Marriage Tax Penalty and Unit of Taxation

The marriage tax penalty refers to the fact when two people marry, they pay more taxes than they do when they are single. This happens when the two persons have roughly the same income.

The mirror image of the marriage tax penalty is the marriage tax bonus, that is when two spouses have disparate income or one spouse decides to stay at home, they pay less tax than they do if they don’t marry.

I touched on the topic of marriage tax penalty in two previous posts:

It turns out that marriage tax penalty and marriage tax bonus have been studied extensively by economics professors. It’s well known within the academic circles that three desirable objectives can’t be satisfied at the same time:

  1. Horizontal Equity: households with the same income pay the same tax
  2. Progressivity: higher income pays a higher rate of tax
  3. Marriage Neutrality: the tax system should stay neutral to the decision to marry

It’s very similar to the time-cost-quality triangle: you can have any two but not all three.

A key concept is called the unit of taxation, in other words, whether taxes are levied on an individual person or on a family.

The current US tax system uses a family as the unit of taxation. It achieves objectives #1 and #2, but it fails in objective #3. Some people receive a tax incentive to marry while others are penalized for marrying.

Most other developed countries use the individual as the unit of taxation. The same person pay the same tax whether they are single or married. This system achieves objectives #2 and #3, but not #1. Under this system, a one-earner household pays a higher tax than a two-earner household with the same income.

Although it seems unfair under an individual unit of taxation system to tax a one-earner family more than a two-earner family with the same income, it’s actually fair. When you recognize the value of the household work taken up by the stay-at-home spouse, the one-earner family produces more and therefore should be taxed more.

According to a research paper I read, Canada, UK, Japan all base their taxes on individuals. Only 9 countries in 30 OECD countries base their taxes on families. In the last 30 years, several countries also moved away from joint taxation like in the US to individual taxation.

The United States is once again in the minority relative to the rest of the world on this issue. Why am I not surprised?

Reference:

Alm, James, 2005. Thinking About The “Marriage Penalty”, a PowerPoint presentation.

Alm, James and Mikhail I. Melnik, 2004. Taxing The “Family” In The Individual Income Tax, Public Finance and Management, Vol. 5, No. 1

Cleveland, Gordon and Michael Krashinsky, 1999. Tax Fairness for One-Earner and Two-Earner Families: An Examination of the Issues. CPRN Discussion Paper No. F07.

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Comments

  1. srh says

    I’ve long contended that the government should have no concept of ‘marriage’. The government should recognize some kind of civil union that allows one person to grant privilege to another (regardless of gender), that gives power of attorney in case of injury or death, but that should be the extent of it.

    Marriage should be solely the domain of religion.

    Thereby the issue of marriage will not enter the tax picture at all. The government will cease to give financial preference to one union over another. What a ridiculous idea, that the government should be involved in choosing one’s life partner?

  2. KD says

    “Although it seems unfair under an individual unit of taxation system to tax a one-earner family more than a two-earner family with the same income, it’s actually fair. When you recognize the value of the household work taken up by the stay-at-home spouse, the one-earner family produces more and therefore should be taxed more.”

    This argument is not logically sound. Are you implying that two-income family do not do any household work? If they do, then shouldn’t its value be considered for the test of unit of taxation?

    Actually, family as a unit of taxation is fair. But the requirement of heterosexual marriage as a test for it is rather antiquated. Services of the government availed as a family are proportionally higher than those availed by a single person w/o dependents.

  3. TFB says

    KD – Please read the 3rd article in the Reference for a discussion on one-earner versus two-earner families. It uses examples from Canada, which taxes people individually as opposed to taxing married couples jointly as in the US.

  4. KD says

    TFB, I read the article at your urging. It has many logical flaws and it is comparing apples and oranges. “Household production” and “raising children” are big assumptions and mostly dubious ideas of economic activity. Both have immense value but no monetary equivalent for a tradable or quantifiable unit of exchange. Economists come up with a value of “household production” and not the market or the government.

    The idea inherent in unit of taxation as family is that taxation is only on labor as compensated by money. Unfortunately, person choosing “household production” may wish to pay taxes in non-monetary terms and would the government accept that?

  5. Don says

    I agree with previous commentors that you’re measuring wrong with respect to housework. It gets done or not done whether you are married or not, and whether you both have jobs or not. The only case that would be different would be two earners who then hire a cleaning service.

    Rather than fair or unfair, I’d like to look at this from the perspective of incentives. Which system gives people the incentive to be more productive? I’m not sure of the answer to that. Missouri taxes spousal income separately to eliminate the marriage penalty, but I’m not sure whether it means much in terms of incentive.

    It does mean that my wife owns most of our taxable investments and savings accounts since she has a lower marginal rate than I do. She does most of our Roth and after-tax investing. I do most of our pre-tax investing.

  6. Jared says

    The real problem isn’t that tax code penalizes married couples. The real problem is that the tax code penalizes you for working more then one job and it compounds that by treating a married couple as a single person.

    The solution to this is simple: base the tax rate on your combined hourly rate of income keeping in mind your total overall income.

    Let me illustrate what I mean. I’m single and I have a job that pays $75k/year (for 2000 hours). I decide to take up a part time job to earn extra money. I find a night security job paying $15/hour for 20 hours a week (1000/year). It’ll bring in about $15k more a year. However, after Fed/SS/Med taxes I’ll only be left with about $9650 of that original $15k. And that’s not including state or other taxes. On the first $75k I paid about 25% in taxes. Combined I’ll pay about 27%. However, that 2% difference is deceiving because I will actually be paying 36% on the $15000. 9% tax increase is a big jump for $15k. It destroys the incentive of taking on extra jobs and working harder. Now, take the above example and add a spouse working a job instead someone working two jobs.

    The solution would be to combine the wages and then divide by the total number of hours worked to come up with an averaged hourly wage and then use that hourly wage to determine the tax rate that should be paid. Then, you multiply the hourly tax rate by the total income to determine your overall tax. Doing this would actually provide an incentive for a person to get two jobs or to allow a couple to get a lower paying job.

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