Question

Congress would like to increase tax revenues by 6 percent. Assume that the average taxpayer in the United States earns $41,000 and pays an average tax rate of 25 percent.

a. If the income effect is in effect for all taxpayers, what average tax rate will result in a 6 percent increase in tax revenues? (Round your answer to 2 decimal places.)

b. This is an example of what type of forecasting?

• Dynamic

• Static

Answer 1

Solution a:

Currently average taxpayer is paying $10,250(($41,000*25%) as tax. Therefore net income after tax for the tax payer

= $41,000 - $10,250 = $30,750.

A 6% increase in tax revenue means taxpayer will pay = $10,250 * 118% = $10,865. With new tax amount we can identify tax rate that would generate the tax amount.

After tax income = Pretax income - Tax

$30,750 = Pre tax Income - $10,865

Pretax income = $30,750 + $10,865 = $41,615

Tax rate = Tax amount / Pretax income = $10,865 / $41,615 = 26.11%

Solution b:

This is an example of Dynamic forecasting.