Top Income Tax Rates Research Articles

The Unlikely Heroes of Progressive Taxation: CEOs’ Support for Bill Clinton’s Tax Increase Package in 1993

AbstractOn August 10, 1993, President Bill Clinton signed the Omnibus Budget Reconciliation Act of 1993, one of the largest fiscal deficit-reduction packages in US fiscal history. This law raised the top individual income tax rate from 31% to 39.6%, which increased the average effective tax rate for high-income earners and shifted the federal fiscal balance from deficit to surplus by the end of the century. Given major business interest groups’ criticism of the Omnibus Budget Reconciliation Act of 1993’s heavy reliance on tax increases over spending cuts, how was the Democrat-controlled Congress able to pass this legislation? Drawing on archival evidence from the Clinton Presidential Library, this paper shows that the administration and Democratic committee chairs mobilized support from corporate CEOs, including Fortune 500 executives, asking them to lobby key legislators to support the bill. Thus, with business leaders’ support and lobbying efforts, the legislation was passed with a very slight majority.

Immigrant inventors and local income taxes: Evidence from Swiss municipalities

This paper studies the relationship between local personal income tax rates and the attractiveness of municipalities as residential locations for immigrant inventors in Switzerland. Exploiting sharp differences in top income tax rates across state borders, I find an elasticity of the probability that an inventor takes residence in a border municipality with respect to the top net-of-tax rate of around 3.2. Additional evidence suggests that inventors’ residential location choices are consequential for the localization of entrepreneurial activity and local knowledge spillovers.

Is it Possible to Tax the Super-Rich?

A major constraint on progressive tax reform is that somehow, the richest always seem to find ways not to pay. Is this inevitable? Focusing on the UK context, I begin by reviewing two past attempts to raise taxes on those at the top – the changes to the top rate and dividend rates of income tax, and reforms to ‘non-dom’ tax status – and explore whether and why these policies failed. I then discuss three key policy areas that must be addressed to successfully increase taxes on the super-rich: capital taxes (on capital gains, inheritances and gifts), the challenges posed by international mobility of assets and individuals, and trusts. Reform of these areas could directly raise additional revenue from the super-rich and would also provide a backstop needed to support more familiar levers such as increasing the top income tax rate.

Panel Data Analysis on Income Tax Progressivity and Gini Coefficient

The research explores personal income tax progressivity as a mechanism to reduce income inequality. In the personal income tax progressivity model with data from 1988-2005, the unbalanced panel has up to 103 countries with 1,528 observations. The unbalanced panel uses Driscoll and Kraay standard errors to adjust for nonparametric heteroscedasticity autocorrelation. The researchers test the top, marginal, and average personal income tax rate progressivity. In the full panel, the top, marginal and average rate of personal income tax progressivity are all statistically significant. The models also explore differences in results based on income level. Key findings include the average rate of personal income tax progressivity is statistically significant in the more panels than the marginal rate of income tax progressivity or the top marginal rate. Both the net and market Gini coefficients tend to have similar statistical significance results which may suggest equality promoting policies may cause structural changes in the economy that lead to higher pre-tax incomes for lower-income individuals.

What Is Happening to Tax Policy in New Zealand and Is It Sensible?

This article reviews two recent changes to tax policy settings in New Zealand: an increase in the top income tax rate and a ‘housing package’. It argues that both represent ad hoc responses without a coherent strategy. Further, government officials’ policy assessments confirm that these were progressed unduly rapidly, based on limited analysis and against official advice on the most suitable option to deliver on the government’s own objectives. This is likely to result in policy outcomes falling well short of objectives, and potentially serious unintended consequences. Coherence of the tax system in particular is at risk.

Why Do (Some) Ordinary Americans Support Tax Cuts for the Rich? Evidence From a Randomized Survey Experiment

Why do (some) ordinary citizens support tax cuts for the rich? A prominent explanation in the political economy literature stresses the role of unenlightened self-interest. According to this view, citizens consistently fail to gauge whether they are directly affected by tax policy reforms. We use a randomized survey experiment in the US to identify the drivers of preferences for cutting taxes on the rich. The results show that informing individuals of whether they are directly affected by a cut in the top federal income tax rate has no impact on preferences. We therefore find no support for the unenlightened self-interest explanation. In contrast, we find preferences for taxing the rich are fundamentally affected by information that shifts citizens' core fairness beliefs, as well as information on the past trajectory of top tax rates. Our results therefore align with explanations of tax policy preferences that emphasize the importance of fairness perceptions and reference points.

