Progressive Tax With Examples

How a Progressive Tax System Helps You Even If You Are Not Poor

Woman at hotel
Progressive taxes impose higher costs on the wealthy than the poor. Photo by Trinette Reed/Getty Images

A progressive tax imposes a higher rate on the wealthy than on the poor. It is based on the ability to pay.

Why should the wealthy pay a greater portion of their income to the government? Poor families spend more of their income on the cost of living. They need all the money they earn to afford basics like shelter, food, and transportation. A tax decreases their ability to afford a decent standard of living.

The wealthy, on the other hand, can afford the basics. The tax decreases their ability to invest in stocks, add to retirement savings, or purchase luxury items.

The 2015 Consumer Expenditures Report illustrates this point. It found that the lowest-earning fifth of the population spent $24,470 in 2015. Of that, they spent 15 percent on food, 35 percent on shelter and utilities, but just 2 percent on retirement savings. The highest-earning fifth spent $110,508. Of that, they spent 11 percent on food, 33 percent on shelter and utilities, and 14 percent on retirement savings. 

Examples

The U.S. income tax is progressive for two reasons. First, every taxpayer can claim exemptions and deductions. The 2017 exemption is $4,050 for each person claimed as a dependent on the tax return. The exemption is progressive because 20 percent of children are living at or below the poverty level. The exemption is even more progressive because it begins declining at higher income levels.

 

The standard deduction for 2017 is $6,350 for singles and $12,700 for married couples filing jointly. The standard deduction increases to $1,550 for those over 65 and the blind. About 60 percent of taxpayers choose the standard deduction. This deduction is progressive for two reasons. The fixed amounts are a higher percentage of income for the poor.

Almost 14 percent of seniors are living at or below the poverty level. 

In 2017, a single person with no dependents who claimed the standard deduction would have no tax on the first $10,400 of income.

Itemized deductions include retirement savings, interest on student loans, and health savings accounts. These make the income tax less progressive, since poor people aren't likely to have enough income to afford these expenses. 

Second, the tax rates are graduated. Higher rates are applied to each of seven levels of income brackets. Here are the 2017 federal income tax rates for single and married couples filing jointly. The income levels are for after-tax income, after all exemptions and deductions have been taken.

Income Tax RateIncome Levels for Those Filing As:
CurrentSingleMarried-Joint
10%$0-$9,325$0-$18,650
15%$9,325-$37,950$18,650-$75,900
25%$37,950-$91,900 $75,900-$153,100
28%$91,900-$191,650$153,100-$233,350
33%$191,650-$416,700$233,350-$416,700
35%$416,700-$418,400$415,700-$470,700
39.6%$418,400+$470,700+

The Social Security payroll tax is not progressive. First, it is paid at the same rate, regardless of income. Employees pay 6.2 percent of their income, while business owners pay 12.4 percent.

More important, employees and business owners don't have to pay the tax on income above a certain level. In 2018, the limit is $128,400. 

The Obamacare income tax is progressive. It only applies to those who make more than $200,000 a year ($250,000 married filing jointly.)  It levies an additional 0.9 percent Medicare hospital tax on any income and self-employment profits above the stated thresholds. It also levies an extra 3.8 percent on investment income. That includes dividends and capital gains that are above the threshold. 

Investment income taxes are progressive. They target income that wealthier families can afford better than poor families. Taxes on capital gains and dividends are 15 percent if they are held for at least a year. But some critics argue that these taxes aren't progressive enough.

Investment income should be taxed at regular income tax rates. Many wealthy people receive all of their income from these investments. They are receiving the lowest tax rate. Taxes on interest is the same as income taxes, making it very progressive.

Rental earnings are assessed income tax rates. But property owners can deduct all costs. Losses from any one property can be deducted from other properties. 

The estate tax is levied on assets children inherit from their parents. It is 40 percent on amounts greater than $5.43 million. That makes it very progressive. The Trump tax plan has increased the exemption level for this tax, making it a bit more regressive.

Tax credits for the poor are also progressive. They are a reverse tax that are only available for those living below a certain income level.

  • The earned income tax credit is awarded for each dependent up to certain income levels. It is very progressive since the taxpayer receives the credit even if it's more than the taxes owed.
  • The elderly and disabled tax credit is awarded to those 65 and older or retired on disability. It is only available to those below a very low limit, making it progressive.
  • The child tax credit provides 20 to 30 percent of the cost of child care. The limit is $3,000 for one child, and $6,000 for two or more children. It's progressive because it's a percent of the cost, which means more to the poor, and it's for children, which make up a large percentage of the poor.
  • The retirement savings contribution credit is 10 to 50 percent of the first $2,000 put into an IRA. It is progressive because it's only available up to a certain income. It's regressive because most poor families don't make enough to save anything for the future.

How It Affects the Economy

Progressive taxes are a form of income redistribution. The government spends some of that tax money on services for the poor.  It does this to fulfill the American Dream. It attempts to provide every child with an equal opportunity to pursue his or her own happiness. 

Obamacare taxes are progressive. They make sure the poor can afford preventive care, thus lowering everyone's cost of health care. The cost of emergency room care for the uninsured is a staggering $10 billion a year. Hospital care is very expensive, making up one-third of all health care costs in America. Almost half of them (46.3 percent) went because they had no other place to go for health care. That's especially true for the uninsured. This cost gets shifted to your health insurance premiums and to Medicaid. If the poor can afford health insurance and medical care, they are more likely to get preventive care. They can get treated for chronic diseases before they become life-threatening. The result is lower health care costs for everyone.

Progressive tax systems improves the poor's ability to purchase everyday items, increasing economic demand. For example, a study by Economy.com found that every dollar spent on food stamps stimulates $1.73 in demand. How can $1 create $1.73? It creates a ripple effect. For example, a dollar spent at the grocery store pays for the food. It also helps pay the clerk's salary, the truckers who haul the food, and even the farmer who grow it. The clerks, truckers and farmers then buy groceries, which pays more staff. This ripple effect keeps demand strong, creating added benefit. Stores keep their employees to supply the goods and services the poor need. 

Tax breaks for the rich have a much weaker effect. For example, business tax breaks only generate 33 cents for every revenue dollar lost.