Increase Individual Income Tax Rates
CBO periodically issues a compendium of policy options (called Options for Reducing the Deficit) covering a broad range of issues, as well as separate reports that include options for changing federal tax and spending policies in particular areas. This option appears in one of those publications. The options are derived from many sources and reflect a range of possibilities. For each option, CBO presents an estimate of its effects on the budget but makes no recommendations. Inclusion or exclusion of any particular option does not imply an endorsement or rejection by CBO.
|Billions of Dollars||2017||2018||2019||2020||2021||2022||2023||2024||2025||2026||2017-2021||2017-2026|
|Change in Revenues|
|Raise all tax rates on ordinary income by 1 percentage point||43.4||64.1||67.1||70.2||73.2||76.3||79.7||83.3||86.9||90.0||318.0||734.2|
|Raise ordinary income tax rates in the following brackets by 1 percentage point: 28 percent and over||8.6||12.7||13.4||14.3||15.0||15.7||16.5||17.4||18.3||18.9||64.0||150.8|
|Raise ordinary income tax rates in the following brackets by 1 percentage point: 35 percent and over||5.3||7.9||8.3||8.8||9.3||9.7||10.1||10.6||11.2||11.6||39.6||92.9|
Source: Staff of the Joint Committee on Taxation.
This option would take effect in January 2017.
The estimates include the effects on outlays resulting from changes in refundable tax credits.
Under current law, taxable ordinary income earned by most individuals is subject to the following seven statutory rates: 10 percent, 15 percent, 25 percent, 28 percent, 33 percent, 35 percent, and 39.6 percent. (Taxable ordinary income is all income subject to the individual income tax other than most long-term capital gains and dividends minus allowable adjustments, exemptions, and deductions.)
As specified by the tax code, different statutory tax rates apply to different portions of people’s taxable ordinary income. Tax brackets—the income ranges to which the different rates apply—vary depending on taxpayers’ filing status (see the table below). In 2016, for example, a person filing singly with taxable income of $40,000 would pay a tax rate of 10 percent on the first $9,275 of taxable income, 15 percent on the next $28,375, and 25 percent on the remaining $2,350 of taxable income. The starting points for those income ranges are adjusted, or indexed, each year to include the effects of inflation.
|Starting Points for Tax Brackets (2016 dollars)||Statutory Tax Rate on Ordinary Taxable Income (Percent)|
|Single Filers||Joint Filers||2016|
Most income in the form of long-term capital gains and dividends is taxed under a separate rate schedule, with a maximum statutory rate of 20 percent. Income from both short-term and long-term capital gains and dividends, along with other investment income received by higher-income taxpayers, is also subject to an additional tax of 3.8 percent.
Taxpayers who are subject to the alternative minimum tax (AMT) face statutory rates of 26 percent and 28 percent. (The AMT is a parallel income tax system with fewer exemptions, deductions, credits, and rates than the regular income tax. Households must calculate the amount they owe under both the AMT and the regular income tax and pay the larger of the two amounts.) However, the AMT does not affect most of the highest-income taxpayers because the highest statutory rate under the AMT is only 28 percent, and many deductions allowed under the regular income tax are still allowed under the AMT.
This option includes three alternative approaches for increasing statutory rates under the individual income tax. Those approaches are as follows:
- Raise all tax rates on ordinary income (income subject to the regular rate schedule) by 1 percentage point.
- Raise all tax rates on ordinary income in the top four brackets (28 percent and over) by 1 percentage point.
- Raise all tax rates on ordinary income in the top two brackets (35 percent and over) by 1 percentage point.
If implemented, the first approach—raising all statutory tax rates on ordinary income by 1 percentage point—would increase revenues by a total of $734 billion from 2017 through 2026, according to estimates by the staff of the Joint Committee on Taxation (JCT). Under this alternative, for example, the top rate of 39.6 percent would increase to 40.6 percent. Because the AMT would remain the same as under current law, some taxpayers would not face higher taxes under the option.
The second two approaches would target specific individual income tax rates. Because these approaches would affect smaller groups of taxpayers, they would raise significantly less revenue. For example, boosting rates only on ordinary income in the top four brackets (28 percent and over) by 1 percentage point would raise revenues by $151 billion over the 10-year period, according to JCT—much less than the first alternative. Boosting rates only on ordinary income in the top two brackets (35 percent and over) by 1 percentage point would raise even less revenue—$93 billion over the 10-year period, according to JCT. Because most people who are subject to the top rate in the regular income tax are not subject to the alternative minimum tax, the AMT would not significantly limit the effect of that increase in regular tax rates.
As a way to boost revenues, an increase in tax rates would offer some administrative advantages over other types of tax increases because it would require only minor changes to the current tax system. Furthermore, by boosting rates only on income in higher tax brackets, both the second and third alternative approaches presented here would increase the progressivity of the tax system. Those approaches would impose, on average, a larger burden on people with more significant financial resources than on people with fewer resources.
Rate increases also would have drawbacks, however. Higher tax rates would reduce people’s incentive to work and save. In addition, higher rates would encourage taxpayers to shift income from taxable to nontaxable forms (by substituting tax-exempt bonds for other investments, for example, or opting for more tax-exempt fringe benefits instead of cash compensation) and to increase spending on tax-deductible items relative to other items (by paying more in home mortgage interest, for example, and less for other things). In those ways, higher tax rates would cause economic resources to be allocated less efficiently than they would be under current law.
The estimates shown here incorporate the effect of taxpayers’ shifting their income from taxable forms to nontaxable or tax-deferred forms. However, the estimates do not incorporate changes in how much people would work or save in response to higher tax rates. Such changes would depend in part on whether the federal government used the added tax revenues to reduce deficits or to finance increases in spending or cuts in other taxes.