How U.S. Tax Policy Has Changed Since the 1980s and Income Inequality

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The top federal income tax rate was 70 percent in 1980 and 28 percent after the 1986 tax reform. Later laws pushed it up and down, and it is 37 percent for tax year 2026, a rate Congress made permanent in 2025.

Incomes at the top pulled away during much of that span: from 1979 to 2007, the period a Congressional Budget Office study examined, inflation-adjusted after-tax income grew 275 percent for the highest-income 1 percent and just under 40 percent for the 60 percent in the middle. The Congressional Research Service lists technological change, globalization and declining unionization among the factors likely to have contributed to wider inequality since the 1970s. So a tax-rate chart alone does not explain the gap.

A lower top rate did not mean taxes disappeared

The highest statutory federal individual income tax rate was 70 percent before the Reagan-era cuts, fell to 50 percent with the 1981 tax cut, and then to 28 percent under the 1986 reform. That starting point needs a qualification: during the 1970s, earned income already had a 50 percent maximum rate, while other income could face 70 percent.

A marginal rate is the share of the last dollar of income paid in tax; an average rate is the share of income paid in tax overall. A top rate therefore does not describe the fraction of every dollar a wealthy household pays. Nor does comparing two top rates reveal whether deductions, exclusions or the treatment of different income sources changed between those years.

The IRS’s report for tax year 2022 found that the upper-income groups it examined, from the top 0.001 percent through the top half of returns, paid larger shares of individual income tax than their shares of adjusted gross income. Adjusted gross income is gross taxable income minus specified adjustments, calculated before the standard or itemized deduction. The IRS finding shows that high incomes are still taxed; the United States has not stopped taxing wealthy people. It is also a narrower measure than taxes on wealth or the entire federal tax burden.

For tax year 2026, the IRS lists a top marginal individual income tax rate of 37 percent.

The Reagan changes cut rates and changed the tax base

The Economic Recovery Tax Act of 1981 phased in broad individual-rate reductions: the cumulative cuts were 10 percent in 1982, 19 percent in 1983 and 23 percent in 1984 and later years. The top rate fell from 70 percent to 50 percent beginning January 1, 1982. The law also increased the small-business allowance for immediately deducting investment costs and scheduled further increases. Businesses could claim the 10 percent investment tax credit, a credit based on an asset’s cost, only on the portion they had not immediately deducted. The credit generally covered investments in machinery and equipment.

The 1986 reform repealed the investment tax credit, limited deductions for nonbusiness interest and passive losses, and restricted individual retirement account deductions for taxpayers covered by pensions. It also ended the exclusion that had kept part of each capital gain, the profit on an asset sale, out of taxable income, bringing the top rate on gains into line with ordinary income at 28 percent. Here, ordinary income means income subject to the regular graduated income-tax rates. Unlike the 1981 cut, the 1986 reform traded lower rates for a broader tax base: more income was taxed and fewer deductions were allowed.

A Treasury working paper, Revenue Effects of Major Tax Bills, revised in 2006, estimated that the 1981 law reduced revenue by an average of 2.89 percent of gross domestic product per year in the first four years after enactment. That is an annual average measured against the size of the economy, not a cumulative dollar total. In current dollars, the paper estimated that the 1981 law reduced receipts by an annual average of $111.4 billion in the first four fiscal years after enactment. Neither figure establishes a cumulative, trillions-of-dollars loss from all the tax legislation of the 1980s; a claim that the cuts cost trillions has to say which years and which kind of dollars it counts.

The paper measures each law four ways: in current dollars, inflation-adjusted dollars, share of GDP and share of federal receipts. It also counts each law on its own, although a 1982 law was enacted primarily to offset some of the revenue loss from the 1981 cut. Its figures are Treasury estimates from the administration’s first January budget after enactment. The comparison concerns receipts expected with and without that law, rather than a tally of observed collections.

Later laws moved in both directions

The top rate did not keep falling. The table tracks the highest statutory individual rate, not the average rate a household paid.

The 1990 law did more than add a rate: it removed a quirk of the 1986 reform. The 1986 reform’s 15 percent and 28 percent rates came with a surcharge that effectively created a 33 percent rate on income between two thresholds, with the rate falling back to 28 percent above the second. The 1990 law eliminated that bump, known as the rate bubble, and replaced it with limits on deductions and personal exemptions for upper-income households.

