National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
THE RELATIONSHIP
BETWEEN FEDERAL
STATE INDIVIDUAL
INCOME TAX
PROGRESSIVITY
AND
CHARLES E. SCOTT*
& ROBERT K. TRIEST**
Abstract - This study examines the extent
to which states modified the progressivity
of their individual income tax systems following federal tax changes in the 1980s.
Decreases in federal marginal tax rates
decreased the value of the deduction for
state income tax payments. This would
cause an increase in effective state tax
progressivity unless states modified their
income tax systems to offset this effect.
Using data from tax returns with adjusted
gross incomes between $6,000 and
$197,000, we find that there has been a
decrease in statutory state income tax
progressivity over this period. However,
when state tax payments net of the value
of the federal subsidy are analyzed, we
find a sharp increase in state tax progressivity between 1984 and 1989.
INTRODUCTION
The U.S. federal and state income tax systems are linked by the deductibility of state
income tax payments on the federal return
(for those who itemize deductions). The
value of the state tax payment deduction
l Loyola
College, Baltimore,
**UniversEy
MD 2 12 lo-2699
of California-Davts,
Daws, CA 95616-8578
95
on the federal return increases with income, since marginal tax rates and the
probability of Itemizing increase with income. This leads to a reduction in the rate
at which state tax payments, net of the
value of the federal tax subsidy, increase
with income. In this sense, the deductibility
of state income tax payments on the federal return results in a reduction in the effective degree of state tax progressivity.
Major changes have been made in the federal income tax structure since the 1980
election. There were substantial cuts in
federal marginal tax rates in both the Economic Recovery Tax Act of 1981 (ERTA)
and in the Tax Reform Act of 1986
(TRA86). Major deductions have been eliminated, personal exemptions and the standard deduction have been increased, and
the number of income tax brackets has decreased from 16 to four.’ Both the reduction in marginal tax rates and the decreased incentive to itemize serve to
decrease the reduction in effective state
progressivity due to the federal deduction
for state income tax payments.
One would expect state legislatures to take
this into account in setting the parameters
of their income tax systems. There is con-
National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
slderable indirect evidence of this in the
large number of states which have made
changes in their income tax systems as the
federal changes have taken place. The degree to which these states have been accounting for the net increase in the progressivity of thieir income taxes can be
investigated by exarnining the degree to
which states modified their tax systems in
such a ‘way as to counter the impact of
the federal changes.
States can respond to federal tax changes
by changing the level of revenue raised,
changing the shares of total revenue raised
by the available tax instruments, and by
changing the structule of the tax instruments used. Courant and Gramlich (1990)
summarize earlier research on how state
and loc,al governments respond to federal
tax reform. They show that the decreased
federal marginal rate*; and increased standard deduction resulting from TRA86 could
be expected to (1) decrease state and local
spending, (2) increase nondeductible state
and local taxes, (3) decrease deductible
state and locall taxes, and (4) decrease
s:ste and local sales taxes. Nondeductible
taxes became less expensive relative to deductible taxes when .federal marginal tax
rates and the likelihood of itemization fell.
Sales taxes went from being deductible to
nondeductible on fecleral returns. Overall,
the net cost to state taxpayers of raising
an additional dollar of state tax revenue increased, and state spending could be expected to fall.
Analyzing data through 1988, Courant and
Gramlich (1990) find little evtdence that
these predictions were borne out. State
and local spending rose rather than dec ined and nondeductible (by pre-TRA86
rules) taxes fell. Deductible personal taxes
and sales taxes first illcreased and then returned to roughly their previous levels.’
However, Metcalf (1993) presents empirical
evidence that estate income tax revenue as
a proportion of personal income does have
a statistically silgnificant response to
changes in its tax price, although
sales tax revenue as a proportion
sonal income does not.
state
of per-
States may also have responded to the
.federal tax changes by altering the structure of their individual tax systems. Gold
(1988) reports that a number of states
modified their income tax systems following TRA86 Unless there was an increase in
“inequality aversion,” states would be expected to restructure their tax systems in
order to prevent an increase in effective
progressivity as a result of ERTA and
TRA86. To the extent that the decreased
federal marginal tax rates make intrastate
redistribution more costly, states might
elect to decrease effective progressivity following ERlA and TRA86. Unless they increase the share of revenue being raised
by taxes less progressive than the income
tax to an extent sufficient to prevent an increase in clverall effective progressivity
(which does not appear to be the case),
we would expect states to decrease the
statutory (tn terms of actual state income
tax payments) progressivity of their income
taxes.
The relationship between federal and state
Individual Income tax progressivity during
the 1980s is the subject of this study. Using Internal Revenue Service Statistics of Income data and the state income tax tables,
the changes in both gross and net progressivity of states are analyzed for the years
1979, 1984, and 1989. We find that there
has been a decrease in state income tax
progressivity over this period when actual
state tax payments are analyzed. However,
when state tax payments net of the value
of the federal subsidy are analyzed, we
find a sharp increase iin state tax progressivity between 1984 and 1989. A possible
lnterpretatton of this finding is that states
have only partially adjusted their tax systems in response to the TRA86.
The next section of this article contains
discussion of the linkages between the faed-
I
National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
lNDlVlDUAL INCOME TAX PROGRESSIVITY
era1 and state personal income tax systems.
Our empirical methodology is then described, followed by a section presenting
estimates of the degree to which states
adjusted the progressivity of their individual
income tax systems following the federal
changes. The article concludes with a brief
summary and discussion of our results.
