Can you imagine that in 1913, the highest tax bracket in the United States was 7% and it applied to those folks who earned more than $500,000 a year? By 1916, the highest was 15% and applied to those who were banking more than $2 million a year and in 1917, that rate spiked to a whopping 67%! Now, getting a read on the max rate and income levels is a little misleading because you’re only looking at the tops of trees and not the forest itself… so I’m going to try to paint that forest for you and put some of those crazy numbers into context. (historical tax rates)
In reality, I’m only going to take a look at the highest tax bracket, which itself won’t give a complete picture of the income tax situation at that time but will enlighten us at least a little bit about the history of income taxation.
One big miss in that historical listing was the introduction of a tax on income in 1862 to help pay for the Civil War. As will become apparent in a few more paragraphs, instead of running a deficit and having a national debt, the government did the fiscally prudent thing of raising taxes. But, just like how the American public has racked up credit card and other debt, the government has led the way by borrowing instead of increasing collections (increased collections usually means those in power are no longer in power come the next election cycle). Anyway, back in 1913 there were only three brackets:
- Income under $300 paid no tax,
- Income between $300 and $10,000 was taxed at 3%,
- Income over $10,000 was taxed at 5%.
That income tax was repealed in 1872 and after some Supreme Court cases and an amendment to the Constitution (16th), income taxes reappeared in 1913, which corresponds with the start of the historical tax rate chart above.
1918: The top rate was in fact 77%, as the chart said, because tax rates were raised in order to help pay for World War I. Tax rates started to fall in the years afterwards.
1932: Rates had been falling the past few years until 1932 when the top rate was 63% (if you think this is bad, wait until the US was deep into World War II). This rate increased in the years leading up to and including World War II.
1945: 94% tax on income over $200,000 – absolutely astounding. It stayed over 90% until 1964 when it was lowered to 77% and had been consistently falling until …
1988: “Read my lips: no new taxes” said George H.W. Bush in 1988 – three years later the top rate was increased from 28% (in part due to a recession and legislative deadlock), where it had bottomed out, to 31%. As you may remember, President Bush Sr. wasn’t asked to return for a second term.
Implications: When a lot of people analyze their personal finance decisions, such as whether to contribute to a Roth or Traditional IRA, they claim that their taxes are likely to be less in the future because they’ll earn less – so they opt to take the tax deduction now. While there has been greater stability in the tax code in recent memory, I firmly believe that our taxes will go up in the near future simply because the government won’t have a choice (debt, social security, universal health care, etc.). If you look historically at the maximum tax rate, we’re only 60 years removed from a time when it was 94%. For every extra dollar you earned (over $200,000), you kept six cents (one thing to consider though is that $200,000 in 1944 is the equivalent of $2,290,909.09 in 2006 according to the Department of Labor’s Bureau of Labor Statistics inflation calculator).
Take a look at the charts, do a little deeper research than I have done on income taxes (especially all the exceptions and breaks), and come up with your own conclusions (and please share your opinion!).
The historical information was compiled from a bunch of random websites and trusty Wikipedia.