A Look at Historical Federal Tax Brackets
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That income tax was repealed in 1872 and after some Supreme Court cases and an amendment to the Constitution (16th), income taxes reappeared in 1913, which corresponds with the start of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.
21 responses to “A Look at Historical Federal Tax Brackets”
Chris Hynes responds:
Posted: January 19th, 2007 at 11:49 am
“That income tax was repealed in 1972″… I’m assuming this should be 1872?
jim says in reply:
Posted: January 19th, 2007 at 11:56 am
Hahah, yeah it should be 1872… Thanks!
Aaron responds:
Posted: January 19th, 2007 at 2:49 pm
Interesting research and historical summary!
I agree with your conclusion that the federal government is likely to have to raise taxes during our lifetime to fund the many liabilities that are building up. It certainly doesn’t seem wise to assume that the tax code will remain static over the next 20-50 years. But I think it’s possible some of that new revenue will be in the form of a national sales tax, a VAT, or some other mechanism other than income taxes.
As I understand it, the Roth shelters the investment return from future income taxation, but if the tax structure changes, we may be taxed on that return in other ways. I’m not at all against the Roth - my wife and I certainly contribute to ours and I wish my employer offered a Roth 401(k) option; but it seems it may be wise to hedge one’s tax strategy by contributing to both Roth and standard accounts (401(k), 403(b), ‘Normal’ IRA).
That certainly won’t minimize the eventual tax bite - one strategy or the other will turn out to be best, but I’m not sure those of us in our early saving years can accurately predict which will turn out to be optimal. At any rate, it’s probably not a great idea to depend too heavily on a Roth when estimating the tax bite in retirement.
Just my thoughts for the day. Comments or discussion welcome.
Jim responds:
Posted: January 19th, 2007 at 5:35 pm
The tax rates between 1945 and the 1960s were insanely high. However, I remember hearing that many more tax deductions were allowed back then than are currently allowed. So the actual tax rates that very wealthy people paid must have been substantially lower than the rates listed (although even accounting for deductions, it had to be higher than it is today).
jim says in reply:
Posted: January 19th, 2007 at 5:44 pm
I can’t imagine the tax rates actually being 94% (but then again, how many folks are earning the equivalent of $2.9M?) without some sort of magic going on underneath.
Lazy Man and Money responds:
Posted: January 19th, 2007 at 7:52 pm
I did some analysis of whether a 401K is really a good deal using future tax rates a reason why it could backfire. The way I see it, I’m basically opting out of paying today’s tax for tomorrow’s tax. I think I get a little extra compounding with that deferred tax.
On the other side of the coin, if I saved that money after tax, I could put it in some dividend earning investments and pay dividend and long capital gains taxes which seem to be less than my current income tax level.
Just a thought, I need to talk to my tax specialist about this. Before I do, I need to find a tax specialist :-).
not confucius responds:
Posted: January 19th, 2007 at 8:07 pm
This is pretty interesting. I’m in the “gray” area (28% bracket) where I hear — from some — that its better for me to invest in a Roth, and — from others — that I should stick with a traditional account. Seems like this historical data gives credence to going with a Roth.
fivecentnickel.com responds:
Posted: January 21st, 2007 at 5:55 pm
Weekly Roundup - 01/19/07
Here’s a quick look at some of the personal finance articles that caught my eye over the past week:
Flexo is thinking about dumping NetFlix. My wife and I actually go ’round and ’round about this same thing. I don’t think we&#…
Matt responds:
Posted: January 22nd, 2007 at 2:48 am
Trouble is, it’s all idle speculation anyway. How well can you predict the actions of a gang of thieves so intrinsically dishonorable that they’ll bill you for the gun they used to rob you with? That’s how well you can predict future tax rates.
I wouldn’t depend on currently-promised tax exemption on gains in a Roth account being honored in the future. Nor would I depend on any other current promise. Which is why I’m glad I have the option of keeping almost all my liquid capital outside the United States and not subject to US taxes until I repatriate it as income. It’s a real shame that the method by which I accomplish this legally is unavailable to most people.
Sure, I have a 401k at work and an IRA outside it…no sense wasting an opportunity for matching funds. But I make no assumptions about what the tax situation is going to be 11 years from now when the Social Security fraud is exposed so flagrantly that even the Democrats won’t be able to pretend the Trust Fund is real anymore.
Angry Dinosaur responds:
Posted: January 22nd, 2007 at 11:04 pm
Great article, Jim! For the record, when I start making over 2.3 mil per year, remind me not to complain about my tax rate..
Also interesting comments, especially from those suspicious of the value of the 401(k). I had not previously thought about the effect of increased tax rates.