The Tax Cuts and Jobs Act reduced the corporate income tax rate from 35 percent to 21 percent, a change that was permanent from the outset. Most of its individual provisions, including the lower rates, were originally scheduled to expire after 2025. Older accounts that describe those rates as expiring are out of date: the 2025 law made them permanent.

The rules after the 2025 law

The 2025 reconciliation law preserved the individual brackets of 10 percent, 12 percent, 22 percent, 24 percent, 32 percent, 35 percent and 37 percent permanently, starting in 2026. “Permanent” describes the absence of a scheduled expiration; it does not mean a future law cannot change the rules.

The law also made the qualified-business-income deduction permanent. Eligible owners of sole proprietorships, partnerships and S corporations can deduct up to 20 percent of their qualified business income; employee wages and income earned through a C corporation are ineligible. S corporations elect federal tax treatment that generally passes income and losses through to shareholders, while C corporations are separate corporate taxpayers. Limits on the deduction phase in as taxable income rises through a set range; once they apply in full, businesses the law classifies as specified service trades generally cannot claim it. The law widened that range and created a minimum deduction for eligible taxpayers. The deduction shrinks the income being taxed; it is not a new rate.

For most taxpayers, the law capped the deduction for state and local taxes at $40,000 for 2025, provided annual increases through 2029, and scheduled a return to $10,000 in 2030. That higher cap is temporary, even though the rate schedule is permanent.

The law raised the lifetime estate and gift tax exemption to $15 million for people who die after 2025, with inflation adjustments. The exemption is the amount of wealth a person can give away or leave to heirs before the 40 percent federal estate and gift tax applies.

How investment income and tax preferences shape wealth

Wealth, or net worth, is assets minus liabilities. Income and wealth are related, but they are not interchangeable: a household can own valuable assets whose increase in value has not yet entered its taxable income. Capital gains generally enter income for tax purposes when an asset is sold and the gain is realized.

Generally, a gain is long-term if the asset was held more than one year before disposal, and short-term if it was held one year or less. Net capital gain is what remains of the year’s long-term gains after subtracting long-term losses, including losses carried over from earlier years, and any net short-term capital loss.

Net capital gain is taxed at 0 percent, 15 percent or 20 percent, depending on taxable income, the IRS says. Some gains have special maximum rates of 25 percent or 28 percent, and short-term gains are taxed as ordinary income. Higher-income individuals can also owe the 3.8 percent net investment income tax, which depends on investment income and income above the applicable threshold. Comparing a wage-income bracket with a capital-gains rate without these qualifications can understate the tax on an investment sale.

Inherited property generally receives a tax basis equal to its fair market value at the owner’s death, or an alternate valuation if the estate’s executor elects it. This is commonly called a step-up in basis: the heir’s starting value for tax purposes is reset rather than simply carrying over what the prior owner paid. The income-tax treatment of gains passed to heirs is distinct from whether the estate itself owes estate tax.

An inheritance can become a source of income, such as interest or dividends. Unequal ownership of income-producing assets can widen the income gap between households. That link is why tax-policy history since the 1980s includes the rules for building and passing on wealth, as well as the top income-tax rate.

Traditional individual retirement accounts and employer plans such as 401(k)s defer tax on contributions and earnings until withdrawal, when the money is taxed as ordinary income. Tax policy can therefore affect wealth building through timing as well as rates.

Whether the Reagan tax cuts created more billionaires is a different question from what happened to tax rates. Lower taxes can leave more money to save, and the rules on realizing and inheriting gains affect how assets are taxed. But a count of billionaires measures very large fortunes, not household incomes, and a rise in fortunes after a tax cut does not separate the cut’s effect from changes in earnings, markets and asset ownership.

What the inequality evidence actually measures

The Congressional Budget Office’s historical study of 1979 through 2007 found that average inflation-adjusted after-tax household income rose 275 percent for the top 1 percent, compared with just under 40 percent for the middle 60 percent and 18 percent for the bottom 20 percent. These are historical income-growth figures, not a claim about today’s wealth shares. They show that income became more unequal during that period, including after taxes. After-tax income in that study means market income plus transfers, including cash payments and in-kind benefits, minus federal taxes.

