(Mar 18, 2004) T040000 Income Breaks for Distribution Tables, 20042022
The purpose of an income qualifier is to reflect taxpayers’ ability to pay tax. In the initial versions of the tax model, the Tax Policy Center (TPC) used adjusted gross income (AGI) as the income qualifier because data limitations prevented us from using a more comprehensive measure of income. AGI, however, is a very narrow measure of income. It excludes such items as untaxed social security and pension benefits, unrealized capital gains, tax-exempt employee benefits, and tax-exempt interest.
In 2004, for the first time, the TPC has begun to report distribution tables by two broader measures of income, cash income and economic income. Cash income is similar to the measures currently employed by Treasury, the Joint Committee of Taxation, and the Congressional Budget Office. Economic income is a more comprehensive measure still, similar to the measure used by the Treasury Department from the early 1980s until 2001.
For most purposes, the two measures produce very similar distributions, and we will often produce tables only in terms of the more common cash income measure. We will, however, show tables in terms of both measures where there are significant differences in the distributional implications.
The two measures are described in more detail below.
Cash income includes wages and salaries, employee contribution to tax-deferred retirement savings plans, business income or loss, farm income or loss, Schedule E income, interest income, taxable dividends, realized net capital gains, social security benefits received, unemployment compensation, energy assistance, Temporary Assistance for Needy Families (TANF), worker’s compensation, veteran’s benefits, supplemental security income, child support, disability benefits, taxable IRA distributions, total pension income, alimony received, and other income including foreign earned income. Cash income also includes imputed corporate income tax liability and the employer’s share of payroll taxes. This puts the income measure on a pretax basis.
Cash income is AGI minus taxable state and local tax refunds, plus total deductions from AGI (IRA deductions, Student loan interest deduction, alimony paid, one-half of self employment tax, moving expenses, penalty on early withdrawal of savings, self-employed health insurance deduction and medical savings account deduction, Keogh and self-employed SEP and SIMPLE plans), non-taxable pension income, tax-exempt interest, non-taxable social security benefits, cash transfers, worker’s compensation, employee’s contribution to tax deferred retirement savings plans, employer’s share of payroll taxes and corporate tax liability.
Economic income includes wages and salaries, other returns to labor, returns to capital, and other income. Returns to labor are measured as a percentage of business income, farm income, rental income, farm rental income, partnership income and income from small business corporation. Returns to capital are assumed to be the nominal risk-free rate on capital, measured as 6 percent of net worth. Other income includes royalty income, social security benefits received, unemployment compensation, supplemental security income, alimony received, TANF, worker’s compensation, veteran’s benefits, disability benefits, child support, energy assistance, food stamps, school lunches. Finally, including employer’s share of payroll taxes and corporate tax liability puts the income measure on a pretax basis. This measure is adjusted for family size using the CBO methodology. This comprehensive measure is divided by the square root of the family size. So a married filing joint return with two children with earnings of $100,000 would have the same family-size adjusted economic income as single person earning $50,000.
Economic income is AGI minus business income, foreign earned income, farm income, Schedule E income, taxable interest, dividends, taxable state and local tax refunds, net realized capital gains, taxable IRA deductions, taxable pension income, plus total deductions, returns to capital and labor, non-taxable social security income, cash transfers, fringe benefits, worker’s compensation, employer’s share of payroll taxes and corporate tax liability. It is then adjusted for family size.