Immigrant Inventors and Local Income Taxes: Evidence from Swiss Municipalities

This paper studies the relationship between local personal income tax rates and the attractiveness of municipalities as residential locations for immigrant inventors in Switzerland. Exploiting sharp differences in top income tax rates across state borders, I find an elasticity of the probability that an inventor takes residence in a municipality with respect to the top net-of-tax rate of around 4. Additional evidence suggests that inventors’ residential location choices are consequential for the localization of entrepreneurial activity and local knowledge spillovers.

Offshore Deposits and Tax Policies

The study aims to empirically analyze the relationship between Taxes and Offshore Deposits. A major issue in the present-day economic world has been the use of tax havens or formally called ‘Offshore Deposits’ by wealthy individuals and companies to evade tax. The prospect of the following study is to analyze what factors really lead to these deposits and whether reducing top income tax rate would be an effective mean to combat these tax evasions. In this paper, it is argued that in fact, tax rates alone are not a reason and when various countries divided in groups lead so several other significant determinants of tax evasion.

Revisiting the growth effects of fiscal policy: A Bayesian model averaging approach

Motivated by the mixed evidence in previous literature, we re-examine the effects of various types of government spending, taxes, and overall budget surplus/deficit, on economic growth. To address the model uncertainty issue that may have plagued earlier studies, we employ a Bayesian Model Averaging (BMA) approach. We use a panel data set for OECD countries for the 1990–2013 period, and allow for a wide range of other potential growth determinants. The results suggest a robust link between only some fiscal variables and economic growth in the short to medium run. On the spending side, productive public spending has a robust positive effect on growth. On the revenue side, we document a robust negative effect for the top corporate tax rate. Finally, our results suggest that a cyclically adjusted budget surplus has a robust positive effect on economic performance. Some, but limited, evidence points to effects of productive expenditure and of top income tax rates on medium-to-long-run growth. With regard to timing of short-to-medium run effects, our results show that most effects occur with a lag of two years.

Entrepreneurship and personal income tax: evidence from Canadian provinces

This paper employs the dynamic panel estimation method to investigate the effects of the top personal income tax rate on entrepreneurship as proxied by the employer business entry rate using data from Canadian provinces over the period 1984–2015. The empirical findings of this paper show that the top income tax rate has a negative and statistically significant effect on entrepreneurship both in the short and long term. According to the preferred estimate of this study, a one percentage point increase in the top statutory marginal income tax rate is associated with a 0.13 percentage point decrease in the business entry rate in the short term and a 0.41 percentage point decrease in the long term. Based on the long-term results, on average, a province that raises its top personal income tax rate by one percentage point can expect to have about 405 fewer new employer businesses enter its economy. This is a significant loss for an economy that has been experiencing a decline in entrepreneurship for a long time. The key findings of this paper are robust to various sensitivity checks.

60 Years of the Personal Income Tax Rate in Germany: Appraisal and Recommendations

The personal income tax rate was modified 25 times in its 60 years of existence. However, policymakers largely missed opportunities to make systematic changes. The progressive function has to be manually adjusted due to its fixed nominal thresholds. As a result of the insufficient reforms of the past, the tax rates for taxable income increase rapidly and earners reach the top income tax rate is reached rather early. Still, both the minimum and the top tax rate are today lower than they were decades ago. Against this background, we recommend implementing a systematic adjustment to the tax thresholds. The current government proposals are not very ambitious in this regard.

War mobilization or war destruction? The unequal rise of progressive taxation revisited

This paper sheds new light on the massive increase of progressive taxation in the first half of the twentieth century. Existing studies have explained this increase with the mass mobilization during the World Wars and the call for a fair sharing of the burdens of these wars. My analysis suggests that this effect was not uniform across mobilizing countries. Instead, the call for higher taxation of the rich was curbed by allocational concerns about capital rebuilding in those countries whose capital stock had been severely damaged during the war. Therefore, these countries increased progressive taxes much less. I find some evidence for this thesis in an analysis of top income and inheritance tax rates in 20 developed economies and a case study of tax policy debates in Germany after World War II. My finding has importance for the understanding of progressive taxation as well as for the understanding of tax policies more generally. It suggests that the two World Wars affected the development of tax systems not only through a distributional but also through an allocational channel.

Taxation and executive compensation: Evidence from stock options

Understanding the effects of taxes on executive compensation provides insight into the process determining this compensation and is a key input to top income tax rate policy. A 2010 tax reform in Canada, which greatly increased the effective tax rate on stock option compensation for a subset of firms, provides a natural experiment with which to address this issue. Difference-in-differences estimates suggest that this tax increase resulted in an immediate reduction in both stock option grants and the fraction of total compensation made up of stock options with limited, if any, substitution towards other components of compensation.