THE RELATIONSHIP
BETWEEN THE FED-
ERAL AND STATE PERSONAL INCOME
come tax systems, one can argue that it is
effective rather than actual state tax payments which are relevant. State legislatures
presumably consider the net rather than
gross cost of taxes to their constituents
when making tax policy decisions. A policymaker aiming to make effective tax rates
proportional to income would most likely
favor adoption of a progressive graduated
rate schedule due to the deductibility of
state income taxes on the federal return.
TAX SYSTEMS
The state and federal personal income tax
systems are linked both through the deductibility of state tax payments on federal
returns (and in some states, deductibility of
federal tax payments on state returns) and
through most states basing their income
tax systems on some aspect of the federal
tax. Many states use the federal definition
of adjusted gross income, while some base
their taxes on federal taxable income or
tax liability. The Advisory Commission on
Intergovernmental
Relations (1988) provides an analysis of the links between federal and state tax bases and documents
the effect of TRA86 on state tax revenue.
Our analysis instead focuses on the deductibility of state tax payments.
We define effective state tax payments as
the decrease in a tax filing unit’s disposable income due to the state personal income tax (taking the structure of the federal income tax as given and ignoring
behavioral effects). For nonitemizers, effective tax payments are identical to actual
state tax payments. For itemizers, however,
effective state tax payments are less than
actual state tax payments due to the deductibility of state taxes on the federal return. To calculate effective state tax payments, we first determine how much
higher the filing unit’s federal taxes would
have been if there were no deduction for
state taxes. This amount is then subtracted
from actual state tax payments.
In analyzing the progressivity of state in97
A more complicated issue is how the endogeneity of state tax progressivity affects
the overall progressivity of the combined
federal and state tax systems. Suppose
states act to maintain constant effective
progressivity following federal tax reforms.
Following a federal reform which lowers
marginal tax rates, states would then reduce the statutory progressivity of their tax
systems in order to maintain constant effective progressivity. This will result in upper income taxpayers generally having
smaller state income tax payment deductions on their federal returns. The progressivity of the federal income tax will increase as a result of the state changes,
although the overall level of combined federal and state tax progressivity may move
in either direction. Thus, ignoring the response of states to federal tax reforms
could bias calculations regarding the effects of such reforms on overall tax progressivity.
We use two different measures to examine
changes in tax progressivity. The first, introduced by Suits (1977), is based on a
comparison of the distributions of beforetax income and tax payments3 The second, introduced by Reynolds and Smolensky (1977), is based on a comparison of
the distributions of before-tax and after-tax
income. Technical definitions of the two
measures are provided in the appendix.
The Reynolds-Smolensky approach is part
of a tradition dating back to Dalton
(1936), which views the progressivity of a
National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
tax as synomymous with the reduction in
income inequality due to the tax. Their
measure is defined as the Gin1 coefficient
(a measure of income inequality) associated
with the before-tax distribution of income
rnlnus the Gini coefficient associated with
the after-tax distribution of income.4 Thus,
tax systems which reduce income inequality generate a positive value, while systems
which increase inequality generate a negative value.
The Suits measure is based on the relationship between cumulative distribution of
taxes paid and the cumulative distribution
of income. It is positive for progressive
taxes and negative for regressive taxes. The
Suits measure is unaffected if the share of
tax liability of every individual remains the
same but total tax revenue changes (Kakwani, 1984). In contrast, i.f we start with a
progressive tax system and increase the total revenue raised while keeping the tax tiability shares fixed, the Reynolds-Smolensky
measure will increase. The reason for this
is that after-tax income inequality decreases as tax Irevenue inc:reases. Although
the two measures may move in opposite
directions for general tax changes, they will
move in the same direction for tax reforms
which do not affect the amount of revenue raised (Formby, et al., 1990).
The Suits and Reynolds-Srnolensky measures capture different notions of progressivity. The Suits measure can take on a
large value for a tax which has little effect
on the distribution of after-tax income but
for which the average tax rate increases
steeply with income. The Reynolds.-Smolensky measure will always be small for a tax
system which has little effect on after-tax
income inequality but may take on a large
value for a tax systerr which raises a large
arnount of revenue and thus has the potential of having a large effect on the after-tax income distribution, even if the average tax rate irises with income relatively
slowly. Both colncepts of progressivity are
useful in analyzing actual taxes, as illustrated bY our empirical results.
EMPIRICAL METHODOLOGY
The primary data source for the empirical
analysis is the 1984 St’atistics of Income
(SOI) individual income tax file. This dataset
contains information from over 70,000 individual tar, returns. Since we are Interested in the effect of federal tax changes
on state progressivity over the 1979--1989
period, we imputed feideral and state tax
payments to each record for 1979, 1984,
and 1989. Due to the complexity of the
imputation procedure, we analyzed only
returns from married couples filing jointly
and single taxpayers. VVe also omitted returns from taxpayers living in Washington,
D.C., U.S. territories, and outside the
United States. Observations with adjusted
gross income (according to the 1989 definition) less than $6,000 were omitted from
the analysis, since only a nonrandom portion of those with low incomes file returns.
Observations with adjusted gross income
(AGI) greater than $197,000 were also
omitted, since state of residence was not
consistently reported for these observations.’ Truncating the sample in this way
will affect the particular values taken on by
the progressivity measures but should have
relatively little impact on changes in the
measures over time. After the sample selection restrictions are imposed, 41,469 observations remain. The 40 states with income taxes account for 33,632 of the
observations; the number of observations
per state ranges from ‘79 (Vermont) to
5,455 (California).
