The GOP’s ambitious tax reform plan is out, and it’s officially titled the “Tax Cuts and Jobs Act.”
If the measure is passed and becomes law, it’ll make history as the first meaningful case of sweeping tax reform since Ronald Reagan in the 1980s.
The most drastic change that tax reform makes is in lowering most individual tax rates while simultaneously broadening the tax base (i.e., what’s subject to tax).
On the cuts size, there’s plenty to like. As we summarized in a separate column, there are plenty of cuts:
- Lowering individual tax rates for low- and middle-income Americans to zero, 12%, 25%, and 35%; keeps current tax rate in place for those making over $1 million at 39.6%
Tax brackets will also be indexed to inflation, meaning there’s no risk of earners being pushed into higher tax brackets from inflation.
- Increasing the standard deduction from $6,350 to $12,000 for individuals and $12,700 to $24,000 for married couples.
- Establishing a new Family Credit, which includes expanding the Child Tax Credit from $1,000 to $1,600
- Preserving the Child and Dependent Care Tax Credit
- Preserving the Earned Income Tax Credit
- Preserving the home mortgage interest deduction for existing mortgages and maintains the home mortgage interest deduction for newly purchased homes up to $500,000, half the current $1,000,000
- Continuing to allow people to write off the cost of state and local property taxes up to $10,000
- Repealing the Alternative Minimum Tax
- Lowering the corporate tax rate to 20% – down from 35%
- Reducing the tax rate on business income to no more than 25%
- Allowing businesses to immediately write off the full cost of new equipment
- Retaining the low-income housing tax credit
The estate tax will also be repealed, which is long overdue. Introduced as a tax to pay for WWI, it’s a reminder that there’s no such thing as a “temporary tax.” Also seldom discussed is that it’s a pointless tax. According to a 1992 study by economists Henry J. Aaron and Alicia H. Munnell, they estimate the “cost of complying with estate taxes to be one dollar for every dollar of revenue raised – nearly five times more costly per dollar of revenue than the notoriously complex federal income tax.”
But as we also reported, there are some dirty details – and you don’t see Congressional Republicans mentioning them. One in particulate acts as a surcharge on the rich, which is included in the tax plan to make-up for the lost revenues from millionaires benefiting from lower-bracket tax cuts. Remember, because we have a progressive tax system, we all pay the same 10% on our first $10,000 in income, so even a billionaire would technically benefit from a cut in that rate.
According to a Politico report, “After the first $1 million in taxable income, the government would impose a 6 percent surcharge on every dollar earned, until it made up for the tax benefits that the rich receive from the low tax rate on that first $45,000. That surcharge remains until the government has clawed back the full $12,420, which would occur at about $1.2 million in taxable income. At that point, the surcharge disappears and the top tax rate drops back to 39.6 percent. This type of tax is sometimes called a ‘bubble tax,’ because the marginal tax rate effectively bubbles up for a brief period before falling back to a lower level.”
And then there are the more “hidden” tax increases. Remember, in addition to changing marginal tax rates, changes in the tax code can change effective tax rates by increasing or decreasing deductions. For example. if someone in the 35% tax bracket has the amount of mortgage interest he can write-off each year decrease by $5,000, it’ll be the same effect as a tax hike of $1,750 ($5000 multiplied by the 35% tax rate). So on that note, let’s look at the many ways the GOP tax plan offsets revenue losses from tax cuts by “base broadening.”
- Elimination of the personal exemption. Creates a $300 personal credit, along with a $300 nonchild dependent personal credit, in place for five years.
- Retaining the mortgage interest deduction, but with a cap of $500,000 of principal on newly purchased homes. Also retains charitable contribution deductions and the deduction for state and local property taxes, the latter of which would be capped at $10,000; eliminates the remainder of the state and local tax deduction along with other itemized deductions.
There are also “base broadening” measures for business as well, including:
- Elimination of the destructibility of net interest expenses on future loans to 30 percent of earnings before interest, taxes, depreciation, and amortization for all businesses with gross receipts of $25 million or more.
- Restricting the deduction of net operating losses to 90 percent of net taxable income and allows net operating losses to be carried forward indefinitely, increased by a factor reflecting inflation and the real return to capital. Eliminates net operating loss carrybacks.
- Eliminating the domestic production activities deduction (section 199), and other business deductions and credits.
And here’s one of the biggest hidden tax increases in the GOP plan. The bill allows small businesses currently being taxed at an individual rate to be taxed at a 25% rate. But there’s a catch (via Axios): “The default option is for 30 percent of income to be deemed business income, while the other 70 percent would be taxed at the filer’s individual rate. The business income would be taxed at the 25 percent rate, while the rate for the individual income would be higher.
The National Federation of Independent Business has come out against this provision, arguing that “We are concerned that the pass-through provision does not help most small businesses. Small business is the engine of the economy. We believe that tax reform should provide substantial relief to all small businesses, so they can reinvest their money, grow, and create jobs.”
Of course, despite those increases, the tax plan does lower taxes on net basis. Even with all tax increases factored in, the Tax Foundation does estimate that the plan includes nearly a trillion dollars in net tax cuts over the next decade.
The economic fruits the plan yields will ideally also help “pay for” the tax cuts. The Tax Foundation for instance predicts that the plan will create the equivalent of one-million full time jobs, among other benefits.
The President’s Council of Economic Advisors recently released a report showing a drastically higher estimate for wages, finding that updating the U.S. business tax code to compete with other countries around the world could boost workers’ wages by $4,000, and as much as $9,000 a year.
By their second decade in effect, economic gains are expected to “pay for” half of the tax cuts.
Now, all the Congress needs to do is finally cut spending. The 2018 budget allots for $4.094 trillion in spending, and there’s plenty of cuts that could be made. Anyone who thinks that we “can’t afford” to spend less (due to the presumably disadvantaged beneficiaries of government spending being cut off) clearly hasn’t looked at the history of government spending. In 2012-era inflation adjusted dollars, our federal government didn’t break $4,000 per person until the 1960s. That had doubled by 1985 – and is on track to double again. Bear in mind that state and local spending has also been on a constant trajectory straight upward as well.
For the first time in decades Democrats will pretend to be fiscally responsible in questioning whether or not the country can afford the Trump tax cuts, but a better question to ask would’ve been to ask if we could afford the federal government’s spending under Obama’s tenure. There are twenty trillion reasons to say we couldn’t.
