For the past almost 100 years, federal income tax rates have been highly cyclical. In 1913, the marginal tax rate was 7% over $500,000 in income. At its high in 1945 (during World War II), the marginal rate was a whopping 94% on $200,000 in income. In 2011, the current marginal rate is 35% on incomes over $379,150.
The United States did not always have a federal income tax. Indeed, the first personal income tax was not imposed until the Civil War in 1861, and then another replaced that tax in 1862. Both were employed to help pay for war efforts. The Sixteenth Amendment to the Constitution gave Congress the power to collect taxes on incomes no matter what the source in 1913, marking the birth of the current system of a graduated tax based on income levels.
Most recently, federal income taxes paid by the top 1% of tax returns fell during the recession of 2008. According to the Tax Foundation (a non-profit, non-partisan foundation based in Washington, D. C.), the top 1% of tax returns paid 38% of all federal income taxes and earned 20% of total gross income. In 2007, these percentages were 40.4 and 22.8, respectively. The 2008 recession had a profound effect on income earners at the upper levels.
Also in 2008, there were approximately 52 million of the 139 million tax returns filed that paid no taxes at all or received a refund.
Raising taxes on the so-called “rich” in order to reduce a burgeoning federal deficit is not the cure-all solution to government spending “run amok”. Bill Ahern, Tax Foundation Director of Policy and Communications, notes that “the federal government is spending so much that even if policymakers were willing to fund government services with actual tax revenue instead of piling on more debt, the federal income tax system, in its present form, wouldn’t be able to raise that much.”
Federal income tax rates would have to be prohibitively high in order to balance the budget, and notes Ahern, “government would be taking away all earnings and there would be no incentive to work.”
Understandably so, affluent investors are extremely concerned about taxes as a result of the recent recession with 63% to 71% of respondents indicating worry about increasing taxes. Further Spectrem research indicates that fears of increasing taxes have caused more than 40% of affluent investors to change their investment strategy to plan for higher anticipated taxes.
After 100 years, it might be time to consider a federal tax overhaul which would preserve incentives to work, fund essential government services, and pay off the federal debt.