The Politics of Utah Sen. Mike Lee’s New Tax Reform

by Reihan Salam

Utah Sen. Mike Lee’s “Family Fairness and Opportunity Tax Reform Act” (FFOTRA) is the most promising development in Republican domestic policy in years, and it is the subject of my latest Reuters Opinion column, which should be posted shortly. FFOTRA bears a strong family resemblance to the tax reform proposal Robert Stein offered in his influential National Affairs article “Taxes and the Family,” and it has the potential to meaningfully alter the political landscape. (Patrick Brennan has a rundown of the proposal at The Corner.) The most politically salient aspects of the plan are as follows:

1. FFOTRA establishes two individual income tax rates. The 15 percent rate applies to the first $87,850 for single filers ($175,700 for joint filers), and the 35 percent rate applies to all income above that threshold. The vast majority of households ( up to the 95th percentile for single filers and the 87th percentile for joint filers, drawing on 2011 data) would pay at the 15 percent rate. One is reminded of Richard Gephardt’s 1995 call for a “flatter” tax code built around a 10 percent rate for four out of five Americans and a 34 percent top rate for the highest-earners. The difference is that FFOTRA is more generous along another dimension. The new top rate is lower than the 39.6 percent top rate in the post-cliff tax code, and the effective top rate under FFOTRA is lower still, as the proposal envisions repealing the taxes established under the Affordable Care Act. But one can easily imagine FFOTRA having a 39.6 percent top rate instead of a 35 percent top rate.

2. The centerpiece of FFOTRA is a new child tax credit (NCTC) of $2,500 per-child, which can be used to offset federal income taxes and payroll taxes. Yet this credit does not replace the existing child tax credit (CTC), a refundable tax credit that phases out as families earn higher incomes. Rather, it operates as an entirely separate credit available to all parents. The CTC is relatively progressive, and the decision to retain it in FFOTRA, along with a number of other tax benefits for parents, is a significant one. (The Committee for a Responsible Federal Budget has released an analysis of the CTC.) In 2010, McLaughlin & Associates, a GOP-aligned polling firm, asked voters whether they approved or disapproved of a measure that would increase the CTC from $1,000 to $3,000 to reduce the financial burden on families, and 67.2 percent of respondents approved (37.3 percent strongly, 29.8 percent somewhat). McLaughlin has released more recent data, which Ramesh Ponnuru will discuss in greater detail. FFOTRA does not increase the refundable CTC, and the NCTC is meaningfully different. 

But one suspects that the NCTC has a great deal of political potential. As of 2012, the share of all households with related children under 18 was approximately 32 percent. This total includes one-parent families, which represent 9 percent of all households. Between 1970 and 2012, the share of households that were married couples with children under 18 went from 40 percent to 20 percent, a steep decline. Yet this constituency, which stands to benefit considerably from the NCTC due to its relatively high payroll tax liability, is politically engaged and influential. And it is distributed across states in an interesting pattern. The Census provides 2010 data on households by type across states, and the share of husband-wife households with children under 18 exceeds the national share (20.2 percent) in some of the Republican-leaning states that you’d expect, like Utah (31.7), Texas (23.7), and Idaho (24), but the same is true in a small number of Democratic-leaning states as well, including California (23.4) and New Jersey (23.3). 

3. One reason why FFOTRA might not lead to GOP breakthroughs in California and New Jersey, however, is that it eliminates the state and local tax deduction, a wise policy on substantive grounds that will be resisted by Democrats and Republican residing in high-tax jurisdictions. It also caps the mortgage interest deduction at $300,000 worth of principal, greatly reducing its value in regions with high housing costs. Parents with children in these jurisdictions will be shielded from the resulting tax increase, but affluent voters without children will likely face significant tax increases. The idea that tax increases are necessary is a central article of faith among Democrats and has been for decades, yet Democrats tend to advocate tax increases on a relatively narrow slice of the electorate, which largely excludes upper-middle-income voters. The NCTC can be understood as a “wedge issue,” which has the potential to divide Democrats and, to a lesser extent, Republicans. Middle-income Democratic voters with children might find FFOTRA very attractive, particularly if they live in relatively low-tax, low-cost regions. Some small number of Republicans living in high-tax, high-cost regions might also resent FFOTRA, but these Republicans primarily influence politics through their donations and their activism, not through their votes. 

4. Some critics, primarily but not exclusively on the left, will object to the fact that FFOTRA is revenue-negative. My view is that the most important aspect of the plan is the NCTC, and so a revenue-neutral version of FFOTRA that retains the NCTC or something much like it would still be very attractive. Sen. Lee tends to favor aggressive spending restraint, a stance that is consistent with a revenue-negative tax reform. Those who favor the NCTC concept yet who also believe that even a reformed entitlement system will be expensive to sustain over the next two decades will find themselves in a somewhat more difficult position. (I wonder if a three-rate structure, which preserves the 39.6 percent bracket for the highest-earners as a concession to the populist mood, might make sense. There might also be room to tweak the treatment of capital income.)