Taxing Times

With tax day upon us, Newsweek’s Wall Street editor, Allan Sloan, posits a notion worth pondering: Most people who filed federal tax returns by today’s deadline didn’t pay income tax, but rather a “salary tax.” There is merit to his observation, which provides additional evidence that recent tax cuts help the working class less than the already wealthy.

By reducing taxes on capital income, such as stock dividends, and eliminating the estate tax, a greater percent of total taxation is shifted onto those who get their money from salaries and not the stock market or inheritance. Most families get 80 percent of their income from paychecks. The top 1 percent of Americans, in terms of wealth, get only half their income from salaries. The result is that working-class families will carry a heavier tax burden than those who live on investment income.

“By drastically favoring investment income over salary … [President] Bush would make it harder for people who start out with nothing to earn their way up the economic ladder, because they’d pay full taxes on almost everything they make, but he’d shower rewards on people who have already made it to the top rungs,” Mr. Sloan writes in the April 12 issue of the magazine.

One reason is that the tax on dividends and capital gains was dropped to 15 percent, rather than the 35 percent tax on income. Further, Mr. Sloan argues, talking just about the income tax is disingenuous because 75 percent of American families pay more in Social Security and Medicare taxes than in income tax. Last year, American sent about $550 billion in Social Security and Medicare payments to Washington, two-thirds as much as was sent in for income taxes. While families do get benefits from these programs, they are far from guaranteed and likely to be cut in the future.

By adding these taxes together, Newsweek and CCH Inc., a provider of tax-law information, calculated families’ total federal tax burden and found that it generally dropped the wealthier people are. These cuts don’t have a straight-line effect – it’s not only the wealthy that benefited. This is because Congress got breaks such as the increased child tax credit and a reduction in the marriage penalty.

The cuts did, however, bring to light different sources of income, such as stock dividends, that many people are not familiar with because they don’t earn any. Mr. Sloan is helpful in focusing discussion on how these forms of income should be taxed as the president pushes to make his tax cuts, which are set to expire in stages through 2010, permanent.