I wonder if people realize how much tax they actually pay. A lot of the taxes we pay are carefully arranged so we don’t recognize their magnitude. For example, most people are thrilled to get a tax refund in April even though it was their money, all along – if we each had to write a single big income tax check each year, rather than have it automatically payroll-deducted, I suspect there would be more resistance to income taxation, but since we never see the money, we get used to not having the money, and we don’t miss the money. The few percent we pay in sales tax on individual purchases also seems like nothing, but when we add up all the purchases we make in a year, it becomes a sizeable chunk of our income.
I put together this study to highlight all of the insidious little taxes we pay in a year, and how they all add up. If I’ve forgotten any, please let me know!
Taxes change every year, so I’ve tried to find and use the 2012 rates. Many of the taxes we pay are progressive or are locale-specific, so for the purposes of this study, let’s assume an unmarried taxpayer living in Westchester County, NY, and for readability, we can call him “Joe.” According to Wikipedia, Joe’s 2010 median per capita income was $47,814, so to keep the math simple, we’ll just round up to $50,000, and away we go.
Like many of us, Joe has a W-2 job, wherein his employer withholds several taxes on the government’s behalf. The IRS employs a progressive income tax scale as follows:
Tax | On Taxable
Rate | Income Up To:
10% | $8,700
15% | $35,350
25% | $85,650
28% | $178,650
33% | $388,350
35% | Infinity
Not all of Joe’s income is taxable – the government allows most single filers to take a standard deduction of $5,950 and a personal exemption of $3,800 without any documentation or justification, and for many people, this is much easier (and more economical) than saving receipts and trying to account for every dollar and mile. So Joe pays 10% of the first $8,700 of his taxable income, which equals $870, plus 15% of the next $26,650, which equals $3,998, plus 25% of the remaining $4,900, which equals $1,225, for a total federal income tax of $6,093. Nominally, this is already more than one-ninth of his income. Incidentally, try to imagine how much of a disincentive it is to earn more than $388,350, when over one-third of it goes to pay just federal income tax.
The federal government also requires that Joe’s employer withhold a portion of Joe’s pay for Social Security and Medicare, and that they match his portion with payments of their own. For 2012, Joe’s employer withheld 1.45% of his pay ($725) for Medicare and company-matched that same percentage, and withheld 4.2% of his pay ($2,100) for Social Security and company-matched 6.2% ($3,100). Whereas the portions withheld are easily calculable and visible to Joe, the company-matched amounts are part of what the company believes Joe is worth, but he never sees that portion of what is effectively his total compensation package. To fairly account for those portions, we have to change the denominator – Joe’s income – so we must add the $725 and the $3,100 to Joe’s compensation of $50,000 to fairly calculate the percentage of tax he pays. Some might argue that Social Security and Medicare are insurance plans or retirement savings programs, so these withholdings are actually “premiums” or “contributions” rather than “taxes,” and that Joe may reap the benefits of these programs at a later time. However, from our perspective, all taxes are forced “contributions” to programs which Joe might or might not support, and in which he had no choice. There is no market competition and little-to-no opportunity for Joe to customize those programs for his specific insurance or retirement needs or concerns. He is simply compelled to pay what the government demands, and can only hope to reap some future return if he lives long enough and meets the ever-changing then-criteria.
The last of the federal taxes is Joe’s employer’s annual federal unemployment tax. They annually file an IRS form 940 to report and remit 0.6% of the first $7,000 they pay to each employee, which, in Joe’s case, is $42. This, like the company-matched Social Security and Medicare payments is part of Joe’s worth to the company, but is compensation he never sees, so we must add it to both the numerator and the denominator.
To recap, based on Joe’s effective total compensation of $53,867, so far, he has had withheld $6,093 of federal income tax, $725 for Medicare, and $2,100 for Social Security, and his employer has paid another $725 for Medicare, $3,100 for Social Security, and $42 for federal unemployment insurance. This makes $12,785 in withholdings, which already totals 24% of his total compensation, and so far, we’ve only considered federal taxes.
