The Effect of Marginal Tax Rates on Taxable Income: A Panel Study of the1986 Tax Reform Act

Martin S. Feldstein

143 citations0/0 files storedNational Bureau of Economic Research

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Economic and Fiscal Studies Taxation and Compliance Studies Fiscal Policy and Economic Growth

Abstract

This paper reports new estimates of the sensitivity of taxable income to changes in tax rates based on a comparison of the tax returns of the same individual taxpayers before and after the 1986 tax reform.This comparison is done by using a panel of more than 4000 individual tax returns created by the Treasury that matches tax returns for the same taxpayers in different years.The analysis emphasizes that the response of taxable income is much more general than the response of traditional measures of labor supply and is likely to be much more sensitive to tax rates.The evidence shows a substantial response of taxable income to changes in marginal tax rates.The diflerences-of-differences calculations imply an elasticity of taxable income with respect to the marginal net-of-tax rate that is at least one and could be substantially higher.There is a brief discussion and simulation analysis of the implications of these estimates for the likely impact of the 1993 tax rate incrçases on tax revenues.Even the lowest estimated elasticity implIes that the tax rate changes enacted in 1993 will lead to little additional personal income tax revenue.

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References

1987The Sensitivity of an Empirical Model of Married Women's Hours of Work to Economic and Statistical Assumptions 1990Assessing Empirical Approaches for Analyzing Taxes and Labor Supply 1994Tax Incentives and the Decision to Purchase Health Insurance: Evidence from the Self-Employed 1990The Effect of Income Taxation on Labor Supply in the United States 1983Taxes and Labor Supply 1976Tax incentives and charitable contributions in the United States 1995Taxation and Labor Supply of Married Women: The Tax Reform Act of 1986 as a Natural Experiment 1983Housing Subsidies: Effects on Housing Decisions, Efficiency, and Equity

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