When Is a Tax Not a Tax? Exposing the False Claim That Social Security Taxes Are Not Really Taxes

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Posted in: Tax and Economics

The Occupy Wall Street Protests have generated quite a heated response from the political right in the United States.  The usual claims of “class warfare” again ring throughout the land, along with a well-worn series of misleading arguments about taxes.  The rich—excuse me, the Job Creators—are said to pay “more than their share” of taxes, making it downright un-American to ask them to sacrifice even more.  All of this is not just nonsense, but nonsense that has been debunked time and time again.

There are simply too many false assertions about taxes being tossed around for one column to debunk them all.  Today, therefore, I will focus on one important (and relatively new) argument that is being made by right-wing politicians and pundits:  the claim that Social Security and Medicare taxes—the taxes that fall most heavily on lower- and middle-income Americans—are not really taxes at all.

Explaining why this claim is a dangerous distortion also leads to an examination of the very nature of government.  It turns out that the advocates for the rich are trying to have it both ways, by opportunistically ignoring some of what government does, while emphasizing only some aspects of modern government.  No matter which way one looks at it, however, our system of government overwhelmingly benefits the wealthy.

It is time to rebalance our priorities, recognizing that governments can and should do more for the rest of society.

The 1% and the 53%:  An Old Deception Based on the Selective Citation of Evidence

 

Several years ago, we were inundated by a wave of commentary from anti-tax ideologues, asserting that the wealthiest Americans pay the vast majority of taxes.  In a column in early 2007, I responded to one such claim from a former Bush Administration spokesman, who asserted that the richest 1% of all taxpayers paid 37% of all federal personal income taxes in 2004, the richest 10% paid 71% of those taxes, and the “most successful” 40% paid 99%.

In the years since then, the apologists for the rich have been consistent in claiming that the tax burden falls too heavily on the rich, who supposedly pay nearly all taxes.  The latest version of this claim states that 53% of all taxpayers now pay all of the nation’s tax bill, such that 47% have no “skin in the game at all.”  People like Republican presidential candidate Michele Bachmann have thus called for everyone to have some tax liability each year, even if it is only a dollar.

Let us put aside the point that forcing even poor people to pay a nominal amount in taxes is both morally bizarre and administratively wasteful (as I discussed in a more recent column).  The threshold question is whether nearly half of the people in the United States really pay no taxes at all.  Literally dozens of tax experts, economists, and public policy scholars have addressed this claim, showing conclusively that everyone in the United States does, indeed, pay taxes.  It is incredible that in the face of all of this unequivocal evidence, the assertion that the poor pay no taxes continues to be repeated over and over, as if it were true.

For those who have been following the debate, the problem with the assertion that “only 53% pay taxes” and related claims is numbingly familiar, but it is worth briefly reiterating here, for these false claims have not died down, and may play an important role in the 2012 election.

First, such analyses look only at federal personal income taxes.  If you take into account all federal taxes—Social Security and Medicare payroll taxes, excise taxes, business taxes (which are passed on, in whole or in part, to workers), tariffs, and so on—you find that the overall federal tax code is only mildly progressive (that is, the code leads to a poor person’s paying a somewhat smaller proportion of his income in taxes than a rich person does), depending on reasonable variations in assumptions about who ultimately bears the cost of various levies.

Second, if you include state and local taxes, nearly all of which are regressive (that is, they constitute a greater proportion of a poor person’s income than of a rich person’s), the overall U.S. tax system is revealed to be relatively flat.  That is, both rich and poor alike (and everyone in between) pay roughly the same percentage of their incomes in taxes each year.

Moreover, these estimates are hampered by the lack of availability of reliable data about the incomes of the wealthiest Americans.  The government’s data measuring the highest reaches of the income strata (the top 5%, 1%, 0.1% , and so on) are not published annually—due, in large part, to resistance by conservative members of Congress, who prefer to suppress this information.  And even those data that are published cannot reflect the hidden income that the wealthiest Americans are able to park in foreign banks and other tax havens.

If one dispassionately examines all of the evidence, therefore, it is clear not only that virtually everyone in America pays taxes, but that the tax system currently fails to do anything to meaningfully slow down—much less to reverse—the growing income inequality in the United States.  “The 1%” (and even more, the 0.1%) are doing much, much better than the rest of us—and those fortunate few have been pulling away from the rest of America for decades.

The Claim That Social Security and Medicare Taxes Are Not Taxes:  Hypocrisy on Stilts

Faced with such overwhelming proof that their claim that nearly half of the people in the United States pay no taxes is false, those who nevertheless wish to reduce taxes on the rich have resorted to two strategies.  First, they endlessly repeat their baseless claims, louder and more insistently than ever.  Second, they claim that the taxes that fall on the non-rich are not really taxes at all.  This latter strategy is only now (after gestating for several years) beginning to emerge as a major strategy on the political right, and it is worth understanding its dangerously false underpinnings.

