Same Dollar, Different Tax

In 1986, Ronald Reagan signed a tax reform built on a simple principle: a dollar is a dollar. Whether you earned it from a paycheck or a stock sale, it was taxed at the same top rate — twenty-eight percent.

That deal didn't last.

Over the next thirty years, Congress cut the rate on investment income — to twenty percent, then fifteen, then back to twenty, where it sits today. Meanwhile, the top rate on wages went the other way — up to thirty-seven percent.

Today, the code taxes the same dollar very differently depending on how you got it. Earn a million dollars in salary, and your top rate is thirty-seven percent — plus payroll taxes. Make a million selling stock, and you pay twenty.

Most Americans earn nearly everything from their labor. The wealthiest earn most of it by managing money they already have — and pay the lowest rates. Reagan's principle — a dollar is a dollar — lasted barely a decade.

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The 1986 deal. The Tax Reform Act of 1986 — Reagan's signature second-term achievement, passed with large bipartisan majorities — cut the top individual rate from 50% to 28%, collapsed fourteen brackets into two, killed the tax-shelter industry, and repealed the preferential treatment of capital gains. For the first time in modern history, income from work and income from investments were taxed at the same top rate. The Joint Committee on Taxation explained the logic: with rates this low, "it was no longer necessary to provide a lower tax rate for capital gains," and equal treatment would eliminate "the incentive to recharacterize certain income" to dodge taxes. The bill originated in a Democratic proposal (Sen. Bill Bradley and Rep. Dick Gephardt) that Reagan embraced — a genuinely bipartisan reform. (Congress.gov, H.R. 3838; JCT Blue Book; EBSCO; PennyCalc rate history)

How the deal unraveled. The strict rate equality held for tax years 1988-1990. The gap began reopening in 1991, when the Omnibus Budget Reconciliation Act of 1990 raised the top ordinary rate to 31% while capping capital gains at 28%. Clinton's 1993 bill widened it further (39.6% on wages, gains still capped at 28%). Then came the affirmative cuts to the investment rate itself:

• 1997: Taxpayer Relief Act (signed by Clinton) cuts the top capital gains rate from 28% to 20%
• 2003: Bush's JGTRRA cuts it to 15% — and extends the low rate to qualified dividends
• 2013: ATRA restores 20% for top earners, where it remains

Meanwhile the top wage rate went 28% → 31% → 39.6% → 35% → 39.6% → 37% (today). Both parties participated in every phase. (CBO analysis of TRA97; Tax Foundation; PennyCalc)

Today's gap, precisely. A high earner's wages face a top rate of 37%, plus Medicare taxes of 2.35% (including the 0.9% additional Medicare tax) — roughly 39%+ marginal. Long-term capital gains face a top statutory rate of 20%, plus the 3.8% Net Investment Income Tax for high earners — 23.8% total. The gap between the top rate on work and the top rate on investment income is roughly 15 percentage points, before considering the payroll taxes that apply only to wages. (IRS)

Who earns what kind of income. Wages and salaries constitute the overwhelming majority of income for most American households. Capital gains and dividends are concentrated at the top: the wealthiest 1% receive the large majority of preferential-rate investment income, and Treasury analysis found that 92% of the benefit of preferential capital gains rates flows to white families, with the top sliver of earners capturing most of it. UC Berkeley researchers found the 400 wealthiest Americans — whose income comes overwhelmingly from capital — pay a lower effective rate (23.8%) than the average American (30.2%). (Treasury OTA WP-122; Tax Policy Center)

The counterargument. Defenders of lower capital gains rates argue: (1) investment income was already taxed once at the corporate level, so the individual rate is a second bite; (2) gains aren't indexed for inflation, so part of every "gain" is illusory; (3) lower rates encourage investment and risk-taking. Critics respond: much investment income never faces corporate tax (real estate, carried interest, pass-throughs); the deferral advantage (no tax until sale) already compensates for inflation; and the 1986-1997 period of equal rates saw robust investment. The 1986 reform itself embodied the judgment — by a Republican president and a bipartisan Congress — that at reasonable rates, equal treatment was both fairer and simpler. (Tax Foundation; JCT)

Related Civic Minute segments: One Direction (Tax History), The Napkin (Tax History). Related PM scripts: Two Tax Codes, Who Actually Pays, The Carried Interest Loophole, Buy Borrow Die.