This is the second installment on U.S. income taxes, following the summary yesterday of who pays. Again, this is based on a study from The Tax Foundation, a non-profit research group located in Washington, D.C. The Tax Foundation is dedicated to educate taxpayers about sound tax policy and the size of tax burdens borne by Americans at all levels of government. The Tax Foundation has just released a 44 page presentation entitled “Putting a Face on America’s Tax Returns,” which can be downloaded as a PDF.
Almost 41 percent of all filers of income tax in 2010 paid no income taxes (58 million of the 143 million filing returns). This is the second greatest number of non-payers since 1940, rivaling the almost 42 percent record of filers with zero tax liabilities posted in 2009. The fewest zero-tax liability filers took place in 1969 when 16.9 percent owed zero income taxes. In 2000, just one-in-four filers paid no taxes (25.2 percent).
Remember, that in 2010, those tax filers earning less than $100,000 accounted for 49 percent of all income and paid just 14 percent of all taxes while those earning $100,000 and up accounted for 50 percent of all income yet paid 87 percent of all taxes (note the rounding error with taxes totaling 101 percent and income 99 percent between the two groups).
Why do so many tax filers end up not paying income taxes even with tens of the thousands of dollars of income?
Deductions, personal and dependent exemptions, and earned income tax credits built into the complex U.S. tax code have the potential to reduce the ultimate tax burden for Americans.
Many filers, in fact, not only end up paying no taxes, but actually receive money back due to earned income tax credits (EITCs). ETICs are designed to allow moderate and lower income tax filers to pay less taxes and, in some circumstances, receive a cash payment from the IRS. For a discussion of EITCs read the Q&A Section at the IRS.
To illustrate this potential, the Tax Foundation walks through the following example.
Assumptions: A family of four has $45,000 of adjusted gross income. Their calculated tax liability would be calculated as follows.
In addition to income taxes, another tax collected is referred to as the Payroll Tax or the FICA Tax. FICA stands for the Federal Insurance Contributions Act and is a U.S. Federal employment payroll tax paid by both the employee and employer and is used to fund Social Security. In 2010, the employee contribution rate to FICA for Social Security was 6.2 percent, which declined temporarily in 2011 and 2012 to 4.2 percent, and reverted back to 6.2 percent in 2013. Employers’ contribution remained at 6.2 percent. Employees and employers pay FICA up to a limit each year (which adjusts based on inflation). In 2010 the compensation limit was $106,800, which has risen to $113,700 in 2013. Self employed individuals essentially pay the same combined total (12.4 percent), but the named program is the Self-Employment Contributions Act of 1954.
In 2010, 23.1 million individuals using EITCs resulted in a payment from the IRS that exceeded their own FICA tax contributions. Hence they not only paid no income taxes, but EITCs refunded resulted in them having paid zero also in Social Security contributions. More than one-in-ten tax filers in 2010 (15.1 million) received a refund that not only resulted in zero income taxes paid and zero effective employee contribution to FICA, but it also exceeded the employers contribution to FICA.
Finally, both the employee and employer each contribute 1.45 percent of their income (2.9 percent combined total—also the rate for self-employed individuals) to fund Medicare. There is no compensation limit on the Medicare Tax as with the FICA, so the effective 2.9 percent rate applies to total income.
Do I believe the U.S. tax code should be reformed? You bet. An obvious issue is that the tax code is not just a revenue medium, but also another arm of the social welfare program of the U.S. Government.