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Jan 24

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About that tax rate increase, is it “two percentage points” or “21.5 percent”?

“Two percent” and “two percentage points” have totally different meanings. When politicians push tax increases, they characterize the increase in terms of “percentage points”. When they push tax cuts, they prefer “percent”. The language difference is subtle and, arguably, perfectly vague, especially when written as a number, as in “2%”. But the practical differences are day and night.

Recent weeks have put this langauge tactic, straight from the politician’s playbook, on full display.

Last week Chris Christie, Governor of New Jersey, announced a tax cut. He characterized the cut’s magnitude in terms of the percent cut:

I propose to reduce income tax rates for each and every New Jerseyan. In every tax bracket. By 10% across the board.”

Because he is cutting taxes, Governor Christie opted to speak in terms of the “percent” cut, rather than discussing the percentage points cut. New Jersey marginal tax rates, before the tax cut, range from 1.4% up to 8.97%. This means that a ten percent tax cut is equal to a 0.14 percentage point cut at the low end (1.4% x 10%=0.14%) and a 0.897 percentage point cut at the high end (8.97% x 10%=0.897%). Most New Jersey tax payers would be unimpressed to see a headline: “Governor proposes to cut taxes up to 0.9%”.

Yet this is precisely the sort of worst-case headline that, say, Governor Jerry Brown of California hopes describes his proposed tax increase. In the face of yet another budget shortfall in California, Governor Brown has proposed a mix of tax increases and cuts to previously-planned spending. A letter from the Governor’s Office pitched the tax increase as follows:

Millionaires and high-income earners will pay up to 2% higher income taxes for five years.”

Currently California incomes of $250,000 or more are taxed at a marginal rate of 9.3%. The tax increase would move this rate from 9.3% to 10.3% for incomes over $250,000 and from 9.3% to 11.3% for those earning over $500,000. It is entirely deceptive to claim that millionaires will pay “2% higher income taxes.” Rather, the rate increases 10.75 percent at the low end (10.3%/9.3% – 1 = 10.75%) and 21.5 percent at the high end (11.3%/9.3% – 1=21.5%). A twenty percent increase in taxes is a much harder sell than “2% higher income taxes.” It makes political sense why Governor Brown opts to reference the percentage point increase rather than the percent increase.

The tactic seems to work. In the press, Governor Christie’s proposed tax cut has been reported — accurately — as a ten percent tax cut. Governor Brown’s proposed tax hike has been reported — inaccurately — as a two percent tax hike. For instance, the Los Angeles Times initially reported on the tax hike as follows:

Brown wants to increase income taxes 1% to 2% for individuals making $250,000 or more, in addition to the sales-tax hike, and hopes to qualify the proposal for next November’s ballot.”

Several days later, the newspaper corrected itself, saying:

(The article) should have said that Brown’s proposal would raise the tax rates on those earners by 1 to 2 percentage points.”

Oddly, the paper did not correct itself by specifying what the increase would be in terms of percent increase (that is, up to 21.5%). And, to my knowledge, the Governor’s Office has not corrected its above-quoted letter by specifying “percentage points” or, don’t hold your breath, “21.5% increase in the tax rate”.

While the tactic might work when trying to convince a majority of Californian’s to increase someone else’s taxes (Governor Brown noted that “fewer than 2% of California taxpayers will be affected by this increase), the high income earners who will be directly affected by the hike appear to be less easily swayed. According to Businessweek, Governor Brown remarked “I did find that in talking to very wealthy people, they don’t get overly excited about increasing their taxes.” There was one exception. According to the Governor, Rob Reiner, who became famous playing “Meathead” on All in the Family, was “very excited about paying more taxes.”

Is it possible that Mr. Reiner overlooked the “percentage point” versus “percent” distinction?

About the author

Eric Madsen

Mr. Madsen is a Chartered Financial Analyst (CFA) charterholder and a Manager at Fulcrum Inquiry, a finance and economics consulting firm that performs economic damages analysis involving commercial litigation, financial investigations, business valuations, and forensic accounting. He also holds an MBA from the UCLA Anderson School of Management and a B.S. in Economics. He conducts expert analysis in finance and economics. Mr. Madsen may be contacted at 213.787.4122 or at emadsen@fulcrum.com.

Permanent link to this article: http://betweenthenumbers.net/2012/01/about-that-tax-rate-increase-is-it-two-percentage-points-or-21-5-percent/

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