Where Are Tax Rates Headed?

By :: December 12th, 2013

Effective tax rates have been rising since 2009 and will continue to rise for a few more years before they flatten out, according to Tax Policy Center projections.

My TaxVox post earlier this week showed how average federal tax rates have changed over the past three decades. But that was based on a 30-year history of federal tax rates produced by the Congressional Budget Office (CBO) that ends in 2010.

While we don’t know the future for certain, TPC has projected effective federal tax rates out to 2024. There are significant differences between the CBO and the TPC estimates but splicing the two projections together gives a reasonable picture of what will happen to rates for various income groups under today’s tax law.

Average Tax Rate by Percentile-TPC-CBO.12-12-13TPC projects that average rates will rise for all income groups from their recent lows caused by the Great Recession and the tax cuts put in place to combat it (see graph). With incomes rebounding and most of the temporary stimulus tax cuts expiring earlier this year, average rates will rise by 2 or 3 percentage points between 2009 and 2015 for all but the top 1 percent, who will see a steeper 7 percentage point jump.

Rates will drift upward in subsequent years as real incomes rise. The poorest families will get hit harder in 2018 when they lose the remaining stimulus tax cuts, and the average tax rates for the top two income groups will decline as more of their income comes from capital gains and dividends, which face lower rates.

Splicing the CBO and TPC estimates together gives a longer view of what’s happening to tax rates, although we need to be cautious about comparing the two series—more on that below. Under today’s law, average tax rates will remain below their three-decade highs for every income group. However, the top 1 percent’s nearly 34 percent rate in 2016 will be close to its 35 percent peaks in 1979 and 1995. Overall, federal taxes should be at least as progressive as in the past.

The rate changes come from a combination of scheduled adjustments in the law and changes in levels and composition of income. We use CBO’s estimates of aggregate growth in wages, capital gains, and other forms of income over the next decade, and generally assume that recent trends in growth across income groups will continue. If actual incomes differ much from our assumptions, our estimates of tax rates could be far off the mark.

TPC and CBO estimates match up well for the seven years they overlap, though they do differ at the top. However, that similarity may be just chance. In fact, there are at least four major differences between the CBO and TPC estimates that could prevent them from matching up:

  1. Different taxes: Both analyses include individual and corporate income taxes and payroll taxes, but TPC adds estate taxes while CBO also counts excise taxes. Almost everyone pays excise taxes—think gasoline, tobacco, alcohol, and plane tickets—while estate taxes hit very few people.
  2. Different sources of income: CBO and TPC both include wage and salary income, investment returns, and business income. But CBO counts Medicare and Medicaid, for example, while TPC includes the returns on retirement accounts—so-called inside buildup.
  3. Different groupings of people: CBO looks at households—people who live together—while TPC focuses on tax units. The two are usually but not always the same.
  4. Different ranking methods: CBO assigns households to income percentiles based on an adjusted measure of income. TPC doesn’t adjust incomes so generally has more large units in higher income groups and more small units in lower ones.

Those differences mean that the two sets of estimates won't align perfectly. Nevertheless, it is  likely that under today's tax law, average tax rates are headed sharply upward from their recession lows.


  1. Michael Bindner  ::  4:11 am on December 13th, 2013:

    I am no so sure the recovery is solid, especially as it regards housing prices v. loan values. Additionally, unless revenue neutrality is the standard for tax reform – any comprehensive tax reform may raise taxes even more. If someone runs for President (and wins) on a platform of abolishing the income tax for all but the top 20%, that person may just be able to enact a VAT. Of course, this would change the distribution tables radically – as would any tax provided guaranteed income.

  2. Vivian Darkbloom  ::  4:59 am on December 13th, 2013:

    “…while TPC includes the returns on retirement accounts—so-called inside buildup.”

    I would be interested to know if and how this model avoids double counting of “income” in its calculations. I would hope that if you are including inside build up in retirement accounts you are correspondingly excluding subsequent distributions?

    The same issue exists with respect to Social Security and a few other items. Granted, the concept of “income” is subject to considerable debate; however, I should think whatever definition one chooses, consistency to avoid double counting should be required. Such double counting of “income” but not taxes would artificially inflate income and deflate effective tax rates.

    I’ve done my due diligence on this by reading the following


    which indeed confirms that both contributions to tax deferred accounts (and inside build up) *as well as subsequent cash distributions are counted as “cash income” for these purposes.

    What is the justification for this double counting?

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  4. AMTbuff  ::  12:04 am on December 14th, 2013:

    I’ve seen this double counting in an earlier TPC paper. That paper gave what I considered a weak excuse. If I recall correctly it was to the effect that most people are in a lower bracket during retirement, so the tax on withdrawals can be approximated as zero. I don’t agree with either half of that syllogism.

    As to where tax rates are headed, one need only look at projected government spending as a share of the economy. Add in the several percent of GDP by which spending currently exceeds revenue. Add some more for increased government debt service as interest rates snap back to historical norms and keep climbing from there. Divide the total spending (as a share of GDP) by current revenue (again, as a share of GDP) and subtract 100%. That’s the expected increase in average tax rate. It will be a large number.

  5. Vivian Darkbloom  ::  4:14 am on December 14th, 2013:

    It doesn’t appear that any explanation is going to be forthcoming, so I would conclude that this “double counting” actually does decrease nearly everyone’s effective tax rate even in the “economic sense”. In fact, simply following the IRS’ definition of “income” and timing of receipt of “income” likely gives one a more accurate picture of the economic “effective tax rate” than do all these misguided attempts to “correct” that. But, when it comes time to debating how to change the tax code, these are the numbers that are thrown around and these are the numbers that the public at large think are “real”.

    The question is how much this overstatement of income understates the effective tax rate. I suspect that it is more than insignificant. And, is the understatement consistent throughout the income cohorts?

    People are paying a higher effective tax rate than the TPC (or even CBO) is telling them. That should be headline news and not buried in a technical document that 99.9999 percent of the public will never read, much less understand.

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  7. Ralph H  ::  2:32 pm on December 16th, 2013:

    There is no justification for including “inside buildup”, just as income does not normally include stock or real estate asset increases (until sold). Perhaps the real reason is a liberal leaning organization wants to minimize the reported effective tax percentage paid by the wealthy. We see this bias in how they equate deductions (for interest and state taxes) to entitlements. Fortunately there are a few commenters who catch the illogic.

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