- New VAT on all businesses would replace corporate income tax
- Plan would `almost surely depress the economy' over time
Presidential candidate Ted Cruz’s tax proposals, which include cutting taxes for most individuals and replacing the corporate income tax with a flat 16 percent business tax, would reduce federal revenue by $8.6 trillion over a decade and “almost surely depress the economy over the long run,” according to a policy study and its authors.
Cruz’s plan would benefit wealthy taxpayers “dramatically” and raise taxes slightly for some people in the bottom fifth of low-income taxpayers, according to the report by the Tax Policy Center, a research group in Washington, D.C. The center is a joint project of the Urban Institute and the Brookings Institution.
The Republican senator from Texas proposes to refashion the U.S. regime as a consumption-tax system, spurring the growth that many economists say comes from eliminating tax-driven barriers to saving, working and investing. But if interest rates rose and Congress failed to enact either “extraordinarily large cuts in government spending or future tax increases,” the plan would create “persistently large, and likely unsustainable, budget deficits,” the report said.
The Cruz campaign, which has described the plan as so simple that all Americans will be able to file their taxes “on a postcard or an iPhone app,” didn’t immediately respond to a request for comment.
Prior analyses of Cruz’s tax plan reached varying conclusions regarding its cost over a decade. The conservative Tax Foundation found it would cut revenue by $3.6 trillion, while the liberal Citizens for Tax Justice said it would produce a $16.2 trillion shortfall.
Len Burman, director of the Tax Policy Center, said Cruz’s plan was “a major tax reform” and “a fundamental change,” calling it “the simplest plan we’ve analyzed” from Republican candidates so far. But Burman added that it “would almost surely depress the economy over the long run.”
Cruz’s plan would cut revenue by $12.2 trillion more in its second decade through 2037, the report said. Combined with increased debt and deficits, the losses would increase the federal debt by 68.8 percent relative to gross domestic product. “This is unprecedented territory,” Burman said.
Cruz would replace the corporate income tax, now at a top rate of 35 percent, with what he calls a “business flat tax.” It’s a value-added tax of 16 percent on all businesses, from corporations to partnerships to passthroughs -- which, under current law, do not pay federal income taxes and pass their profit directly to individuals. Nonprofits and government entities, including state governments, would also be subject to the tax.
Businesses would be allowed to lower their taxes by using unclaimed depreciation, net operating losses and other credits accumulated through 2016. The value-added flat tax would apply to wages paid by nonprofits and by federal, state and local governments and would disallow exemptions or deductions on business sales to nonprofits or governments. Also, the VAT would apply only to imports, not to exports, meaning that profits generated abroad wouldn’t be taxed, and businesses would have an incentive to boost their offshore income.
Cruz proposes to transition to the new system by imposing a 10 percent tax on profit accumulated by foreign subsidiaries of U.S. companies through 2016. U.S. companies have deferred taxes on an estimated $2.1 trillion of such earnings. The 10 percent tax would be payable over a decade.
Cruz’s business-tax plan stirred conflict during a Republican debate last month, when Florida Senator Marco Rubio said it would lead to higher prices for consumers and act as a hidden tax. Many conservatives say value-added taxes aren’t as transparent as other forms of taxation. At the time, Cruz disputed Rubio’s description of his plan.
“My proposal is not a VAT,” the Texas senator said during the Jan. 14 debate in North Charleston, South Carolina. “A VAT is imposed as a sales tax when you buy a good.” Yet the Tax Policy Center’s analysis, like others from across the political spectrum, concluded that Cruz’s business-tax plan is indeed a value-added tax.
“The base of this new tax would be the difference between a firm’s sales and its purchases from other businesses, which is equal to the value-added of the business,” according to the analysis.
Cruz’s plan would create a bigger deficit than Rubio’s plan or Jeb Bush’s, but a smaller revenue loss compared with Donald Trump’s plan, said the Tax Policy Center’s Burman. In South Carolina, which holds its Republican primary election Saturday, polls put Cruz in second place behind Trump. Cruz finished in fifth place in the New Hampshire primary earlier this month.
Cruz also proposes to repeal individuals’ payroll taxes for Social Security and Medicare, including the 0.9 percent Medicare tax on high-income workers under the Affordable Care Act. Burman said it was unclear how Social Security would be funded.
For individuals, Cruz would collapse the current seven tax brackets into a single, 10 percent rate on income, capital gains and dividends -- about one-fourth the current top 39.6 percent rate. The plan would increase standard deductions but repeal most itemized deductions, except those for charitable donations, contributions to retirement savings accounts and a limited deduction for home mortgage interest. As a result, fewer taxpayers would itemize their deductions, which might hurt charitable contributions, the analysis found.
Cruz would also repeal the 12.4 percent payroll tax for Social Security and a 2.9 percent payroll tax for Medicare. He’d eliminate Medicare’s 3.8 percent net investment income tax on high-income taxpayers. The payroll tax cuts would reduce federal revenue by about $12.2 trillion over a decade, the analysis found, while the various changes to federal income taxes would cut about $11.9 trillion more. Scrapping the corporate income tax would cost about $3.5 trillion and creating the new value-added tax would raise $19.2 trillion over the decade, offsetting about 70 percent of the various tax cuts, the report said.
Except for the child tax credit and the earned income tax credit, a key source of income for the poor, all other credits would be repealed. Cruz would also repeal all federal estate and gift taxes.
Universal Savings Account
Through a new “Universal Savings Account,” taxpayers would be allowed to deduct contributions of up to $25,000 annually. Most taxpayers don’t have $25,000 in savings, so the account would result in most of them paying no income tax on their investment returns, the report said. Burman said that “for the vast majority of Americans, savings would be untaxed.” Cruz hasn’t detailed what the account could be used for.
While the business flat tax would reduce individuals’ pre-tax wages in general, most workers would have higher after-tax wage income from reduced income taxes and lower payroll taxes, according to the analysis.
Taxpayers in the top 0.1 percent of the income scale -- those earning more than $3.7 million annually -- would get an average tax cut of more than $2 million next year, the analysis found. Overall, taxpayers earning in the top fifth would see their after-tax income rise by 11.3 percent. Those in the middle would get an average cut of $1,800, or 3.2 percent of after-tax income.
Some 47.8 million tax filers, or the bottom 20 percent of taxpayers, would receive an average tax cut of $46, or 0.4 percent of after-tax income. Some taxpayers in that bracket would eventually see their after-tax income decline by 0.6 percent, due to the effect of the VAT, the analysis found.