CASE STUDY

HORIZONTAL EQUITY AND THE MARRIAGE TAX

The treatment of marriage provides an important example of how difficult it is to achieve horizontal equity in practice. Consider two couples who are exactly the same except that one couple is married and the other couple is not, A peculiar fea~e ?f the U.S. income tax code is that these two couples pay different taxes. The reason that marriage affects the ‘tax liability of a couple is that the tax law treats a married.

Now consider John and Joan, two college professors each earning S50,000 a year. Before getting married, they each pay a tax of SI 0,000 (25 percent of $40,000), or a total of $20,000. After getting married, they have a total income of $100,000, and so they owe a tax of 25 percent of S90,000, or $22,500. Thus, when John and Joan get married, their tax bill rises by S2,500. This increase is called the marriage tax.

We can fix the problem for John and Joan by raising the income exclusion from $10,000 to $20,000 for· married couples. But this change would create another problem. In this case, Sam and Sally would pay a tax after getting married of only $20,000, which is $2,500 less than they paid when they were single. Eliminating the marriage tax for John and Joan would create a marriage subsidy for Sam and Sally.

In practice, the U.S. tax code is an uneasy compromise that includes a combination of marriage taxes and marriage subsidies. Whether a couple is better off married or shacked up (from a tax standpoint) depends on how earnings are split between the two partners. If a man and woman have similar incomes (like John and Joan), their wedding will most likely raise their tax bill. But a marriage subsidy is likely if one partner earns much more than the other, and especially if only one of them has earning s (like Sam and Sally). This problem has no simple solution. To see why, try designing an income tax with the following four • 1\vo married couples with the same total income should pay the same tax.

• When two people get married, their total tax bill should not change.

• A person or family with no income should pay no taxes.

• High income taxpayers should pay a higher fraction of their incomes than low-income tax payers properties.

Some economists have advocated abolishing the marriage penalty by making individuals rather than the family the taxpaying unit, a policy that many European countries follow. This alternative might seem more equitable because it would treat married and unmarried couples the same. Yet this change would give up on the first of these properties: Families with the same total income could end up paying different taxes. For example, if each married couple paid taxes as if they were not married, then Sam and Sally would pay S22,500, and John and Joan would pay $20,000, even though both couples have the same ‘total income. Whether this alternative tax system is more or less fair than the current marriage tax is hard to say.