Why Do People Pay No Federal Income Tax?

By :: September 18th, 2012

The percentage of Americans who don’t pay income tax is making headlines again. However, the story hasn’t changed since I blogged about it last year and my TPC colleagues and I analyzed why in a longer paper. In 2011, 46 percent of tax units paid no federal income tax. Half of them had no taxable income—the standard deduction and personal exemptions exceed their income.  The other half get enough tax breaks to wipe out their basic tax liability.

It’s worth noting that the percentage has changed over time, rising and falling as the economy fluctuates and Congress enacts short-term stimulus tax cuts. Looking forward, we project that the percentage will fall below 40 percent by the end of the decade, even if Congress makes the Bush-era tax cuts permanent.

7Comments

  1. Lynne  ::  9:49 pm on September 18th, 2012:

    question:

    is the point that the “46%” have all of their witholding payments returned due to deductions, exemptions, et al? or is it that some percentage of the population actually has no federal tax witheld from their pay?

  2. AMTbuff  ::  11:04 pm on September 18th, 2012:

    Do above the line deductions include 401k’s that are excluded from the W-2? Or only deductible IRA contributions? Are retirement contributions larger or smaller than the total of tax-exempt interest?

    Second, I’d like to comment that the benefits of tax-exempt interest flow mostly to the state and local governments which issue this debt. This tax break is more a giveaway to those governments than a giveaway to the rich. Removing this tax break will cost the rich only about 20 cents on the dollar of their current tax reduction.

    Once could apply a similar analysis to the mortgage interest deductions, which flows in part to owners of existing homes whose value the deduction inflates. Removing the break will transfer a rather large amount of wealth (not income) from homeowners to non-owners. That’s tough to account for in a distributional analysis, but we ought to try.

  3. Brian Dell  ::  9:00 am on September 19th, 2012:

    What’s missing in this debate is international comparisons. From what I have seen of the data, the lower-to-middle class in America plays substantially less tax then their equivalents in Europe when Europe’s high consumption taxes are taken into consideration.

    A federal value added tax could go a long ways towards addressing the deficit, and the TPC has noted many of its merits. But the TPC is not helping to lay the groundwork for the introduction of such a reform if it is highlighting material that supports the position of those who claim that most of the population is already paying as much as can be reasonably asked of them.

  4. Tax Roundup, 9/19/2012: 47% Frenzy, Day 2! And the dangers of filing unneeded returns. « Roth & Company, P.C  ::  9:01 am on September 19th, 2012:

    […] Williams,  Why Do People Pay No Federal Income Tax?  […]

  5. Neil  ::  9:21 am on September 19th, 2012:

    This data is being misused by various media outlets. In the WSJ this morning they took the 46% not paying Federal Income Tax and then broke it out into those that paid Federal Payroll Tax (28%) and those who didn’t. This would imply that the 46% really doesn’t reflect those who didn’t pay taxes.

    The problem is that many of the 46% had “negative” Federal Income Tax through refundable tax credits. Meaning that this actually offset their Payroll taxes.

    A more interesting analysis would be the percent of households who had combined Federal tax (Income and Payroll taxes) liability of less than $500. I am betting this is over 60%.

    The TPC point that many of the households are lower income or elderly does not get at the point Romney is making. His point is that we have set up a system in which a small minority of the population is paying the vast majority of the taxes. This sets up a classic tyranny of the majority situation which is the Achilles Heel of Democracy (or in this case a Republic).

  6. Michael Bindner  ::  2:43 pm on September 28th, 2012:

    40% is still too much. It would be better to do what Graetz, Lindsey, Burman and Bindner suggest and adopt consumption taxes (with subsidies to poor families through wages) and reserve individual income and payroll taxation to only those with significantly higher income ($150,000 in pre-consumption tax dollars, $100,000 in post – note that Graetz and Burman would not touch payroll taxes).

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