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Backgrounder #1250 on Taxes

February 8, 1999

How to Fix the Marriage Penalty in the Tax Code

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Approximately 21 million American couples pay higher taxes simply because they are married and their combined incomes push them into a higher tax bracket. The average extra tax bill for these couples is $1,400, but the added tax burden can be as high as $20,000.1

The marriage penalty is bad tax policy for several reasons. It is unfair to impose different tax burdens on couples that have equal incomes just because one of those couples is married. Moreover, it is unwise for politicians to use the tax code to subsidize or penalize behavior, particularly when such policies send counterproductive messages about marriage and work. Imposing higher marginal tax rates on a lower-earning spouse artificially discourages employment, thereby diminishing the couple's economic security as well as reducing the country's economic growth.

A flat tax would eliminate the tax code's bias against marriage. But to the extent that such fundamental reform is not immediately possible, there are other ways to address the marriage penalty. For example, increasing the standard deduction for married couples and raising the levels at which higher tax rates take effect would eliminate almost the entire penalty. Congress should adopt the approach that provides the largest degree of tax relief with the least amount of complexity. Fortunately, legislation is being sponsored in the House and Senate that is designed to address these problems.

Penalizing Married Couples
Marriage should not affect a couple's tax liability. The tax code should impose the same tax on two couples having the same income, regardless of marital status. Several sections of the current income tax code contribute to the penalty imposed on married couples, including:

  • Tax brackets. For the tax code to be marriage-neutral, the income level at which higher tax rates take effect should be twice as high for married couples as it is for single taxpayers. But this is not the case. In 1998, the 28 percent bracket takes effect at $25,350 for single taxpayers, but at $42,350 for married taxpayers; $50,700 would ensure marital status neutrality. For higher-earning couples, the penalty is ever more severe. The "millionaire's surtax" for both individuals and married couples takes effect when income reaches $278,250.

  • Standard deductions. The tax code allowed single taxpayers a deduction of $4,250 in 1998. A marriage-neutral tax code therefore would allow married couples to protect $8,500 of their income with the standard deduction; instead, married couples are allowed to deduct only $7,100. This permits unmarried couples to shield a greater proportion of their income and lower their total tax liability.

  • Phase-outs. According to the American Institute of Certified Public Accountants, there are "63 provisions in the tax code where tax liability depends on whether a taxpayer is married or single."2 Many of these force married couples to pay more taxes than two cohabiting single adults. This occurs because, even though the code takes away tax preferences as income rises, the income level at which the preferences disappear is not twice as high for married couples as it is for unmarried couples. For example, the child tax credit enacted in 1997 begins to disappear at $75,000 for single taxpayers, but at $110,000 for married taxpayers.

It is also worth noting that various spending programs also impose marriage penalties. For example, the earned income tax credit, a wage subsidy that is operated as part of the tax code, has created substantial marriage penalties for lower-income workers.

Discriminatory tax rates are the root of the problem. As the Congressional Budget Office (CBO) notes,

A tax structure with progressive rates, however, cannot attain both goals [marriage neutrality and equal treatment].3

This is the reason a flat tax is the ideal solution. According to the CBO,

Forgoing progressivity...would allow a tax system to satisfy both the goal of marriage neutrality and that of equal treatment of married couples.4

Ways to Remove the Marriage Penalty
Implementing a flat tax would be the best way to eliminate the marriage penalty. Political circumstances and the legislative calendar, however, imply that fundamental tax reform is not likely this year. Fortunately, there are several interim steps that lawmakers could take to redress in part this pernicious feature of the tax code.

Some of these proposals raise concerns about complexity and the propriety of restricting tax relief only to couples who face the penalty (some of the proposals would reduce tax liabilities even for couples not affected by the marriage penalty). Although any of these proposals are preferable to the current system, Congress should select the option that is simple, fair to all families, and offers the most tax relief:

Option #1: Increase the standard deduction for married couples and raise the income level at which the higher tax rates take effect. If tax brackets and deductions for married couples were twice their current level for single taxpayers, almost all the marriage penalty would disappear. This option would provide a significant tax cut of more than $25 billion annually; only about half the tax cut would go to those who suffer from the marriage penalty. This approach would not add complexity to the tax code and, in effect, would restore the "income-splitting" policy that existed from 1948 to 1969. Eight states use this approach.