For 2007, the same CBO study found that federal taxes and transfers both reduced inequality: by the Gini index, a summary measure of how unevenly income is distributed, inequality in after-tax income was about four-fifths of inequality in market income. Their combined redistributive effect was smaller in 2007 than in 1979. Thus rising inequality and a progressive tax system can coexist: redistribution can narrow a gap without reversing the forces widening income before redistribution.

Newer reports compare one year with the next. The Congressional Budget Office’s The Distribution of Household Income, 2023, published in 2026, reported that income inequality decreased in 2023 both before and after transfers and taxes. The extent to which transfers and taxes reduced inequality was similar in 2023 and 2022. The Census Bureau’s report on calendar year 2025 uses both pretax money income, which excludes in-kind transfers, and post-tax income after federal, state and payroll taxes and credits. It found no statistically significant change in income inequality, measured by the Gini index, between 2024 and 2025. These one-year comparisons answer a different question from the long-run CBO study, and none of them measures wealth.

The Congressional Research Service identifies technological change, globalization, declining unionization and minimum-wage fluctuations among the factors contributing to wider income inequality since the 1970s. It also discusses winner-takes-all markets, changes in executive pay and increasingly unequal financial wealth generating capital income. The 1980s therefore belong in a longer economic history, rather than an explanation resting on one tax law.

A historical CRS study of top tax rates and economic growth expressly examined correlation rather than a causal relationship. Two trends moving together do not show how much one caused the other, so claims about tax cuts, economic growth or billionaire fortunes need more than a timeline.

Why taxing top incomes can produce volatile revenue

The evidence on volatility here comes from state income taxes, not the federal one. California’s Legislative Analyst’s Office found that the state’s personal-income-tax base, the income the tax applies to, was much more volatile than statewide personal income over 1990 through 2014, partly because the tax base included highly volatile capital gains. Receipts linked to asset sales can rise sharply in good years and fall sharply when gains shrink.

A review commissioned by The Pew Charitable Trusts explains that progressive rates can magnify the revenue impact of swings in capital gains, bonuses and stock options concentrated among high-income taxpayers. It also cautions that capital gains affect volatility differently across states and episodes, rather than producing a uniform effect everywhere. When a small group of taxpayers supplies a large share of a state’s revenue, swings in their income matter more to its budget. Volatile revenue is a budgeting problem; it does not settle how high a tax rate should be.

CRS explains that step-up in basis can encourage taxpayers to hold assets until death, limiting the revenue available from raising capital-gains rates. A revenue forecast therefore has to consider when taxpayers choose to sell, rather than simply multiply an unchanged tax base by a higher rate.

The trade-offs behind the argument

In an October 2017 analysis of a Republican tax framework, the Tax Foundation, a tax-policy research organization, argued that immediate full deductions for investment costs, known as full expensing, could lower the cost of new investment and make otherwise unattractive projects viable. It projected greater investment and a larger capital stock; those were forecasts, not observed results. It also projected that full expensing would reduce federal revenue by $2.4 trillion over a decade, or by $1.4 trillion after counting the added economic growth.

Of the 2025 law, the Tax Foundation argues that making immediate deductions for short-lived investments permanent removes a penalty on investment and gives taxpayers greater certainty. That is an argument about how investment costs are taxed, not a measurement of the law’s long-term effect on growth.

The Institute on Taxation and Economic Policy (ITEP), another tax-policy research organization, argues that because most capital gains go to very well-off people, the tax breaks for those gains should be limited to raise revenue more progressively. It says the country needs more revenue, raised from those most able to pay, to finance public investments.

ITEP has also supported proposals to limit stepped-up basis and tax millionaire capital gains at ordinary-income rates. Those are proposals, not current law. The choice between these positions turns on how investment responds, who bears the burden, how much revenue is needed and how taxpayers change their behavior.

The 2012 law shows who decides: facing a scheduled return to higher rates on January 1, 2013, Congress and President Obama agreed on legislation that retained most earlier rate cuts but restored the higher top rate. A proposal advertised as helping or penalizing wealthy people still needs to answer a concrete question: is it changing the rate on income, the rules for building and transferring assets, or both? Check the tax year on an IRS rate announcement and the measurement year on an inequality report before comparing them.