1. Making Taxes Work Presented by Jon Forman at: Law, Society, and Taxation I: What is Tax Reform? Law and Society Association Annual Meeting July 7, 2006 Baltimore, MD This paper draws from: Jon Forman, Making America Work (Urban Institute Press, forthcoming 2006).

2. 2 Summary Empirical evidence shows that high tax rates discourage work effort and reduce labor supply The tax system should be designed to both minimize work disincentives and promote greater economic justice Low marginal tax rates will encourage greater work effort

3. 3 Outline Overview of the current tax system Show how the current tax system imposes relatively high effective marginal tax rates on earned income Explains how such high tax rates can discourage work and work effort Suggests some modest changes More fundamental change –Integrate the current income and Social Security tax systems into a single, comprehensive income tax system

4. 4 Table 1 Federal Revenues by Source, 1940-2011 (Millions of dollars) Fiscal YearIndividual Income Taxes Corporate Income Taxes Social Insurance and Retirement Receipts Excise Taxes OtherTotal Receipts 1940 8921,1971,7851,9776986,548 196040,71521,49414,68311,6763,92392,492 1980244,06964,600157,80324,32926,311517,112 20001,004,462207,289652,85268,86591,7502,025,218 2005927,222278,282794,12573,09481,1362,153,859 2011 estimate1,466,869292,0121,096,69883,12496,1583,034,861

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6. 6 Table 2 Standard Deductions, Personal Exemptions, Income Tax Thresholds, and Tax Rates, 2006 Unmarried Individuals Married Couples Filing Joint Returns with Two Children Heads of Household with Two Children Standard deduction$5,150$10,300$ 7,550 Personal exemptions$3,300$13,200 (4 × $3,300) $ 9,900 (3 × $3,300) Simple income tax threshold$8,450$23,500$17,450 Tax rate (imposed on taxable income):Rate Bracket 10$0 to $7,550$0 to $15,100$0 to $10,750 15$7,550 to $30,650$15,100 to $61,300$10,750 to $41,050 25$30,650 to $74,200$61,300 to $123,700 $41,050 to $106,000 28$74,200 to $154,800 $123,700 to $188,450 $106,000 to $171,650 33$154,800 to $336,550 $188,450 to $336,550 $171,650 to $336,550 35Over $336,550

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14. 14 Table 3 Poverty Levels and Net Federal Tax Thresholds After Tax Credits in 2006, for Selected Households Unmarried Individual Married Couple with No Children Single Parent with 2 Children Married Couple with 2 Children Poverty Levels$ 9,800$13,200$16,600$20,000 Simple income tax threshold (before credits) 8,45016,900 17,450 23,500 Income tax threshold after the earned income and child tax credits 10,04316,900 35,524 41,867 Social Security tax threshold 00 0 0 Combined income and Social Security tax threshold (i.e., net federal tax threshold) 5,380 24,590 32,101

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19. 19 Table 4 How an Integrated Tax and Transfer System Would Affect a Single Parent with Two Children ($2,000 Universal Grants, $2,000 per Worker Credits, and 20 and 35 Percent Tax Rates) Pre- transfer Earnings plus Universal Grants plus Worker Credit less Tax Imposed Equals After-tax Income 0$6,000 0 0 $5,000$6,000$1,000 $11,000 $10,000$6,000$2,000 $16,000 $20,000$6,000$2,000 $4,000 $24,000 $30,000$6,000$2,000 $6,000 $32,000 $40,000$6,000$2,000 $8,000 $40,000 $50,000$6,000$2,000 $10,000 $48,000 $100,000$6,000$2,000 $27,500 $80,500 $150,000$6,000$2,000 $45,000$160,000 $200,000$6,000$2,000 $62,500$145,500

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21. 21 Conclusion An integrated tax system would be simpler to administer than the current system It would both minimize work disincentives and promote greater economic justice than the current system. Low- and moderate-income individuals would have every incentive to get out there and work Even high-income individuals would face smaller work disincentives In short, this approach would make taxes work