Option #2: Let couples choose their filing status. Allowing taxpayers to choose their filing status would eliminate the marriage penalty because couples could opt to file individual returns when doing so would lower their tax bill. This option would provide a significant annual tax cut of about $30 billion. Married taxpayers would need to calculate their taxes both individually and jointly to ascertain which approach saved more money (including decisions on ways to split their joint income, deductions, and exemptions). Nine states and the District of Columbia use this option.

Option #3: Require individual filing. The federal government followed this policy prior to 1948. Marriage penalties would disappear under this option, but taxes on couples with non-working spouses would increase. Increasing the individual standard deduction or lowering the tax rates could offset that inadvertent tax increase. These additional changes would result in a tax cut for many taxpayers who are not affected by the marriage penalty.

Option #4: Provide second-earner deductions or credits. Between 1982 and 1986, the tax code allowed working spouses a deduction equal to 10 percent of the earnings of the spouse with the lower income (up to a maximum of $3,000). This type of policy targets relief to those affected by the marriage penalty, in effect by lowering the marginal tax rate on the second earner. Restoring the 1982 legislation would eliminate only one-third of the total marriage penalty, resulting in a static revenue loss of $9 billion, according to the CBO.5 Eliminating the entire marriage penalty would necessitate a larger tax cut.

The Best Solution
Of the choices listed above, the first option--increasing the standard deduction for married couples and raising the income level at which the higher tax rates take effect--is the most desirable. It would eliminate the marriage penalty without any increase in complexity in the code. And it would provide substantial tax relief at a time in which the tax burden consumes more of the economy's output than ever before. Representatives David McIntosh (R-IN), Gerald Weller (R-IL), and Pat Danner (D-MO) are sponsoring legislation in the House based on the principles outlined in Option #1. Kay Bailey Hutchison (R-TX) has introduced similar legislation (S. 12) in the Senate.

The "Marriage Bonus"
Some critics argue that the marriage penalty is not a serious issue because the number of couples receiving marriage bonuses is larger than the number experiencing penalties. Their complaint is based on the fact that the higher standard deduction for joint tax returns already results in some married couples' paying less in taxes than single taxpayers with the same level of income. Critics therefore argue that solving the marriage penalty, especially by increasing the standard deduction, would create more of a bias against single workers.

But the standard deduction is not a policy designed to promote marriage or explicitly provide relief to married couples. Instead, this "zero-bracket" amount (income shielded from tax) is best understood as a minimum amount of tax-free income that filers can use to cover basic expenses before any income tax is assessed. This deduction should be--at least in a world in which no marriage penalties existed--twice as large for married couples because there are two people involved. Likewise, each of two single people sharing a house would be able to take the individual deductions that would add up to the same amount a married couple deducted.

CONCLUSION
Clearly, the marriage penalty is bad tax policy. It is an inadvertent but perverse form of social engineering that imposes higher taxes on the institution of marriage. Although there is some evidence to suggest that taxation does have an impact on marriage, divorce, and/or illegitimacy,6 an even bigger problem may be the counterproductive message the marriage penalty sends to Americans. Moreover, because the marriage penalty has the unambiguous effect of driving lower-earning spouses out of the workforce, there is a clear economic argument for its repeal.

A flat tax is the best way to repeal the marriage penalty. Short of such fundamental reform, however, lawmakers should adopt the approach that provides the largest degree of tax relief with the least amount of complexity. Adjusting tax brackets and standard deductions so that marriage does not cause a tax increase appears the best solution in the short term.

Daniel J. Mitchell is McKenna Senior Fellow in Political Economy for The Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation.

 

Endnotes

1. Congressional Budget Office, "For Better or for Worse: Marriage and the Federal Income Tax," CBO Study, June 1997. Available at http://www.cbo.gov/ftpdoc.cfm?index=7&type=1.

2. American Institute of Certified Public Accountants, "AICPA Testifies Before Congress on Marriage Penalty," January 28, 1998. Available at http://www.aicpa.org/members/div/tax/marpen.htm.

3. Ibid.

4. Ibid. The sentence actually should refer to progressive tax rates, not progressivity. The generous family allowance under a flat tax, for example, would mean lower-income taxpayers would enjoy a lower average tax rate than higher-income taxpayers. As such, graduated tax rates, not progressivity per se, cause the conflict in the tax code.

5. Congressional Budget Office, "For Better or for Worse."

6. Isaac Ehrlich and Jian-Gou Zhong, "Social Security and the Real Economy: An Inquiry into Some Neglected Issues," American Economic Review, May 1998, pp. 151-157.

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