The Bracket Racket

Yesterday, MN Republican legislators brought Governor Dayton’s tax proposal up for a vote, for the transparent purpose of publicly bashing the still-unfinished bill.[i] Dayton’s proposal would introduce a new income tier, taxing marginal income above $85,000 (for single filers) or $150,000 (for joint filers) at a rate of 10.95%.[ii]

Setting aside for the moment the question of tax rate (and the familiar arguments against high tax rates for high income earners, i.e. that it will stifle productivity, reduce job growth and disproportionately impact small business owners) there remains a legitimate question about the right number of tax brackets, and what the appropriate cut-offs should be. Currently, Minnesota has three tax brackets: for a single person these brackets are 1) income up to $22,770 2) $22,771—$74,780 and 3) $74,781 & over. State law requires these ranges to be adjusted annually for inflation.[iii] What does this mean? For one, it means that an assistant school principal or senior accountant is in the same Minnesota income tax bracket and faces the same top marginal rate as a hedge fund manager or CEO.[iv]

Compare this to the Federal income tax brackets. Currently, there are six brackets- with the highest tax bracket starting at $400,000. Historically, this has varied from as few as two brackets in the late 1990’s to over 30 in the 1920’s and again in the 1970’s.[v] Visualizing this variation over time, one can see that at times the marginal tax rates increase at an almost imperceptibly gradual rate, at other times the impact of reaching a new bracket is a jarring leap.[vi]

Both our Federal and Minnesota income tax structures are built to be progressive, that is, to tax higher amounts of income at a higher rate. An era of growing income inequality, however, has meant that a large and varied portion of the population really faces something more like a flat or even regressive effective tax rate.

Increasing the number of tax brackets could provide a tool for improving the equity of the State’s income tax burden; allowing the tax rates for existing brackets to remain the same, or even be lowered. The “right” marginal rate and the “right” cut-off for tax brackets is certainly open to debate. What can probably be agreed upon, however, is that there are very real differences between someone earning $80,000 a year and someone earning ten times that. Our tax rate structure should reflect those differences.
[i] http://www.startribune.com/politics/local/117335698.html
[ii] http://www.startribune.com/nation/116258229.html
[iii] http://taxes.state.mn.us/publications/pages/press_releases_content_2010_income_brackets.aspx
[iv] http://www.salary.com/
[v] http://www.taxfoundation.org/publications/show/151.html
[vi] http://economix.blogs.nytimes.com/2010/12/02/should-tax-rates-be-more-gradual/