Welcome to April 15th! I know, it's not fun....given that you just put that big check in the mail. The funny thing is that you can remember when your ANNUAL INCOME was as much as you now pay in taxes. That's a good thing, I guess.
Today, let's just mix a little humor into the discussion of economics and finance. It's random, but I hope you enjoy it.
This is one of the craziest stories I've ever heard. Did you know that 7,000,000 children disappeared from the US in 1987. On paper anyway. You see, prior to 1987, when you listed your children on your taxes as a deduction, you didn't need to list their Social Security numbers. In 1987, that changed. And 7,000,000 "children" subsequently disappeared from the planet!
Steve Levitt shared that story in his book Freakonomics a number of years ago. He talked a lot about incentives and how they can be (and are) manipulated. The video below is a funny, real life example right out of Steve's life. Check it out.
Look to the past to see the future
The highest marginal tax rate in US history was 94% back in 1944. The good news is that marginal tax rates have been reduced by about 58% from their peak to a maximum marginal rate of 39.6%, today. Of course, deductions and the income levels associated with those tax brackets have changed a lot too, so I'm simplifying things A LOT. So what's the bad news? Well, that 94% bracket occurred at the end of a war and a big depression.
And where are we today?
Sometimes it's no fun peering around corners. Do it anyway though....
There are four ways to spend money: (1) you spending your money on you, (2) you spending your money on someone else (3) you spending someone else's money on you, and (4) you spending someone else's money on someone else.
Of those four choices, where would the spending be most and least efficient?
Whenever you consider asking the government to take on a new project, think about the four ways to spend money.
I'm always amazed at how people just assume that our system of "progressive" taxation is "fair". This point is a little detailed, so bear with me.
Today, there are 7 federal income tax brackets - 10%, 15%, 25%, 28%, 33%, 35%, and 39.6%. According to a March 24th, 2015 Pew Research report based on 2013 data, taxpayers with an Adjusted Gross Income (AGI) of more than $250,000 paid 48.9% of the federal income taxes. They paid taxes at an effective rate of 25.6%. Those with an AGI of less than $50,000 paid 6.2% of all federal income taxes. Their effective tax rate was 4.2%.
If the logic of progressive taxation applied to everything , then:
And my math's not even correct! I calculated the above by simply multiplying today's cost of an item by 6 (which is the factor by which the effective tax rates differ in the above example (25.6/4.2 = ~6). I didn't show the ratio between the HARD DOLLARS paid by higher earners in comparison to lower earners. And that ratio is a lot higher!
How does this "fairness" argument for a progressive tax policy make sense? It doesn't. It just gets stated so often that people begin to believe it.
Power to destroy
Taxes hurt your financial position more than most people realize. Let me give you an extreme example. Imagine you had a dollar that doubled every day for 20 days. At the end of 20 days it's worth $1,048,576. That's the power of compounding....at 100% a day.
Take the same example as above, but now imagine that you have to pay taxes on your gain at a rate of 25% at the end of each day. It was worth a little more than a $1 million dollars untaxed. Now, what's it worth if the gain is taxed as it grows?
$72,571. I kid you not!
Taxes - and the opportunity cost on your money due to those taxes - cost you nearly $1,000,000!
By year's end, we should find ourselves with a total federal debt of around $18.6 billion. I'm sorry..typo. I mean TRILLION. Neither political party is really doing a whole lot about it and - to be fair - it's a very hard issue to get your head around when also trying to keep the economy growing.
The video below is a hilarious parody on the subject.
Entrepreneur, financial guy, husband and father of two great kids.