The distribution of real adjusted gross income was (assumed to be constant over
the period analyzed. This is clearly incorrect, although this assumption allows us to
separate changes in progressivity due to
shifts in the distribution of income from
changes due to tax reforms. For 1979 and
1989, the GNP deflator was used to convert the 1984 income and deduction fig-
I
National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
INDIVIDUAL INCOME TAX PROGRESSIVITY
TABLE 2
AGGREGATE TAX PROGRESSIVITYREYNOLDS-SMOLENSKY MEASURE (x 100)
TABLE 1
AGGREGATE TAX PROGRESSIVITYSUITS MEASURE
1979
Combined state and federal
Federal
State-actual
payments
State-effective
payments
Federal-including
high
income returns
1984
1989
0.19
0.20
0.16
0.05
0.17
0.18
0.13
0.03
0.17
0.19
0.12
0.06
0.24
0.20
0.20
ures to current dollars; regional variation in
inflation rates was not accounted for. The
federal and state tax tables were then used
to impute federal and state tax payments.
A more detailed description of our methodology is provided in the Appendix.
EMPIRICAL RESULTS
Table 1 displays results of calculation of
the Suits progressivity measure for (1) combined state and federal income taxes, (2)
the federal individual income tax, (3) actual
state tax payments, and (4) effective state
tax payments for 1979, 1984, and 1989.
In order to gauge the effect of omitting
high income returns from the sample, we
also report the value of the Suits index for
the federal income tax based on an expanded sample which includes the high income returns (as well as nonstate returns
and returns from the District of Columbia);
these calculations are reported in the “federal-including
high income returns” row.
The “actual state tax payments” row
shows the effect on state tax progressivity
of state rate and base changes but does
not reflect the changing value of the federal offset. The “effective state tax payments” row incorporates the combined effects of rate and base changes and
changes in the value of the deduction for
state tax payments on the federal return.
In interpreting the figures in this row, one
must remember that a filing unit’s effective
state tax payments are calculated by subtracting from state tax liability the decrease
in federal tax liability due to the deduction
99
Combined state and federal
Federal
State-actual
payments
State-effective
payments
Federal-including
high
income returns
1979
1984
1989
3.33
2.83
0.41
0.15
2.85
2.42
0.36
0.12
2.72
2.27
0.35
0.18
3.44
2.70
2.45
for state tax payments. Since the federal
deduction for state income tax payments is
deducted from both federal tax liability and
effective state tax liability, considering the
effective state tax payments row in conjunction with the federal income tax row
in some sense leads to “double counting”
of the federal deduction for state tax payments. It would be possible, for example,
for both federal tax progressivity and effective state tax progressivity to increase over
a period of time but for the progressivity
of the combined federal and state tax system to decrease over this same period. The
“combined state and federal” row is based
on actual (rather than effective) state and
federal tax payments and is not subject to
the double counting problem.
Table 2 is similar to Table 1 but contains
calculations for the Reynolds-Smolensky
measure rather than the Suits index. Some
of the information displayed in Tables 1
and 2 is presented in a less abstract form
in Table A.1 in the Appendix, where average state and federal income tax rates by
pretax income decile are reported.
When returns with AGI over $197,000 are
omitted from the sample, the Suits measure indicates that federal individual income tax progressivity decreased from
1979 to 1984 (reflecting the impact of the
Economic Recovery Tax Act of 1981) and
then increased slightly between 1984 and
1989 (reflecting the impact of the Tax Reform Act of 1986). When returns with AGI
over $197,000 are included in the calculations, the Suits index shows a much larger
National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
drop in progressivity between 1979 and
1984 and no {change in progressivity between 1984 and 1989. In interpreting the
results for federal tax progressivity, one
should keep in mind that our calculations
do not incorporate the Social Security payroll tax which increased substantially during
the 1980s.
The Suits measure for actual state income
tax payments decreases by roughl’y the
same magnitude as the measure for federal tax payments from 1979 to 1984.
However, unlike the federal case, progressivity of state tax payments decreases
slightly between 1984 and 1989. Effective
state tax payments became less progressive
between 1979 and 1984, but their progressivity increased sharply between 1984
and 1989. Note that,, over time, the measures of statutory and effective state progressivity converge due to the decreasing
value of the federal subsidy.
The Reynolds-Smolensky measure produces
a pattern for federal income tax progressivity that differs somewhat from that generated by the Suits measure. Like the Suits
measure, the Reynolds-Smolensky measure
indicates a decline in federal tax progressivity from 1979 to 1984. However, according to the Reynolds-Smolensky measure,
the federal inc:ome tax was less progressive
in 1989 than it was In 1984 while the
Suits measure indicates that it was more
progressive. The decrease in federal progressivity is especially strong when the
sample includes the returns with AGI over
$197,000. The reason for the difference in
the patterns produced by the Suits and
Reynolds-Smolensky rneasures becomes
clear when one recalls the different aspects
of progressivity that the two measures are
capturing. The decrease in the ReynoldsSmolensky measure from 1984 to 1989 reflects a decrease in the reduction in income inequality due to the federal income
tax. The Suits measure increases (in the
subsample omitting the high income returns) olver the same period, since the
share of taxes paid by upper income taxpayers’ increased. These two observations
are consistent wrth each other as long as
total federal tax payments declined during
this period. In fact, our simulated total
(within our subsample omitting the high
Income returns) real federal tax payments
are approximately 9 percent lower for
1989 than they are for 1984 and approximately 15 percent lower than in 19’79.
