Maybe it’s the influence of my daughter, immersed in her college econ class, muttering about progressive and regressive and constant taxes, and outraged to discover that the tax system actually benefits the upper one percent much more than the middle class. At any rate, when the 2009 Minnesota Tax Incidence study was released this week by the MN Department of Revenue, I expected headlines and deep analysis all over the place.
Progressive and regressive taxation
Progressive taxation means, simply, those who have more money will pay higher taxes. Regressive taxation means that those who have less money will pay higher taxes. We hear a lot of rhetoric about how rich people pay more taxes. It’s important to examine what that means.
Here are some examples that show what different tax rates mean to the government and to families. Each example looks at the impact of taxes on the middle-class Miller family, who earn $50,000 per year, and the wealthy Walker family, who earn $300,000 per year.
Example 1: Regressive taxation
Let’s say the income tax is a flat tax of 10 percent, and the social security tax is about eight percent on the first $100,000 of income.
The Miller family pays $5,000 in income taxes and $4,000 more in social security taxes. That leaves them with disposable income of $41,000. The effective tax rate for the Millers is 18 percent.
The Walkers pay $30,000 in income taxes and $8,000 in social security taxes. That leaves them with disposable income of $262,000. The effective tax rate for the Walkers is 12.6 percent.
Property taxes and sales taxes also take a larger bite (percentage-wise) from the middle-income Millers than on the wealthy Walkers.
Example 2: Progressive taxation
In this example, the income tax for the middle-income Millers remains at 10 percent. The income tax for the wealthier Walker family increases to 25%. Social security taxes remain the same.
The Miller family still pays an effective tax rate of 18 percent, or a total of $9,000 in taxes, and still has $41,000 in disposable income.
The Walker family now pays $83,000 in taxes, for an effective rate of 27.6 percent. They have disposable income of $217,000.
Not so you’d notice.
But this IS really important stuff. It’s important to know who pays taxes in Minnesota. It’s important to think about how the tax burden is shared among Minnesotans, and about what justice requires.
So — here’s my try at unpacking what the 123-page report said, and why it is important.
Minnesota’s total tax burden per household is about 11.2 percent of income. The study projects an increase to 11.4 percent by 2011. Because the recession is driving down incomes, the increase may be higher than this projection.
Minnesota’s household tax burden today is lower today than it was the 1990s. Then it ranged from 12-13 percent.
Lower taxes sound good, but there are problems. One, of course, is the looming state budget deficit, but that’s not the focus of the tax incidence study. The study focuses on how the tax burden is distributed among various Minnesotans.
A complicated series of calculations called the Suit Index shows that taxes have become increasingly regressive since 1998 and much more regressive since 2006. The Department of Revenue calculations include income taxes, sales taxes, property taxes, and business taxes that are shifted to consumers. (For example, cigarette excise taxes or gas taxes are shifted completely to consumers.)
After allowing for the shifting of business taxes, the Minnesota tax system in 2006 was somewhat regressive (and significantly more so than in 2004). In contrast to the results shown in recent studies, effective tax rates were above the 11.2 percent average for all except the [highest income] tenth decile. p. 2
Among the various kinds of taxes, income tax is a more progressive tax. People with higher incomes are taxed at higher rates. Most other taxes are regressive — they have a greater impact on people with lower incomes. This does not mean a greater impact only on “poor people.” This means a greater impact on non-wealthy people — including all of the middle class.
The proportion of Minnesota tax collections that come from income taxes is going down. That means shifting tax collection away from the most progressive tax. Instead, tax burdens are being shifted to local governments (property tax) and to other regressive taxes, such as proposals to broaden the sales tax to apply to clothing.
Regressive taxes that are projected to increase their shares include homeowner and business property taxes, the motor fuels tax, the MinnesotaCare provider taxes, local sales taxes, and the motor vehicle registration tax. p. 23
Not only is tax collection shifting toward greater reliance on more regressive taxes, but the tax burden is already distributed in a way that is regressive.
Households in the middle income brackets pay a higher rate of taxes than households in the top ten percent of Minnesotans.
The tenth decile households have incomes of $123,938 and over. Taxes on this group are 10.0 percent.
Taxes on the top one percent of MN households — those with incomes greater than $447,889 are only 9.6 percent.
Taxes on households with incomes from sixth through ninth deciles — those with household incomes between $40,061 and $123,937 — pay 12.2 or 12.3 percent of household income in taxes.
Minnesota’s income tax is progressive and people with higher incomes are taxed at a higher rate. But the income tax rate for higher-income Minnesotans is not high enough to equalize the overall tax burden.
To evaluate the fairness or equity in the distribution of tax burdens by income level, tax burdens must be compared to the underlying distribution of income. … A key measure used to analyze tax equity is the effective tax rate, which is defined as the ratio of taxes to income. Effective tax rates measure the percentage of income paid in taxes and can be compared for different levels of income. The distribution of tax burdens is characterized as progressive if the effective tax rate rises with income, proportional if it is constant for all income levels, or regressive if it falls as income rises. p. 30
Of course, there is also a strong argument for taxing higher-income households at a higher overall rate than lower-income households. But that’s another article.
* The tax incidence study is done every two years. The numbers used in this study come from 2006/2007.