State and Local Taxes Fall More Heavily on Lower-Income Americans

The wealthiest one percent of households – those with an annual income of at least $419,000 a year – pay half the tax rate of households earning less than $18,000, a new report by the Institute on Taxation and Economic Policy (ITEP) shows. Who Pays? A Distributional Analysis of the Tax Systems in All 50 States, which examines tax rates at the state and local levels, concludes: the lower one’s income, the higher one’s overall effective (actual) state and local tax rate.

The chart below demonstrates the decline in effective tax rates at higher income levels.

Source: Institute on Taxation and Economic Policy

The “effective” tax rate is the rate people actually pay. Because taxpayers of all income levels can use various tax credits and deductions to decrease their taxable income, the statutory rate associated with a person's overall income tax bracket is likely to be higher than the rate they actually pay. For example, homeowners can reduce their tax bills by deducting the interest they pay on their monthly mortgage, and Americans paying off student loans can deduct a certain amount of the interest they pay.

States generally rely on some combination of income taxes, property taxes, and sales and excise taxes to fund services. State income tax structures are generally progressive. According to the report, “Of the three major taxes used by states, the personal income tax is the only one for which effective tax rates rise with income levels.” On the other hand, sales and excise taxes are heavily regressive. Because low-income people spend a large portion of their income on basic needs, sales taxes hit low-income families harder than more affluent families who are able to shelter income, for example, through mortgage and retirement deductions. “Poor families pay almost eight times more of their incomes in [sales and excise taxes] than the best-off families, and middle-income families pay more than five times the rate of the wealthy,” according to ITEP.  

While the report recognizes that a handful of states have made changes to their tax codes, it indicates that these measures have not done much to improve tax fairness. In fact, the report finds “that virtually every state’s tax system is fundamentally unfair.” Low-income families pay a higher percentage of their income toward taxes than wealthy households almost across the board.

Washington, Hawaii, Illinois, Florida, Rhode Island, Arizona, Texas, Indiana, Pennsylvania, Arkansas

Source: Institute on Taxation and Economic Policy

In the “Terrible Ten” states above, the poorest households pay a tax rate seven times greater than the rate paid by wealthy residents. ITEP Executive Director Matt Gardner commented, “Upside down state tax systems didn’t cause the growing income divide, but they certainly exacerbate the problem.”

Most Americans favor closing loopholes in the tax code that favor the wealthy. Working to ensure that all families pay a fair share of state and local taxes is not only just, it may be necessary to ensure that states are able to make the public investments that will benefit their economies and all of their residents in the long-run.

To find out “Who’s Paying?” in your state, visit the report’s landing page. In addition, the ITEP website houses an interactive map that breaks down effective tax rates by income bracket.


For Further Reading:

New Legislation Aims to End High-Frequency Trading but Misses Opportunity to Invest in Critical, Underfunded Public NeedsThe Fine Print, 1/15/2015

Lawmakers Push to Stop Tax Haven AbuseThe Fine Print, 1/15/2015

Investing in Our Future: President’s Proposal Promises Free Community College TuitionThe Fine Print, 1/12/2015

400 Richest Americans Paid Same Effective Tax Rate as a Family Earning $105,000The Fine Print, 12/2/2014

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great article, well written chad edward hatten
texas also is tough on the poor, chad hatten