Will Increasing Income Taxes Generate Higher Revenue?
Abstract: In order to relief the major deficit America has been experiencing, President Obama and the Congress have agreed upon some major federal tax increase and spending cut decisions. In this paper, I am going to focus on the effect that marginal tax rates have on government revenue. First, I will look at how changes in marginal tax rates will influence people from different income levels. In addition, I will look at how much the increase in marginal tax rate changes the government revenue. Second, I would look at the changes in other tax rates that directly affect the computation of income tax revenue. I will analyze if the change in each tax rate has a positive of negative impact on income tax revenue. In the end I would want to find out if the changes in tax rates were the right thing to do to cut America’s budget deficit.
One of the major topics by the end of 2012 was the fiscal cliff. The US Government has been experiencing a budget deficit of over $1 trillion in the past four years. In 2012, the budget deficit was $1.1 trillion, which accounted for roughly 7% of the GDP. This was better than the 8.7% in 2011 and the 10.1% in 2009. However, since the Bush Cut tax and other tax provisions enacted in 2001-2010  were about to expire, the CBO forecasts an increase of $4 trillion budget deficit in the 2013-2022 period if we were to let the tax laws expire . The best way to solve this issue seemed to be raising tax revenue and reducing expenses, but how the amount to increase is a tricky issue. On January 2nd, 2013, President Obama and the Congress reached an agreement. On this day, the American Taxpayer Relief Act of 2012 was signed into law. The change in the marginal income tax rate caught the most intention. The Bush Tax Cut will remain permanently for all but singles with income of over $400,000 and married couples with income over $450,000 which represents approximately 1-2% of all taxpayers . Below is the comparison between the old and new marginal tax rates. After this law has passed, it seems to be affecting only the richest people (those earning above $400,000) in the nation but due to fact that the payroll tax cut has expired, nearly everyone is paying more in income taxes. How are people with different income levels going to be affected? In addition, is this the best way for the government to collect more revenue? Regarding to the American Taxpayer’s Relief Act, the CBO estimated an 8.13% increase in revenue and 1.15% increase in spending ($845 billion deficit) for 2013 which is lower than the current $1.1 trillion deficit . What we should do to slash the government deficit is a very complicated issue. So far President Obama and the Congress only have solutions to the revenue aspect . They have postponed their decision about what to do to cut expenses. Tax revenue accounts for approximately half of government’s total revenue. Income tax revenue accounts for 35% of total tax revenue, so changing the marginal income tax rate will have a great impact . So in this paper I would only focus on the income tax aspect of the fiscal cliff.
According to American Taxpayer Relief Act of 2012, there are changes tax rates, tax credits and exemptions that influence the calculation of taxable income . Since the marginal tax rate is exercised on the taxable income, I will look into these changes to see how they affect the income tax as well as what portion of people are affected the most.
I read a paper called “Effective Marginal Tax Rates under the Federal Individual Income Tax: Death by One Thousand Pin Pricks?” by Barthold, Koerner and Navratil. This paper looks into the relationship between Marginal tax rates and effective tax rates. Effective tax rate is the overall rate of tax collection using the tax amount you’re paying divided by your total. This will be helpful for my analysis in