"Tax Day" 2015
We pay taxes every day. But for many people, April 15th represents “Tax Day”—the day when our income tax forms are due. Many people file their 1040’s sooner, particularly when they’re receiving refunds. They have allowed the government to keep too much of their money all year. So why should they extend the interest-free loan to the government for a few more months?
Some households reach Tax Freedom Day sooner because they have lower incomes. Our tax system is generally “progressive”, applying higher tax rates to those with higher incomes.
All income is exposed to FICA taxes. But not all income is exposed to income taxes. Some income is excused through “exemptions” (mostly related to household size) and a variety of “deductions”. Taxpayers are offered a “standard deduction”, but can benefit from “itemizing” their deductions (detailing the deductions allowed by law) if that amount is more than the “standard”.
For example, in 2014, the standard deduction for a married couple was $12,400. If a couple had itemized deductions of $13,400, their taxable income would be reduced by another $1,000. If they were in the 15% tax bracket, this would reduce their taxes by 15% of the $1,000, or $150. If their itemized deductions were only $12,000 (less than the “standard”), then their taxable income and their taxes would be unchanged.
So, larger deductions and larger tax rates lead to a greater advantage. Wealthier people face higher tax rates and tend to have larger deductions. Thus, they typically gain a lot more from deductions, reducing their taxable income moreso and sheltering their income from higher tax rates. It also follows that wealthier states have much more to gain from deductions.
According to the Treasury Department’s budget for 2016, the five largest tax deductions are: 1.) the subsidy for tax-free health insurance and health care; 2.) retirement savings; 3.) state and local taxes; 4.) mortgage interest; and 5.) charitable contributions.
Subsidies for retirement savings and charitable contributions face little controversy, so let’s focus on the other three. The subsidy for health insurance through the firm results in a loss of $225 billion in revenue for the federal government. (The subsidy is also responsible for most of our problems in health insurance and health care, but that’s another article.) This works out to about $2,900 from the average family of four. The state and local tax deduction leads to $81 billion (more than $1,000 per family). The mortgage interest deduction leads to $54 billion (about $700 per family).
In the coming year, when you hear some politicians talk about a “flat tax”, this is what they’re discussing: getting rid of expensive loopholes that largely benefit the wealthy, while lowering income tax rates for everyone. Which system would you prefer?