Revenue-maximizing top earned income tax rate in the presence of income-shifting

Abstract We provide an analysis of the revenue-maximizing top earned income tax rate for a country with one of the highest levels of earnings taxation in the world, Finland, and compare it to the current level of taxation. We account for the effect of income-shifting possibilities in the calculations and find that the current top tax rate on earnings in Finland is likely to be below the revenue-maximizing rate. We provide an explicit account of assumptions behind the Laffer curve calculations and demonstrate that policy conclusions depend critically on non-trivial choices regarding, for example, how the current top tax rate is calculated. The assumptions in the Laffer curve calculations need to be made explicit if the calculations are to provide guidance for policy.

Higher Tax for Top Earners

The literature can justify both increasing and decreasing marginal taxes (IMT & DMT) on top incomes under different welfare objectives and income distributions. Even when DMT are theoretically optimal, they are often politically infeasible. Then a flat tax seems to be a constrained optimal solution. We show however that, given any flat tax we can increase the total utility of a poor majority by raising the top income tax rate under a simple condition, which can be checked with empirical data. We further generalize our main results allowing different welfare weights, declining elasticity of labor supply and more tax bands.

Taxing Atlas: Executive compensation, firm size, and their impact on optimal top income tax rates

We study the optimal taxation of top labor incomes. Top income earners are modeled as managers who operate a span of control technology as in Rosen (1982). Managers are heterogeneous across talent, which is both effort-augmenting and total-factor-productivity improving. The latter gives rise to a positive scale-of-operations effect. A tax formula for optimal taxes is derived linking optimal marginal tax rates to preferences and technology parameters. We show how to quantify the model using readily available firm-level data. Our benchmark calibration focuses on the US. Our results suggest that optimal top taxes are roughly in line with the current statutory rates and, thus, are significantly lower than what previous optimal taxation studies that ignore the scale-of-operations effect have shown. Similar quantitative findings hold when we extend the analysis to a panel of developed countries.

Taxing Atlas: Executive Compensation, Firm Size and Their Impact on Optimal Top Income Tax Rates

This paper studies the optimal taxation of top labor incomes. Top income earners are modeled as managers who operate a span of control technology as in Rosen (1982). Managers are heterogeneous in their talent. Effort and talent of the manager are privately observed. Managerial talent increases managers’ productivity of effort and overall firm productivity, creating a scale-of-operations effect. A tax formula for optimal taxes is derived linking optimal marginal tax rates to preferences and technology. The model is calibrated using US firm level data. Our quantitative results suggest that optimal top tax rates are in line with the current US tax code and significantly lower than previous studies ignoring the scale-of-operations effect have shown.

How the Rich Respond to Anticipated Tax Increases: Evidence from the 1993 Tax Act

We examine the responses of high-income taxpayers to the increases in the top income tax rates under the Omnibus Budget Reconciliation Act of 1993. We use a large panel of tax returns spanning 1987 to 1996 to estimate the elasticity of taxable income using a difference-in-differences approach. We estimate that the ETI is roughly 0.3 for high-income taxpayers, but that there was significant intertemporal income-shifting ahead of tax rate increases that were easily anticipated. Failing to account for this shifting response produces a much higher ETI estimate of 0.7. We find changes in the types of income reported by high-income households: decreases in wage income, coupled with increases in capital gains and S corporation income which both received preferential tax treatment. While all high-income households re-timed their taxable income ahead of the tax increases, this effect is even stronger for executives. There is also suggestive evidence that executives of S corporations responded, reducing their wage and partnership income and increasing S corporation income, to avoid the uncapping of the employment tax base.

Tax News: The Response of Household Spending to Changes in Expected Taxes

Although theoretical models of household behavior often emphasize fiscal foresight, empirical studies of household consumption have yet to document the role of news about tax changes. Using novel high-frequency bond data, I develop a model of the term structure of municipal yield spreads as a function of future top income tax rates and a risk premium. Testing the model using the presidential elections of 1992 and 2000 as two quasi-natural experiments shows that financial markets forecast future tax rates remarkably well in both the short and long run. Combining these market-based tax expectations with data from the Consumer Expenditure Survey, I find that spending of higher-income households increases by close to 1% in response to news of a 1% increase in expected after-tax lifetime (permanent) income. These findings imply that by ignoring anticipation effects, previous estimates of the total effect of a tax change could be substantially biased.

The Policy Elasticity

This paper illustrates how one can use causal effects of a policy change to measure its welfare impact without decomposing them into income and substitution effects. Often, a single causal effect suffices: the impact on government revenue. Because these responses vary with the policy in question, I term them policy elasticities to distinguish them from Hicksian and Marshallian elasticities. The model also formally justifies a simple benefit-cost ratio to measure the marginal value of public funds corresponding to non-budget neutral policies. Using existing causal estimates, I apply the framework to five policy changes: top income tax rate, Earned Income Tax Credit (EITC) generosity, food stamps, job training, and housing vouchers.