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U.S. taxes today bear little resemblance to the taxes collected before World War II. Income and payroll taxes have replaced tariffs and excise taxes at the federal level while property taxes have become less important for state and local governments. And while the feds collected just one-third of all revenue before the war, they now claim two-thirds.
My Tax Policy Center colleague Lydia Austin and I reported these patterns in a recent Tax Notes article, using data from the Bureau of Economic Analysis on the sources of federal and state and local revenue from 1929 through 2013.
During the 1930s, state and local revenue averaged 9 percent of Gross Domestic Product, with most of that coming from property taxes. The federal government was the junior partner back then: it collected just 5 percent of GDP, less than half from income or payroll taxes.
World War II changed everything. Federal revenues tripled to 15 percent of GDP and income taxes—both individual and corporate—became the dominant source. State and local taxes fell sharply, with property taxes dropping by more than half and sales taxes declining in the face of rationing and other constraints on consumption.
Following the war, federal payroll taxes grew as wages increased and Congress boosted tax rates to support Social Security and, later, Medicare (created in 1965). Payroll taxes now nearly match individual income taxes as the primary source of federal revenue. The relative contribution of corporate income taxes and other sources has dwindled.
Meanwhile, states took responsibility for some local costs, most notably education, leading to greater reliance on income and sales taxes. Sales and property taxes now each account for about a third of state and local revenue and income taxes provide somewhat less.
For more than half a century, total revenues have been remarkably stable. The federal government typically collects between 17 percent and 18 percent of GDP, while state and local governments raise about half as much. Deviation from those averages mostly occurs only in booms and recessions.
The federal government’s big edge in revenue collections doesn’t mean all that money is spent on federal programs. The feds transfer hundreds of billions of dollars to the states, which in turn pass lots of money on to local government. The result: roughly equal spending at federal and sub-national levels.
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