A marginal tax rate tells how much tax is paid on an additional, or marginal, dollar of income. When assessing the effect of marginal tax rates on investment, it is the effective tax rate rather than the statutory tax rate that matters. A statutory marginal tax rate is a legal definition of the amount of extra income needed to pay taxes due from an additional dollar of taxable income in any year. By contrast, an effective marginal tax rate estimates the extra share of the total return from an investment needed to cover tax liabilities over an investment's useful life. A tax system with high effective tax rates on labor and capital income will dampen economic growth by reducing incentives to work and invest in capital formation.

   Pro-growth tax policy, whether through adopting a consumption base, lowering statutory tax rates on saving and investment, or allowing individuals to fully deduct the cost of investment from taxable income, stimulates new investment by lowering the effective tax rate on investment income. Individuals and businesses will undertake more projects because lowering the effective marginal tax rate reduces the pretax rate of return necessary to make new projects profitable. In addition, lowering the effective tax rate on the return to capital investment enhances the competitive position of the United States in today's increasingly global economy. This is because a lower effective tax rate raises the after-tax return to U.S.-based investment relative to foreign investment, making U.S. investment relatively more attractive to both domestic and foreign investors.