If you are a Democrat, then you reject out of hand the newly proposed tax reform bill because it was written by the Republicans. You know they are a mercenary group shilling for the rich, and so any change in the tax code must be at the expense of the common folk.
If you are a Democrat and have read a review of what is in the bill, I suspect you are disquieted at some level by the sense that you are comfortable with much of it.
To set the stage, under current tax law the top 1 percent of earners in the U.S. pay 39 percent of the total national income tax. The top 5 percent contribute 60 percent of the total, the top 10 percent pay 71 percent of the total, and the top 50 percent of earners in the U.S. shoulder 97 percent of total tax revenues. The bottom 45 percent of earners in the U. S. pay no taxes, and the bottom 20 percent of earners get more money back from the federal government than they pay in refundable tax credits. The current tax code provides a very progressive income tax structure.
The newly proposed tax reform is in part designed to simplify tax returns. It reduces the number of tax brackets from seven to four, and for the most part pushes lower earners into lower tax brackets while maintaining higher tax brackets for the biggest earners. The tax code becomes simpler and actually more progressive.
The marriage penalty is eliminated, and married couples come to tax parity with singles. Most itemized deductions are eliminated except for charitable contributions, home mortgage interest, and property taxes up to $10,000. It is the higher earners who gain most from itemized deductions, and it is the owners of expensive properties who have limits on their property taxes making this new legislation actually yet more progressive.
The deduction of home mortgage interest is changed as well. Under current tax law, interest on a $1 million home mortgage for a first or second home is deductible, but under the new law there is a cap on a mortgage of $500,000 and only for a first home. The upper earners take a hit here as well.
Also eliminated are business deductions such as interest on debt and entertainment. Capital gains from the sale of the primary residence are currently nontaxable for singles making $250,000 or couples making $500,000, but the new tax law will progressively phase out the deductibility of that capital gain the more personal income increasingly exceeds those income levels.
The standard deduction is raised from the current level of $12,000 to a new level of $24,000 for a couple, adding more protection for lower and middle income taxpayers and potentially pushing more taxpayers into the category that pays no taxes. The child tax credit which is currently $1,000 is raised to $1,600 per child in the new bill.
There is a lot to love for liberals in the new Republican proposal for tax reform. The current tax structure which is already heavily skewed on the higher earners looks to become yet “more fair.”
Republicans are also trying to spur economic activity and create jobs in the United States by changing the tax code. It has been well publicized that the United States at 35 percent has the highest corporate tax rate in the industrialized world.
By comparison, Canada and Germany both have a 15 percent corporate tax rate, the UK is at 20 percent, and most other European and Asian industrial economies boast 25 percent or less, including China. It is a curiosity that we, the one nation that prides itself on its entrepreneurship and capitalism, has so badly handicapped its businesses on the world stage through its current tax code.
The new tax code as currently proposed reduces the corporate tax rate to 20 percent. This of course is designed to eliminate the current incentive for American companies to move operations overseas where they enjoy lower tax rates. It is also designed to encourage the repatriation of the profits that American companies keep overseas by lowering the tax losses on that overseas income, with the expectation that the profits brought back to the U.S. would be invested here in increasing operations and the creation of American jobs.
The new tax code maintains at current levels the tax rates on capital gains and dividend income. This is again designed to spur on investment and increase economic activity in the U.S.
The inheritance tax or so-called “death tax” is phased out by 2024 in the new bill. Liberals embrace this tax with the rationale that inherited money is not earned by the heirs and therefore should be open to confiscation by the state for the benefit of the society.
The contrary argument is that this money was already taxed when it was first earned, it should not be open to being taxed a second time and it is the property of that family to dispose of as they wish. There is the unintended consequence of the inheritance tax in that the tax burden of inherited property such as a farm or a small business often exceeds the potential income of that operation, forcing the heirs to sell the farm or liquidate the business in order to afford the tax on the inheritance.
The most interesting political aspect of the new tax reform bill is proposed elimination of the deduction for state and local income taxes. This mostly affects high income tax states —particularly Massachusetts, California, New York, New Jersey, Maryland and Illinois. The congressional Democratic leadership has decried this proposal as representing a redistribution of income at the expense of the high income tax states. Of course, this is being argued by House Minority Leader Nancy Pelosi of California and U.S. Sen Chuck Schumer of New York.
The obvious counterargument is that there has been a redistribution of income for the last 100 years toward those states by the current tax code. The inhabitants of states with low or no income tax are carrying a heavier federal tax burden as the deduction of the higher state tax rates in those states reduces the federal tax burden of their inhabitants.
Progressives should in fact love the elimination of the state and local income tax deduction. These high tax states are the richest states in the country, and therefore the elimination of this deduction makes the tax code yet “more fair” by shifting the federal tax burden to the higher earners.
From a political point of view elimination of the federal deduction for state and local taxes exposes the residents of those states to the true cost of their local governments without the mitigation of the reduction in federal tax burden. This is completely appropriate, and should serve to inform the residents of those states in their future political and voting decisions.
One last comment on a political aspect of our current and the new proposed tax structures: Under both schemas almost half of the population pays no federal income taxes. I believe this is a societal blunder. Everyone should pay at least something, however nominal, in support of the national government. On one hand, everyone benefits to some degree from the services and protections of the federal government and should have some skin in the game.
More importantly, if there is a large proportion of the population not contributing financially, then that part of the population has no interest in how much that government is spending. Future voting decisions by that part of the population will not incorporate any consideration of federal spending.
Jay Fleitman, M.D., of Northampton writes a monthly column. He can be reached at opinion@gazettenet.com.