Read My Lips: More New Tax Cuts - The Distributional Impacts of Repealing Dividend Taxation

The Bush administration advocates its January 2003 proposal to repeal personal dividend taxation on the basis that the cut would stimulate the economy, primarily benefit American seniors, and eliminate an unfair case of "double taxation." This paper primarily analyzes the proposal using a different criterion - its distributional impacts. Contrary to the administration's claim that seniors receive over half of all dividend income, U.S. Census Bureau data indicate that seniors receive only about one-quarter of dividend income. Dividend income is more concentrated towards high- income tax filers than the distribution of U.S. income as a whole. About two-thirds of dividend income accrues to the top 10% of tax filers. Less than one-fifth of tax filers with adjusted gross incomes of less than $75,000 have any dividend income at all. Also, dividend income is highly skewed by race- only 8% of blacks and 6% of Hispanics receive dividend income. An analysis of the distribution of the benefits of repealing dividend taxes is conducted using IRS summary data of the 2000 tax returns. Most taxpayers (about three-quarters) receive no dividend income and would receive no direct benefits from the proposal to repeal dividend taxes. On the other hand, filers with an adjusted gross income of at least $100,000 would receive average annual benefits of over $3,000. Over 75% of the total benefits would accrue to the top 8% of taxpayers. About 40% of the benefits would accrue to the top ½% of taxpayers, who would receive average annual tax savings of about $26,000. The distribution of benefits is more skewed than the distribution of dividend income. From this fact we can conclude that the proposal to repeal dividend taxation would, ceteris paribus, increase after-tax income inequality in the U.S. Given that U.S. inequality is higher than in any other developed country and at an historic high, policies that reduce inequality seem more desirable than those that have the opposite effect. Given the significant cost of the overall tax cut, one likely long-term effect is the reduction of federal services including, perhaps, Social Security benefits. Thus, the ironic conclusion is that the President's proposal, rather than helping low-income seniors, appears more likely to hurt them because of the potential for shortfalls in Social Security funding in the long term.