Tax Reform

Want to Do Tax Reform Right? Here Are Four Ideas.

Trade-offs, trade-offs, trade-offs, and does Congress have the guts to cut $70 billion in spending?

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Anthony Behar/Sipa USA/Newscom

Health care reform is front-and-center on Congress' agenda, but the clock is ticking. The Senate has until Sept. 30 to pass a bill with less than 60 votes. After that deadline—whether the Graham-Cassidy bill has passed or not—it's likely the discussion will shift toward the thing many GOP leaders (including President Donald Trump) have wanted to focus on all along.

Tax reform.

It's no secret Republicans are eager to reform our tax system and consider changes to corporate tax policy. Beyond that, though, details are still a little bit sketchy and plenty complicated.

Earlier today, Veronique de Rugy, senior research fellow at the Mercatus Center, outlined three principles for tax reform. Lower the corporate tax rate (Trump favors a new rate of 15 percent, down from the current 35 percent). Pass an actual budget. And, if necessary, pay for the tax changes with spending cuts.

The final leg is the key to the whole thing, because it reveals the truth about tax reform or any other complex policy issue. It's all about Congress making actual trade-offs, rather than simply cutting taxes and adding to the federal deficit.

This is a practical rather than theoretical argument. For tax reform to pass in the Senate via the reconciliation process and without Democratic votes which it is unlikely to get, the majority must conform to the Boyd Rule, requiring that it does not add to the federal deficit.

How, then, do you make all those pieces fit together? The Tax Foundation has a few ideas. The D.C.-based think tank, which favors lower rates and a broader base for taxes, today released four potential blueprints, each with benefits and trade-offs, for Congress. Three of the four are revenue neutral. The fourth requires an estimated $70 billion in spending cuts to balance.

"The goal here to show is that there are a lot of ways to successfully achieve tax reform," said Scott Drenkard, an economist for the Tax Foundation. "This won't be easy, and everyone is going to have to give up some special provisions that currently benefit them, but the end game is lasting economic growth and higher wage."

Option A: Replace the federal corporate income tax with a 22.5 percent cash flow tax, and allow companies to expense the investments in full (as de Rugy explains, "companies generally aren't allowed to immediately deduct (expense) their investment costs when calculating taxable income and that this creates a bias against business investment"). The current seven individual tax brackets would be consolidated into three at rates of 12, 20.5, and 37 percent. The standard deduction would nearly double, from $6,350 ($12,700 married filing jointly) to $12,000 ($24,000 married filing jointly).

Projected GDP growth: 7.1 percent.

Trade-offs: It would eliminate all itemized deductions, except the home mortgage interest and the charitable contribution deductions. The home mortgage interest deduction would be capped at $500,000 of acquisition debt. Family and child benefits would be consolidated. The personal exemption would be replaced with a $500 non-refundable credit for non-child dependents.

Option B: Cut the corporate income tax rate from the current 35 percent to 15 percent. Make bonus depreciation permanent and broaden the corporate tax base by eliminating nonstructural business tax expenditures. The current seven individual tax brackets would be consolidated into three at rates of 10, 25, and 38 percent. The standard deduction would be greatly increased, from $6,350 to $50,000 for single filers (from $100,000 married filing jointly; $75,000 heads of household).

Projected GDP growth: 3.2 percent.

Trade-offs: The personal exemption and all personal credits would be eliminated, including the current Child Tax Credit and the Earned Income Tax Credit (they would be replaced by new consolidated credits: a new work credit, a new child tax credit, and a new additional child tax credit). The plan would tax all capital income (capital gains, dividends, and interest) as ordinary income. Most itemized deductions would be eliminated, but the state and local tax deduction, the home mortgage interest deduction, and the charitable contribution deduction would remain.

Option C: Cut the corporate income tax rate to 28.5 percent, and permanently extend a 50 percent bonus depreciation. Seven individual tax brackets would become four at 12.5, 25, 33, and 38 percent. The standard deduction would be increased from $6,350 ($12,700 married filing jointly; $9,350 head of household) to $7,000 ($14,000 married filing jointly; $10,500 head of household).

Projected GDP growth: 2.2 percent

Trade-offs: Distribution of taxes would remain roughly the same as today. To broaden the individual income tax base, eliminate the state and local tax deduction.