Next, the state wants a cut. Joe lives in New York, so he pays New York State income tax, too. It works by the same arrangement as the IRS – his employer withholds it from his paycheck before he ever sees it. Also similar to the IRS, NYS employs a progressive income tax scale as follows:
Tax | On Taxable
Rate | Income Up To:
4.0% | $8,000
4.50% | $11,000
5.25% | $13,000
5.90% | $20,000
6.85% | $200,000
7.85% | $500,000
8.97% | Infinity
Like the IRS, the State gives Joe a standard deduction of $7,500, but they don’t allow a personal exemption – only dependent exemptions, of which Joe has none. So Joe pays 4% of the first $8,000 of his taxable income, which equals $320, plus 4.5% of the next $3,000, which equals $135, plus 5.25% of the next $2,000, which equals $105, plus 5.9% of the next $7,000, which equals $413, plus 6.85% of the remaining $22,500, which equals $1,541, for a total state income tax of $2,514. Joe is lucky he doesn’t live in New York City or the City of Yonkers, as each of them have additional local income taxes – NYC would have billed him another ~$1,500. Until recently, there was even a tax on NYC suburbanites who were assumed to reap a benefit from NYC having subways and buses.
New York State also has its own mandatory unemployment insurance, which, like the federal unemployment insurance is completely employer-paid. So again, this is compensation Joe never sees, but it is part of the total compensation package his company pays on his behalf. To make this calculation more complicated, the rate is not the same across the board; new employers start at a rate of 4.025%, and then it fluctuates from 1.425% to 9.825%, depending on each employer’s track record of contributions paid in versus benefits paid out. On top of that, every company pays 0.075% to a Re-employment Service Fund, which is somehow helps get the unemployed re-employed, but I’m not clear how. For this study, let’s conservatively treat each company’s “tax” as the minimum 1.5%, regarding anything higher as owing to their own personnel mismanagement, although I acknowledge that may not be completely fair to the companies. Any of these figures are only based on the first $8,500 of each employee’s annual compensation, so in Joe’s case, this is another $128 to be added to his numerator and denominator.
Employers are also mandated to provide worker’s compensation and disability insurance to their employees. I can’t speak for all companies out there, but assuming mine are typical rates, worker’s compensation insurance costs my company $229 per employee, and disability insurance costs my company $60 per employee. Of that, we bill 60¢ per week back to our employees for their disability insurance, so they pay $31.20 (which we’ll regard as a tax), and the company pays $257.80, which we’ll add to both the numerator and the denominator.
To recap, Joe’s federal effective total compensation was $53,867, and he had $12,785 paid or withheld. Now he has had another $2,514 of NYS income tax withheld and pays $31.20 for disability insurance, and his employer has paid another $257.80 for worker’s compensation and disability insurances and $128 for NYS unemployment insurance. This makes $15,715 in taxes and withholdings out of his $54,252 effective total compensation, which totals 29%, leaving Joe with the remaining 71% of his pay, $38,537, for his life, liberty, and pursuit of happiness.
Where should he start? Well, obviously, Joe is going to need a place to live. For this study, let’s make Joe a homeowner. If he was a renter, although he wouldn’t pay property taxes directly, his landlord would build them into the calculation of his rent, so it would still be there as a cost, but obfuscated.
Westchester County’s median property tax is $9,003, but to be fair, there are probably more two-income home-owning families. At a mere $38.5K of net income, Joe would be hard-pressed to maintain and pay taxes, insurance, a mortgage, and utilities for a median house. While property tax is ad valorum, or based a percentage of property value, rather than based on income, that same source indicates that County tax averages 8.1% of income, which is a much more believable number. Municipalities also collect property taxes for the schools and services they provide, and the Journal News reported that the total combined median tax bill was $10,000 in 2011. Keeping the same ratio, let’s regard Joe’s combined property tax obligations as 9% of his income, or $4,500.