Statutory state tax progressivity declines by
a smaller proportion using the ReynoldsSmolensky measure than using the Suits
measure. Again, the explanation seems to
be a change in the level of tax revenue
Our simulated total state tax revenue is approximately 10 percent higher for 1989
than it is for 1979. The higher level of
state tax revenue leads to potentially
greater inequality reduction due 1.0 the tax.
The Suits rneasure shows a much higher
level of state relative to federal tax progressivity than does the Reynolds-Smolensky measure. The low value of the Reynolds-Smolensky measure for state income
taxes reflects the fact that they raise considerably less revenue per capita than does
the federal income tax. The Suits measure
indicates that taxpayers with relatrvely high
Incomes pay a smaller share of total revenue under the state systems than under
the federal .6 However, even if the Suits
measure was the same for the federal and
state systems, the Reynolds-Smolensky
measure would be lower for the state
taxes than for the federal due to the lower
level of revenue raised by the state systerns.
By using the 1984 dstribution of pretax income in our progressivity calculations, we
are able to isolate changes in progressivity
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National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
INDIVIDUAL INCOME TAX PROGRESSIVITY
TABLE 3
AGGREGATE TAX PROGRESSIVITYSUITS MEASURE
(RETURNS WITH CAPITAL GAINS EXCLUDED)
Combined state and federal
Federal
State-actual
payments
State-effective
payments
1979
1984
1989
0.19
0.20
0.16
0.07
0.16
0.17
0.12
0.04
0.16
0.17
0.11
0.06
in the late 1960s and continued through
the 1980s (Burtless, 1990). Nominal interest rates were at very high levels early in
the 1980s and then declined as the rate of
inflation fell. This may have led to atypical
changes in the level of interest income and
interest payment deductions during the decade. Similarly, the large increase in equity
prices led to an increase in accrued capital
gains and probably an increase in their realizations. To the extent that these changes
in the composition and size distribution of
income were independent of tax changes,
it is appropriate to control for them in
measuring changes in progressivity.
However, at least some of the changes in
the pretax income distribution are likely to
have been induced by changes in the tax
code. Capital gains realizations are often
singled out as being particularly responsive
to changes in the rate at which they are
taxed and were subject to greater changes
in their effective tax rate than were other
forms of income during the 1980s. Capital
gains are also potentially quite important in
the progressivity calculations, since the removal of the preferential treatment of capital gains in the 1986 Act tended to cause
a disproportionate
increase in the taxable
income of upper income taxpayers.
The results of a fairly crude attempt at
gauging the sensitivity of our progressivity
estimates to the treatment of capital gains
are reported in Tables 3 and 4. These are
identical to Tables 1 and 2 but with tax returns which report capital gains realizations
excluded from the calculations. The progressivity estimates for 1979 vary remarka101
TABLE 4
AGGREGATE TAX PROGRESSIVITYREYNOLDS-SMOLENSKY MEASURE (x 100)
(RETURNS WITH CAPITAL GAINS EXCLUDED)
Combined state and federal
Federal
State-actual
payments
State-effective
payments
1979
1984
1989
3.10
2.63
0.39
0.17
2.59
2.19
0.34
0.12
2.28
1.88
0.32
0.17
bly little depending on whether or not returns with capital gains are included in the
analysis.
Not surprisingly, inferences regarding the
effect of the TRA86 on progressivity vary
somewhat depending on whether the calculations include the returns with capital
gains. For the subsample omitting the high
income returns, the Suits measure for the
federal income tax measure does not
change from 1984 to 1989 when returns
with capital gains are excluded (Table 3);
when these returns are included (Table l),
it increases. The Reynolds-Smolensky measure decreases by a greater amount between 1984 and 1989 when returns with
gains are excluded than when those returns are included. Considering all of the
evidence provided in Tables l-4, one
would conclude that the TRA86 had little
effect on the Suits index for the federal individual income tax but that the Act resulted in a substantial drop in the value of
the Reynolds-Smolensky progressivity measure.
Statutory state tax progressivity decreased
slightly between 1984 and 1989 according
to both measures regardless of whether returns with capital gains are excluded or included in the calculations. Similarly, both
the Suits and Reynolds-Smolensky measures show an increase in effective state
tax progressivrty between 1984 and 1989
both with and without capital gains included in the calculations. These findings
do not appear to be at all sensitive to
whether returns with capital gains are included in the calculations.
National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
Table 5 shows the statutory and effective
Suits progressivity measures broken down
by states. As with the national measures,
one must bear in mind that the calculations are basecl only on returns with AGI
between $6,000 and $197,000. Results are
only shown for states with at least 1,000
observations due to possible unreliability of
the progressivity calculations for states with
small numbers of observations. Table 6 is
similar but presents results for the Reynolds-Smolensky measure. These tables are
based on calculations using all tax returns
for each state, including those with capita
gilins.
There is considerable variation in the progressivity of state income tax systems.
Some states whrch have income tax systems which are progressive in statutory
terms are actually regressive in effective
terms.
We expected to find a decrease in the variance of statutory progressivity across states
over timle as states adjusted their tax systems in iresponse to the federal changes.
This occurs to some degree, although not
to the extent we expected. The standard
deviation of the Suits measure of statutory
progressrvity over the nine states shown
decreases from 0.09 in 1979 to 0.07 in
1989; the standard deviation of the Reynolds-Smolensky measure decreases from
0.0041 in 1979 to 0.0030 in 1989. One
reason for the relatively low degree of convergence is that, as noted above, states
have not fully adjusted their tax systems in
response to the federal changes.
