Friday, February 3, 2023

Real World Economics: No, not ‘everybody’ paid income taxes in the good old days

A lot of “people” in our country, about half in fact, don’t pay any federal income tax. Rick Scott, GOP senator from Florida, his former governor and a presidential wannabe, thinks this is terrible and reflects a destructive slide of our country into “makers” and “takers.” It needs to be corrected. If nothing else, force such current freeloaders to pay some nominal sum. Then they’ll have skin in the game and a reason to consider national economic issues including taxes. In this, Scott echoes Milt Romney’s 2012 presidential run.

Tell people this and you often get an agreement. But is it a real problem or one based on ignorance and muddled reasoning? The answer is the latter. This situation is nothing new. Moreover, it shows the system is working as intended.

20131120 Ed Lotterman
Edward Lotterman

When I hear this complaint, my first response is, “Well, how many people do you think paid income tax at some time in the past you have in mind?” Their response is usually, “Well, almost everybody.”

That simply isn’t the case. The proportion of US households paying federal income tax in any particular year had never hit 60 percent. And for many decades in the 108 years we have had it, the proportion was lower than now.

Much of the confusion comes from a misunderstanding of the word “people.” Do you mean individual human beings, all 330 million of us? Do you mean families? Or one of 121,000,000 “households,” the US Census Bureau’s more technical term? Or “tax units,” a useful category for the Internal Revenue Service?

A second source of confusion comes from the failure to consider lifetimes rather than one point in time and whether the income tax is the only relevant one.

Yes, roughly 50 percent of “Americans” or “people” won’t pay federal income taxes for 2021. But half of these non-payers will still pay FICA for Social Security and Medicare. And for a majority of the Americans with “earned income” who do owe federal income tax, that will total less than their FICA.

Moreover, while finding exact lifetime data is difficult, proportions of individuals who pay federal income tax over some time in their lives is usually estimated at 93 percent to 95 percent. Most pay it for extended periods, decades rather than months or years.

Finally, if we think about it, at some time in our lives nearly all of us have years in which we owed no taxes. That was true for me as a soldier, student and young farmer. It is true for many others. Consider three cases.

I see occasionally Smitty, a retired farmer in his early 80s, at a truck stop near my home town. He had a successful farm, but not a large one. They sold the farm before the current run-up in land prices, bought a nice house in town and now live on Social Security, wages for part-time work and a bit from IRAs. They have two good vehicles, have gone to Branson, Yellowstone and Punta Cana, along with fishing “up north.” life is good.

For weeks in spring and fall, Smitty drives tractor for a son-in-law or a nephew. This “helping out” is unpaid. In the winter, he drives an occasional truckload of grain for a local elevator to a terminal elevator or ethanol plant and gets paid. He reports this and pays FICA. But he and his wife have not had a federal income tax liability for more than a decade

Caitlin, age 19, daughter of two MDs, is herself a pre-med student at a prestigious Lutheran college. She also wants to get a Ph.D. and do research, so she takes large course overloads and attends summer school plus being in choir and putting in work-study hours. She lives off campus with other young women. They get along fine but have no other relationship. Her parents are in a far higher marginal tax bracket than she, so they claim her as a dependent. She pays no federal income tax herself. But she meets the Census Bureau definition of a separate “household.”

Emily, in her mid-20s and a single parent of two, busts her butt giving wonderful service at a small-college snack counter. A concessionaire food service employs her, not the college. She burns the midnight oil on one accounting-degree course per semester and has frequent gigs as an events-center server. Her widowed mom helps with the kids. Emily pays FICA, but after three personal exemptions and the Earned Income Tax Credit, has owed no income tax since her divorce.

Freeloaders? Takers rather than makers? No stake in our society? parasites? I think not. And while none are “taxpayers” right now, all paid or will pay substantial accumulated income taxes over their lifetimes. Do any of them care less about our country than Elon Musk or Jeff Bezos? Than the CEOs of United Health or Target or JP Morgan or Boeing? You decide.

For added perspective, go back in history. The income tax was instituted in 1913 by Democrats under President Woodrow Wilson, only the second Democrat in the White House in 42 years. It was crafted as a tax on the rich. The first year, less than 1 percent of households had to file.

Rates rose and threshold incomes dropped when we got into World War I, but then fell again during the 1920s and ’30s. In 1940, on the cusp of World War II, a couple with three kids could earn $3,200 before owing any tax. The average weekly wage in manufacturing was $41 per week. Average net income from farming was under $800 per year.

In 1950, the same household could earn $3,000 before facing income taxes. The average salary for a (male) public high school teacher was about $2,600. Average weekly earnings in manufacturing were up to $59.67. Net cash farm earnings remained below $1,000. The exact proportion of households paying any income tax is hard to determine, but then was lower in those eras than now.

Many aspects of federal income taxation need correction. The fact that not every household owes taxes in every year is not one of these problems.

St. Paul economist and writer Edward Lotterman can be reached at stpaul@edlotterman.com.

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