Politics & Policy

The Perilous Path to Tax Reform

House Speaker Paul Ryan (Reuters photo: Yuri Gripas)
It won’t be easy, but it is worth doing.

Paul Ryan has threatened to keep Congress in session until Christmas if that’s what it takes to get a tax-reform bill passed. But it’s still an open question whether Republicans will be getting presents or coal in their stockings.

There is an assumption that Republicans will ultimately pass some type of tax-reform or tax-cut bill, if for no other reason than that they’re desperate. This Congress has few if any legislative accomplishments to its name, and after the Obamacare repeal-and-replace debacle, the party can’t afford another failure.

Yet the divisions on display in the Obamacare debate have not gone away, and the failure of repeal and replace cost Republicans hundreds of billions in savings that they had been counting on to offset tax cuts. With that money off the table, the arithmetic of tax reform got a lot more complicated, which is why the GOP tax plan still remains little more than a vague outline.

Republicans continue to disagree sharply over just what tax reform should accomplish — or even whether the priority should be cutting taxes or reforming the tax system. The usual formula for tax reform is to trade fewer deductions and loopholes, which often distort economic activity and benefit special interests, for lower rates. But that can create losers as well as winners. And therein lies the rub.

Senator Rand Paul, for instance, questions whether doing away with some tax breaks means that too many middle-class taxpayers will lose out. “This is a GOP tax plan? Possibly 30% of the middle class gets a tax hike? I hope the final details are better than this,” Paul tweeted a few weeks ago, citing a study from the Urban-Brookings Tax Policy Center. That study has been widely and justifiably criticized for the assumptions it made. But it does highlight the troublesome trade-offs that a reform package could entail.

Meanwhile, Senator Bob Corker, fresh off his latest Twitter fight with President Trump, expressed his concern that a tax cut would explode the national debt. Some estimates suggest that, even after accounting for economic growth, the tax bill could add $1.5 trillion to the national debt over the next ten years. Corker said that he is unlikely to support any bill that does that.

Some Republicans want to focus on cutting tax rates for business, which are an increasing burden on American competitiveness. Others from the pro-family wing of the party want a tax plan that benefits the middle class with a rate cut and/or an increase in the child tax credit, which would likely have less impact on economic growth. And President Trump continues to hint that he might support a rate increase for top earners, which might please Republican populists and win a couple of Democratic converts but would almost certainly cost the support of conservatives.

Republicans still have just a two-vote margin in the Senate, meaning that they will have to find some way to keep all these competing factions — along with such habitual iconoclasts as McCain, Collins, Murkowski, Lee, and Cruz — happy.

And even if they can settle on a package that satisfies everyone, it won’t be ideal. Because their majority is so slim, they are planning to resort to the budget-reconciliation process to pass a tax bill, and reconciliation legislation cannot, by rule, increase deficits beyond ten years. That almost certainly means that at least some tax cuts in any bill will have to be crafted to expire in a decade, which is troublesome for businesses that need to plan for the future.

None of this means that we don’t need tax reform. Our current tax system is uncompetitive and a burden to both business and individuals, slowing economic growth. But as we saw with efforts to repeal and replace Obamacare, needing to do something and doing it are two entirely different things.

READ MORE:

An Anti-Growth Tax Cut

An Opportunity for Pro-Growth and Pro-Family Tax Reform

The Tax-Reform Challenge

Michael Tanner — Michael Tanner is a senior fellow at the Cato Institute and the author of Going for Broke: Deficits, Debt, and the Entitlement Crisis. You can follow him on his blog, TannerOnPolicy.com.

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