tax brackets
consider the following table of tax rates.
┌──────────────┬────────────┬────────────────┐
│ Gross Income │ Net Income │ Effective Rate │
├──────────────┼────────────┼────────────────┤
│ 12,000$ │ 17,200$ │ -43.33% │
│ 20,000$ │ 22,000$ │ -10.00% │
│ 25,000$ │ 25,000$ │ 0% │
│ 40,000$ │ 34,000$ │ 15.00% │
│ 80,000$ │ 58,000$ │ 27.50% │
│ 160,000$ │ 106,000$ │ 33.75% │
│ 320,000$ │ 202,000$ │ 36.88% │
│ 640,000$ │ 394,000$ │ 38.44% │
│ 1,000,000$ │ 610,000$ │ 39.00% │
└──────────────┴────────────┴────────────────┘for instance, a person whose gross income is 40,000$ pays 15% of their income in taxes. whereas someone who earns a million pays 39%. this sure does look progressive, doesn’t it?
in fact, people grossing below 25k actually have a negative tax bill — they receive a refund.
surprise
but what if i told you this table represented a flat tax rate of 40% for all individuals, combined with a 10,000$ refundable tax credit. (“refundable” means that you get the difference back as a refund if it’s greater than your amount owed in taxes.)
you can easily verify this. for instance, 40% of 80k is 32,000$. now subtract that tax credit for a total of 22,000$. now subtract 22,000$ from the gross of 80,000$ and you get 58,000$.
best of both worlds
what this example illustrates is the distinction between a true flat tax and a marginal flat tax and a marginally flat tax. our tax system described above isn’t truly flat, because the effective rates are indeed progressive. but it is marginally flat, because each additional dollars of earnings pays a flat rate. this structure gives us the benefits of flat taxes, such as administrative simplicity and minimal deadweight loss, while also retaining the social aim of reducing inequality.
graphed
here are a few examples of these effective tax rates graphed, so you can see how progressive they are, even tho they use flat marginal rates.
