[If Damien Paletta is right, I am clearly wrong about this — the cap will impact a large share of the 30 percent of households that itemize deductions. My sense is that a Feldstein-Feenberg-MacGuineas-style cap would be a better choice, but I’ll keep you updated as I learn more.]
A few weeks ago, a friend suggested to me that the most realistic path forward for tax reform would be something like the Feldstein-Feenberg-MacGuineas cap on individual tax expenditure benefits.
Mitt Romney seems to have embraced something like this idea, per a report by Gregory Krieg of ABC News:
“As an option you could say everybody’s going to get up to a $17,000 deduction; and you could use your charitable deduction, your home mortgage deduction, or others – your healthcare deduction. And you can fill that bucket, if you will, that $17,000 bucket that way,” he said during a visit with Denver’s FOX31. “And higher income people might have a lower number.” [Emphasis added]
Feldstein et al. model a cap on individual tax expenditure benefits that would be limited to 2 percent of adjusted gross income. Romney’s proposed cap is far more generous than that. For example, under the Feldstein-Feenberg-MacGuineas cap, a household earning $250,000, the number we have arbitrarily set as the upper bound of the range of middle-income households, individual tax expenditure benefits would be capped at $5000. Romney’s cap, at $17,000, allows far more room to take advantage of tax expenditures, yet it would definitely bite on more affluent households.
Romney also suggests that higher-income households might face a lower cap. That is, a household earning, say, $500,000 might face a cap of $15,000 or $10,000. One gets the strong impression that this cap is pretty narrowly targeted at the top 1 percent of earners in any given year. It also seems maddeningly complex.
The Obama campaign’s reply is entirely predictable:
“Romney still refuses to be straight with the American people. While he promised to pay for his $5 trillion tax cut plan that’s skewed toward millionaires and billionaires by closing tax loopholes for the wealthiest Americans, independent analysts have shown that his plan can only be paid for by eliminating deductions that middle class families rely on, like the mortgage interest deduction,” spokeswoman Lis Smith said.
But of course that is untrue, as Feldstein, Feenberg, and MacGuineas have explained. A cap on individual tax expenditure benefits can raise a great deal of revenue without eliminating any specific deductions. A cap would curb total individual tax expenditure benefits without picking and choosing among them. And with a cap as high as Romney’s, no middle-income households would be impacted. (Indeed, this is one reason we might criticize the Romney proposal — that it shields too many upper-middle-income households from tax increases, not that it doesn’t shield enough of them. That isn’t an argument the Obama campaign is about to make.)
Would this cap raise a sufficient amount of revenue? The cap proposed by Feldstein et al. would raise a very large amount:
Our analysis implies that a two percent of AGI cap on tax expenditurebenefits would reduce the 2011 fiscal deficit by $278 billion dollars or about1.8 percent of the projected GDP.
Romney’s cap wouldn’t raise anything like this amount. Regardless, it would be interesting to see how much closer this would get him to revenue neutrality.
The biggest problem with Krieg’s article is that offers a misleading — not intentionally misleading, I’m sure — description of the idea Romney floated in his first paragraph:
On the eve of his first debate with President Obama, Mitt Romney indicated that he was considering a uniform deduction for most tax payers – $17,000 was the figure mentioned – as a way to pay for his proposed reform, which includes $5 trillion in across-the-board cuts.
Romney did not propose a uniform deduction. Rather, he proposed a cap on individual tax expenditure benefits. Krieg’s honest mistake reflects why it is extremely difficult for the campaigns to talk about policy with the wider public in a detailed way.
[Speaking of honest mistakes, I seem to have made a much bigger one than Krieg. I see this as a valuable cosmic lesson.]
Update! There is another way to understand the proposal floated by Romney. The Feldstein-Feenberg-MacGuineas cap limits the value of deductions. If Romney is limiting the total amount one can deduct, his cap is quite different — and it would impact a much larger number of households.
This would be a really revolutionary move that would potentially raise an enormous amount of revenue, as many middle- and upper-middle-income households benefit considerably from, for example, the tax exclusion for employer-provided health insurance.
Floating ideas is always fraught.
Update No. 2: Damien Paletta of the Wall Street Journal interprets the Romney cap very differently, drawing on scholars at the Tax Policy Center:
Roughly 30% of Americans who file tax returns itemize their deductions. For those who don’t, the standard deduction is $11,800 for married couples and $5,900 for single filers.
In 2009, the average break for those who itemized was about $26,000, according to Internal Revenue Service data. Only households that earned less than $45,000 a year averaged less than $17,000 in deductions. Higher earners’ deductions can be much higher. Mr. Romney claimed $2.25 million in charitable deductions in his 2011 tax return.
Mr. Romney’s suggested cap on deductions would affect high-income earners more than others, said Roberton Williams, a senior fellow at the Tax Policy Center and former staffer at the Congressional Budget Office. “Offsetting that is the fact that high-income folks benefit most from the 20% tax-rate change.”
That is because slashing 20% from the top tax bracket would lead to a bigger percentage-point cut than it would for lower brackets. Under Mr. Romney’s plan, the top tax rate would fall to 28% from 35%.
There are many other questions to be worked out, e.g., I would guess that the Romney campaign would exclude the tax exclusion for health insurance from the cap. This proposal will meet fierce resistance from non-profits, I strongly suspect.