This phrase refers to a situation where some levels of income have the highest rate of taxation, even though the rate for the highest income earner is lower than the rate for an upper-middle class earner. This can happen with AMT.
Another definition is when a country has excessively high tax rates the country may find it needs to do drastic tax cuts to stimulate their economy, so the rate of taxation plunges from an unsustainable high, or bubble. For example, the U.S. had a 93% rate of taxation for the top earners which was reduced in the 1970’s and 1980’s.
Another definition is when a state like California has a huge amount of income coming from the top earners during boom times and then this taxable income is drastically reduced during a crash that in turn causes a “tax crash” as the result of taxpayers falling into lower tax brackets during an economic crash.
Donald Martin is a NAPFA-Registered Fee-Only financial planner and investment advisor.