Our results are generally consistent with
the findings of Feenberg and Rosen (1985),
who study the change in the structure of
state tax systems between 1977 and 1983.
Although Feenberg and Rosen do not calculate summary measures of tax progressivity, they do construct an annual series of
elasticities of state incolme tax liability with
respect to income for each state. On average (over states), this elasticity declines between 1977 and 1983. This is consistent
with our finding of dec:reased state income
tax progrersivity between 1979 and 1984.
Since performing the research described in
this paper, we have become aware of two
related studies which measure changes in
state income tax progressivity following
passage of the TRA86. Berliant and Strauss
(1993) analyze changes in the progressivity
of state and federal income tax systems
between 1985 and 1987. They conclude
that state Income tax systems generally became less progressive between these 2
years. It is difficult to compare their results
with ours, since they do not hold the distribution of pretax income constant in
measuring the changes in tax progressivity.
There are also differences between the
progressivity measures we employ and
TABLE 5
STATE TAX PROGRESSIVITY-SUITS
STATE
(Observations)
-California (5455)
Illinois (1997)
Massachusetts (1 167)
Michigan (1519)
New Jersey (1687)
New York (3250)
Ohio (1716)
Pennsylvania (1981)
Virginia (1052)
Mean (unweighted)
Standard deviation
1979
MEASURE
1984
1989
Statutory
Effective
Statutory
Effective
0.22
0.05
0.06
0.06
0.07
0.24
0.24
0.01
0.11
0.12
-0.06
-0.05
-0.04
-0.05
0.13
0.14
-0.09
0.00
0.27
0.03
0.04
0.04
0.10
0.20
0.21
0.00
0.08
0.18
-0.06
-0.06
-0.05
-0.01
0.11
0.13
-0.08
-0.02
0.23
0.02
0.04
0.05
0.10
0.12
0.19
0.01
0.08
0.18
-0.03
--0.03
-0.01
0.03
0.05
0.14
-0.05
0.01
0.12
0.09
0.01
0.09
0.11
0.09
0.02
0.09
a.09
0.07
0.03
0.07
!itatutory
Effective
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National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
INDIVIDUAL INCOME TAX PROGRESSIVIW
TABLE 6
STATE TAX PROGRESSIVITY-REYNOLDS-SMOLENSKY
STATE
(Observations)
1979
Statutorv
MEASURE (x 100)
1984
Effective
Statutorv
1989
Effective
Statutorv
Effective
California (5455)
Illinois (1997)
Massachusetts (1167)
Michigan (1519)
New Jersey (1687)
New York (3250)
Ohio (1716)
Pennsylvania (1981)
Virginia (1052)
1.08
0.09
0.26
0.22
0.12
1.20
0.30
0.01
0.39
0.56
-0.07
-0.10
-0.06
-0.04
0.54
0.15
-0.13
0.08
0.70
0.07
0.20
0.17
0.15
1.24
0.60
0.00
0.29
0.38
-0.09
-0.14
-0.12
-0.01
0.59
0.31
-0.14
0.01
1.04
0.06
0.17
0.19
0.17
0.52
0.53
0.01
0.34
0.71
-0.05
-0.06
-0.00
0.05
0.22
0.34
-0.07
0.10
Mean (unweighted)
Standard deviation
0.41
0.41
0.10
0.25
0.38
0.38
0.09
0.25
0.34
0.30
0.14
0.24
those used by Berliant and Strauss. However, their finding of decreased state tax
progressivity between 1985 and 1987
seems roughly consistent with our catculations showing a decrease in statutory state
income tax progressivity (measured in
terms of actual rather than effective payments) between 1984 and 1989.
the Consumer Expenditure Survey (Metcalf
uses roughly 1,600 per year) compared to
the Statistics of Income data (we use over
41,000 observations). Still, the difference in
findings is very disturbing and deserves further attention.
Metcalf (1992) measures changes in state
income tax progressivity between 1984
and 1989 using data from the Consumer
Expenditure Survey. He presents calculations of the Suits index of state income tax
progressivity which are conceptually similar
to our Suits index estimates of effective
state tax progressivity, although his calculations do not hold the pretax distribution of
income fixed. Metcalf finds that effective
state income tax progressivity decreased
between 1984 and 1989, while we find
that it increased. One possible reason for
this difference is that Metcalf is using survey data in which sample members report
the value of their state tax payments. This
is likely to lead to a large degree of measurement error in state income tax liability.
While this would not necessarily bias Metcalf’s calculations in the direction of finding decreased effective tax progressivity, it
would introduce a large amount of
“noise” into the calculations. The noise
problem would be exacerbated by the
much smaller number of observations in
We find that states did adjust the statutory
progressivity of their income tax systems
following the federal tax changes in the
198Os, but that they did not do so to the
point where effective tax progressivity was
unaffected by the federal changes. There
are a number of possible explanations for
the incomplete nature of the adjustment.
First, we should note that state tax progressivity is likely to be influenced by a variety of factors, such as the pretax distribution of income and the strength of political
interest groups, which we are not controlling for. Some of the increase in effective
state tax progressivity may be a deliberate
reaction to the increase in the inequality of
pretax income which occurred during this
period. Further research is needed to determine the effect of such changes.
