Recent evidence on taxpayers’ response to the rate increases in the 1990’s

Abstract- Recent studies have reported a disproportionate increase in reported incomes for high-income taxpayers following the Tax Reform Act of 1986 (TRA 86). Because marginal tax rates for this group were lowered substantially in TRA 86, several authors have concluded that reported incomes for this group are very responsive to changes in marginal tax rates. This paper examines similar evidence for the marginal tax rate increases of the 1990s. We tabulate recent cross-sectional and panel data to follow changes in reported incomes for the period 1989–95. The data suggest that there may have been a significant response to the rate increases as reported incomes for high-income taxpayers—especially income from wages and salaries—fell from 1992 to 1993 following the 1993 tax increase. The changes, however, may not be a permanent response to the tax rate changes, but may instead reflect a shift of income into 1992 in anticipation of the 1993 rate increases. By 1995, the decline in income for the highest-income group was completely recouped. We also find that there is significant heterogeneity in the response of taxpayers facing the same change in marginal tax rates. Thus, while the paper does not dismiss the potential for a permanent response to the recent rate increases, it does suggest that across-time comparisons, like those made here and previously for TRA 86, will not yield a stable relationship between marginal rates and reported incomes