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Q: Pres. Reagan's tax bracket "bubble" ( Answered 5 out of 5 stars,   0 Comments )
Subject: Pres. Reagan's tax bracket "bubble"
Category: Business and Money > Finance
Asked by: smlowry-ga
List Price: $2.00
Posted: 06 Aug 2002 07:23 PDT
Expires: 05 Sep 2002 07:23 PDT
Question ID: 51212
I need a brief account of exactly what President Reagan's tax bubble
was, where the income tax bracket below the wealthiest was taxed at a
higher rate.
Subject: Re: Pres. Reagan's tax bracket "bubble"
Answered By: historybuff-ga on 06 Aug 2002 09:23 PDT
Rated:5 out of 5 stars
Hello smlowry,

Here are the specifics of what the ERTA, or Reagan Tax Cuts as they
are called entailed:

Economic Recovery Tax Act of 1981
- phased-in 23% cut in individual tax rats; top rate dropped from 70%
to 50%
- accelerated depreciation deductions; replaced depreciation system
with ACRS
- indexed individual income tax parameters (beginning in 1985)
- created 10% exclusion on income for two-earner married couples
($3,000 cap)
- phased-in increase in estate tax exemption from $175,625 to $600,000
in 1987
- reduced Windfall Profit taxes
- allowed all working taxpayers to establish IRAs
- expanded provisions for employee stock ownership plans (ESOPs)
- replaced $200 interest exclusion with 15% net interest exclusion
($900 cap) (begin in 1985)

Source is the following document on a US Govt. Treasury site:

The tax bubble you describe, "under the 1990 budget agreement, a tax
bubble for joint filers earning between $78,400 and $185,000 was
eliminated, lowering taxes for this group from 33% to 31%," is noted
in this document from The National Center for Public Policy Research,
in the section titled "Talking Points on the Economy: Government
Spending #6":

"In the Reagan years the maximum tax bracket was reduced from 70 to 28
percent with a tax bubble, affecting only the middle class, jumping to
33 percent," as one source described it. The bubble effect does not
reflect an item written into the law, but rather an artifact created
by the entire tax structure.  The important distinction to remember is
that tax rate can be marginal tax rate, or total tax rate.

As family income climbs, the effect of personal exemptions as a
percentage of income becomes smaller.  Therefore when you calculate
the tax rate for a given income, you will find it climibing as the
exemptions "help" less and less.

Furthermore, as family income climbs, it reaches levels of higher
marginal tax rates, meaning that each ADDITIONAL dollar is taxed at a
higher rate than the dollars below it.

Those two factors together result in a family hitting a level of
marginal tax rates (a tax bracket)where each additional dollar they
earn is taxed at the higher rate but the exemptions are not helping.
This results in a zone where the effective tax rate is higher. The
rest is just math.  As family income continues to rise, but the
marginal tax rate does not, the tax rate goes back to "normal" I hope
I have explained this in adequately. If not, just let me know and I'll
try a different tack.

Addtional sources useful for ERTA tax rates:

The Century Foundation tells us, "The most important changes to the
personal tax code since the World War II rate increases were made
during the Reagan administration in the 1980s. In 1981, the Economic
Recovery Tax Act (ERTA) reduced the top rate by almost 30 percent—from
70 to 50 percent—and all other rates by approximately 23 percent over
a three-year period." The citation is found on the fifth paragraph of
the following page:

The following chart on page four of the document below shows the
effect of the tax cuts.  As you see, the average tax rate dropped
slightly while the top marginal rate plummeted.



Clarification of Answer by historybuff-ga on 06 Aug 2002 09:33 PDT
Tables and graphs of tax rates can be found here:

additional info:

Search Strategy:

ERTA tax cuts
Reagan tax bubble
Reagen tax cuts
ERTA tax rates
ERTA marginal rates
1991 congressional tax cuts ERTA

Clarification of Answer by historybuff-ga on 06 Aug 2002 11:44 PDT

The bubble was created by the Tax Reform Act of 1986, NOT the ERTA as
previously cited.  The tax rate was changed, but the exemptions were
phased out as well. It was the actual phase-out of the exemptions that
caused the 33% tax rate within the income range indicated.

"The Tax Reform Acto fo 1986 reduced the number of statutory tax rates
to two, with rates of 15 and 28 percent, applicable starting in 1988. 
However the phaseout of personal exemptions and the 15-percent rate
bracket caused the effective marginal tax rate to increase to 33
percent in a range of higher incomes (sometimes called
unaffectionately the "bubble"); beyond that range, the rate fell back
to 28 percent."$FILE/v51n3637.pdf

Please ignore the information about ERTA.  I'm sorry if I caused you
any confusion!

I will provide a substitute for my ERTA information here shortly.



Clarification of Answer by historybuff-ga on 06 Aug 2002 12:20 PDT
Specific references describing the "bubble":

use of phase-outs has risen alarmingly. The first such instance was
the infamous phase-out of the 15 percent tax rate enacted as part of
the 1986 Act, known as the "Bubble." It had the perverse effect of
making taxpayers with less taxable income subject to higher marginal
tax rates than taxpayers with higher taxable income. Although the
Bubble was eliminated in 1990.."

Statement by Dr. Lawrence B. Lindsey, Arthur F. Burns Chair in
Economics, The American Enterprise Institute, before the Senate Budget
Committee, Congress of  the United States, January 20, 1999, says "...
In 1986 the concepts behind these objectives were enshrined into law.
The income tax base was broadened significantly and the top tax rate
was reduced to 28 percent, although the benefits of lower rates were
phased out leading to a temporarily higher tax rate of 33 percent. The
1990 budget legislation removed this bubble by creating a uniform 31
percent bracket..." Find it under the heading "Long Term Tax Reform"
second paragraph on the following web page:

Replacement information (Tax Reform Act 1986 instead of ERTA 1981)

Tax Reform Act of 1986
- reduced individual income tax rates (top rate 29%) and repealed
capital gains exclusion
- repealed investment tax credit
- lowered corporation income tax rates; top rate lowered to 34 percent
- increased standard deduction from $3,670 to $5,000 (joints)
- limited deduction for nonbusiness interest
- repealed second earner deduction
- limited passive losses
- established income limits on use of IRAs for taxpayers covered by
- revised coprorate minimum tax
- repealed sales tax deduction for individuals
- set 2-percent floor on miscellaneous itemized deductions

Taken from this government web site:

Again, please accept my apology for mixing up these two Reagan Era tax


smlowry-ga rated this answer:5 out of 5 stars
Very thorough work - thank you so much.  I understand it now.

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