Option D: Cut the corporate net income tax rate to 25 percent, and permanently extend the 50 percent bonus depreciation. Individuals tax brackets would be consolidated the same as Option C. The standard deduction would be increased from $6,350 ($12,700 married filing jointly; $9,350 head of household) to $7,000 ($14,000 married filing jointly; $10,500 head of household).

Projected GDP growth: 3.7 percent

Trade-offs: And this is a big one. It would require $70 billion in spending cuts to meet the Boyd Rule requirements for revenue neutrality. Does Congress have the guts for that? Only time will tell.

NEXT: Brickbat: Stifling Intellectual Competition

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  1. Why are all tax reform proposals presented as packaged options? I would prefer a list of possible changes with their impact analysis.

    1. We don’t do incremental reform. We do comprehensive reform. Bigger bills have more places to hide shit.

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        1. Do you declare that income and pay all taxes (income and both sides of social security etc) ?
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  2. I like all of these options, but Option B most intrigues me, it seems the most radical. A $50,000 standard deduction? Wow.

    Personally however the debt concerns me a lot more than taxes do at this point. I would be okay with no changes in the tax code if it meant any surplus taxes went to actually paying down the debt. At least until this ridiculous $20 trillion figure got a little more under control.

    1. Option B begs the question, with such a high standard deduction, why keep the mortgage interest, and charitable giving deductions? The only reason to do so seems to be just so it can be said that they still exist.

      1. That’s exactly why they’re being kept in all Options. You’ve got huge lobbies who would knee-jerk against any proposal that cuts them.

      2. I disagree. The stated reason for keeping those deductions is always to encourage that behavior because somebody thinks it’s good.

        In the case of mortgages, it’s good for banks. You can strike that one.

        I’d rather prefer to keep the charitable giving deduction, in fact, make it 1 for 1. I rather like the idea (and think it is highly libertarian) of letting private charities compete for funding with the government. I can tell you who would win in my book!

    2. My problem with B is that is cuts huge swaths of middle America out of the tax pool. I think we need lower taxes (with lower spending) and a broader tax base. People care more about taxes when they’re actually paying them.

      1. It also stabilizes tax revenues. A narrow tax is subject to the actions of a few people. Taxing everyone at 1% is more stable than taxing only the top 10% at 10%.

        1. That’s a great point. Imagine what 2008-1012 would have done to the debt if all tax revenue had come from capital gains, say.

    3. According to 2016 numbers, that would mean that 64% of Americans pay no taxes just on the basis of standard deduction. That doesn’t even pass the sniff test. With property tax and mortgage and other deductions, I don’t see how it’d work out where 75% of the citizens ride for free (federally speaking).

      1. Yeah, it works so great when 47% of the citizens ride for free (federally speaking). And when 14% or so are paid to ride (having negative combined income + payroll tax burden…their refunds, e.g. from EITC, *more than offset their income taxes AND their FICA taxes!).

      2. Now of course, this doesn’t count payroll taxes. And the proportion is the infamous 47% of Mitt Rmoney’s “lucky duckies”. It’s not as hard as you think. The 0% bracket is now about $10.5K for a single person, and there is the Earned Income Tax Credit, so a family might have to go north of $30K to start paying federal income tax; that’s a solitary breadwinner earning $15/hr, and with all the bennies his family would lose with increased income, wifey is not going to work.

      3. Fewer crime victims is a good thing.

  3. If feet held to fire, I would say have corporate tax rate at zero with all corp dividends and cap gains taxed to individuals at ordinary income tax rates, thus ending double taxation. Somewhat like a Sub S today, except profits or cash flow held by the corp. as assets would not be taxed until paid as dividends or the shareholder sold his or her stock for a gain.

    1. Agreed. It seems silly to discuss how lowering the corporate tax rate will stimulate growth when the next crisis among the limited government folks results in them losing influence, and the rate goes up again on a wave of eat the rich. That’s not a stable environment. You really want to stimulate growth? Take certain forms of taxation off the table completely. Whole swaths of the tax code get dumped, and politicians can’t trade special exemptions for campaign contributions. Let’s not forget how we got to such a convoluted code in the first place.

      The mantra shouldn’t be cut taxes, but simplify. Several taxes should be ended outright, and the ire of the public can be focused like a guillotine blade on the dolts who try to introduce a new tax (like a tax on internet purchases or carbon credits… that worked out well).

