The Agenda

The Road Pawlenty Might Have Traveled

Josh Barro has written a detailed account of Tim Pawlenty’s tax plan that I strongly recommend. I just want to note that Pawlenty would have done well to embrace Robert Stein’s proposal for a family-friendly tax reform, an idea Ramesh Ponnuru has championed for a long time:

 

Under this new tax system, most singles would get a tax cut of $175 while most married couples without children would get a tax cut of $350. But the biggest impact would be felt by parents. Take a married couple with two children, earning $70,000 a year: Under current law, this family generates income taxes of about $5,800 and payroll taxes of $10,710 (combining the employee and employer sides of Social Security and Medicare taxes). But under the tax structure outlined above, their income taxes would be completely eliminated and they would also receive a $1,500 credit against their payroll taxes. They would thus enjoy a tax cut of more than $7,000 per year compared to what they currently pay.

Notice how the child credit enhances this family’s work incentives at the same time that it acknowledges the immense benefits their decision to raise children will confer on the country. If the family generates an additional $5,000 in income, their income taxes do not go up at all. In effect, they face a marginal income-tax rate of zero.

This plan would be risky for a Republican presidential candidate, as it would increase taxes on affluent individuals and couples without children:

 

Overall, the plan is designed to be revenue neutral — and yet most taxpayers without children will pay a little bit less in taxes, while middle-­class families with children under 18 years of age will pay substantially less. So who pays more? Primarily high-income workers, but also upper-middle-class taxpayers who do not have children in the home (either because they have decided not to raise children at all, or because their children have already turned 18).

To be blunt, the plan is a tax hike on the rich and makes the tax code even more progressive than it is today. Given the loss of the state and local tax deduction, the tax hike will be particularly acute for high earners from high-tax states. And although the top income-tax rate would be capped at 35%, that rate would kick in at lower income levels than it does today. The result would be a marginal tax-rate hike — and a corresponding weakening of work incentives — for many workers who today find themselves in the 25%, 28%, and 33% brackets.

But the effect of this change on the overall economy is likely to be small. Most of the income taxed at those rates actually comes from wealthier people, passing through the upper-middle brackets on their way to earning their last dollars in the top bracket. Applying a higher rate of 35% to more of their income will not make them happy, but it should not dramatically change their incentive to work. Meanwhile, with the top rate set at 35%, rather than the 39.6% or more now scheduled for 2011, the very highest earners will have greater incentive to work harder and more productively.

Yet the Stein approach might work well for an increasingly class-polarized Republican primary electorate. Ramesh has observed that Mitt Romney has strong appeal to “upscale” Republican voters while Sarah Palin appeals to “downscale” Republican voters. Stein’s plan might appeal to upscale and downscale Republicans with children. Republicans are more likely to be married and to have children than their Democratic counterparts, and affluent childless professionals aren’t, as far as I know, a particularly powerful bloc within the Republican primary electorate, though they might be a significant presence in the donor base. 

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