New York Newsday reported that the median sale price of a single-family house in Westchester slid to $505,500 last quarter, but again, since those are probably mostly purchased by two-income families, let’s cut that in half for Joe, imagining it to be a $252,750 co-op. You may be wondering, “Why do we care how much Joe’s home costs?” We don’t, specifically, but if he’s going to need to borrow money to buy it, mortgages are taxable. Assuming he’s going to borrow the typical 80% of the purchase price, his mortgage tax will be based on $202,200. In Westchester, outside of Yonkers, the mortgage tax is 1.3%, or $2,629. Technically, Joe pays 1.05% and his lender pays 0.25%, but since they’ll build this into his interest rate, points, or closing costs, we’ll regard it as effectively paid by Joe. The average person lives in a home for ~10 years, so we can allocate his mortgage tax as $263 per year.
To recap, Joe’s total effective compensation after mandated federal and state programs was $54,252, out of which he had $15,715 paid or withheld. His property tax is $4,500 per year, and the annualization of his mortgage tax comes to $263. This makes $20,478 in taxes and withholdings, which totals 38% of his income.
After his home, Joe’s next biggest expenses may be related to his vehicle. The IRS allows businesses five years of depreciation on a vehicle, so for our calculations let’s assume Joe keeps his cars each for five years. Each time he buys a car, he’ll pay the State $25 for plates (unless he transfers them), $50 for title, plus the appropriate sales tax on the vehicle. Most of Westchester (outside the cities) collects 7.375% sales tax, and on his salary, let’s just assume a $7,500 car. So adding the $25 and $50 fees to the $553 of sales tax costs Joe $628 in taxes and fees, or $126 per year, allocated over the five years he’ll own the car.
NYS charges a registration fee based on the weight of the vehicle, starting at a minimum of $32.50 every two years, and topping out at $140 for the heaviest vans and SUVs. We’ll estimate it at $50, or $25/year. On behalf of Westchester County, the NYS DMV also collects a vehicle “use tax” of $30-60 every two years, depending on vehicle weight, and a “Supplemental MCTD Fee” of $50 every two years. For our purposes, let’s average and add these to $120 every two years, or $60 per year, bringing his vehicle-related taxes and fees to $186 per year.
It’s a good thing Joe doesn’t live in NYC, because the NYC parking tax is a double-digit percentage of its high cost. Here in Westchester, he probably has an assigned parking space or some free on-street parking. Even so, Joe is up to $20,664 in taxes and government fees, which is 38% of his $54,252 effective compensation, leaving him a tad over $33,500 to spend as he sees fit.
Based on previous numbers, and assuming a 4% 30-year loan, his mortgage payments will probably cost him close to $1,000 per month, and his car payments at 0% financing will total $1,500 per year, leaving him just over $20,000.
He’s going to need a cell phone, so let’s go with Verizon’s typical $100 2GB plan. Verizon will pass on a bunch of surcharges, including a Federal Universal Service Charge, Regulatory Charge, Administrative Charge, and Gross Receipts Surcharge, and will collect various direct taxes and governmental surcharges and fees, including NY Public Safety Communication Surcharge, Westchester County 911 Surcharge, NYS sales tax, Westchester County sales tax, and NY Local McTd sales tax (whatever that is), which will collectively add about another $15 to the monthly bill, or $180 annually. This will leave him with $18,709, and he has paid $20,844 in taxes and fees.
Several providers have been competing to provide television, Internet, and VoIP phone service. If Joe goes with Optimum’s “Triple Play” package, he’ll pay $84.95 per month for the first year, plus $3.90 in TV taxes & fees, plus 50¢ for NY intrastate excise taxes for his VoIP line. This leaves Joe with $17,636, and he has paid $20,897 in taxes and fees.
Let’s assume a ~$100 monthly utility bill. The delivery portion will include ~$2.85 in System Benefits Charge/Renewable Portfolio Standard charges to fund NYS renewable energy, environmental, and other related public policy programs, ~$2.34 in temporary NY State Surcharge, and ~$1.73 in Gross Receipts Taxes and other tax surcharges. Sales tax will apply to both the supply and delivery portions, at 3%, which will account for $2.91 of the bill. Joe has remaining $16,436, and has paid $21,015 in taxes and fees.