Social Security and Medicare taxes are, by far, the largest federal tax liability for all but the wealthiest Americans.  As noted above, looking at income taxes alone makes it appear that federal taxes are almost exclusively paid by the rich.  This is because the federal income tax is designed to be the only progressive component of our tax system. Looking at the overall federal tax burden (and even putting aside the regressive state and local tax regimes), one sees a very different picture.

Workers, many of whom do end up with no federal income tax liability, pay Social Security and Medicare taxes on their first dollar of income, and usually also on their last.  Yet, as most people now know, the Social Security tax is only levied on the first $106,800 of income, meaning that most people pay that tax on all of their incomes, whereas the wealthy receive large amounts of income on which Social Security taxes are never imposed.

So, how could this tax burden be deemed by many on the right not to be a tax at all?  Their claim is that both Social Security and Medicare are separate programs that entail the payment of “premiums” up front, but which guarantee payments later in life.  Social Security and Medicare taxes are, by this logic, more like deposits in a bank account, or an insurance scheme, than a true tax, which, this argument necessarily implies, imposes a burden on the person paying the tax while giving back nothing in return.

This framing of the issue is, of course, rife with hypocrisy.  The very people making these claims, after all, simultaneously claim that Social Security and Medicare are Ponzi schemes, or that taxpayers should not trust the government to honor its commitments to pay their Social Security or Medicare benefits in the future.  It is precisely because both of these programs are “pay as you go” systems, and not bank-like accounts, that some demagogues have claimed that the federal entitlement programs are not “real” government obligations and should be abandoned.

One can see an even more important level of dishonesty by contrasting this view of Social Security and Medicare taxes as “not really taxes” with the claims from the right that spending on those programs must be cut to balance the federal budget.  Nearly every pie chart that one sees from deficit hawks depicts the major sources of federal spending as being led by Social Security and Medicare benefits (along with military spending).  Yet if the revenues paid into those programs are not taxes, then the benefits paid from those programs cannot be spending, either.

In other words, one must look at taxes and spending by the federal government in total (for all programs, including Social Security and Medicare), or one must exclude all of those programs that have dedicated taxes.  By trying to have it both ways, conservatives falsely claim both that non-rich people pay no taxes, and that the programs that their non-taxes fund are the source of the “big government” that the rich are forced to fund.

The Claim That Payroll Taxes Are Not Really Taxes Is Not Merely a Distortion, but a Fundamental Mischaracterization of What Government Does

Suppose, however, that one were willing to be consistent, claiming neither that Social Security and Medicare taxes are taxes, nor that benefits from those programs are government spending.  Suppose, further, that we then used the remaining taxes (a larger proportion of which, as noted above, would be paid by the rich, at least at the federal level) to measure the amounts that different people contribute to society.  Would this approach—which has the benefit, at least, of apparent logical consistency—be the proper way to think about the tax burden imposed by government?  Certainly not.

The apparent logical consistency in such an approach is, in fact, an illusion.  The effort to redefine Social Security and Medicare as separate programs for the purposes of measuring tax burdens falsely separates Social Security and Medicare benefits from all of the other benefits that people receive from government.  The argument from the defenders of the rich would thus become something like this: “After taking out the taxes and benefits from Social Security and Medicare, the remaining taxes are a net burden on society, which the wealthy pay.”

This, finally, brings into focus the problem with the effort to delegitimize Social Security and Medicare taxes.  The same logic could be used to redefine nearly everything that the government does, but only so long as there is a tax that is directly tied to each program.  The highway trust fund, for example, could be separated from the rest of the federal government, as could national parks (which charge entry fees) and other programs.  The FBI and the EPA, however, could not.

The income tax—the tax that is designed to be progressive—then becomes the only “burdensome” tax, because we cannot tie it to any specific program.  Viewing things in this way is, however, obviously absurd, because there are also many benefits that the government provides that are funded only from general revenues.  To be logically consistent, we would want to group all of those spending programs together, and say that the taxes used to fund them are merely “deposits” or “premia” entitling people to receive benefits from those programs.  In the end, such an exercise collapses on its own illogic.

Who Benefits From Taxes?  Everyone, but Especially the Rich

While there are sensible reasons to structure certain government programs as stand-alone entities, the proper way to summarize the overall benefits and burdens of our governments’ activities is to take the whole of what we spend, and compare it to the whole of what we receive.

In addition, we must acknowledge that some benefits are no less valuable to citizens, merely because those benefits are difficult to measure.  If we are interested in measuring the costs and benefits of all of our governments and their activities, therefore, the only sensible question to ask is:  What do people gain—both directly and indirectly—from having the government, compared to not having the government?