» Weekly Blog Round-Up on Consumerism Commentary: A Personal Finance Blog responds:
Posted: January 28th, 2007 at 3:58 pm
[...] Blueprint for Financial Prosperity looks at historical federal tax brackets. [...]
Carnival of Personal Finance » Carnival of Personal Finance #85 responds:
Posted: January 29th, 2007 at 8:44 am
[...] Blueprint for Financial Prosperity with A Look at Historical Tax Brackets [...]
mapgirl responds:
Posted: January 29th, 2007 at 10:37 am
Jim, why has the date magically changed on this post?
jim says in reply:
Posted: January 29th, 2007 at 10:44 am
When I upgraded to Wordpress 2.1, I saw that my carriage returns (br’s) were being lost somehow. So, I put them back into this post and updated the date - well I found out the reason they were being lost was because of some hiccups with the Markdown plugin and so I disabled the plugin.
Madame X responds:
Posted: January 29th, 2007 at 10:49 am
I always find it interesting to note that some of the times when the top tax rate was the highest were also times of great economic prosperity. I’m not trying to say that high taxes on the wealthiest people leads to prosperity as a direct cause and effect– but they are not as incompatible with prosperity as some people would have you believe.
Mapgirl’s Fiscal Challenge / Carnival of Personal Finance #85 is Up! responds:
Posted: January 29th, 2007 at 10:57 am
[...] Jim at Blueprint for Financial Prosperity does the tax bracket review that someone asked me to do a few months ago. [...]
FatLady responds:
Posted: February 3rd, 2007 at 1:37 pm
Interesting thing about contributing to regular IRAs, 401Ks and 403Cs in the belief that your taxes will go down after you retire because your earnings will be less: They may NOT be less. If you’ve squirreled away enough in savings, taxes on the proceeds might even be more. For sure, I can’t afford to live on less than the State of Arizona is paying me now; to retire, I’ll need enough in savings to generate about what I earn now, less the $800 a month projected from Social Security. So my taxes would be the same.
But…when I die, whatever is left in those tax-deferred savings instruments will be hugely taxable for my estate. My son will inherit a small fraction of a lifetime’s worth of scrimping and scrounging. The only way we baby-boomers can help our kids stay in the middle class will be to pass assets to them. So if you’re an old bat like me and you’d like to pass financial security along to your hypereducated kids who are watching living-wage jobs disappear and expecting to spend their lives in low-paid dead-end jobs while taxes rise to orbital levels, you’re better off with Roth IRAs or even ordinary boring non-tax-deferred mutual funds, so that your estate will pass to the kids with the lowest possible tax gouge.
Chris responds:
Posted: February 14th, 2007 at 3:33 pm
I wish that link were updated with the 2001-2006 information. Heck, there’s a 10% bracket, and a 33% bracket now!
» Another Case for Tax Profile Diversification on Blueprint for Financial Prosperity responds:
Posted: February 27th, 2007 at 11:14 am
[...] experience because people have more money to spend, in the past when I took a look at the historical top marginal tax rate a few weeks ago. Well, yesterday Pat Regnier did the same in a piece called the Great Tax Hike in [...]
Neil responds:
Posted: May 4th, 2007 at 7:29 pm
Glad to see I’m not the only one perplexed by taxes, IRA’s, conversions, etc. I’m torn between converting my traditional IRA funds to Roth. At 55 does it make sense for me to convert now? I can pay the taxes with outside funds. Then there’s the question of the 0% tax on long term capital gains starting in 2008 for people in the 10 and 15% tax bracket. I was forced to retire early, I have enough savings to last till I’m 59 1/2 and start drawing from a large annuity but my cash savings does generate taxes. How much long term capital gains can I redeem tax free per year? The information online is so vague I don’t have a clue. All I’m certain of is one way or another I’ll end up paying more than my fair share.
John Early, Amarillo TX responds:
Posted: February 16th, 2008 at 11:33 pm
Thanks for the history on tax rates and brackets. Comparing this to economic growth proves interesting. From 1981 when Reagan cut taxes through 2007 GDP annualized growing 3.05% a year. The top marginal rate averaged 39.7% for this period. From 1947 to 1981 growth annualized 3.63% while the top tax rate averaged 80%.
An important difference between the high top tax rate, high growth period and the low top rate below average growth period is the tax bracket the top rate applied to. In the faster growth period the top bracket averaged 97 times per-capita GDP. In the recent slow growth period the top bracket has only averaged 7.2 times per-capita GDP. Today 97 times per-capita GDP would be, $4,446,700 vs. our top bracket of $357,701. IF you measure by economic vitality, the Reagan revolution looks like a dud to me. We probably would be better off with a higher top tax rate and a dramatically higher bracket.