Tax Rates (%) X Tax Base = Tax Revenue ($)
An endless source of confusion seems to exist regarding the frequently used term "raising taxes" (e.g., do a Google search for "raising taxes on the rich" and you'll find almost 3 million results), which usually refers to a proposal to raise tax rates in an attempt to raise tax revenues. Not so fast. It doesn't always work that way, and frequently works in reverse - higher tax rates result in lower, not higher, tax revenue collected. Here's the relevant formula:
One explanation for the confusion is that the word "tax" appears in all three relevant terms in the equation, so it's easy to conflate the terms "raising taxes," "raising tax rates" and "raising tax revenues." What we know for sure is that higher tax rates create disincentives for the activity being taxed (income, capital gain, consumption), which will cause the "tax base" to shrink. Depending on how much the tax base shrinks in response to higher tax rates, tax revenue could increase, decrease or stay the same.
Any discussion about "raising or lowering taxes" is always incomplete without considering how changes in "tax rates" will affect the "tax base," which then determines how the amount of tax revenue actually collected with change.
Thomas Sowell addresses this issue masterfully in his column today, here are some excerpts: