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Taxing "the rich"

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There's been a lot of talk about "taxing the rich" recently. The idea seems to be that taxes from "the rich" can provide more revenue to the government without any negative economic consequences. Usually "the rich" are people making more than $250,000 in income, and the proposal is to increase their marginal rate to at least the old marginal rate of 39.6%.

But who are "the rich", really? Well, there are probably very few single people who make over $250,000 - less than 10% of the returns in the top tax bracket are filed by singles, as opposed to over 40% of all returns - so it's mostly likely a married couple. And most likely it's a married couple who both work - like two doctors or two lawyers - so that their combined income comes in above $250,000, even though neither of their individual incomes does.

So let's take a look at the situation one of these couples is in. The husband, say, is a specialist physician making $180,000 a year after adjustments to income like malpractice insurance. The wife is a general practitioner making $140,000 a year after adjustments. The total is $320,000 a year, which puts the couple well above the $250,000 cutoff proposed for "the rich".

So what's the wife's effective take home income from working? Well, she makes $140,000 per year. $69,460.70 of that is paid in taxes - $44,737.50 federal, $7420.00 Massachusetts state, $17,303.20 self employment. She pays a nanny $20 an hour for the 50 hours per week that she works, plus for her 2 hours a day commute; subtracting a $3000 child care credit, that's $57000. Leasing a BMW is $500 a month - the nanny uses the Cayenne to cart the kids around during the day - so that's another $6000 a year.

After subtracting all those work related expenses, she actually only takes home an extra $7539.30 in disposable income per year - barely more than 5% of her taxable income. No wonder most mothers in the U.S. stay home rather than work! But that's okay, our doctor enjoys her job and enjoys helping people. It's true that she'd rather stay home with the kids, but that's only worth $500 a month - $6000 a year - to her since her work is also rewarding. $7539.30 is enough to keep her working - barely.

Now, let's bump up the tax rate on the half of her income that causes the couple's combined income to come in above $250,000. We'll bump the rate from the present 33% to the former top rate of 39.6%. Her taxes increase by $4620. Her disposable income drops to $2919.30. That 6.6% increase in taxes may not have seemed like a big number, but it cuts our doctor's effective take home income by more than half!

Here's the kicker. Taking home $2919 is no longer enough to keep her working. So she quits, fires the nanny, and stays home to take care of the kids. That means she not only quits paying that extra $4620 in taxes - she also quits paying the original $44,737.50 in federal taxes as well. The government is also out the social security taxes, the state taxes, and the taxes the nanny paid.

Now, not everyone in that situation will quit. Some will go ahead and pay the extra taxes - maybe they feel that a different kind of work during the day will make them be fresher for the kids and appreciate them even more when they're home. But not a lot have to quit to make the supposed revenue benefit of the tax increase disappear, or even become a revenue loss.


Statistics on returns of various types that were in various tax brackets are here: http://www.irs.gov/pub/irs-soi/05inrate.pdf

Nanny rates are $17-$25 per hour: http://www.tandcr.com/candidate/articleSalary.html

Doctors work an average of 51 hours a week: http://www.bloomberg.com/apps/news?pid=newsarchive&sid=a1tbL9.eTmrk

Estimates for doctors' incomes vary all over the place. The above link suggests that GPs make $173k per year. A comment at this link puts malpractice insurance at $34k per year: http://www.hcplive.com/primary-care/articles/doctor-average-hourly-wage-2772

My spreadsheet for calculating this stuff: http://www.powderhouse.com/~wdew/articles/psychohistory/taxing_the_rich.xls
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On September 3rd, 2010 03:24 pm (UTC), psychohist commented:
Most general practitioners are in partnerships or are principals in small businesses. To increase their income, they have to raise the rates on the customer. Even for those employed by HMOs, the HMO has to raise the rate on the customer if they are to keep the employee - and they may choose instead to accept the loss in the doctor at the cost of, say, increased wait times for the customer.

The final customer here is relevant. The largest one is medicare, because older people have many more medical problems requiring doctor visits; medicare rates are set by law rather than directly by the market, and it's unlikely they'll see an increase beyond inflation in the current economic climate. The remaining ones are almost all insurers, who set their own reimbursement rates and don't like to be paying much more than medicare rates, so again it's more difficult than in a fully free market for the supplier to raise rates. Indeed, submarket medicare rates are likely a primary cause for the shortage of general practitioners.

I agree that many doctors who are mothers have likely already left the job market; I'm sure that for many, even the current $7539 in the above example would be insufficient to keep them working. Preferring to be working as a doctor doesn't necessarily translate to preferring to work for close to free - or for less than free, as would be the case if the doctor felt guilty enough about the children to hire a top of the line nanny at $25 an hour instead of a slightly below average one at $20 an hour.

Carting the kids around in a Volvo or Odyssey instead of a Cayenne doesn't change the above analysis at all; I said "Cayenne" instead of "minivan" just for flavor. Switching entirely to public transit likely involves a move to a more expensive house in most cases, to be within walking distance of a station.

I do agree that not all mothers in double income families will choose to stop working in similar situations - indeed, it's likely a minority. I think it's a substantial minority, though, even in cases where compensating factors such as you suggest reduce the effect on take home pay. It will still be a pay cut, even if it's a 30% cut rather than a 60% cut. Remember that it only takes one in ten of these mothers choosing to quit for the impact on tax revenue to become negative instead of positive.
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