In the May 23, 2017 edition of Basic Income News, Karl Widerquist laments the tendency of some basic income commentators to overstate the cost of a basic income. The typical methodology used to generate these overestimates is as follows:

  1. Obtain the population of the jurisdiction which will implement a basic income
  2. Obtain the amount of the basic income provided to each person in that jurisdiction
  3. Multiply the number in “a” by the number in “b”
  4. The product referred to in “c” is the cost of a basic income

As Widerquist points out, the reason this is an overestimate is that it fails to consider the fact that even though everyone would receive the amount referred to in “b” above, not everyone would be net beneficiaries of this amount.

Suppose the amount referred to in “b” were $10,000, meaning that under a basic income scheme, everyone would receive $10,000 per year. But in every basic income proposal I’ve seen, although the basic income wouldn’t officially be taxed, all other income would be. This means that at some income level, there would be those who’d owe at least $10,000 in their annual tax bill. Since the amount they’d owe in taxes would be at least as large as the $10,000 basic income, they would no longer be net beneficiaries. Their basic income would, in effect, have been taxed back from them. Under a basic income scheme, there would also be those who’d be net beneficiaries of a basic income but not of the full $10,000 amount. All of this might be easier to see if we did a bit of math.

Again, assume that our basic income comes out to $10,000 per year per person. Suppose all other income is taxed at a marginal rate of 25%. The use of one rate is to keep things relatively simple. Here is the key equation for the basic income system being described in this paragraph:

Net Income = $10,000 + (1 – .25) * Other Income

Now let’s play with this equation a bit. Suppose someone had no other income. We’d then end up multiplying $0 by (1 – .25) which would give us $0. And $0 + $10,000 would mean this person would end up with a net income of $10,000. That is, they’d be a net recipient of the full basic income benefit level.

Now consider someone with other income of $30,000. Multiplying $30,000 by (1 – .25), we end up with $22,500. Once we add this to the $10,000 basic income, they’d end up with a net income of $32,500. Let’s look more closely at what’s happened here. The person made $30,000 in other income. If they didn’t have to pay taxes, we’d have (1 – 0), which is just 1, instead of (1 – .25). So they’d keep all $30,000 plus the $10,000 basic income for a net income of $40,000.

Looked at this way, we see that the tax on other income is effectively a tax on the basic income as well. That is, the fact that the person with $30,000 in other income only ends up with a net income $32,500 instead of $40,000 means that $7,500 of their basic income has been taxed back to the government.

Next, let’s take a look at what happens to someone with other income of $40,000.

We’d have to multiply (1 – .25) times $40,000, ending up with $30,000. And $30,000 + $10,000 is a net income of $40,000. If this person paid no taxes on other income, we’d add their $40,000 in other income to the $10,000 basic income for a net income of $50,000. With taxation, their actual net income is $10,000 less than $50,000. That is, we’ve taxed back all $10,000 of their basic income. So this person would no longer be a net recipient of the basic income.

Finally, suppose someone had other income of $100,000. We’d end up multiplying (1 – .25) by $100,000, which comes out to $75,000. Since $75,000 plus $10,000 is $85,000, this person’s net income would be $85,000. Now if they didn’t have to pay taxes, they end up with a net income of $100,000 plus $10,000 or $110,000. But with taxes, their income is only $85,000. We see that not only has their $10,000 basic income been taxed away, so they’re no longer a net recipient of a basic income, but they’re paying enough in taxes to help finance someone else’s basic income, someone with much lower other income than they have.

If we think carefully about these examples, we see what’s wrong with some cost estimates of a basic income: they assume the tax rate in the equation above is 0%. But as I said above, every basic income proposal I’ve seen, assumes that all other income would be taxed at some positive marginal tax rate. This means, of course, that our net income equation will include a term where some positive marginal tax rate will be subtracted from 1. We used a 25% rate for illustration, but really any positive rate will do. This is because any positive marginal tax rate on other income, although not officially a tax on the basic income, is effectively a tax on basic income. And this means some people won’t be net recipients of the benefit. Understanding this point is key to arriving at better estimates of the cost of a basic income guarantee.

 

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Michael Lewis has written 12 articles.