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Should all Americans pay income tax?

Republican presidential hopeful Michele Bachmann has drawn attention to a notable fact about the tax system: many middle-income wage earners pay no income tax. Not because they are breaking the law— but because legally they are not required to pay.

When Rep. Michele Bachmann, R-Minn., said in Tuesday’s Republican presidential debate, “Every American benefits by this magnificent country. Absolutely every American should pay something, even if it's a dollar,” she got enthusiastic applause from the crowd in Las Vegas.

Her statement conflicted with what she'd said in a Sept. 22 debate in which she said, "You should get to keep every dollar that you earn. That's your money; that's not the government's money."

But in her comment Tuesday, Bachmann was pointing to a noteworthy fact about the current tax system: many middle-income wage earners pay no income tax. That’s not because they are breaking the law, it’s because legally they are not required to pay.

(This is a separate question from underpayment of taxes or taxes evaded on cash income that workers ought to report to the IRS, but don't.)

About 46 percent of American households will pay no federal income tax this year, according to a study published in July by the nonpartisan Tax Policy Center.

Provisions in the tax code, such as the personal exemption, the standard deduction, and various tax credits and preferences, such as the $1,000-per-child tax credit, have reduced millions of Americans' tax liability to zero.

For example, the Tax Policy Center’s estimate is that about 30 percent of all tax units with income of between $40,000 and $50,000 will not owe any income tax in 2011.

Growth in number of nonpayers
In 2009, according to nonpartisan Tax Foundation, 58.6 million tax returns had zero or negative income tax liability, which was nearly 42 percent of all tax returns.

Twenty years ago only 20 percent of all tax returns had zero or negative income tax liability.

Negative tax liability means the family gets a cash payment from the Treasury, even though they owed no income tax. Such payments come, for example, from the Earned Income Tax Credit, a break for low-income people which offsets the Social Security and Medicare payroll taxes they pay.

So what is there about the current design of the tax code that allows so many people to go tax-free?

Roberton Williams, a tax expert at the Tax Policy Foundation and a co-author of that July report, points out some of the increase in nonpayers is due to decisions that Congress and Presidents George W. Bush and Barack Obama made in response to the financial crisis and the recession.

Tax cuts as economic stimulus
In the Economic Stimulus Act of 2008, Bush and Congress decided to send more than $100 billion in income tax rebates to taxpayers, ($300 for single filers; $600 in the case of a joint return).

Obama’s 2009 stimulus bill included breaks such as the two-year Making Work Pay tax credit — up to $400 per single taxpayer and $800 for joint filers. That cost the Treasury $116 billion in revenue.

In fact nearly 40 percent of the $825 billion stimulus consisted of tax cuts or tax breaks.

But this was nothing new: for decades, Congress has been using the tax code to send income to specific favored groups of taxpayers in order to achieve certain social policy goals.

The child tax credit, which began in 1998, had been a major demand of social conservatives such as Ralph Reed and the once-powerful Christian Coalition. It’s designed to ease the tax burden on families raising young children.

The elderly are also big winners under the current code: 44 percent of the households made non-taxable by the current tax code have been moved off the tax rolls by breaks for older people, such as the extra standard deduction for people over age 65, which took effect in 1987.

But as the Tax Policy Center’s report notes, even without breaks such as the child tax credit, many households wouldn’t owe income tax simply because the personal exemption and the standard deduction protect them from the income tax bite.

The theory has long been that families at the low end of the income scale with barely a subsistence income shouldn't be required to pay income taxes.

Should everyone really pay income taxes?
“The idea that ‘everybody ought to pay something’ resonates with people, but then you look at specific cases: should this family pay something, if they are just trying it put food on the table?” Williams said.

How much revenue would be raised if — in line with Bachmann’s statement — everyone with income paid at least something in federal income tax, even if it were just one dollar?

Williams estimates that the Treasury would collect between $35 million and $40 million extra a year if everyone with income paid at least one dollar in income tax.

But Williams also notes that “most people who don’t pay income taxes pay other taxes.”

Here's who won't be paying federal income taxes this year

For instance, they must pay Social Security and Medicare payroll taxes, which are 7.65 percent of earned income, and the federal excise taxes on gasoline, tobacco, liquor, wine, beer, and firearms.

A search of the House of Representatives legislative database shows that Bachmann hasn’t yet introduced any legislation to amend the tax code to ensure that all Americans who earn income pay income taxes.

She has introduced the "End Tax Uncertainty Act of 2011" which would make permanent the income tax rates enacted in 2001 and the lower income tax rates on dividend and capital gains income that were enacted in 2003. Her bill would also repeal the estate tax and the alternative minimum tax.

Everyone from House Speaker John Boehner to the Bowles-Simpson commission has talked about lowering income tax rates and broadening the tax base, but it remains to be seen whether Congress would seriously consider broadening the base enough to include all income earners.