Every Payday Is Tax Day

April 13, 2006

For Immediate Release
850 words
by Eric Schansberg
The tax man come this week. Actually, he comes all year round. But on April 15 he is most obvious — and most irritating. It’s bad enough that he takes so much money, but why does Congress make us spend billions of hours filling out forms to pay him? (Does anyone know how many members of Congress fill out their own taxes?)
Aside from April 15, we usually don’t pay much attention to federal taxes on income for four reasons:
First, the taxes are withheld from our paychecks before we ever see the money. Think how much different it would be if everyone had to write a quarterly check to the government for their tax bill. Rep. John Hostettler has introduced a bill to eliminate withholding. Its chief merit would be to make the true cost of government much more obvious.
Second, the taxes on income are divided into payroll taxes and so-called income taxes. Of course, two smaller taxes are less obvious than one larger tax.
Third, some of the tax on income is hidden — under the guise of employers paying half of the payroll tax on labor. But don’t be fooled. Employees bear the brunt of the employers’ half as well — through lower wages. If this seems odd, ask yourself who bears the brunt of taxes on gasoline and cigarettes. Do you think the gas station picks up the tab for those taxes?
Finally, payroll taxes are ignored because they’re rarely a part of our political discussion. Ironically, although income taxes are far more famous, it turns out that payroll taxes impose a larger burden on 80-90 percent of working Americans.
The payroll tax is used to finance Social Security and Medicare — as money is taken from current taxpayers and given to current retirees. Some workers can opt out of the system — ministers (as a matter of "conscience") as well as some public school teachers and other government employees (who have their own retirement plans). Everyone else loses 15.3 percent of every dollar earned. (There was an income cap of $90,000 in 2005 for 12.4 percent of the tax; the other 2.9 percent tax applies to all dollars earned.)
Unlike the income tax, there are no deductions or exemptions for the payroll tax. Every single dollar is taxed. As such, it is easy to imagine why payroll taxes typically impose a larger burden than income taxes. And it should be easy to see why the working poor are hit hardest of all.
Using IRS data from 2003, income taxes began to exceed payroll taxes at an average "adjusted gross income" in the $125,000-130,000 range — with an average of $110,000 in wages and $14,000 each in payroll and income taxes.
Using the 1040 tax form from 2005 (assuming the standard deduction and no other income), a married family with two children would start paying income taxes on any income earned above $41,000. Meanwhile, they were already hit up for more than $6,000 in payroll taxes ($500 per month). A working poor household with at least one child and earnings of $20,000 would be nowhere near paying any income taxes, but would already be out more than $3,000 in payroll taxes ($250 per month).
Again using the 1040, income taxes begin to exceed payroll taxes at a wage income of $55,500 for singles. For a head of household with two children, income must be nearly $100,000 before income taxes exceed payroll taxes. For a married couple with one parent working and four children, income must be nearly $150,000. It is easy to see why payroll taxes are usually more dominant in their effect than income taxes.
The wage income at which Income tax on wages begins to exceed payroll taxes:

Single $55,500

Head of Household with two children $98,850

Married with two children, one parent working $115,000

Married with two children, both parents earning less than $90,000 $148,200

Married with four children, one parent working $130,900

Why do so few people talk about payroll taxes? As noted above, it is relatively difficult to see the burden of payroll taxes. But part of the answer is political.

Republicans are more interested in reducing income taxes — where the upper half of the earnings distribution pays nearly all of that tax. Meanwhile, Democrats are happy to posture in opposing income tax reductions for "the rich."

One would think Democrats — as supposed defenders of the poor and the working class — would at least talk about reducing taxes on those groups. But they don’t seem to be particularly fond of any tax reduction — and they apparently gain too much political mileage from bashing any attempts to reform Social Security.

Wouldn’t it be better to eliminate all deductions (except perhaps charity), to exempt all income below the poverty line from taxation, and then to impose a flat tax on any income earned about the poverty line? It would be much more efficient in terms of compliance. And it would be much less painful for the working poor who get hammered by payroll taxes.

Alas, such reforms seem far away. In the meantime, happy "Payroll and Income Tax Day" to you.

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D. Eric Schansberg, Ph.D., an adjunct scholar of the Indiana Policy Review Foundation, teaches economics at Indiana University (New Albany). Contact him at sschansberg@inpolicy.org.


Legal Disclaimer: The Indiana Policy Review Foundation is a nonprofit education foundation focused on state and municipal issues. It is free of outside control by any individual, organization or group. It exists solely to conduct and distribute research on Indiana issues. Nothing written here is to be construed as reflecting the views of the Indiana Policy Review Foundation or as an attempt to aid or hinder the passage of any bill before the legislature or to further any political campaign.


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