What is a "Fair Share" of taxes?

Does Warren Buffett truly pay less income tax than his secretary?  In this episode of Fascinating!, Rik from Planet Vulcan questions the narrative that high earners do not pay their fair share of the income tax by proposing a different perspective, while also arguing that on another level the argument is moot anyway, because income ought not to be taxed in any case - there are alternative ways to fund government operations that would very likely work better for society in general. 

Transcript

A Fair Share of Taxes 

Good day to you, and welcome to Fascinating!  I am your host Rik, from Planet Vulcan.  My continuing mission on Planet Earth:  to search for signs of intelligence and to encourage its spread.

Earthlings frequently are exposed to the message that not everyone pays their “fair share” of taxes.  This argument is typically trotted out whenever someone wishes to support the argument that high earners should be paying a still higher tax rate on their income than do low earners. 

Let’s examine the facts in some detail, and from an additional perspective. 

Under the current Federal tax code, the average tax rate for the top 1% of earners is about 35%; for the top 10%, it is about 25%; for the middle 40% it is about 15%; and for the bottom 40% it is about 5%.   

For many of these low earners the average tax rate is 0% because of tax credits, which in many cases results not only in no tax payable, but even in a refund.

Let’s compare the dollar amounts of income tax paid by hypothetical families earning $40,000 per year, $400,000 per year and $4,000,000 per year.

For an income of $40,000 per year, the federal income tax would be at most $2,000. 

For an income of $400,000 per year, the federal income tax would be about $100,00. 

With an income of $4,000,000 per year, the federal income tax would be about $1,400,000. 

And if we look at taxes paid as a percentage of consumption rather than as a percentage of income, the differences are even more pronounced, because higher earners in general consume smaller percentages of their income than do lower earners. 

Low earners (i.e., less than $40,000 currently) as a rule consume 90% – 100% of their income, and sometimes even more than 100%, so their tax rate as a percentage of consumption is at most 5.6%. 

Those earning $400,000 per year consume on average about 75% of their income, so their tax rate as a percentage of consumption would be about 33%.

Those earning $4,000,000 per year typically consume about 60% of their income, so their tax rate as a percentage of consumption would be about 58%. 

And since marginal propensity to consume is necessarily greater than average consumption rates, we see that the higher the income the higher the federal income tax that is paid as a percentage of consumption.

Figures don’t lie, but liars do figure.  This is why the advocates of the Little Willie Sutton theory of taxation avoid any mention of the dollar amounts that people of various income levels pay and focus on the percentages. 

Little Willie Sutton, if you do not recognize the name, was a notorious 20th century bank robber, who allegedly said that the reason he robbed banks was because “that’s where the money is”. 

Doesn’t the picture look a little different when you observe dollars than when you observe percentages? 

When you increase the income by one order of magnitude, (i.e., 10 times), the medium earner pays 50 times as much income tax as the low earner.  

When you increase the income by another order of magnitude, the high earner pays 14 times as much income tax as the medium earner and 700 times as much income tax as the low earner. 

How much more would the tax have to be to qualify as a “fair share”? 

Let’s examine some further implications of imposing even more onerous taxes on the income of high earners than what they already pay. 

The focus here is on what becomes of the amount that high earners save, i.e., the portion of their incomes they do not consume.   

We have heard otherwise intelligent Earthlings say, without evident embarrassment, that these savings have been “locked away”.   

But as we pointed out in a previous podcast essay, savings are normally invested in productive assets, aka capital inputs, inputs which make the average worker better off, because they can produce more efficiently in combination with capital inputs than without; and this is what leads to higher wages, better working conditions and shorter working hours.

So we need to acknowledge that a greater take in taxes from high earners does not come without an opportunity cost.  The funds taken in taxes reduce the amount that is available for investment. 

So you can still argue that the societal benefit of proportionately larger government spending is greater than the societal benefit of proportionately larger investment spending (at least if you can keep a straight face while doing so), but you cannot still argue that it is a societal benefit plucked from thin air, or from the money-bins of the world’s Scrooge McDucks.  

In the previous essay, I argued that the income tax is a far less beneficial way to finance government expenditures than is a consumption tax, such as a sales tax or a Value Added Tax.  Or from an excise tax on carbon usage, which can be justified as a method of internalizing the costs of pollution, and in an efficient manner. 

Not only is an income tax more intrusive on Earthlings’ lives and costly to deal with than a consumption tax, it disincentivizes production. 

And a consumption tax ought to be perceived as fair, since high earners would be paying a tax on what they actually consumed.  Makes life a little more difficult for the envy-floggers. 

I invite you to listen to the next essay in the Fascinating! podcast series, and to have a look at the Fascinating! YouTube Channel. 

Please recommend Fascinating! to your friends if you find the lessons from nature in these essays personally valuable. 

Theme music:  Helium, with thanks to TrackTribe 

Live long and prosper.

Savor your experiences. 

Treasure your memories. 

Anticipate a happy and rewarding future. 

And respect nature’s wisdom.