The various levels and agencies of government, after all, provide the basis for a modern economy and for our quality of life.  Without the government—without national defense, without police protection, without teachers educating future workers and citizens, without environmental protections, without courts enforcing patents and contracts, without the Federal Reserve setting the rules governing the financial sector—who would lose the most?  Those with the most to lose, of course.

It is, after all, possible not to have a government.  Without it, our lives would be solitary, poor, nasty, brutish, and short.  It is also possible to have a very different government, one that (like the current Chinese government) does not protect the owners of copyrights and patents, or one that (like many governments around the world) treats itself truly like a “pay for play” money-making scheme.  In every kind of government system, some people land on top, but there is no guarantee that today’s 1% in the United States would be the big winners under a different kind of government.

Ironically, therefore, saying that Social Security taxes and Medicare taxes are not really taxes at all requires us to ask who benefits the most from having our government.  Those at the top, whose incomes—even after paying all those supposedly crushing taxes—are growing while everyone else’s stagnate, have always had the most to lose.  And that is only becoming truer each day.

In the end, viewing the tax system in the traditional way—that is, merely measuring the relative tax burdens of different income groups to see “who pays for government”—actually hides just how much the rich owe to society as a whole.  With that consideration in mind, the apologists for the rich might want to leave well enough alone.

Posted in: Tax and Economics

  • Ted Harvatin

    Jefferson had it right: that which governs best governs least.

  • Ted Harvatin

    Jefferson had it right: that which governs best governs least.

  • Jazzun

    I just wish we had such reasoned individuals in government!  The public argument is being lead by those that least understand the principles, and therefore just make up their own to further their argument.  Each Republican candidate should be forced to read and then comment on this article.

  • Jazzun

    I just wish we had such reasoned individuals in government!  The public argument is being lead by those that least understand the principles, and therefore just make up their own to further their argument.  Each Republican candidate should be forced to read and then comment on this article.

  • Joe Simmons

    There is not a monolithic view on the right that payroll taxes are not taxes.

    When many conservatives talk about the income tax, they do ignore the impact of payroll taxes. When many conservatives talk about reforming the tax code as a whole, they do consider the role of payroll taxes.

    There is a valid distinction to be made that payroll taxes are for “entitlements” whereas income taxes are for the budget generally. This distinction is not entirely respected in practice, but should not be glossed over.

    You bring up a good point when you write:
    “If you take into account all federal taxes…you find that the
    overall federal tax code is only mildly progressive (that is, the code
    leads to a poor person’s paying a somewhat smaller proportion of his
    income in taxes than a rich person does), depending on reasonable
    variations in assumptions about who ultimately bears the cost of various
    levies.”

    Of course, now we’re talking, at least in part, about potential income and hidden taxes. Levies on businesses are passed onto consumers. What percentage constitutes a reasonable assumption? Are 100% of taxes passed on to consumers? To some extent the potential income of wealthy people is diminished because of all the various levies on business activity before income is paid to the ostensibly wealthy businessman. Another such hidden tax is the portion of payroll taxes businesses must pay for their employees. Would that money have been paid to then employees or is is subtracted from what is ultimately paid to the boss? After considering all these factors, maybe the overall system is less progressive than marginal tax rate tables indicate. And it is right to consider the impact of state taxes (which vary widely) in fashioning a federal tax system. We should also consider the benefits given by the state as well to low income people, if we are to be thorough. In sum, yes it is more complicated than a single set of statistics.

    You appear to agree with a premise behind Cain’s 999 plan – that many of the taxes paid by the less wealthy result from higher taxes on the wealthy and businesses. Cain relies on this premise to argue taxes won’t go up for most people. He also trusts that savings from employer-paid payroll taxes will be passed onto employees. He trusts that reducing taxes on the wealthy means products will be cheaper without hidden costs. I don’t trust the system to be that efficient, at least in the near-term. And ultimately it is the proposed sales tax that would threaten to be regressive. Even there, though, we must consider that lower income people spend the bulk of their money on housing and bills (which I understand are not taxable under his plan). As noted, I’m skeptical, but the premise you share is compelling.

    To be extra clear, we should note that in 2009 the top 25% started at only about $66,000 and payed 87.3% of income taxes; the top 10% only at $112k while paying 70.47% of income taxes; the top 5% at $154k paying 58.66%. We’re not really talking about so many rich vs poor people to begin with. We are talking about a lot of middle income people. Reverting to the previous income tax rates for only the top 1-2% will not fix our debt problem. An honest review of Bush’s tax cuts show that most of the loss of potential tax revenue came from tax cuts on the lower and middle classes. You concede some percentage of taxes on the wealthy is simply passed onto the rest of us anyway. There are wealthy people who pay a relatively small portion of their income in taxes and others who pay a substantial portion of their income. It is the complexity of our system (and the politicians who take advantage of it on behalf of their constituencies – businesses, unions, etc) that creates many of the problems you identify.