If he drives a typical 10,000 miles at ~33 mpg (which may be a generous figure), he’ll go through about 300 gallons of gas. The NYS tax on gas is 25.8¢/gal plus 0.35¢/gal for petroleum test fee and spill fee, so he’ll have paid $78.45 in taxes there (for a total of $21,093), and at a total cost of ~$3.75/gal, he’ll have $15,311 of disposable income remaining.
Assuming ~$4,000 then goes to tax-exempt groceries, ~$1,000 goes to tax-exempt clothing, and ~$500 goes to tax-exempt prescriptions and medical co-payments, Joe will likely enjoy the last ~$9,800 of his pay on taxable meals, entertainment, household goods, cosmetics, etc., upon which he’ll likely pay the Westchester sales tax rate of 7.375%, which amounts to another $724 in tax. In total, he’ll have paid $21,816.54 in taxes and government-mandated fees & surcharges on an effective total compensation of $54,252.30, which amounts to over 40% of his income going to pay for government and government-mandated programs.
What have I left out? Bridge and highway tolls? Parking taxes and municipal parking? Airfare taxes, surcharges, and security fees? Municipal water & sewer? Vehicle inspections? Passport fees? Tire disposal fees? Traffic court surcharges? Small claims court fees? Building permits? The cost of the accountants and/or the opportunity cost of the time spent collecting receipts, researching new tax code, and preparing these numerous tax returns?
Joe is an end consumer of just about everything he buys, but how much tax did the producers of those goods pay, that contributes to the price Joe pays for those things? For instance, Joe pays sales tax on his movie tickets, but part of the cost of the movie tickets also pays for the theatre’s property and payroll taxes, and whatever required inspections and permits may be required to operate a commercial building. Part of the cost of his movie ticket goes to pay the talent’s and contractors’ payroll taxes, the sales tax on the props, and the property taxes on the soundstages, studios, and editing facilities. All of the intermediaries involved in making, editing, and bringing the movie to Joe also pay taxes on their business-related utilities and cell phones, and on the fuel for their vehicles, and the price of Joe’s ticket has to cover his share of that, too. All of these other entities also hire tax accountants and/or curtail their own productive efforts to prepare their own tax returns, and Joe pays a portion of that. Lastly, all of these entities also buy goods and services from other entities who set their prices in consideration of the taxes they have to pay. Ultimately, we probably need calculus to determine the true cost of all these taxes.
When we take all of this into consideration, it would appear that we are already living in a country where about half of our productive effort is appropriated by our government – effectively, we are slaves for half of the year.
When Libertarians talk about cutting taxes and cutting government, the first issue most opponents raise is “Who’s going to pave the roads?” Seeing as how we’re already paying for them anyway, surely roads could be privatized and operated competitively, using something like E-Z Pass to bill users for distance traveled. When government is asked to cut itself back, typically they try to make it painfully-visible to constituents by threatening to close fire houses or reduce trash pickups, but since we’re already paying for those things anyway, surely they could be privatized, too. Your home insurance carrier could demand a paid receipt from whatever competitive fire service you selected, and Consumer Reports could rate them on performance. You could choose whichever competitive waste disposal company you preferred, selecting your own pickup schedule, and deciding whether you wanted to sort your own trash or have them do it for you – heck, a creative company could even return your cans and bottles for you, to reduce your bill.
Taxpayers fear that they’d end up paying for things that they presently get for “free,” but that’s not exactly true – they’d be using money which is actually insidiously taken from them to pay for those “free” things, but they could be more selective and frugal in a competitive market. Based on the government costing us half of our productive effort, a country devoid of government would give us double our current effective income with which to provide these services for ourselves. Before people misread that and jump all over me, I’m not suggesting we strive to be an anarchist nation – I’m suggesting we head back in the direction of the minimal government our founding fathers gave us, and we stop looking to government to solve so many of our problems – they’re notoriously bad at it, and they crowd out the competition from giving us better choices.