Marginal Federal Tax Rates on Labor Income: 1962 to 2028
In this report, CBO projects, on the basis of current law, marginal federal tax rates on labor income from 2018 through 2028. So that current trends can be understood in a historical context, the projections are accompanied by rates from 1962.
The marginal federal tax rate on labor income is the percentage of additional income an individual earns that is paid in federal income taxes and payroll taxes. By reducing the compensation a worker retains, those taxes can affect people’s incentives to work: People tend to respond to higher marginal tax rates by working fewer hours or choosing not to participate in the labor force at all, whereas people respond to lower marginal tax rates by increasing their working hours and being more likely to participate in the labor force. Because of those effects on labor, CBO’s estimates of the marginal tax rate on labor income inform the agency’s projections of economic activity.
This report contains CBO’s projections of marginal federal tax rates on labor income from 2018 through 2028 based on current law. So that current trends can be understood in a longer-term context, the projections are accompanied by historical rates that reach back to 1962 (the first year for which information is sufficient for calculating such rates). The agency has examined marginal tax rates using a two-pronged approach. First, using a simulation approach for a representative sample of workers, CBO estimates the economywide marginal tax rate under both the individual income and payroll tax systems and the distribution of marginal tax rates under the individual income tax system across the population. Second, the report shows how marginal tax rates under both the individual income and payroll tax systems for several different types of hypothetical families have evolved over time.
At the broadest level, that approach has yielded these conclusions:
- For payroll taxes, the economywide marginal rate on labor income grew rapidly between the early 1960s and the early 1980s and has remained fairly stable thereafter.
- For individual income taxes, that rate has fluctuated greatly over the past five decades.
- Marginal tax rates vary widely among families. The rates generally increase with earnings but, because of various features of the tax code, can differ significantly for families with similar earnings.
How Has the Economywide Marginal Tax Rate Changed Over Time?
Offering a different perspective from the marginal rate faced by individuals, the economywide marginal tax rate is the share of additional earnings that would be paid in taxes if all workers experienced an equal percentage increase in labor income. That rate, which incorporates the rules of the payroll tax system and the federal income tax system, also accounts for forms of labor compensation that are not subject to federal taxes—for instance, many fringe benefits.
On the basis of its simulations, CBO estimates that the economywide marginal tax rate on labor income was 27 percent in 2018, consisting of 18 percent from individual income taxes and 9 percent from payroll taxes. That overall rate represents a decrease from 29 percent in 2017, largely due to the enactment of Public Law 115- 97, referred to here as the 2017 tax act.
CBO expects the marginal rate on labor income to rise slowly over the next several years, as economic growth pushes more income into higher tax brackets. In 2026, after many of the changes that the 2017 tax act made to individual income tax provisions are set to expire, the rate is projected to rise by 2 percentage points: For the concluding two years of the projection period, the rate continues to gradually drift upward, to 31 percent (see figure below).
Since 1962, influenced principally by changes in tax laws and growth in labor income, the marginal tax rate on labor income has ranged from about 20 percent to about 35 percent. The rate began the period at about 20 percent, then rose steadily throughout the 1960s and 1970s, before peaking at about 35 percent in 1981. The rate fell to about 28 percent by 1988, and since then, it has fluctuated in a fairly narrow range, between 26 percent and 30 percent.
How Has the Distribution of Marginal Individual Income Tax Rates Varied Over Time?
The distribution of marginal tax rates results from many provisions in the individual income tax system. The broadest set of provisions consists of statutory income tax rates, which create marginal tax rates that ranged from 10 percent to 37 percent in 2018. In addition, many deductions and credits apply over specified income ranges. For taxpayers in those ranges, the phasing in and out of those items as income rises causes the marginal rate to differ from the statutory rate. For example, taxpayers whose income makes them eligible for the earned income tax credit could see a marginal rate as low as −45 percent as the credit phases in, meaning that their income after taxes goes up by an additional 45 cents for each additional dollar earned. In contrast, taxpayers with income in the range where the credit phases out could face a marginal tax rate of 21.06 percent from the effect of that phaseout, in addition to the applicable statutory tax rate.
Marginal tax rates under the individual income tax system have varied widely over time among taxpayers, depending on their income and family structure. In the 1960s and 1970s, despite the wider range in statutory tax rates that existed, marginal tax rates were more tightly clustered than in recent years. The increase in the dispersion reflects in part the growing importance of tax provisions targeted to different types of households, such as the earned income tax credit and the child tax credit.
In 2018, CBO estimates, one-fifth of tax filers had marginal individual income tax rates of zero percent and below (as some taxpayers received a net income subsidy from refundable credits), whereas one-fifth faced rates above 22 percent. (In addition, most earners faced a marginal payroll tax rate of 15.3 percent.) Over the coming decade, CBO expects economywide marginal tax rates to rise and the dispersion of rates to increase, especially around the middle of the income distribution.
How Have Marginal Tax Rates for Different Families Varied Over Time?
Marginal tax rates are generally higher for people with higher income, in large part because statutory tax rates rise with income. And some tax benefits phase out for high-income taxpayers. Family structure is another key determinant of marginal tax rates, as statutory rates and key tax credits vary for different types of families.
To show how marginal tax rates for different families vary, CBO has computed illustrative examples. Although drawing overall conclusions about the tax system from the examples is difficult, they show the importance of different features of the system to different families. The agency constructed four hypothetical families of different types: a two-earner married couple with no children; a two-earner married couple with two children; an unmarried parent with one child; and a single childless individual. For each type of family, the agency assumed income (consisting entirely of earnings) at three different levels: the median income (for that type of family), half that, and twice the median. In each instance, CBO computed marginal individual income and payroll tax rates each year from 1962 to 2028.
Marginal tax rates vary significantly for taxpayers at different income levels. For example, in 2018, a married childless couple with earnings equal to the median income had a marginal rate under the individual income and payroll tax systems of 37 percent, whereas a married childless couple with earnings equal to half of the median had a marginal rate of 27 percent. For most of the hypothetical families, marginal rates are expected to be stable for the next several years and then to rise, in part because of real (inflation-adjusted) growth in income and in part because most of the changes to individual income tax provisions in the 2017 tax act are set to expire after 2025.
Marginal tax rates for most of the hypothetical families have been fairly steady for the past 30 years, with some fluctuations resulting from changes in the statutory rate structure. But for some, marginal rates have been more volatile because changes in median income have moved them into a higher tax bracket or have moved them into or out of the range for a tax credit.