    In sum, I agree it is more involved than pointing out that 40% of income earners paid 99% of income tax or asserting an ideal of everyone having skin in the game (though certainly there are people who do get a net benefit from the government).

  • Joe Simmons

    There is not a monolithic view on the right that payroll taxes are not taxes.

    When many conservatives talk about the income tax, they do ignore the impact of payroll taxes. When many conservatives talk about reforming the tax code as a whole, they do consider the role of payroll taxes.

    There is a valid distinction to be made that payroll taxes are for “entitlements” whereas income taxes are for the budget generally. This distinction is not entirely respected in practice, but should not be glossed over.

    You bring up a good point when you write:
    “If you take into account all federal taxes…you find that the
    overall federal tax code is only mildly progressive (that is, the code
    leads to a poor person’s paying a somewhat smaller proportion of his
    income in taxes than a rich person does), depending on reasonable
    variations in assumptions about who ultimately bears the cost of various
    levies.”

    Of course, now we’re talking, at least in part, about potential income and hidden taxes. Levies on businesses are passed onto consumers. What percentage constitutes a reasonable assumption? Are 100% of taxes passed on to consumers? To some extent the potential income of wealthy people is diminished because of all the various levies on business activity before income is paid to the ostensibly wealthy businessman. Another such hidden tax is the portion of payroll taxes businesses must pay for their employees. Would that money have been paid to then employees or is is subtracted from what is ultimately paid to the boss? After considering all these factors, maybe the overall system is less progressive than marginal tax rate tables indicate. And it is right to consider the impact of state taxes (which vary widely) in fashioning a federal tax system. We should also consider the benefits given by the state as well to low income people, if we are to be thorough. In sum, yes it is more complicated than a single set of statistics.

    You appear to agree with a premise behind Cain’s 999 plan – that many of the taxes paid by the less wealthy result from higher taxes on the wealthy and businesses. Cain relies on this premise to argue taxes won’t go up for most people. He also trusts that savings from employer-paid payroll taxes will be passed onto employees. He trusts that reducing taxes on the wealthy means products will be cheaper without hidden costs. I don’t trust the system to be that efficient, at least in the near-term. And ultimately it is the proposed sales tax that would threaten to be regressive. Even there, though, we must consider that lower income people spend the bulk of their money on housing and bills (which I understand are not taxable under his plan). As noted, I’m skeptical, but the premise you share is compelling.

    To be extra clear, we should note that in 2009 the top 25% started at only about $66,000 and payed 87.3% of income taxes; the top 10% only at $112k while paying 70.47% of income taxes; the top 5% at $154k paying 58.66%. We’re not really talking about so many rich vs poor people to begin with. We are talking about a lot of middle income people. Reverting to the previous income tax rates for only the top 1-2% will not fix our debt problem. An honest review of Bush’s tax cuts show that most of the loss of potential tax revenue came from tax cuts on the lower and middle classes. You concede some percentage of taxes on the wealthy is simply passed onto the rest of us anyway. There are wealthy people who pay a relatively small portion of their income in taxes and others who pay a substantial portion of their income. It is the complexity of our system (and the politicians who take advantage of it on behalf of their constituencies – businesses, unions, etc) that creates many of the problems you identify.

    In sum, I agree it is more involved than pointing out that 40% of income earners paid 99% of income tax or asserting an ideal of everyone having skin in the game (though certainly there are people who do get a net benefit from the government).

  • Anonymous

    The one thing missing from the debate over Social Security and Medicare “contributions” as a tax is precisely that:  the money collected by the IRS for those two programs is payable under the Federal Insurance Contributions Act (FICA). 

    When I make a “contribution” to my insurance company, they call it a premium not a tax. I have an expectation that when it comes time to collect on a claim, I have a contract that explains what I am entitled to receive in exchange for my premiums.

    What allows the Government to renege on its Social Security and Medicare obligations is the fact that “they” don’t consider my premiums as anything other than a tax. They don’t give me a contract that has to be honored, and they don’t have fiduciary responsibility as my insurance company does. 

    We know this to be true because the Social Security Trust Fund has been depleted of all its cash in the form of Special Treasury Securities that are pointing to a future unfunded liability that now exceeds $117,000,000,000,000 ($117 TRILLION) and is rising at the rate of more than $6,000,000 per minute.  See http://www.usdebtclock,org for that tidbit of information.

    Congress has robbed America of its future by diverting insurance premiums (they clearly believe that Social Security and Medicare ARE insurance programs) to their own needs — building roads, bathrooms in national parks, smart bombs to destroy Saddam Hussein’s weapons of mass destruction, et al. 

    If you or I were to divert client monies for our own needs, we would soon find ourselves behind bars, as Bernie Madoff does.

    Talk about a Ponzi scheme . . .