    2. This has been my baseline on this subject, too.

    3. No, I say that if corporations want the right of limited liability, they need to pay for the privilege.

  4. I could get behind Option A. In fact it looks really attractive. The rest don’t go too far enough.

    Options C and D are just little tweaks around the edges (which is why they probably have the best chance of success, unfortunately). Option B is radical, but it cuts too many middle class folks out of the tax base. We need everyone to have some skin in the game so they’ll actually care about what the rates are.

    Option A is certainly the best for growth and more growth will make any tax scheme easier to tolerate for all Americans.

    1. Yes, because 7.1% growth just grows on trees

  5. I have a better idea about the individual income tax, Eric. 1. fundamentally rethink what you have been told about the income tax by the government and the tax farmers. The best place to go is Pete Hendrickson’s website http://www.losthorizons.com but you can also visit my blog http://www.nontaxpayersforronpaul.blogspot.com. 2. Learn the difference between income and taxable income. 3. Get your 1040 form and the IRS form for refuting the information returns falsely issued by payors to you. 4 Truthfully declare your so called wages and income. If you had no statutory wages or federally connected income, put down zeros. 5. Take only the standard deductions. No need for social engineering when you file an educated return! 6. request a complete refund of all withheld taxes, including payroll taxes if you wish, as you have determined they were not taxable under the income excise tax laws. 7 Attach the IRS form you used to dispute the income tax return (see Pete’s Website). 8. Sign the jurat under penalty of perjury. 9. Send them in! 10 wait a few weeks then cash your refund check. HOWS THAT FOR TAX REFORM, ERIC?

    1. Step 2. Get arrested.

  6. Which one of these options closes the 400B deficit completely?

    1. Option E: cut spending

      1. hahahahahahahahaha…silly rabbit

  7. “Three of the four are revenue neutral.”

    All together now: FUCK YOU, CUT SPENDING

    1. In other words, not tax cuts at all, just buck passing.

  8. Even better do the Fair Tax. That would finally put our domestically produced goods on the same footing as foreign ones by removing embeded taxes.

    It would also get the government out of your personal financial life, and save 100 billion a year in tax compliance costs.

    Plus of course it would make our government less corrupt without all the incentive for tax loopholes.

    1. Plus we would end up with a national sales tax AND an income tax.

  9. Really? I have to tell a Libertarian website to include an option for elimination of all taxes except a national sales tax paid by all? It is THE ONLY fair means of taxation and it was not even mentioned.

    1. reason.com is a Republican site with plenty pretending to be libertarians.

  10. “It’s no secret Republicans are eager to reform our tax system…”

    It’s not a secret, it’s a myth. Republicans are, however, big on _pretending_ to be eager to reform our tax system while they’re running for office, with their pretend eagerness disappearing as soon as the election is over. Rather like their pretend eagerness to repeal Obamacare, actually.

  11. Option never:
    Cut all federal programs not specified in the constitution, and tax all income (personal, business, passive, active, whatever; all income, without exception or deduction) at whatever low rate will fund the parts of federal government that are actually legal.

    1. As I’ve often said, the constitution isn’t perfect, but it’s a damned sight better than what we have now.

      -jcr

  12. Those choices are all so lame, they barely qualify as reform. How about drastically reducing the top rates, and broadening the base by eliminating most deductions, including for mortgage interest and charitable giving, and reducing or eliminating the standard deduction and dependent deductions?

    1. Taxing dividend income at a lower rate than regular income has not worked to promote capital investment at all. It has only promoted stocky buybacks. Tax them both at the same lower to balance the budget while incrementing in spending cuts through the political process. Eliminate both the mortgage interest and charitable giving deduction. If people want to give to charity (or to their already-rich alma-mater schools) then they should do it on their own dime, or else it’s not really charity.

  13. The top of this essay is the critical one: if all we do is cut taxes, we will gain some growth(*), but we will have done nothing to fix the real problem: spending.

    We *must* lower spending if we are ever to improve the economy (and the level of freedom in the US, and hence our strength in the international marketplace of ideas). Everything else is rearranging the deck chairs.

