How to Calculate a Tax Expenditure
A tax expenditure equals revenue under a clean tax base minus revenue actually collected, which for one taxpayer is their rate times the amount the break removes.
The Tax Expenditure formula
Calculator
Enter the amount a deduction shelters, the marginal rate and the number of claimants to get the revenue given up.
The deduction, exclusion or write-off one taxpayer claims.
The rate on this taxpayer's last dollar, which is what the break is worth per dollar sheltered.
How many taxpayers use it, which turns a personal saving into a budget line.
Same deduction, smaller marginal rate. This is what makes a deduction an upside-down subsidy.
The treasury never collects $3,200 from this household, which is the same as handing it that much in cash.
- Revenue forgone across all claimants
- $6,400,000,000
- Value of the same break at the lower rate
- $1,200
- Extra value to the higher-rate household
- $2,000
- Share going to the higher-rate household
- 72.7%
Scaled across everyone claiming it, the provision costs $6,400,000,000 a year, none of it recorded as spending.
An identical write-off saves the lower-bracket household $1,200, because a deduction is worth whatever rate you face.
The higher-bracket household comes out $2,000 ahead for doing the same thing, which a flat credit would not do.
Of everything the break costs across these two households, 72.7% lands with the one in the higher bracket.
How to calculate Tax Expenditure, step by step
- 1Measure what the break removes from the base. A deduction or exclusion lifts a slice of income out of the tax base. Write down the size of that slice for one taxpayer.
- 2Apply that taxpayer's marginal rate. Under a clean base the slice would have been taxed at the rate on the last dollar earned, so the revenue given up is the rate times the slice.
- 3Scale it by the number of claimants. Multiply the per-taxpayer figure by everyone who claims the break to get what the provision costs the budget in a year.
- 4Run the same slice at a lower rate. A deduction is worth the taxpayer's own marginal rate, so repeat the arithmetic for a lower bracket to see how the benefit is split.
Worked example: Tax Expenditure
An illustrative deduction lets a household subtract $10,000 of charitable gifts from taxable income. A household whose last dollars are taxed at 32% would have owed 0.32 × $10,000 = $3,200 on that slice under a clean base, so the tax expenditure is $3,200. With 2 million households claiming it, revenue forgone is 3,200 × 2,000,000 = $6,400,000,000. The identical $10,000 deduction claimed by a household in a 12% bracket costs the treasury only 0.12 × $10,000 = $1,200, which is $2,000 less than the same write-off delivers in the higher bracket. Between the two the break costs $4,400, of which 3,200 ÷ 4,400 = 72.7% lands with the higher-bracket household.
Tax Expenditure questions
Why is a tax break counted as spending?
Because it costs the treasury the same as writing a check. A credit that cuts a household's bill by $500 leaves the budget exactly where a $500 grant would, so counting it as spending makes the two routes comparable.
Is a deduction worth the same to everyone?
No. A deduction is worth your marginal rate times the amount deducted, so it delivers more to a household in a higher bracket and nothing at all to a household that owes no tax. A refundable credit is worth the same to everyone.
Do tax expenditures show up as government spending?
They cut revenue rather than appearing as outlays, so they widen the deficit without ever showing up on the spending side of the budget. Many governments publish a separate report listing them for that reason.
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