IRS report:  Link

 

Statistics from individual income tax returns reveal some dramatic changes in the past 18 years. The tax reforms of 1981 and 1986 significantly lowered individual income tax rates and, in the latter, substantially broadened the income tax base [1].

 

Tax law changes effective for 1991 and 1993 initiated rising individual income tax rates and further modifications to the definition of taxable income. In addition, two recessions have transpired, and the U.S. economy has become more service-oriented and global in nature. With all of these changes, a question that arises is what has happened to the distribution of individual income and the shares of taxes paid by various income size classes?

 

In order to analyze changes in income and taxes over a period of years, a consistent definition of income must be used [2]. However, the most commonly used income concept available from Federal income tax returns, adjusted gross income (AGI), was designed to facilitate tax administration, and its definition has changed over time to reflect modifications to the Internal Revenue Code.

 

The new tax laws of the 1980’s and 1990’s, including the Economic Recovery Tax Act of 1981 (ERTA), the Tax Reform Act of 1986 (TRA), the Revenue Reconciliation Act of 1990 (RRA), and the Omnibus Budget and Reconciliation Act of 1993 (OBRA) made significant changes to both the tax rate schedules and the components of AGI. These changes made it more difficult to use AGI for accurate inter-temporal comparisons of income. For this reason, an income definition that would be applicable over several years was developed to allow comparisons both before and after the major tax legislation [3].

 

The “1979 Income Concept” was developed to address this problem by providing a more uniform measure of income across tax years. This “retrospective income” concept was calculated by including the same income and deduction items in each year’s income calculation and from items available on Federal individual income tax returns.

 

Tax Years 1979 through 1986 were used as base years in identifying the income and deduction items included in this concept. As a result, the definition of the 1979 Income Concept is consistent throughout the base years and was used for later years to compare income by including only income components common to all years [3,4].

 

The calculation of the 1979 Income Concept is shown in Figure A. Several items partially excluded from AGI for the base years were fully included, the largest of which was capital gains. The full amounts of all capital gains, as well as all dividends and unemployment compensation, were included in the income calculation. Total pensions, annuities, IRA distributions, and rollovers were added, including the nontaxable portions that were excluded from AGI. Social Security benefits were omitted because they were not reported on tax returns until 1984. Also, any depreciation in excess of straight-line depreciation, which was subtracted in computing AGI, was added back [4].

 

Comparison between AGI and retrospective income. -- As stated, the Tax Reform Act of 1986 (TRA) made extensive changes to the calculation of AGI beginning with 1987, and these changes made necessary a revision of the calculation of the 1979 Income Concept, in order to make tax years beginning with 1987 comparable to the base years, 1979 through 1986. TRA limited the deduction of passive losses and eliminated unreimbursed employee business expenses and moving expenses as adjustments in figuring AGI beginning with Tax Year 1987. Since passive losses had been fully deductible for both income measures prior to 1987, the disallowed passive losses had to be deducted in the 1979 Income Concept calculation for tax years after 1986 [4].

 

Before TRA became effective, a comparison of income measured by AGI with that measured by the 1979 Income Concept showed significant differences at income levels of $200,000 or more. But, with the elimination of preferential treatment of various income items by TRA, such as the exclusion of a portion of capital gains, much of the difference disappeared. Under tax law prior to 1987, the capital gains exclusion accounted for the largest difference between the two income measures at the higher income levels. For 1996, the 1979 retrospective income amount was 8.3 percent higher than income calculated using AGI. This difference was primarily attributed to the inclusion of more than $130.6 billion in nontaxable pensions and annuities (including IRA distributions) in retrospective income.

 

1979 Total Income Concept =

Salaries and wages1

Plus (+):

Interest1

Dividends1

Taxable refunds1

Alimony received1

Capital gains minus allowable losses reported on Schedule Dl

Capital gains and losses not reported on Schedule D1

Other gains and losses (Form 4797)1

Business net income or loss1

Farm net income or loss1

Rent net income or loss1

Royalty net income or loss1

Partnership net income or loss1

S Corporation net income or loss1

Farm rental net income or loss1

Estate or trust net income or loss1

Unemployment compensation1

Depreciation in excess of straight-line depreciation 2

Total pension income3

Other net income or loss1

Net operating loss1

 

Minus (-):

Disallowed passive losses (Form 8582)4

Moving expenses1

Alimony paid1

Unreimbursed business expenses4

 

1 Included in adjusted gross income