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The national debt is soaring, so will taxes go up? Here's what experts say

A sign showing the national debt and each Americans share is displayed on November 6, 2019 in Washington, DC.
Tasos Katopodis | Getty Images

The United States is in debt. A lot of it.

As of May 2020, the national debt, which accounts for all the money that the U.S. has borrowed and not yet repaid, is more than $25.1 trillion. At current rates of growth, that means the amount of money the U.S. government owes could balloon by nearly 70% to more than $42 trillion in four years. By comparison, back in 2016, the national debt was just under $20 trillion.

Understanding how the national debt works is important, especially because consumers play a role: in adding to it, in potentially slowing down its growth, and possibly in helping to offset it through taxes. As a result of the increased debt from the coronavirus stimulus packages, in particular, some experts believe that tax rates could increase in the next few years. 

"There's a very good chance tax rates will go up before 2026," says Ed Slott, a certified public accountant and founder of Ed Slott & Co.

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Understanding the difference between debts and deficits

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How the pandemic added to the national debt

The national debt is growing because the U.S. has had a budget deficit for years. That means each year, the government has spent more money than it brought in. Over time, those annual deficits have accumulated to become America's trillion-dollar national debt. And the interest on that debt cost more than $375 billion in 2019, more than spending on other key priorities like veterans' programs or unemployment insurance.

This year, the national debt will likely grow even faster because the government has passed massive stimulus programs to help consumers, businesses, and the broader U.S. economy recover from the coronavirus pandemic. The U.S. Treasury recently announced that it will borrow nearly $3 trillion in the second quarter — a record amount.

And this week, Democratic lawmakers proposed a second round of relief, which would amount to roughly $3 trillion (though it's unlikely to pass, especially in its current form).

What's included in the national debt

When spending exceeds revenues during a given period (usually a year), the government incurs a deficit. On an annual basis, the U.S. has operated with a budget deficit for years. The last year it had a surplus, when revenues exceeded spending, was 2000, according to data from the Congressional Budget Office, a nonpartisan group.

Taxes are the nation's primary source of revenue. Individual income and payroll taxes combined accounted for about 85% of money collected by the government in 2019. Meanwhile, outlays include discretionary spending, which includes defense, as well as mandatory programs, like Social Security and Medicare. Just these two programs combined made up almost 41% of total U.S. federal spending in 2019. 

If the government repeatedly operates a budget deficit, then the difference between what it spent and what it had available to spend becomes debt, or money that it must borrow. At the federal level, debt is split between:

  • Public debt. About three-quarters of the national debt is held by the public, including individuals, companies, other countries such as China and Japan, and the Federal Reserve. This category includes all of the bonds, bills, notes, and other securities issued by the Treasury.
  • Intergovernmental holdings. The remainder of debt is actually held by the government itself. This category refers to money that the Treasury owes to other federal agencies, like the Social Security trust fund.

The public owns a majority of the U.S. national debt. Indeed, government bonds are a popular choice for investors because they're considered among the safest investments: The federal government has never defaulted on its debt

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Here's how tax brackets actually work

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The deficit and tax rates

As a result of the multitrillion-dollar coronavirus stimulus package, and the cost of others currently under debate, the national deficit and debt both are projected to keep growing.

To curtail that growth, some experts caution, lawmakers may consider higher taxes as well as funding cuts to programs. "The most significant of the other risks is that the U.S. government will introduce significant fiscal restraint in the form of tax increases and spending reductions in 2021," Hugh Johnson, chief investment officer and founder of Hugh Johnson Advisors, recently wrote in a note to clients.

For many American workers, tax rates are the lowest they've been in years because of the 2017 Tax Cuts and Jobs Act. A worker who earns $55,000 in 2020 will have a marginal tax rate of 22% if he or she is a single filer, down from 25% prior in 2017.

Tax rates are scheduled to return to prior levels in 2026, though that could happen even sooner.

"The government just wrote a $2 trillion check on a bank account with no money in it," says Slott. "Somebody's going to pay the bill, and chances are it's going to be taxpayers."

How income is taxed

$110,000

How a federal tax bill could break down for someone with a taxable income of $55,000 and $110,000.

$25,800

24%

$84,200

$44,725

22%

$55,000

$15,525

22%

$39,475

$29,775

12%

$29,775

12%

$9,700

$9,700

10%

$9,700

10%

Total tax bill: $7,960 (14.5% of income)

Total tax bill: $20,575 (18.7%)

Note: Brackets are for tax year 2019.

graphic: kiersten schmidt | grow Sources: irs, grow calculations

How income is taxed

$110,000

How a federal tax bill could break down for someone with a taxable income of $55,000 and $110,000.

$25,800

24%

$84,200

$44,725

22%

$55,000

$15,525

22%

$39,475

$29,775

12%

$29,775

12%

$9,700

$9,700

10%

$9,700

10%

Total tax bill: $7,960 (14.5% of income)

Total tax bill: $20,575 (18.7%)

Note: Brackets are for tax year 2019.

graphic: kiersten schmidt | grow Sources: irs, grow calculations

How income is taxed

How a federal tax bill could break down for someone with a taxable income of $55,000 and $110,000.

$110,000

$25,800

24%

$44,725

22%

$55,000

$15,525

22%

$29,775

12%

$29,775

12%

$9,700

10%

$9,700

10%

Total tax bill: $7,960 (14.5% of income)

Total tax bill: $20,575 (18.7%)

Note: Brackets are for tax year 2019.

Graphic: kiersten schmidt | grow

Sources: irs, grow calculations

It's not just at the federal level that Americans could feel the financial ripple effects of the coronavirus.

State and local governments are seeing a decline in revenue. That's because lockdown orders and layoffs deprive them of two valuable sources: income taxes and sales taxes. To make up for that loss, states and localities could boost other tax rates, including corporate income taxes, excise and sales taxes, and property taxes.

How to prepare for potential tax increases

Much of what happens with the national debt, deficit, and ultimately taxes, is out of the control of ordinary Americans. However, there are steps you can take now in anticipation of higher taxes. 

One of the easiest moves you can make is to add money to Roth retirement accounts like a 401(k) or an IRA, instead of traditional ones. That's because one of the primary differences between a traditional and Roth IRA is when you're taxed. With a traditional IRA, you typically get a tax break on contributions and then pay taxes on withdrawals in retirement, whereas it's the opposite with a Roth IRA.

If you have an IRA or an old 401(k) from a former employer, moving that money into a Roth IRA — doing what's known as a Roth conversion — can save you on taxes down the road. Even though you will have to pay taxes when you make the change, the trade-off is you'll get a tax break come retirement because Roth accounts grow tax-free, and the money from them can be withdrawn tax-free.

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What is the difference between Roth and traditional IRAs

Video by Courtney Stith

Low tax rates in particular make now "a fertile time" to consider a Roth conversion because you'll be taxed at a lower rate than you might be in the future, Slott says. That's why "if you're younger and in a lower tax bracket, you should shovel everything you can into a Roth account."

That said, regardless of how the federal government chooses to deal with the historic deficit exacerbated by coronavirus-related spending, you won't be able to avoid paying taxes altogether. And your tax rate is likely to go up with time if you earn more money in the future.

Figuring out what tax bracket your income puts you into can help you to understand what your tax obligations could be. And if your income has just pushed you over the threshold into a new tax bracket, tax deductions can reduce how much of your income is subject to taxes. Tax credits are even more valuable: They directly reduce the amount you owe in taxes.

Finally, there are several legal "loopholes" that can help you to save hundreds of dollars, or even thousands, on your tax bill.

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