The most popular blog posts on Almost Classical remains The 90% Tax Rate Myth, in which I explain effective rates vs. top marginal rates and the relative stability of top rates excluding outliers of less than 10 tax filers. That’s necessary because some of the “top tax rates” would have applied to… ONE PERSON.
As I wrote in that old post:
As a result of deductions and exclusions, even the theoretical maximum Real Rate of taxation at 60% in 1944 overstates taxation dramatically. The reality? On earned income, the richest U.S. taxpayers paid close to 40 percent of their earned incomes in taxes in 1944. We simply didn’t count much of the compensation as taxable income.“The rich” don’t earn money via income. They earn money through capital gains on investments and through tax-free instruments like municipal bonds. If you invest millions in tax-free bonds, financing government projects, you shelter all that income from taxes. And the wealthy do just that.
Until 1968 the top capital gains tax rate was 25 percent. Think about that. If you had no “income” but played the market, your tax rate in this mythical time of high taxes was 25 percent, not 90, 70, 50, or even 40 percent.
From 1942 until 1954, you could exclude half your gains form taxes, if you held stocks or bonds for more than six months. At that time, day trading wasn’t done and the average stock was held for nearly seven years. That means most stock owners (the wealthy) exempted huge portions of capital gains from taxes.
Also, remember that gains are taxed only when stocks are sold. When capital gain rates are higher, people simply hold their stocks until rates fall again. This was a lesson learned when rates were raised in the 1970s. A wave of capital gains were realized in the 1980s, when the tax rate was lowered. (There were other issues in the 1970s, too, like a serious recession and a flat market that didn’t recover well into the 1980s.)
See the Tax Policy Center data sheets on capital gains taxes.
From 1958 until 1964, roughly 80 percent of federal income tax came from the 16 to 28 percent bracket. That has fallen, but rate shifts and changing brackets make it difficult to compare brackets over time.
From 1982 on, there hasn't been a 50 percent top bracket, for example, so those payers have been shifted to lower brackets. Even at their peak, the 50 percent bracket was never more than 8.3% of income tax collection, but recall that those individuals paid into all the lower marginal brackets, too.
The 1 to 15 percent bracket has held steady since 1987, when consolidation and changes to code pushed people from higher brackets into this lower bracket exclusively. Changes reduced the number of people paying across the brackets.
Since 1987, a median of 45 percent (and mean slightly higher) of taxes have been paid at the lower bracket. However, that has fluctuated wildly. The upper bracket(s) (25 and above) have increased from 7 percent of tax revenues to roughly a quarter.
Now, remember that the wealthy, men like J. P. Morgan, loaned (and still loan) local, state, and federal government massive sums through the purchase of bonds. That means that if you diversify investments and include bonds in the mix, your effective capital gains tax rate can be reduced significantly.
Wealthy people don’t receive paychecks for the majority of their wealth accumulation. Their wealth accumulates as stock, bonds, and property holdings. That all reduces their tax liability. While the average person cashes a check and pays off portions of debt, the wealthy get wealthier with “no income” (like Steve Job earning $1 at Apple).
This is all complicated by the 16th Amendment to the U.S. Constitution that lays out an income tax. That’s what we have at the national level, excluding tariffs and fees. We can’t tax wealth, as is done elsewhere. At the state and local levels, some amount of wealth is taxed through property taxes.
The analyses of several respected economists have debunked the 70 percent claim, which makes the rounds on various media sites. The IRS calculated a theoretical max of 70 percent for a single filer that year (seriously) and later research found that the highest effective rate was 49 percent -- significantly less than the 70 percent number you are citing.
1950s Tax Fantasy
JAN 2, 2013 6:45 PM EST
By Amity Shlaes
The Internal Revenue Service reckoned that the effective rate of tax in 1954 for top earners was actually 70 percent.But, the Internet will continue to trade in the idea that there was a 90 percent tax rate or at least a 70 percent effective rate in some mythical time of the past. One mis-calculated IRS finding, based on excluding capital gains from the equation is not the reality of the 1940s or 50s tax system.
Marc Linder, a law professor at the University of Iowa, has shown that a more comprehensive interpretation of income that includes capital gains suggests the real effective tax rate for millionaires was 49 percent in 1953. The effective rate dropped throughout the decade, reaching 31 percent by 1960.