History of Marginal Tax Rates: Will Higher Taxes Lead to the End of the Rat Race?

I stumbled upon this history of tax tables today and was both dumbfounded and somewhat nervous about what I found.

U.S. Federal Individual Income Tax Rates History, 1913-2010

Federal Individual Income Tax Rates History Income Years 19132010

Federal Individual Income Tax Rates History Income Years 19132010

 

An ADHD glance over the document reveals a few highlights:

1. The highest marginal tax rate in 1913 was 7%

2. In 1917 when the U.S. Congress voted to officially enter World War I, the highest rate jumped to 67% for those earning over $2,000,000.  In 1918 it rose to 77% for those earning over $1,000,000.

3. By 1925 the highest marginal tax rate had fallen down to 25% for anyone earning over $100,000 and remained there until 1931.

4. In 1932 in the bows of the Great Depression, Hoover’s New Deal raised rates up to 63% for those earning over $1,000,000.  This top rate rose to 79% for those earning over $5,000,000 by 1939 just before World War II began.

5. By 1944 this highest income tax rate was 94% for those earning anything more than $200,000 a year.  Still a large number in those days, but significantly lower than past top marginal rates.   This of course was to fund U.S. involvement in The Great War.

6. 1952 saw the advent of a bifurcated tax code.  Prior to this year, there was only one tax schedule, unlike today’s differentiation for married couples vs. individuals.  In 1952 the two types of tax payers were “Married Filing Separately” and “Head of Household”.  In 1955 the number of classes of taxpayers rose to three adding “Married Filing Jointly”.

7. The top marginal rate remained above 90% (91% most of the time) until 1963.  In those years the highest bracket was $400,000. In 1964 it dropped to 77% for those earning over $400,000.

8. In 1971 the tax code bifurcated into the current four schedules for Married filing Jointly and Separately, Single and as Head of Household.  The top rate was at 70% over $100,000 for an individual and $200,000 for Married Filing Jointly.  The top rate stayed at 70% until 1981, just after Ronald Reagan took office.  The top rate fell to 50% from 1982 t0 1986 and fell again to 38.5% in 1987.

9. The top rate fell more under Bush I to 28% from 1988 to 1990 and rose as high as 39.6% under Clinton in 1993.

10. Today of course the top marginal rate is 35%, with debate on where it will go from here.

And a few observations:

1. Americans tend to create asset bubbles when the highest tax rates fall below 50%

2. The “America we all remember” occurred with what we would today perceive as an oppressive tax regime.  This did not stifle innovation, nor American productivity or prosperity.

3. The prosperity of the middle class after World War II occurred with sky-high marginal rates on the wealthiest individuals.  If you begin to eyeball the math and use 1954 as a random example, the person earning $400,000 took home about $11,000 more after taxes than the person earning $100,000.  Likewise, the person earning $100,000 took home about $5,000 more than the person earning $52,000.

4. America raised taxes to finance Wars, to pay off debts, and to keep our balance sheet in good standing.

5. When America lowered taxes, speculation proliferated, the gap between rich and poor widened, and middle class effectively shrunk.

6. As important as the highest marginal tax rate has also been the level of income in which it was invoked.  In most years of the worst tax rates, the highest tax bracket was significantly lower than the earliest documented years.  Nonetheless, the highest tax rates occurred on fairly large earners.  For example in 1945 the 94% levy on $200,000 would be the equivalent of someone earning about $2,500,000 today and taking home a paltry $150,000 after taxes.  Alternatively, someone earning $20,000 in 1945 would have paid 59%.  In 2010 terms that would mean they kept about $100,000 from a gross income of about $250,000.  Thus an individual earning 10 times another person ended up with just 50% more after tax income in 1945.  I don’t remember anyone’s grandparents complaining about this. (All inflation calculations were made using the BLS Inflation Calculator: http://data.bls.gov/cgi-bin/cpicalc.pl)

I never would have ever suspected that I might be amenable to higher tax rates, but I still would be concerned for markets if they actually rose.

However, I am not sure if markets would be upset because higher taxes remove economic prosperity, or because higher taxes would effectively reduce liquidity and therefore demand for risk assets.  The Market’s distaste for higher tax rates seems indelibly linked to its desire to feed capital into itself more than to propel economic prosperity.  The more capital that gets siphoned into government coffers leaves less for day traders, 401ks and home flippers.  However, I would surmise that the America of the 1950′s and 1960′s, social ills aside, was a far more content place to build a family and therefore a much happier and productive society, solving for technological advances.

I will admit that my analysis was short-sighted at best and in the absence of understanding all of the political and global economic events of the periods.  Nonetheless, the common sense take aways are above.  I am open to any and all perspectives.

Higher taxes might just be the vacation most Americans seek from the rat race.

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One Response to History of Marginal Tax Rates: Will Higher Taxes Lead to the End of the Rat Race?

  1. Hawley says:

    The prossperity came in th 1950s because most people did NOT paty teh high taxes. They sheltered their income by investing in American bussinesses and contributing to charities. That way they kept a lot of their money, but also contributed to the general prosperity. Taxes then operated as a way to encourage shared properity. This was what built the great American middle class. We have lost sight of this.

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