    (*) *some* growth. I always distrust predictions that X change will bring (or cost) Y much growth. Macroeconomics simply isn’t that much of a science. (Yet) These predictions are too much like the infamous Laffer curve. It’s certainly true that there is an optimum point on the curve from 0% taxation to 100% taxation, where revenue is maximized. But I never saw one shred of proof that the current tax rate is on the negative-slope side of that curve (where cutting taxes produces more revenue through growth than is lost to the lower tax rate). It is just as likely — in fact, given our history *more* likely, that we are on the positive side of that curve. NOT that maximizing revenue is or should be the only criterion — just that the use of the Laffer curve by Reagan to justify tax cuts was just what Bush41 called it in his campaign: Voodoo economics.

  14. OPTION E: Repeal the Boyd Rule. Amend the current tax code to cap corporate and individual tax rates at 20 percent. Stop issuing government bonds ? replace debt-based money with debt-free money, so that the deficit no longer adds to the national debt. See http://www.fixourmoney.com .

    1. Option F: When extra revenue is needed, harvest Tony’s organs. When Tony runs out of organs to donate, or expires, move on to the next progtard. Repeat as necessary.

  15. Eliminate all means-tested federal welfare programs (no more food stamps, subsidized housing). Give everybody (I mean everybody) a guaranteed minimum income (say $8000/yr for adults and $4000/yr for kids, but it may need to be lower). Eliminate all tax deductions and have a flat tax of 25% on all income sources (wages, capital gains, interest, dividends, etc. are treated identically). Only US Citizens would qualify for the full GMI. Foreign workers and permanent residents might get a partial GMI. States could still do their own welfare programs.

  16. Option E: abolish the IRS and the Fed, repudiate the national debt, obey the constitution and abolish fiat currency, let the chips fall where they may, and institute the death penalty for counterfeiting.

    -jcr

  17. This is like repealing Obamacare. They can’t get their fingers out of the pie. They’re not changing much of anything, just moving the shells around trying to confuse people. Raise this rate, lower that one, cut that deduction but keep the popular ones, favor these folks, punish those, etc. We’ve already lost when were arguing the relative merits of these proposals instead of focusing on simplifying the code and reducing spending.

  18. Re: Option B:

    Eliminating the EITC would be a feature, not a bug. When you have 50K personal exemption allowed, no one who met the EITC caps before would be paying a dime in taxes anyhow.

    Unless the worry is irresponsible people won’t get paid to $#!% out more kids…

  19. Aside from corporate income tax – something that was not addressed during the last great tax debate of the ’80s – there doesn’t seem to be much that can be done in tax reform without taking a whack at a cherished deductions – which will be VERY hard to do. Changing the exemption from a straight up $4K to a $500 non-refundable credit? OK, that actually helps folks at the lower end of the income scale, but it’s not much – and it leaves open the possibility to the redistributionists to change it from non-refundable to refundable, which is another way of saying “Hello Guaranteed Income”. Fewer tax brackets? Since folks have to use the tax tables, it really doesn’t simplify things for the regular Joe Sixpack, but only for the beady-eyed accountant. Now all that said, there is one reform that would make sense and be seen as a positive with the lumpenproletariat: get rid of the damn rule that hedge fund managers get to earn their income at a lower tax rate!

    I think the Republicans are building up the idea of this tax reform as being like the 2nd Coming; the final product is guaranteed to underwhelm.

  20. Here’s my four ideas (not original, sorry I don’t know who started each one):

    1. Eliminate the personal income tax. Make the top rate 0 percent. Taxes are theft. The USA got by without it for over a century, and economic growth was unmatched.

    2. If 1) doesn’t pass: establish an Alternative Maximum Tax (new AMT). Once your federal tax bill reaches ten thousand dollars, you don’t have to pay any more. If you pay the max, you don’t have to file a tax return detailing where your income came from or what your deductions might have been. Who gets more than 10K benefit from the USA government anyway?

    3. Establish USA savings accounts. As in Unlimited Savings Accounts. Not the wimpy ones pitched a few years back. Save as much as you want, pre-tax, like IRAs and 401(k)s. But no yearly limit on the savings amount. And no taxes on the interest and capital gains later. And no penalties for early withdrawal. And no investment rules. And no taxes when you withdraw your money. This is exactly the type of savings Americans had for over a century, before the income tax was spawned.

    4. Allow only net taxpayers to vote. Government employees should not get to vote on how the government spends money. Neither should retirees or the indigent living on government assistance.

  21. Why are all tax reform proposals presented as packaged options? I would prefer a list of possible changes with their impact analysis.

    Yoga Burn

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