Inside The Sausage Factory

By Charlie Kindleberger

This is written at a time when the prospect of new federal tax legislation is very close but not certain. Members of the Peace Economy Project should be extremely concerned. As they say, the situation is fluid. No Senate Democrats have espoused the proposed tax “reform”, and the Republican majority in the Senate is very thin. The arcane ways of the Congress and the complexity of the tax code are hard to follow for all but the experts, yet the issues are critical. (The author is not an expert and would welcome both corrections and opinions.)

Despite no Congressional hearings, a massive change to the tax code is close at hand. On November 16th, the House of Representatives passed a bill (227 – 205). This week, a related but considerably different bill is expected to get a vote in the Senate. If that passes, a conference committee will attempt to negotiate a compromise that the full Congress can approve, and send to the President for his signature.

Why should PEP members care? Let’s consider several related topics – the Budget, Reconciliation, and the probably winners and losers.

The Budget.  There is a legal requirement that a budget resolution be adopted by April 15th; this year the Senate Budget Committee, chaired by Senator Mike Ensi, waited until October, after the tax cut recommendations were outlined. The overall 10 year budget assumes a hard to believe $5.8 trillion in cuts:

  • $4.1 trillion cuts in mandatory entitlements – Medicare ($473 million), Medicare and reduced health subsidies ($1.3 trillion) and other unspecified cuts.
  • $800 billion cuts to Non-Defense Discretionary Spending – These would be 18 percent below 2017 levels, and 29 percent below the cuts that occurred with the Budget Control Act of 2011. By 2027, the amount for all the services that make the Federal Government work would be at a share of the overall economy not seen since the Hover Administration.
  • $850 billion reduction in the national defense Overseas Contingency Operations. While the OCD has been running at about $100 billion in recent years, the projection is that it would fall to $77 in 2018 and zero by 2022.

Most economists will tell you that tax cuts can make sense when the economy is in trouble. That was the case when President Kennedy came into office, and in 2009 as we entered the “great recession.” Priming the pump” with a tax cut was viewed as classic Keynesian economics. In the early 1980s, economist Art Laffer gained notoriety with an argument that even in good times lower taxes could boost the economy by putting additional money in people’s pockets.  In reality, the experiences of the Reagan Administration, George W. Bush Administration, and recently that of Governor Brownback in Kansas, all suggest that in prosperous times, tax cuts rarely cause an increase in tax revenue.

In the fall of 2017, the economy is in pretty good shape – unemployment is low, interest rates are low and the stock market is soaring.  Admittedly, the overall annual growth of the economy could be higher, say 3 or even 4 percent, rather than 2 percent.

Congressional Republicans claim the best way to stimulate economic growth is to provide more money to business owners and rich individuals, with the expectation that they in turn will further invest in their companies and/or themselves, hiring more workers and increasing their respective pay. Some believe that like Mr. Laffer, the resulting growth will be so strong that it will offset the large budget deficits contained in the new budget.

Experience suggests that other scenarios are more likely. Extra money in the hands of business owner and rich individuals may just as well go to further enrich owners and their stock holders, or individual bank account with relatively little “trickling down” to the working class.

Reconciliation. This process allows a simple majority to pass a budget measure, with only 20 hours of debate, and a limited number of amendments. Normally, the Senate rules allow filibusters which can be broken only with 60 votes; thus, in a relatively evenly split congress, it is hard to get controversial bills passed. However, a reconciliation bill is allowed on a once a year basis, following some complicated rules that involve review by the Senate parliamentarian  The Senate rules also prevent an analysis by the Congressional Budget Office 24 hours before the vote.


The Proposed Legislation.  Here are some of the proposed changes, recognizing that changes have been on-going as the leadership and President attempt to persuade Republican hold outs. Again, expect more changes in the coming days.

Standard deductions.  Individual deductions would approximately double from $6,350 to $12,000 for individuals ($12,700 to $24,000 for couples).  However, the current $4050 personal exemptions for all in the household would disappear. Single parents with 2 or more children would end up in a somewhat worse situation.

Modifying the rates.  The House would collapse today’s rates into four: 12, 25, 35, and 39.6 percent. The Senate proposes to have 7 rates as today, with the highest 38.5 percent. The income at which rates would apply would be reduced in certain middle brackets.

State and Local Taxes. Both of these current deductions will wholly or partially disappear; the House and Senate treatment is different. The impact would be harder on communities that have high SALT levies, many of which are so-called “blue states.”

Business Taxes. These will be reduced from 35 percent to 20 percent; today, many businesses pay less than that (and some like General Electric none) because of the many existing deductions. Businesses would also be able to immediately “expense” capital equipment, rather than having to stretch deductions over time.

Pass Through Income. Most business owners have their business profits taxed at their individual rates. The proposed reform would allow certain businesses to separate the “profit” from the owner’s “salary.” The profit portion would be taxed at 25 percent, much lower than the typically higher individual rate. The Center on Budget Priorities believes that 80 percent of the tax savings would go to millionaires. In addition, the change would probably cause many businesses to modify their legal status in order to take advantage of the 25 percent rate. The ten year cost of this proposal has been estimated to be $770 billion.