103
Conclusions
Even if all factors other than the federal
tax structure which affect progressivity had
not changed, we might still not expect to
see a complete adjustment on the part of
the states. State legislators may not fully
recognize the impact of federal reforms on
National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
the effective progressrvity of their tax systems. Alternatively, the politicians may be
constrained by an electorate which does
not fully understand the relationship. Another possibility is that the adjustment process is still underway. If this is true, then
states will continue to reduce their statutory progressivity in the near future.
soclatlon Corference
session, three anonymous
and the edltor for helpful comments
referees,
on earlier versions of
this paper
’ AddItIonal
br‘jckets are lmpllcltly created by the phaseout
of personal Ie<emptlons and certain Itemized deductlons
’ The changes *re actually restduals from regressions (using
data from 1960- 1986) of spending
gories of taxes on a constant,
and the various cate-
grants and previously unallo-
cated balances, Income less federal wlthdrawals,
Our analysis illustrates the need for jointly
analyzing the state and federal tax systems
when analyzing the effect of federal tax
reform on progressivity. Since statutory and
effective state tax progressivity moved in
opposite directlions during the 198Os, a
reasonable conclusion is that the federal
tax reform was at least partly responsible
for the reduction in state statutory tax progressivity.
and a
gross price deflator
’ A closely related measure was developed
Khetan and P,ddar (1976)
Independently
!3oth the Suits and Reynolds-Smolensky
prl3gresslvity measures were very useful in
analyzing changes in tax progressivity. This
suggests that discussion of the correct way
to measure progressivity may be mlsguided. Indices which equate progressivity
with reductions In after-tax income inequality, such as the Reynolds-Smolensky
measure, convey very different information
than that contained In indices based on
how the relative tax burden varies with income, such as the Suits measure. The two
approaches to progressivity measurement
complement each other and are both necessary for describing distributional aspects
of tax systems.
duced a measure based on a IcomparIson of the before-tax
and tax payment dlstrlbutlons
Kiefer (1984) surveys pro
gressivity measures
4 Reynolds and Smolensky actually define their measure as
the after-tax
Gent minus the before-tax
GInI 1 heir measure
IS negative for tax systems which reduce Ineqilallty
We wish TV thank Steve Shefinn, participants at the NBER
1991 Summer lnstltute and a 1990 Western Fconomlc As-
and
posltlve for those which Increase tt Other measures based
on a comparison
of the before-tax
and after-lax
Glni coefprogres-
and the measure used by Pechman and Okner
sm”
(1974)
’ The state of rc>sldence was noi reported
greater than 4~200,000
$107.000
If 1984 AGI was
Some returns with ACII between
and $200,000
accordtng
had AGI ovel $200,000
to the 1989 definition
accorcling to the 1984 definition
and had to be dropped
6 Table A 1 In the Appendix
general, however,
Indicates that this
IS
true
In
the Suits measure IS sensltlve to tax
shares across the enttre Income dlstrlbutlon
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Advisory
Commission
S/gn/fmnt
Features of f/sea/ Federahsm
on Intergovernmental
Relations.
Washington,
D.C
Gove1 nment Pnntlng Office, various years
--.
“The Ta< Reform Act of 1986-Its
Effect on Both
Federal and Stat11 Income Tax Llabllitles ” Staff Information
Report H-8,
Berliant,
1988
Marcus
C. and Robert
Federa Tax Equity
P. Strauss.
“State and
Estimates Before and After the Tax Re-
form Act of 1986 ” Journal of Pohcy Analyss and Management 12 (WlntEr
Burtless,
Gary.
1993)
9-43
‘Introduction
and Summary ” In 4 Future of
Lousy Jobs, edited by Gary Burtless WashIngton,
Brooklngs Institution,
Courant,
DC :
1990
Paul N. and Edward
M. Gramlich.
“The Impact
of the Tax Reform Act of 1986 on State and Local Fiscal Behavior ” In Do i,lxes Matter7
The impact of the T,?x Reform
Act ol 1986, eclied by Joel Slemrod
Cambridge
MIT Press,
1990
Dalton,
EN0NOTES
by
Kakwanl (1977) also Intro-
flclents includll Musgrave and Thin’s “effective
Our analysis has considered only personal
ini:ome taxes. However, as discussed earlier, in addition to inducing changes in the
statutory progressivity of state income tax
systems, federal tax changes rnay also induce changes iin the relative use of different tax instruments by state governments.
One must consider the possibility of this in
examining the effect of federal tax reforms
on the overall level of state tax progressivity.
for
taxpayers with high adlusted gross Income
don
Hugh.
F’nnaples of Pub//c Fmance, 9th t-dltlon
Lon-
George RoLltledge and Sons, 1936
Feenberg, Daniel R. and Harvey 5. Rosen. “State Personal
Income and Sales Tax Systems, 1977--1983 ” In Studjes m
IO4
I
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Vol. 46, no. 2, (June, 1993), pp. 95-108
INDIVIDUAL INCOME TAX PROGRESSIVITY
State and Local Pub//c Anance, edited by Harvey Rosen Chrcage. Unrversrty of Chrcago Press, 1985
Formby,
John P., W. James Smith,
and Paul D. Thistle.
