Thursday, December 6, 2012

The tax bite of the "fiscal cliff"

Credit: Wonkbook
(click through to see whole infographic)
So a reader challenged me to address the fiscal cliff and its effects on chemists. I've decided to address it in two portions. The "fiscal cliff" [or (as the Washington Post's Ezra Klein more descriptively (and accurately?) refers to it) "the austerity crisis"] is a package of tax cuts that are ending and federal spending cuts that might happen. Naturally, those in federally-funded universities, grant-related positions and the like will suffer effects from it; I will address it tomorrow. But everyone pays taxes, so everyone will be affected by this.

I am really not particularly interested in the elephant-versus-donkey part of assigning blame, but I do want to talk about the actual practical effects of what were to happen if all of the intended tax increases were to be imposed.

To the right is a portion of an infographic from the Tax Policy Center** and Washington Post that predicts that:
  • For 2nd lowest-income quintile households (20k-39.7k), the average increase would be $1,231.
  • For middle income quintile households (39.7k to 64.5k), the average increase would be $1,984.
  • For the 2nd-highest income quintile (64.5k to 108k), the average increase would be $3,540. 
These are not insignificant increases -- I estimate that, for my household, I suspect it would be somewhere around $300 a month, which would definitely affect our consumption. I'll throw in the numbers for the non-1% households of the top quartile (e.g. a double Big Pharma household?): 
  • For the top 80%-90% of households (bounded by 108k to 143.4k), the average tax increase would be $6,162. 
  • For the top 90-95% of households (bounded by 143.4k to 204.3k), the average tax increase would be $7,830. 
  • For the top 95-99% of households (bounded by 204.3k to 506.2k), the average tax increase would be $14,085
I think it's safe to assume that these tax increases (or, actually, returns to Clinton-era income tax rates, and Bush-era payroll tax rates) will be unlikely to happen for the bottom 98% of households, so in other words, most everyone. That said, it appears to me entirely possible that said tax increases will actually happen for a month or two, while the powers that be play chicken with one another. 

*Based on this white paper. 

11 comments:

  1. What happens if the tax increases happen, I file my taxes as soon as Jan 1 comes around, and then the taxes change?

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    1. So the tax filing is different, right? 'Cause on Jan 1, 2013, you're filing 2012's taxes, which are not affected by this.

      But, to answer your question, I suspect that the payroll tax (Social Security tax, aka FICA) increase will happen immediately. So January 15th's paycheck (or whatever) will have the extra 2% taken out of your paycheck.

      One also presumes that your withholding will increase as well to help cover it. But again, it depends on the company that does your payroll.

      Here's a comment about that from CNN Money: http://money.cnn.com/2012/12/06/smallbusiness/fiscal-cliff-pay/index.html?hpt=hp_t1

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  2. Thanks for this information, particularly for actually putting the income ranges out there. Postdocs and grad students are in the "second lowest quartile" and the 1200 dollar tax increase is more than just putting a damper on your fun money. This is more than a month's rent, groceries, and gas for me. The person making 75000 might not like the $3500 increase, but I doubt it's impact will be anywhere near what it is for someone in the first bracket that you list.

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    1. And this is precisely why you should always have a savings of a few months income handy. Granted as a graduate student this might be hard to budget for, but I've been able to do it for the past four years. I just hope I won't have to start reaching my hand into that cookie jar.

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    2. But there are many reasons to build savings (like unexpected health expenses, car repairs, trips to see relative that unexpectedly becomes ill, wedding present for close friend, putting aside money early for retirement, etc) and budgeting for a tax increase diverts money that could be saved for your rainy day fund. Students and Postdocs nearing the end of a position might want the savings in case they will face a period of unemployment before finding another position. My point wasn't that the person in the lower bracket would suddenly become homeless if they had to pay the extra tax nor was it that they should not try to save. My point was that the tax increase was a much higher percentage of the lower quarter's income after basic living expenses and I would argue that it would have a greater effect on this group than on the higher income brackets.

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  3. This is really going to hurt. Looks like eggs and ramen for the foreseeable future. I'm glad I have spices.

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  4. The funny thing is, if you really honestly believed in free market theory and its resident Homo Economicus, you would understand that due to Ricardian equivalence, you and your fellow Homo Economicus would NOT change your spending, as you would have been saving 100% of the Bush/Obama tax cuts in order to pay debt that resulted.

    http://en.wikipedia.org/wiki/Ricardian_equivalence

    To claim that tax cuts are stimulative is to deny the very foundations of free market theory.

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    1. That would depend on the nature of the cuts and the reason for needing stimulus. I would argue in the present circumstances, for example, cuts on capital gains wouldn't be particularly effective as many companies already have enormous cash reserves so additional investment wouldn't have much effect. On the other hand the payroll tax cut (one of the cuts that will be expiring incidentally) gives people a little extra money in their pocket. This money can be spent then spurring demand.

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  5. Sorry for being a smartass, CJ, but that "the middle quartile" expression is a bit dodgy. There are only ever four quartiles. The graphic though has it right, there it says quintile.

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    1. No, it was my mistake, and thanks for catching it. US income distribution is commonly expressed in quintiles and my fingers somehow blew it.

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  6. "I think it's safe to assume that these tax increases (or, actually, returns to Clinton-era income tax rates, and Bush-era payroll tax rates) will be unlikely to happen for the bottom 98% of households, so in other words, most everyone. That said, it appears to me entirely possible that said tax increases will actually happen for a month or two, while the powers that be play chicken with one another."

    While this second statement is true, it's important to remember that once a deal is in place, the agreed-upon tax rates will be effective for the _entire_ year. So even if you end up paying more for January or February, you'll get that money back after the deal is struck. This is one of the reasons most people believe the game of chicken won't go longer than a month or two -- people will start to grumble once they see the bigger bite taken out of their paycheck, and Congress will be spurred to action.

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