Out of Control Policy Blog

Framing the Tax Debate for This Weekend

Yesterday the House passed a bill extending the Bush tax cuts to those making under $250,000, but in effect raising taxes on the rest of American wage earners. The bill also included, among other extensions, keeping capital gains rate where it stands. While the Senate is unlikely to pass the same bill this weekend, something does need to happen. Here is a snapshot way of looking at it:

  • We need thoughtful tax legislation. The tax code as it stands right now looks more like what a three year old randomly selected from a pile of Lego's than anything that could be defended as designed on purpose. Changes to the tax code should come with deliberation and more intention than just what is politically palatable or necessary. The fact that we are having to deal with this tax debate at the end of the year speaks to the failure of the Reid-Pelosi Congress for not addressing this sooner. 
  • That being said, taxes do need to go up in some capacity. While I won't commit to any specific tax increase right now, in looking at our fiscal situation and options, I don't think it is feasible politically or even economically to adjust the budget with only spending cuts. 
  • This doesn't mean a 50/50 mix of spending cuts and tax hikes—perhaps something more on the order of 85/15 favoring cuts would be palatable—but at least in the near term to curb the deficit, we will need to raise government revenue. The question where to raise taxes and how to do that justly and appropriately is a debate that should be more substantive than the game of chicken Congress is currently playing with 2011's tax stability.
What are the problems with raising taxes on those making $250,000 a year? I've written about them before in various articles and blog posts, but here is a summary:
  • Income tax rates on those making more than $250,000 will hit small business profits, since those profits are often filed as individual income. 
  • The wealthiest 10 percent already pay 70 percent of federal taxes, and 

    while the top 1 percent of Americans makes 22.8 percent of the wages, they also pay 40.4 percent of the overall tax bill is this a fair tax policy?
  • If 39 percent of the proposed $629 billion tax increase on high-income taxpayers would be extracted from business income, is this really helping the economy?
What are the problems with maintaining a sense of uncertainty?
  • The uncertainty holding the economy hostage has sidelined some $2 trillion in retained earnings, according to The Wall Street Journal. Corporations have about $1 trillion of that. And this doesn't include the $1.5 trillion or so that banks are keeping on their balance sheets above historical levels from a sense of fiscal and regulatory uncertainty.
  • Businesses don't know how to prepare their taxes just yet, because even if Congress fails to pass a bill, the next Congress might go back and adjust it. This is not a healthy way to treat business.
Here is the endgame argument: Increasing the top marginal tax rates to generate $650 billion to $900 billion in federal revenues over the next 10 years means that the same amount of money won’t be invested in the economy as consumption or savings. If the government can find a way to get a better return with that cash than the private sector, however, then the White House may be able to make a strong argument for the tax cut in retrospect. Historical data suggests this won’t be the case.

Anthony Randazzo is Director of Economic Research


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