“The Average Tax Burden and the Welfare lmplrcatrons
Global Tax Progressrvrty ” Pub//c Finance Quarterly
ary, 1990)
of
18 (Janu-
3-24
Gold, Steven
D. “A Review of Recent State Tax Reform Ac-
trvity.” In The Unfimshed Agenda
for State Tax Reform, ed-
ited by Steven D Gold WashIngton.
ence of State Legislatures,
Kakwani,
Nanak
International
DC
National Confer-
1988
C. “Measurement
Comparison
of Tax Progressrvrty
An
” The Econom/c Journal 87 (March,
1977). 71-80
“On the Measurement
-.
distnbutrve
of Tax Progressrvrty and Re-
Effect of Taxes wrth Applrcatrons
to Honzontal
and Vertrcal Equity ” In Advances In Econometrics,
R. L Basmann and G F Rhodes Greenwrch,
Khetan,
C. P. and 5. P. Poddar.
“Measurement
rience.”
of Income
The Canadian
Canadian Journal of Econom/cs 9 (November,
Expe1976)
613-29
Kiefer,
Donald
W. “Drstnbutronal
Tax Progressrvrty Indexes ”
NatIonal Tax Journal 37 (September,
Metcalf,
Gilbert
1983)
4977513
E. “Tax Exportrng, Federal Deductlbllrty,
and State Tax Structure ” Journal of PO/KY Analysfs and Management
12 (Winter,
1993). 109-126.
“The Lifetime Incidence of State and Local Taxes
-.
Measunng
Changes During the 1980s ” In Tax Progress/wty
and income lnequallty,
Cambridge
1948)
Cambridge
Universrty Press, forthcomrng
Musgrave,
1929-48
edited by Joel Slemrod
R.A. and T. Thin. “Income
” Journal of Polka/
Tax Progression,
Economy 56 (December
498-514
Pechman,
Joseph
the Tax Burden
A. and Benjamin
Washington,
A. Okner.
Who Bears
D C : Brookrngs Institution,
1980.
Reynolds,
tnbutions
Morgan
and Eugene
Smolensky.
“Post
FISC
DIS-
of Income in 1950, 1961, and 1970 ” Pub//c h-
nance Quarterly 5 (October
Suits, Daniel
1977)
6. “Measurement
419-38.
of Tax Progressrvrty ”
can Economic Review 67 (September,
APPENDIX: TAX IMPUTATION
MEASURE CALCULATIONS
Due to the complexrty of the lmputatron procedure,
we analyzed only returns from married couples frlrng
jorntly and single taxpayers. We also omitted returns
from taxpayers living In Washington, D.C , U 5 terntories, and outside the United States. Observations
with AGI less than $6,000 were omitted from the
analysis, since only a nonrandom portion of those
with low incomes file returns. Observattons with AGI
(by the 1989 defrnrtron) greater than $197,000 were
also omitted, since state of residence was not consistently reported for these observations.
edited by
CT JAI Press,
1984, vol. 3, pp 149-68
Tax Progressron In a Growrng Economy
and deduction amounts were adjusted for rnflatron
using the GNP deflator In calculatrng tax payments
for 1979 and 1989
1977). 747-52
PROGRESSIVITY
The source of the income and deductions distribution rnformation was the 1984 Statistics of Income
Individual Tax Returns data set. This data set contains most of the information from a sample of over
70,000 federal individual income tax returns (form
1040, 1040A, or 1040EZ, and accompanyrng schedules). We used this data to impute both federal and
state income tax payments for each filing unit in the
sample (after applying selection criteria described
subsequently) for 1979, 1984, and 1989. All Income
105
In imputing federal tax payments, we allowed for
changes In the values of personal exemptions, the
standard deduction, the earned Income tax credit,
the tax treatment of socral security benefits, the tax
treatment of capital gains realizations, the tax treatment of unemployment benefits, and tax rates and
bracket Irmrts. We also allowed for changes In the
following deductrons followrng TRA86: sales taxes,
consumer Interest payments, medical and dental expenses, employee business expenses, movrng expenses, and charitable contnbutrons by nonitemizers.
Due to lack of information on potential deductions,
we assumed that frlrng units taking the standard deduction In 1984 also did not Itemize In 1979 and
1989. Although the percentage of returns with
Itemized deductions increased In the early 1980s.
this was probably due to a shift in the distnbutron
of income. We did allow for the possrbilrty that
1984 Itemizers might have switched to takrng the
standard deduction In 1989. Since most of the components of itemized deductions are available for
itemizers In the SO1 file, we were able to compute
their potential itemized deductions in 1979 and
1989 and then impute their Itemization status This
is important since the TRA86 made itemization less
desirable In 1989 than it had been in 1984. In order
to utrlrze a consistent methodology for calculatrng
taxes for all three years, imputed rather than actual
tax payments for 1984 were used In our progressrvity calculations.
The Suits measure for federal Income taxes In 1984
IS 0 165 using imputed taxes and 0.161 using actual
tax payments. The Reynolds-Smolensky measure IS
0.0220 using Imputed taxes and 0.0178 using actual taxes. Thus, our imputation procedure seems to
be somewhat biased toward overstating progressrvlty.
In rmputrng state tax payments, we allowed for
National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
ctlanges In personal exemptions and standard deduction amounts (which take the form of credits In
some states), changes In rates and bracket limits,
and changes in thie tax treatment of social security
benefits, unemployment benefits, and capital gains
reallzatlons We also allowed for possible differences
from the federal tax treatment of the followmg deductions’ medical expenses, stale and local taxes,
federal Income taxes, real estate taxes, sales taxes,
personal property taxes, mortgage interest payments, consumer Interest r)ayments, charitable contrlbutlons, and casualty losses. IDue to data limitatlons, we assumecl that tax:payers taking the
st<lndard deductioil on their 1984 federal return did
not Itemize deductions on their state return In any
year. However, we allowed for the possrblllty that
1984 federal Itemizers did not Itemize on therr state
reiurn. The Advisory Commission on Intergovernmental Relations’ 5gmfmrrt Features of Fwal Federd//im series was the primary source of Information
regarding state tax systems
Strlce both the Sutts and Reynolds-Smolensky progressivlty measures require knowledge of the dtstnbution of income, we used the sample weights
avarlable in the SO1 file to construct an empirical cumulative dlstributlon function. We assumed the relattve sample weights were not aftected by the sample selection procedures; for the within-state
measures, we assumed that the relative weights for
obc;ervatlons wlthln each state were valtd Adjusted
gross Income according to the post-l 986 defmltion,
Includtng the full value of capital gains realizations,
was used as the measure of before-tax income In all
of the progressivlty calculations.
