A new year is at hand. For many, it is time to gather up one’s tax information and, perhaps, purchase tax preparation software. The Internal Revenue Service will soon finalize its forms and software for the upcoming filing season. As expected, many expired tax provisions were extended for 2014 in the lame duck Congressional session in December.
Tax returns provide a significant amount of data to the Federal government. This information is often sliced and diced for various purposes. Many government agencies release reports or studies based on information gathered through government filings and surveys.
The IRS periodically releases statistical information it gathers and analyzes regarding tax returns, including corporate and individual. A recent IRS statistical report that caught my eye included year-by-year information for the 400 largest income tax returns for the period 1992-2010.
The IRS report and its tables are based on the top 400 returns that reported the largest adjusted gross income, or AGI — essentially the income before any itemized deductions. The returns don’t necessarily reflect the income of the 400 richest Americans, though some of the richest Americans may have had their returns included in the information in a given tax year.
Also, since the information was based on income reported on tax returns and not the specific individuals, individuals may be included one year and not the next. In Table 4 of the report, the IRS summarizes how many years a particular individual was included in the year-by-year information. This table indicates that 95 individuals were included in at least 10 of the 19 years presented in the report.
The average AGI needed to make the top 400 list increased from $46.7M in 1992 to$265.2M in 2010. In 1992, the total AGI reported on the top 400 returns was .52 percent; in 2010, it was 1.31 percent of all income reported on tax returns. The change is more than a two-fold increase as a percentage of the total reported AGI.
The report also indicates the share of taxes paid by the top 400 was 1.04 percent in 1992 and 2.01 percent in 2010 of all individual income taxes paid. Thus, the share of total income taxes paid by this group doubled from 1992 to 2010.
The most interesting item I saw in reviewing the IRS tables is the actual composition or mix of income. In 1992, for example, salaries and wages represented 26 percent of AGI for the top 400, while in 2010 this amount dropped to 6.4 percent, a reduction in the share of AGI by nearly three quarters. For all tax returns filed, salaries and wages make up the lion’s share of income based on IRS estimated data (in absolute dollar terms) for the 2010 tax year.
For other items of income for the top 400, dividends jumped from just under 6 percent AGI in 1992 to more than 16 percent in 2010. For dividend income, it is important to note that the tax rate on qualified dividends was changed in 2003 to be aligned with the long-term capital gains tax rate. A footnote in the report indicates that from 2003 to 2010, the amount of qualified dividends reported on top 400 returns increased nearly four times in absolute dollars.
Also, recall that the qualified dividend rate was set to sunset at the end of 2010 and was ultimately renewed in December 2010. Since the rate was scheduled to increase (to ordinary income marginal tax rates) in 2011, some dividend payments may have been accelerated for the 2010 tax year in anticipation of the tax rate change. The qualified dividend tax rate was extended at the end of 2010 for 2011 and 2012 before being made a permanent fixture in the tax code for 2013 and later years.
The largest share of AGI for the top 400 filers according to the IRS was capital gains. The percentage of reported income attributable to capital assets grew from 35 percent of AGI in 1992 to more than 72 percent in 2010. This large share of capital gains as a percentage of AGI likely results from gains from sales of businesses, gains from hedge funds, and private equity portfolio companies. The capital gains may include gains attributable to carried interests in hedge funds and private equity holdings. The report also indicates that approximately 16 percent of all taxable capital gains reported on all tax returns in the U.S. were reported on the top 400 returns.
What can we take away from all this IRS data?
First, it takes some very large income numbers to get pulled into this sample. Second, it is income attributable to capital gains and dividends that are the largest sources of income for this group in 2010. Third, the favorable tax rates on the capital gain and qualified dividend income provided some significant tax savings compared to if ordinary income tax rates were to apply to these types of income. And lastly, it may take some effort by many of us to reach this elite group. Perhaps winning one of the large lottery prizes may help.
Tax legislation adopted in recent years will increase the tax burden on these taxpayers as a result of the change in the maximum long-term capital gains and qualified dividend tax rates for 2013 and later years being increased to 20 percent from 15 percent. The increase in the top federal individual ordinary tax rate for 2013 and later tax years may also increase their tax burden. The Medicare net investment income tax will also raise tax revenue on the investment income reported on these returns.
With a new Congress taking office this month, and the discussion of comprehensive tax reform as a possibility, some of the top 400 statistics may change in years to come.
Bill Roth is a tax partner with the local office of BDO USA LLP. The views expressed are those of the author and not necessarily of BDO. The comments are general in nature and not to be considered specific tax or accounting advice and cannot be relied upon for the purposes of avoiding penalties. Readers are advised to consult with their professional advisers before acting on any items discussed herein.