How many will pay no federal income taxes in the next administration?

Under either John McCain or Barack Obama, millions of Americans will wind up paying no federal income taxes.  According to the Tax Foundation, tax liabilities will drop to zero (or less) for 15-16 million more Americans than now, pushing that to almost half of all filers.  While that may seem optimal to some, if it doesn’t come with significant reductions in overall revenue, it forces fewer people to pay for more government:

The tax code has always contained provisions that reduce the income tax burden for low-income workers, such as the standard deduction, personal exemption, and dependent exemption. Between 1950 and 1990, the percentage of tax filers whose entire tax liability was wiped out by these provisions averaged 21 percent. Since then, lawmakers have expanded credits—such as the earned income tax credit (EITC)—while creating a plethora of new credits, including the child tax credit, the HOPE credit, lifetime learning credit, and the credit for adoption expenses.

Most tax credits can only reduce a taxpayer’s amount due to zero, but the EITC and the child tax credit were also made refundable, meaning that taxpayers are eligible to receive a check even if they have paid no income tax during the year. Those tax returns have become, in effect, a claim form for a subsidy delivered through the tax system rather than a direct payment from a traditional government program like welfare or farm supports.

As shown in Table 1 below, the Tax Foundation estimates that there will be 47 million tax returns with zero income tax liability in 2009 under current law. That’s one-third of all tax returns, and those 47 million tax returns represent 96 million individuals.

Both the McCain and Obama plans would increase this number by expanding existing tax benefits or creating new ones. Senator McCain is proposing one expanded provision—the dependent exemption—and one new credit, a $5,000 refundable health care tax credit. The Obama plan contains seven new provisions, including a new “Making Work Pay Credit,” a “Universal Mortgage Credit,” and a plan to eliminate income taxes for seniors earning under $50,000.1

Taken together, the Tax Foundation estimates the McCain proposals would increase the number of nonpayers by about 15 million, bringing the total number of taxpayers who pay no personal income taxes to 62 million, roughly 43 percent of all tax filers. Almost all of this is due to McCain’s health care credit, which dramatically realigns health care incentives and gives people a powerful motive to buy health insurance. This tax provision has a bigger impact on cutting people’s taxes than any single proposal from either party.

This seems very unhealthy in terms of commitment to federal government.  The government serves all Americans, and except for the poorest among us, we should all be contributing to its maintenance.  Without that kind of connection, the people who pay nothing will have no risk in demanding ever-increasing services and flat-out welfare, which is what Barack Obama’s tax plan really delivers in its seven refundables.  McCain doesn’t give away money to quite the same degree, but it has almost the same effect on taxpayers.

As the second chart demonstrates, the Bush tax cuts did not burden the poor.  It had a similar effect as what both Obama and McCain propose here.  Bush increased the number of people without any federal tax liability by 30%, from 25% to 33% overall.

We need to seriously consider Steve Forbes’ flat tax plan soon if we don’t want to turn the US into a welfare state.  Our tax policies will drive capital out of our markets and into other arenas for investment if the capital class winds up funding all of the federal government, and the electorate continues to demand services for which they don’t pay.  These graphs show a disaster ahead even if we didn’t already face two with Medicare and Social Security, which largely have the same origin.

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