Republican Path to Tax Cuts Becomes More Tortuous
While Republicans have not yet drawn the outline of their coming tax-reform proposal, it appears that they are scaling back its ambition.
That’s a consequence of the one major decision they have made: to scrap a proposed “border adjusted tax.” For much of the year Republicans debated that idea, which would have changed business taxes so that imports were taxed and exports were not. There were many arguments for and against the tax, but the biggest selling point was that it would have raised $1.2 trillion over 10 years -- and thus allowed Republicans to cut many taxes as part of their reform.
Now that Republicans have ditched the idea, they face tighter budget constraints. They seem to have rejected President Donald Trump’s goal of a 15 percent corporate tax rate: Bringing the rate down that low would bring in too little revenue. So instead Republicans seem to be eyeing a tax rate in the 20 percent to 25 percent range.
Republicans had been thinking about a tax reform on par with the last big one. Enacted in 1986, it scaled back or eliminated many tax breaks and slashed tax rates. The top income-tax rate dropped from 50 percent to 28 percent. The GOP leaders in Congress seem now to be considering a more modest bill -- one that has more in common with George W. Bush’s 2001 and 2003 tax bills, which cut some taxes but did not amount to an overhaul of the tax code.
The new plan will resemble the Bush-era legislation, as well, by including many tax cuts that come with expiration dates. Making the cuts temporary will make it easier to hit revenue targets. In practice, though, most of Bush’s tax cuts ended up being permanent: Congress extended them rather than hit people with tax increases.
Legislators still have to answer a number of basic questions as they write this more limited bill.
First, how little revenue are they willing to take in?
Republicans still have a vocal deficits-don’t-matter faction that will push for large tax cuts that the Congressional Budget Office would score as fiscally ruinous. An overlapping group has faith that reducing tax rates will have so positive an effect on economic growth that revenues will come in much higher than the CBO predicts.
Some Republicans will not want to count on this happy scenario. But if they want higher revenue, they will either have to settle for higher tax rates than their colleagues want or try to scale back tax breaks, which always have organized support from their beneficiaries. The main break Republicans want to end is the deduction for state and local taxes. But Republicans in high-tax states are opposed to ending it.
Second, how will the interests of corporations and non-corporate businesses be balanced? Republicans have been divided on this question.
Some have argued that the U.S. corporate tax rate, which is higher than most developed-world rates, is a particular problem that has to be addressed by itself. Others have maintained that it would be unfair and politically foolish to leave out the more numerous businesses that file their taxes under the individual income tax. The probable compromise: Cut tax rates for all companies, but put a lower rate on corporations (which have fewer tax breaks than other businesses). A shift toward expensing -- that is, letting businesses write off the cost of their investments more rapidly -- could also benefit both types of companies.
Third, what will the tax bill do to directly benefit people who aren’t rich and aren’t business owners? Perhaps, as Republicans say, the reforms they have in mind for business taxation will raise economic growth and so benefit most people. But that sort of argument has never been sufficient to get tax legislation enacted. Republicans have also made sure to have some tax provisions that put money into middle-class pockets.
The form of these middle-class tax cuts has changed over time. Ronald Reagan’s 1981 tax bill cut all income-tax rates and changed the law so that inflation would no longer push people into higher tax brackets. Subsequent Republican tax cuts provided relief for parents by creating and then expanding the tax credit for children. Republicans could continue this strategy (as I advocate). Or they could reduce middle-class tax bills by doubling the standard deduction, or by including tax benefits for the subset of parents who use commercial day care.
Since Republicans so far have no major legislative achievements to show for their control of Congress and the White House, we can expect them to be under even more pressure than usual to provide the most politically expedient answer to each of these questions. Assuming, that is, they can agree on what that is.
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