Last week, Representative Don Beyer (D-VA) and Senator Chris Van Hollen (D-MD) provided details on a proposed surtax on millionaires as part of an increased interest by policymakers to impose higher tax rates on high-income earners and the wealthy, with the goal of reducing economic inequality.
The proposed surtax would levy a 10-percentage point surtaxA surtax is an additional tax levied on top of an already existing business or individual tax and can have a flat or progressive rate structure. Surtaxes are typically enacted to fund a specific program or initiative, whereas revenue from broader-based taxes, like the individual income tax, typically cover a multitude of programs and services. on modified adjusted gross incomeFor individuals, gross income is the total pre-tax earnings from wages, tips, investments, interest, and other forms of income and is also referred to as “gross pay.” For businesses, gross income is total revenue minus cost of goods sold and is also known as “gross profit” or “gross margin.” (AGI) for taxpayers with an AGI above $1 million ($2 million for taxpayers filing jointly). This use of modified AGI as the surtax base contrasts with the individual income taxAn individual income tax (or personal income tax) is levied on the wages, salaries, investments, or other forms of income an individual or household earns. The U.S. imposes a progressive income tax where rates increase with income. The Federal Income Tax was established in 1913 with the ratification of the 16th Amendment. Though barely 100 years old, individual income taxes are the largest source of tax revenue in the U.S. , which applies to taxable incomeTaxable income is the amount of income subject to tax, after deductions and exemptions. For both individuals and corporations, taxable income differs from—and is less than—gross income. after accounting for the standard deduction or itemized deductions. The surtax would apply to all income, including labor income, business income, and investment income accrued through realized capital gains and dividends.
The 10-percentage point surtax would raise the top marginal tax rate on labor income (wages and salaries) from 37 percent to 47 percent and raise the top marginal tax rateThe marginal tax rate is the amount of additional tax paid for every additional dollar earned as income. The average tax rate is the total tax paid divided by total income earned. A 10 percent marginal tax rate means that 10 cents of every next dollar earned would be taken as tax. on capital income (long-term capital gains and qualified dividends) from 23.8 percent to 33.8 percent when including the 3.8 percent net investment income taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. (NIIT) on taxpayers with a modified AGI above $200,000 ($250,000 filing jointly).
Economic Effects
According to the Tax Foundation General Equilibrium Model, the millionaire’s surtax proposal would reduce economic output (GDP) by 0.1 percent in the long run. Additionally, the economy would produce about 118,000 fewer jobs.
|
Source: Tax Foundation General Equilibrium Model, October 2019. |
|
| Gross Domestic Product (GDP) | -0.1% |
| Capital Stock | 0% |
| Wages | 0% |
| Service Price of Capital | 0% |
| Full-time Equivalent Jobs | -118,000 |
The proposed millionaire’s surtax would reduce the incentive to work by lowering the after-tax wage for high-income earners. A lower after-tax wage makes leisure relatively more attractive than labor, lowering labor supply and reducing economic output.
The surtax on capital income, such as dividends and capital gains, would reduce the after-tax returns to capital investment by Americans, lowering investment domestically. However, the reduction in investment from Americans would be offset by an increase in investment from abroad (an increase in the trade deficit), as foreigners are not subject to the surtax. Gross national product (GNP) would decline by more than GDP due to the shift in ownership of American investment assets to foreign investors.
Revenue Effects
We estimate that the millionaire’s surtax would raise $716 billion between 2020 and 2029 on a conventional basis. Tax revenue would grow over the decade as income increases, leading to a larger tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. . The millionaire’s surtax is estimated to raise $56 billion in 2020, rising to $85 billion in 2029.
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Source: Tax Foundation General Equilibrium Model, October 2019. |
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| Year | 2020 | 2021 | 2022 | 2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2020-2029 |
|---|---|---|---|---|---|---|---|---|---|---|---|
| Conventional Estimate | $56 | $62 | $65 | $68 | $70 | $73 | $76 | $79 | $82 | $85 | $716 |
The surtax on capital gains would change when owners of unrealized capital gains realize this income. Owners of capital gains may avoid realizing their gains to avoid the surtax, lowering potential tax revenue. Using capital gains realization behavior as measured by the Joint Committee on Taxation (JCT), we estimate that the surtax would reduce capital gains realizations relative to current law by 37 percent in the first year of enactment, 31.5 percent in the second year, and by 28.2 percent thereafter.
Distributional Effects
The federal tax code would become more progressive under the millionaire’s surtax, according to the Tax Foundation General Equilibrium Model. Taxpayers in income groups below the 99th percentile would not see their after-tax incomes decline on a conventional basis.
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Source: Tax Foundation General Equilibrium Model, October 2019 |
|
| Percent-change in After-tax Income | |
|---|---|
| Income Group | Conventional |
| 0% to 20% | 0% |
| 20% to 40% | 0% |
| 40% to 60% | 0% |
| 60% to 80% | 0% |
| 80% to 90% | 0% |
| 90% to 95% | 0% |
| 95% to 99% | 0% |
| 99% to 100% | -3.4% |
| Total | -0.5% |
On a conventional basis, taxpayers with after-tax incomes in the 99th to 100th percentiles would experience a 3.4 percent decline in after-tax incomeAfter-tax income is the net amount of income available to invest, save, or consume after federal, state, and withholding taxes have been applied—your disposable income. Companies and, to a lesser extent, individuals, make economic decisions in light of how they can best maximize their earnings. when compared to current law. Overall, after-tax incomes would decline by 0.5 percent.
The millionaire’s surtax exempts taxpayers with AGI of less than $1 million filing single or $2 million filing jointly. On a conventional basis, this means that the surtax has no effect on taxpayers with after-tax incomes below the 99th percentile.
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