Alternative Minimum Tax. The current tax was instituted in 1979 in order to ensure that wealthy households (usually above $200,000) paid a basic amount. It was geared to those who avoided taxes given the large number of deductions they could claim. It has been controversial as more households (today around 5 million) have been subject to it, because of reduction in regular taxes and the failure to adjust the tax to inflation. The tax currently brings in around 38 billion a year, and projected to grow to 60 billion over the next decade. Both of  Houses of Congress propose to eliminate it.

Estate Tax. This inheritance tax (also known to some Republicans as the “death tax”) applies only to the richest of the rich – some 5,500 estates (about 2 out of one 1000) last year. Today the tax applies to estates greater than $5.49 million ($11 million for couples).  Only about a quarter of one percent of estates are subject to the tax, but over 10 years it is estimated to bring in around $290 billion. The top statutory rate is 40 percent, but the average paid  by qualifying estates is around 17 percent. In recent years only around 80 estates have been associated with farms or small businesses. Despite the hyperbole there are few, if any, stories of farms that have been surrendered  because of the tax. Of the 26 most industrialized countries that have inheritance taxes, the US code is considerably more generous than others. The House would eliminate the tax; the Senate proposes to double the size of the estate that would be taxed – greater than $11 million, rather than $5.49 million.

Child Tax Credit. Today very poor families (less than $3000 annually) and much more affluent (it phases out for single payers at $75,000 and couples at $110,000) don’t receive a credit for each child. About 11,000,000 million children are part of poor families that don’t qualify for the full credit today. The House version proposes a variety of changes, most notably having the income limit of the phase out begin at $230,000 per couple, rather than $110,000. The CTC would also go up to 1,600 per child and $300 for non-child dependents, and another ‘family flexible credit.”  Only $1000 in credits would be refundable. Senate Orin Hatch would increase the Senate credit to $2000 with a phase out of $500,000.

Education Deductions. The House version is said to be devastating. Forty Four million individuals who have taken out student loans would no longer be able to deduct interest. Private colleges and universities would have their endowments taxed, thereby reducing the amount of money available for scholarships, research and operations. Graduate students today pay taxes on school stipends; the House version would also tax tuition waivers that many graduate students receive in return for teaching undergraduate classes or conducting research. Some have speculated that his will lead to fewer PhD students and force large numbers of colleges and universities to shrink or close.

Health Deductions. The Health Deduction would be eliminated. The Senate version would also eliminate the Individual Mandate that all people have insurance. This Obamacare requirement reflects the  believe that those with fewer health concerns ought to buy insurance, letting insurance companies be more able to support the elderly with greater concerns. This backdoor sabotage of the Affordable Care Act is thought likely to drive up premiums and co-pays for those participating in the program

Medicare, Medicaid, Safety Net. The Senate Budget Committee Budget Resolution allowed essential mandatory programs to be cut. This is a non-binding proposal that establishes caps for the various appropriation committee decisions. The Democratic leaders of the House and Senate have  reminded President Trump that he campaigned on a promise not to cut Medicare or Medicaid. Stay Tuned.

Summation of Concerns.  Most recent polls show that the public dislikes the proposed Tax Cut Bill by around 2 to 1. The Congressional Budget Office recently announced:

The Senate Republican tax plan gives substantial tax cuts and benefits to Americans earning more than $100,000 a year, while the nation’s poorest would be worse off.

By 2019, Americans earning less than $30,000 a year would be worse off under the Senate Bill.  By 2021, Americans earning $40,000 or less would be net losers, and by 2017, most people earning less than $75,000 a year would be worse off. On the flip side, millionaires and those earning $100,000 to $500,000 would be big beneficiaries.”

The Tax Policy Center at the Urban Institute and Brookings Institution believes that people in the top one percent of income earners would receive 62 percent of the benefits of the proposed plan, an average of $32,500.

A survey of 42 academic economists at the University of Chicago revealed only one who said that the US GDP will be sharply higher a decade from now. Fifty two percent disagreed that the tax cut would lead to higher growth. Eighty Eight percent thought that the US debt to GDP ratio would be substantially higher in ten years.

Again there is no way to know how the proposed legislation will play out – will it pass the Senate, find compromise in a conference committee with the House and be signed by the President. For those who believe the gap between the rich and poor in the country needs to be made smaller rather than wider, we have an immediate challenge to advocate for no Tax Reform bill, or a much better bill that being presented now.

As the year comes to an end, please remember PEP in your charitable giving. You may also be interested in a lecture co-sponsored by PEP on December 7th, 7:30 at the Ethical Society (9001 Clayton Road, St.Louis, MO 63117).  Dr. Stephen Legomsky of  the Washington School of  Law, and a world expert on immigration, will speak on “The Immigration and Refugee Debate in the United States”







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