Average state and federal tax rates by pretax Income decile are presented In Table A.l. Each tax
rate reported is the mean (weighted using the sample weights) of the #average (rather than marginal)
tax rate paid by taxpayers wlthln an income decile.
The Income deciles were determined using the emplncal cumulative distribution function.
For each within-state progresstvlty measure, we first
sor:ed the observations for that state by pretax Income In ascending order. We then divided each observation’s sample weight by the sum of the sample
vvelghts for that state The sum of the transformed
sample weights over the first n observations is then
an estimate of the cumulative distribution function
for pretax Income in that state evaluated at the Income of the nth observation.
The Reynolds and Smolensky measure IS the dlfference between the pretax and after-tax Glnr coeffl-
E(x) was approxlrnated by the weighted (using the
transformed sample weights) mean of the sample
income observations. The incomplete mean,
$x f(x) c/x, was calculated for each observation by
sumrning income (x) times the transformed sample
weight (f(x)) over all observations with income less
than or equal to that observation’s Income (x). JTF,
(x) f(x) dx was similarly calculated by taking a
weighted (using the transformed sample weights)
sum of the incomplete means for all observations
Like the Reynolds-Smolensky measure, the Suits
measure is defined in terms of a Lorenz-type curve,
but one which maps the relationship between the
cumulative percentage of taxes paid (vertical axls)
and the cumulative percentage of Income (horizontal axis); this Lorenz-type curve IS often referred to
the concentratbon curve of taxes with respect to irlcome (the Lorenz curve is the concentration curve of
Income). The Suits measure IS equal to one minus
the ratio of the area under tile tax conceniratlon
curve to the area under the 45 degree line. Thus,
the Suits measure IS analogolJs to the Gint coefficient. The Suits measure is positive for progressive
taxes (those where the concentration curve of taxes
with respect to Income is concave from earlier) and
negative for regresstve taxes.
Mean state
(effective payments)
average tax rate (percent)
Mean state
(actual payments)
average tax rate (percent)
Mean federal average
tax rate (percent)
1979
1984
1989
1979
1984
1989
1979
1984
1989
1989
1984
federal
(percent) average tax rate
in
1979
pretax income
Maximum pretax income in
decile
Mean combined state and
Minimum
decile
1.1
1.4
1.5
1.1
1.4
1.6
2.6
4.0
3.0
4.5
5.4
3.7
8,681
First
Decile
6,003
1.4
1.6
1.8
1.4
1.6
1.8
5.0
5.9
5.0
6.8
7.6
6.4
11,530
Second
Decile
8,683
1.6
1.8
2.0
1.6
1.9
2.0
7.1
7.4
6.7
8.8
9.3
8.8
14,686
Third
Decile
11,530
1.8
2.0
2.2
1.9
2.1
2.3
8.6
8.4
7.8
10.6
10.0
10.4
18,220
Fourth
Decile
14,690
2.0
2.2
2.4
2.1
2.3
2.5
9.9
9.5
8.7
11.8
11.1
12.0
22,270
Fifth
Decile
18,220
2.2
2.3
2.6
2.4
2.6
2.7
11.2
10.5
9.8
13.1
12.5
13.6
26,847
Sixth
Decile
22,270
TABLE A.1
AVERAGE TAX RATES BY DECILE OF PRETAX INCOME
2.3
2.4
2.7
2.6
2.8
3.0
12.2
11.3
10.3
14.1
13.3
14.8
32,208
Seventh
Decile
26,849
2.3
2.3
2.8
2.8
2.9
3.1
13.2
12.2
10.8
13.8
15.1
16.0
39,220
Eighth
Decile
32,209
2.4
2.3
2.8
3.2
3.2
3.4
14.6
13.6
12.2
15.6
16.8
17.9
50,562
Ninth
Decile
39,221
2.3
2.3
2.8
3.6
3.5
3.7
18.6
17.2
15.9
20.7
19.7
22.3
196,678
-Tenth
Decile
50,564
z
2
2
z1
R
s
z
2
P
n
National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
National Tax Journal
Vol. 46, no. 2, (June, 1993), pp. 95-108
Algebraically, the ‘Suits measure IS equal to
As with the Gin! coefficient calculations, discrete analogues to the Integrals were used. E(g(x)) was approximated for each state by the weighted (by the
transformed
Jo
where x IS income, g(x) Is equal to tax payments,
f(e) is the probablillty density function of Income,
and F,(g(x)) is defined as
x
WY(X))= J,E(g(x))I o g(x) f(x) dx
sample weights) mean of imputed tax
payments f&(x)) was calculated for each observation by summIng tax payments (g(x)) times the
transformed
sample weight (f(x)) over all observa-
tions with income less than or equal to that observatlon’s Income (x). JTF,(g(x)) dF,(x) was calculated
by summing F,(g(x)) times the product of Income (x)
and the transformed sample weight (f(x)) divided by
E(x) over all observations.