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Federal personal income taxes: liabilities and payments, 1981-85.

Federal Personal Income Taxes: Liabilities and Payments, 1981-85

THIS article presents revised quarterly Federal personal income tax liabilities for 1981-84 and extends the series to 1985.1 The revisions in the liability series for 1981-82 affect quarterly estimates only. In the previous estimates, declines in personal income tax liabilities under provisions of the Economic Recovery Tax Act of 1981 (ERTA) were assumed effective in October 1981, in July 1982, and in July 1983. In the revised estimates, the liability declines are effective in January of each of those years. Liabilities are also revised to incorporate the final 1984 and preliminary 1985 data from Statistics of Income, Individual Income Tax Returns (SOI). The payment series, which appears in table 3.2 of the national income and product account (NIPA) tables, includes estimates as presented in the NIPA revision released in July 1986.

1. Estimates for earlier years are in "Federal Personal Income Taxes: Revised and Updated Estimates of Liabilities and Payments, 1949-84,' SURVEY OF CURRENT BUSINESS 66 (May 1986): 40-41.

In the NIPA's, personal income taxes are recorded on a payment basis--that is, at the time tax payments are made by individuals. For many types of analysis, personal income taxes on a liability basis--that is, at the time taxpayers earn their income and the liability is incurred-- may be more appropriate than on a payment basis.

In general, the payment series differs from the liability series for the following reasons: (1) Payment of nonwithheld taxes--quarterly estimated taxes and final payments--and the payment of refunds by the Treasury usually are not made in the period of the corresponding liabilities; (2) changes in withholding rates do not always coincide with changes in liabilities --tax law provisions usually are effective for most individuals on January 1, but corresponding changes in withholding rates sometimes occur later; (3) graduated withholding rates, introduced in 1966, can result in changes in taxes withheld that are different from changes in liabilities if the income flow or deductions change during the tax year; and (4) withholding according to the withholding tables may result in overwithholding for some taxpayers. The tables are constructed under the assumption that taxpayers whose income is withheld use the standard deduction in calculating their income tax liabilities. Thus, unless taxpayers who itemize their deductions request additional exemptions for withholding purposes, use of the withholding tables will result in overwithholding.

In 1981-83, ERTA dominated the pattern of both the liability and the payment series. The most important provision of ERTA was a three-stage reduction in personal income tax rates: 5 percent in October 1981, 10 percent in July 1982, and another 10 percent in July 1983. Tax payments were correspondingly reduced, primarily through cuts in withholding rates. On all three occasions, however, the cuts in withholding rates were less than the reduction in liabilities, resulting in a substantial excess of payments over liabilities. On a quarterly basis, the reductions in personal income tax rates under ERTA reduced liabilities in the first quarter of each calendar year in which the reduction occurred. However, payments were reduced when withholding rates were changed: October 1981, July 1982, and July 1983. Whenever changes in liabilities do not coincide with changes in withholding rates, large differences between liabilities and payments occur on a quarterly basis (table 1).

In 1984, liabilities exceed payment, for three reasons. First, the 1983 Social Security Amendments and the Railroad Retirement Solvency Act of 1983 increased personal income tax liabilities by making portions of social security benefits and railroad retirement benefits taxable beginning in 1984. Such benefits, however, are not subject to withholding and most recipients of such benefits do not make estimated tax payments. Thus, the 1984 increase in liabilities resulted in increased payments in 1985 either in the form of larger final payments or smaller refunds for recipients of such benefits. Second, estimated tax payments in 1983 were larger than expected, because tax rate schedules used to compute estimated taxes in 1983 did not fully reflect the change in liabilities under ERTA. The larger-than-expected estimated tax payments in 1983 resulted in a decline in final payments in 1984. Third, liabilities tend to exceed payments when income growth accelerates. In 1984, personal income increased by 9.6 percent, compared with 6.3 percent in 1983. Liabilities tend to be more responsive than payments to income growth, because the estimated taxes and refunds components of the payment series can assume patterns unrelated to income growth.

For the year 1985, liabilities and payments are almost identical. Both liabilities and payments were affected by the indexing provisions of ERTA and the corresponding cut in withholding rates, which went into effect in January 1985. However, the Tax Reform Act of 1984 (TRA), which became fully effective in 1985, increased liabilities by delaying, modifying, reducing, or repealing tax reductions enacted by ERTA and scheduled to take effect in 1985.2 TRA, however, did not increase withholding rates in 1985 corresponding to the liability increase; the 1985 increase in payments from TRA only reflected increased estimated tax payments. Thus TRA increased liabilities more than payments in 1985.

2. A detailed description of TRA is in the August 1984 SURVEY.

In the first and second quarters of 1985, liabilities and payments differ significantly. The differences resulted from problems in processing tax returns, which delayed the Treasury's mailing of refunds. Prior to 1985, the Treasury paid about 30 percent of refunds in the first quarter and about 60 percent in the second. In 1985, however, about 20 percent was paid in the first quarter and about 70 percent in the second. Because the payment series is net of refunds, the delay in refunds resulted in a large increase in payments in the first quarter and subsequent decline in payments in the second. For the first half of 1985, however, liabilities exceed payments by only $1 billion.

Table: 1.--Federal Personal Income Tax Liabilities and Payments, 1980-85
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Author:Park, Thae S.
Publication:Survey of Current Business
Date:Jun 1, 1987
Words:981
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