The Corner

Politics & Policy

A Few Thoughts on the Senate Tax Bill

Here are a few thoughts on the Senate’s revised tax-reform plan.

The repeal of the Obamacare mandate will inevitably make the politics of tax reform more rather than less complicated. It’s also a lot of money to do other things.

Faced with the same budget constraints as the House bill, the Senate bill is moving away from making the tax changes permanent. In 2025, we will see the sunset of the changes to — but not limited to — the standard deduction, the estate tax, the child tax credit, SALT, the pass-through deduction, and individual tax rates.

Sunsetting tax provisions is bad policy, but if you could only make one of these policy changes permanent, the Senate chose the right one: It reduces the corporate tax rate from 35 to 20 percent and makes the change permanent. That’s good for economic growth, that’s good for wages, and that’s good for competitiveness.

The Senate bill doesn’t have some of the bad, ugly, nasty base-erosion provisions included in the House tax bill. As one of my fellow freedom-warrior friends told me, “We all wish policymakers could have the courage of conviction and make the U.S. the most attractive from a rate standpoint and then see what happens, but they can’t help themselves and out of arrogance build mousetraps where there are no mice.” Exactly. Most of the problems we have when the rate is 35 percent go away when the rate is 20 percent (and permanent).

The Senate bill makes the politics of tax reform easier by not repealing as many deductions as the House bill. But that means simplication takes goes out the window in the Senate bill.

The Senate bill seems to have the right price tag to comply with the rules. It may even be close enough to the House bill to have a shot at some tax-reform action in our future. 

The Senate bill has a large price tag, which will be paid for with economic growth but also higher taxes down the road.

Like a broken record, I would be remiss if I didn’t add that the same problematic goal of implementing more cuts for the middle class by increasing the child tax credit and other deductions (meaning removing even more people from the tax rolls) is at play here. A few weeks ago, George Will summed up the issue best:

Already 62 percent of American households pay more in payroll taxes than in income taxes. The bottom 50 percent of earners supply less than 3 percent of income-tax revenues. Forty-five percent of American households pay no income tax, either because they earn too little or because they qualify for enough exemptions and credits to erase their liability. Sixty percent pay nothing or less than 5 percent of their income. Forty percent of earners are net recipients from the income tax because they qualify for refundable tax credits. All this means that an already large — and, if the Republican bill passes, soon to be larger — American majority has a vanishingly small incentive to restrain the growth of a government that they are not paying for through its largest revenue source.

I would add that if Republicans and conservatives aren’t ready to fight for serious reductions in government spending, they are taking a serious risk with these individual tax cuts. You can’t perpetually get a European-size government and still pay U.S.-type taxes.

Here is my prediction about the steps taken by Republicans today: Sure, the middle class will enjoy their tax relief for a while, but it won’t last. First, we run the risk that these cuts will temper the economic growth from the corporate income tax, which means that we are overselling the overall growth impact of the tax package, which will make it easier to overturn them when Democrats are in power. Second, growing deficits mean larger taxes tomorrow. The tax hikes may be concentrated on higher-income earners but it will inevitably expand to the middle class (again, you can’t pay for a European-style government on the back of the One Percent).

Finally, today 71 percent of the income tax is paid by the top 10 percent. The bottom 50 percent pay less than 3 percent of all income taxes. Also, contrary to popular belief, one doesn’t have to be a millionaire to be in the top 10 percent — $114,000 suffices. Our income tax is currently highly progressive, and lowering taxes on the middle class further only accentuates the trend. Maybe more problematic is the fact that it isn’t sustainable to shift more and more of the income-tax burden onto top earners; there just simply aren’t enough millionaires and billionaires to pay for all that spending. That’s a longer-term recipe for ending up with a Value Added Tax or other new sources of revenue. (Read this article by Dan Mitchell on the VAT.)

Conservatives who are clamoring for a larger child tax credit today and more tax cuts to the middle class should think about it long and hard. VATs are regressive and hit large families pretty hard. The same is true of liberals who are constantly accusing Republicans of not cutting taxes enough for the middle class. Both will end up with a tax that will hurt those they claim to care the most about. Of course, those of us who want smaller government will lose too.

I understand the need to make compromises for the sake of politics. I do. In that spirit, I would understand lowering marginal rates slightly for all on the individual side. It doesn’t bring much benefit but it doesn’t hurt that much either. However, we should never accept bad policy in the name of politics. This is what this is. The result will be that the politics of the future will look nastier for conservatives.

Veronique de Rugy — Veronique de Rugy is a senior research fellow at the Mercatus Center at George Mason University.

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