher taxes only reduce the incentive for people to work harder to earn more money. This effect can be seen as populations are fleeing states with high tax rates, such as New York and New Jersey, to states with lower tax rates.
Finally, is it fair that low income earners are exempt from federal income taxes? No, it is not. It eliminates any responsibility and accountability they have towards making a positive impact on society. Secondly, a reward of paying no income tax provides no incentive for people to earn more money. Hence, everyone should pay some taxes, even if it is a low percentage.
In 2010, below are the estimates for consumer spending and the corresponding income earned by percentile:
Percentile Consumer Spending (CS) (%) Income (I) (%) Tax Rate (TR) (%)
90-100 40 50 30
60-90 35 30 19.5
30-60 20 15 12
0-30 5 5 4.9
In other words, the top 10% of income earners (indicated by the 90-100 percentile) make up about 40% of our economy, while they earn about 50% of the total income in our economy. To calculate the tax rate for the 4 tax brackets created above, the formula is as follows:
TR = I / (1 / (1 – CS))
This formula takes into account how much income people have and how much they are spending in the economy. Thus, it rewards people that are putting money back into the economy with lower taxes. If consumer spending in the top bracket (90-100) dropped to 25%, but they still account for 50% of the income, their tax rate would go up 37.6% because they are not spending as much money in the economy. On the other hand, if the bottom 30% bracket increased consumer spending to 20% and still only earned 5% of the wealth their taxes would drop to 4%. The IRS can make up tax brackets based on economic data from the previous year data. They can even toggle the tax rate +/-3% based on projections. In other words, in the above example, the top tax rate can be anywhere from 27 to 33%, meanwhile the bottom tax rate can be reduced to under 2%.
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