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Solving the Deficit Problem by Adding Tax Brackets, Flattening Tax Curve

In the first round of budget negotiations between President Obama and House Speaker John Boehner, the congressman blinked first. The day after Obama was re-elected, Boehner said that “revenue was on the table.”

Politically, Boehner had no choice. If the president’s re-election meant anything, it was that a majority of Americans had decided that its wealthiest citizens simply were not doing their fair share of the housework (especially during the past several years of a particularly nasty economy) and that the president ran and won on a promise to rearrange the chore chart.

So the rich are going to have to pay more. How that more is calculated will be decided in the clinches during Round 2.

Defining the Deficit Fight

Right now, the fight seems to be largely over tax rates. Boehner is adamant about not letting the two top tax brackets – 33 and 35 percent – expire, returning them to the 36 and 39.6 percent rates that were constant throughout the 1990s. He wants to keep the top rates where they are and find his revenue by closing loopholes and limiting deductions.

Meanwhile, the president not only has the weight advantage in this contest – that being the electorate as well as a good many economists – he has the tactical benefit of the looming “fiscal cliff.” If Obama and Boehner don’t make a deal before Jan. 1, 2013, the tax rates on all 114 million American families will go up, not just on the 4 million (top 2 percent) in the top two brackets. And that’s a risky move, for it could push the economy back into recession.

But to get the speaker to budge, the president may have to provide him with some political cover – and give him a way to sell a rate increase to his reluctant caucus. How to get the tax rates on the wealthy to go up, but in a fashion that hides the fist within a velvet glove?

The answer may be to flatten the curve.

How to Flatten the Tax Curve

Right now, the U.S. tax bracket chart is a series of steps with six tax rates: 10, 15, 25, 28, 33 and 35 percent. While this is nominally a “progressive” system of richer individuals paying a higher percentage of their income in taxes, it is hardly an equitable one.

For example, if you are a single filer making $174,400, you will pay at the 33 percent rate – the same rate as someone making $379,150, or over twice as much as you. If you are married and filing jointly, you will pay at the 35 percent rate regardless of whether your adjusted gross income is $379,151 or $10 million.

This was not always the case. There were several periods over the past century when the tax chart looked much flatter than it does now. Why? There were much more than six brackets, which meant a smoothing out of the differences among taxpayers and a more progressive curve to the structure.

A brief history of taxation in America goes something like this:

  • In 1913 when the federal income tax system began, there were seven tax rates, ranging from 1 percent to 7 percent.
  • By 1918, there were 55 tax brackets. And to help the government pay for World War I, the top rate was set at 77 percent. Yes, you read that right.
  • Both rates and the number of brackets went down during a relatively robust 1920s but shot back up again during the Great Depression. In 1933 there again were 55 tax brackets. The top tax rate was 63 percent.
  • In the late 1930s there were 33 brackets during and 23 during World War II, when the rates were set between 19 and 88 percent.
  • In 1944 and 1945 rates topped out at 94 percent.
  • From the early 1950s to the early 1960s, there were 24 different rates between 20 and 91 percent.
  • In the mid to late 1960s and throughout the 1970s there were 25 rates between 14 and 70 percent.
  • In 1979 there were 16 brackets.
  • In 1982 there were 13 brackets with a top rate of 50 percent.
  • In 1987 there were only five rates and in 1988 the chart bottomed out with only two brackets– 15 and 28 percent.
  • A third rate of 31 percent was added in 1991 and in 1993 rates of 36 and 39.6 percent were also added.
  • In 2002, the sixth rate of 10 percent appeared and a year later the top two rates were dropped to their current levels.

Solution: Add More Tax Brackets

So here is where there may be a way to soften the body blows between the two combatants: Add another 20 or so brackets to the tax chart. While it may appear that the already overly complicated tax code will be getting even more complex, in reality it will only change the payment charts while at the same time become fairer.

For example, instead of the $200,000-plus spread that exists in the 33 percent range, there could be eight or 10 smaller steps between 33 and 36 percent – say a quarter percent increase for each $25,000 of income.

By spreading out the escalation more progressively, it could help to lower the ideological resistance to any rate increases while potentially raising an equivalent amount of revenue.

President Obama said he is open to ideas but will not retreat from his campaign pledge to have the wealthy pay more taxes. Increasing the number of tax brackets while also increasing tax rates may be an idea whose time has come again, as it seemed to have worked well enough in the past when circumstances warranted such a move.

Flattening the curve, therefore, could be a hat well worth tossing into the ring. It could help staunch the bleeding of the economy, lessen congressional intransigence and give the people the decision they called for in the last election – even if it is sort of a TKO.

Bill “No Pay” Fay has lived a meager financial existence his entire life. He started writing/bragging about it in 2012, helping birth into existence as the site’s original “Frugal Man.” Prior to that, he spent more than 30 years covering the high finance world of college and professional sports for major publications, including the Associated Press, New York Times and Sports Illustrated. His interest in sports has waned some, but he is as passionate as ever about not reaching for his wallet. Bill can be reached at [email protected].

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