Taxes and Fairness

When people talk about everyone paying their fair share of taxes, what they usually mean is that someone else is going to pay more. But that raises the question: how much is the fair amount to ask people to pay, and how much more than that is unfair?

There are two ways of looking at that question. The conventional way is to look at someone who pays, oh say 20%, and determine that they could afford to pay more. So for this example, we could decide that 25% is that person’s fair share. After all, we're only asking that person to give up another 5% of their income. They can afford it, right?

To look at this from another perspective, let us examine a hypothetical economy. In our small scale imaginary model, there are only 25 income earners. The distribution of income among these households is as follows:
1 @ $1,000,000
14 @ $100,000
10 @ $10,000
So the top 4% of households earn 40$ of total income.

Let us further assume the following tax policy: the first $10,000 of income is exempt from tax. After that, up to $100,000 is taxable at 10%. Income above $100,000 is taxed at 20%.

Under this scenario, tax payments break down as follows:
$1,000,000 household: $189,000 (10,000*0%+90,000*10%+900,000*20%)
$100,000 households: $126,000 (14*(10,000*0%+90,000*10%))
$10,000 households: $0
Total taxes: $315,000

What this means is that 4% of the taxpayers are covering 60% of the total tax payments. Meanwhile, the bottom 40% of households are paying…nothing. Somehow that doesn’t strike me as fair play.

Of course, the example shown above is a completely imaginary, highly simplified economy. Let’s see what the numbers are for a real world economy, like, for instance, the United States.

According to the Heritage Institute, in 2004 the top 5% of taxpayers had 29% of the reported income, but paid 58% of the taxes. Expand that group to the top 10% of income, and the numbers climb to 39% of the total income and 71% of the taxes paid. Meanwhile, the bottom 50% of income earners paid less than 3% of the total taxes.

Maybe my example wasn’t so far fetched after all.

My policy point is this: if, as a society, we have decided that we have cut government spending as much as we can, and we need more tax revenue, let’s raise everyone’s taxes. We can have a debate about making the system more progressive, or less progressive. But if we are going to hit the high income folks up for more money, the low income folks should have to pay something in as well.

And maybe, if everybody has to kick into the pot, we’ll discover as a society that maybe we can do without some government spending after all.