High Marginal Tax Rates on the Poor Are Creating an Underground Economy

Before it descends into utter madness, Leslie Forde’s Slate article on Nanny pay opens with a good story:

‘I’m sorry … but I can’t,’ she told me over the phone. My heart sank. I was confident she’d take the job. Quickly, I went into negotiation mode, ‘But wait, can we talk about the pay? Do you need more to … ‘ She said no before I could finish. ‘I just can’t take a job (that pays) over the table. It’ll mess up my housing. I won’t be able to stay in my apartment. I’m sorry. I’ve already taken another job.’ I ended the call. …my entire career was at risk because I couldn’t find a nanny—at least, one willing to be paid legally.

It’s estimated that less than 10 percent of 2 million domestic workers and the families who employ them pay employment taxes.”

From that opening I was expecting the author to explain that nannies aren’t willing to work on the books because, at the bottom of the income scale, income is taxed twice—first by Federal and State direct taxes and, second, indirectly because higher income causes workers to lose benefits. As a result of this double taxation, in some states, it’s possible for poor workers to face effective marginal tax rates above 100 percent. If you had to pay to work, would you work?

High marginal taxes rates on the poor are a problem. We ought to be able to agree on that, even if we disagree on proposals to address the problem such as a universal basic income or a negative income tax. But in Forde’s magical world, up is down and down is up and the problem is that taxes on the poor are too low. But not to worry because this presents a hidden opportunity!

There is, however, a hidden opportunity to provide help to our caregivers and the families who employ them. Right now, these under-the-table arrangements are creating a ‘tax gap’—billions of dollars in additional funding that would be available to support caregivers, if the majority of families and their caregivers paid into the system.”

Did you get that? If nannies were taxed, the government would have more money to provide nannies with benefits. Wait, it gets worse. According to Forde, we can make both families and nannies better off by giving them back the money the government takes and still have money left over!

The estimated ‘gap’ from the lost tax revenue is a combination of the federal and state employment taxes typically paid by employees (Social Security, Medicare, and income taxes) and employers (in addition to Social Security and Medicare, they must pay federal and state unemployment taxes.) Imagine if just a portion of this revenue were used to reimburse families for more of their child care expenses and to provide caregivers access to better benefits than they get currently with their under-the-table jobs.” (italics added, AT)

Indeed, wouldn’t it be nice to live in a world of pure imagination? One without tradeoffs, where we could rely on the miracle of government loaves to solve all problems?

Reprinted from Marginal Revolution.