Obama and the Democrat party are using the debt limit debate to demand increases in taxation for the America people. They continue to use colorful language to sugar coat these tax increases and make them more palatable for the general public. We commonly hear phrases that include “value added”, “revenue improvements”, “share the sacrifice”, etc.
The Wall Street Journal published an excellent article explaining what our country will look like when the Democrats get their way and our tax rate approaches 70%.
Two problems arise when marginal tax rates are raised. First, as college students learn in Econ 101, higher marginal rates cause real economic harm. The combined marginal rate from all taxes is a vital metric, since it heavily influences incentives in the economy—workers and employers, savers and investors base decisions on after-tax returns. Thus tax rates need to be kept as low as possible, on the broadest possible base, consistent with financing necessary government spending.
Second, as tax rates rise, the tax base shrinks and ultimately, as Art Laffer has long argued, tax rates can become so prohibitive that raising them further reduces revenue—not to mention damaging the economy. That is where U.S. tax rates are headed if we do not control spending soon.
The current top federal rate of 35% is scheduled to rise to 39.6% in 2013 (plus one-to-two points from the phase-out of itemized deductions for singles making above $200,000 and couples earning above $250,000). The payroll tax is 12.4% for Social Security (capped at $106,000), and 2.9% for Medicare (no income cap). While the payroll tax is theoretically split between employers and employees, the employers’ share is ultimately shifted to workers in the form of lower wages.
So, for a family in high-cost California taxed at the top federal rate, the expiration of the Bush tax cuts in 2013, the 0.9% increase in payroll taxes to fund ObamaCare, and the president’s proposal to eventually uncap Social Security payroll taxes would lift its combined marginal tax rate to a stunning 58.4%.
While the government tried hard to brain wash the public into thinking that higher taxes are needed so we can all “share the sacrifice”, people are beginning to wake and up and see the enormous burden they are placing on ever American family. Many tax payers not only have to deal with federal income taxes, but state income taxes, payroll tax, social security, medicare, sales tax, and the increasing burden for federal spending that is out of control.
But wait, things get worse. As Milton Friedman taught decades ago, the true burden on taxpayers today is government spending; government borrowing requires future interest payments out of future taxes. To cover the Congressional Budget Office projection of Mr. Obama’s $841 billion deficit in 2016 requires a 31.7% increase in all income tax rates (and that’s assuming the Social Security income cap is removed). This raises the top rate to 52.2% and brings the total combined marginal tax rate to 68.8%. Government, in short, would take over two-thirds of any incremental earnings.
There is only one solution to this growth-destroying, confiscatory tax-rate future: Control spending growth, especially of entitlements. Meaningful tax reform—not with higher rates as Mr. Obama proposes, but with lower rates on a broader base of economic activity and people—can be an especially effective complement to spending control. But without increased spending discipline, even the best tax reforms are doomed to be undone.