There Are 2 Groups Of People Who Don’t Have To Pay Income Tax. Guess Who They Are?

The U.S. tax code can be hard to understand, and one of its most confusing parts is understanding who actually pays their fair share. This four-minute video makes the “who actually pays” question pretty simple to understand. Yes, there are people who don’t pay taxes at all ... but you might be surprised at who they are.

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Roberton Williams: Hi. This is Roberton Williams. The Sol Price Fellow at the Urban-Brookings Tax Policy Center.

For the last few years, much has been made about the 47% of Americans who don't pay federal income taxes. Pundits and politicians use that number to portray a world of makers and takers where 53% of us pay for benefits going to the other 47%.

But those simple numbers ignore important issues about our tax system. Foremost is the fact that our tax system doesn't just raise revenue. It also delivers a lot of social policy through it's many exclusions, exemptions, deductions, and credits.

The federal income tax encourages people to save for their old age and helps students pay for college. It encourages charitable giving, and subsidizes state and local governments. It significantly discounts the cost of home ownership and health insurance obtained through your job. And the tax system encourages people to work by subsidizing wages for low-earners, and helping to pay for child care.

Although people from all income levels claim these subsidies, high income households benefit the most. Even so, almost all of them still pay some federal income tax. But tax breaks zero out income taxes for many low and middle income households making them members of the 47%.

Keeping those factors in mind, there are three issues to consider when thinking about who does and doesn't pay federal income taxes.

First, let's look at the number itself. In 2010, the Urban-Brookings Tax Policy Center estimated that 47% of Americans owed no Federal income tax. That percentage was even higher in the previous two years, when it hit 50%.

Those numbers were abnormally high in part because incomes fell in the economic downturn. And in part because Congress and the White House twice cut income taxes to stimulate the economy. Now that the economy is on the mend, and most of the tax stimulus measures have expired, more Americans pay Federal income taxes. This year we anticipate that only 43% of Americans won't owe federal income tax, and that percentage will continue to decline over time falling to 34% in 2022.

Second, just because 43% of Americans won't pay Federal income tax this year doesn't mean they won't pay any taxes. Far from it. When we accounted for payroll taxes, property taxes, state and local income taxes, sales taxes, gas taxes, and sin taxes on tobacco and alcohol, it's nearly impossible for a person to avoid paying at least paying some tax.

Finally, let's take a look at the people who make up this year's 43%. Two-thirds of them work, and thus owe payroll taxes. That FICA deduction on your pay stub for taxes that fund Social Security and Medicare, most Americans pay more in FICA than they do in income taxes. That leaves just 14% of Americans paying neither income nor payroll tax. Nearly two-thirds of that group are over 65 and retired with too little income to owe income tax, and almost all the rest earn less than twenty thousand dollars a year. They're just plain poor. We're still following Ronald Reagan's 1986 decision that families below the poverty level shouldn't pay Federal income tax.

So who's left? About 1%. Some are investors who get most of their income from tax exempt interest on municipal bonds. Some give a lot to charity, or have already paid tax on income earned abroad. And others have big medical bills, large business losses or other situations that wipe out the income taxes they would owe Uncle Sam. Our system may be convoluted and hard to understand, but a nuanced look shows it's not just a system for makers and takers.

There may be small errors in this transcript.

"Debunking Myths About Who Pays No Federal Income Tax" was created by The Urban Institute. You can follow them on Facebook and Twitter. Thumbnail via Thinkstock.

Jul 21, 2014

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