NOW THAT tax-reform measures have become law, the White House would do well to follow with a truly comprehensive economic-policy agenda. Such an agenda would involve three additional initiatives: financially feasible infrastructure refurbishment, entitlement reform and regulatory relief. A coherent economic-policy effort along these lines might place something persuasive before Congress, and even encourage Washington to engage in the long-neglected debate on economic strategy.
The tax-reform legislation is neither experimental nor radical, as some have claimed. Rather, it draws rather tamely on a long bipartisan legacy. Much like the Reagan legislation of the mid-1980s, it has made efforts to eliminate tax breaks and use the resulting revenue flow to reduce statutory rates. These same principles informed the recommendations of President Barack Obama’s 2010 National Committee on Fiscal Responsibility. Colloquially called Simpson-Bowles after its leadership, former senator Alan Simpson and former White House chief of staff Erskine Bowles, it failed to become law, but Obama tried several times to press some of its measures on Congress. He actually proposed similar reforms in his 2015 budget. Republican reformers made similar basic recommendations. Proposals to eliminate or cap tax breaks and pursue a cut in statutory rates appeared in the plan advanced in Obama’s first term by Dave Camp, then the Republican chair of the House Ways and Means Committee. Republican Congressman Paul Ryan, when he took over the House Ways and Means Committee during Obama’s second term, embraced the same principles in a set of reforms that he referred to as a “better way.”
This latest legislation relies on the same basic reasoning used in all these reforms. Republicans and Democrats have argued that a general reduction in statutory rates would brighten economic prospects by encouraging individuals to work and business to invest more for the future. Lower statutory corporate rates would further enhance growth by promoting greater efficiencies in business, inducing managers to think less about tax consequences and more about the economics of their respective businesses. Lower statutory corporate rates would offer still another benefit by encouraging U.S. companies to repatriate the accumulated earnings they hold overseas, giving the economy a welcome cash infusion for investment.
As in these precedents, this latest reform takes care to promote greater equity as well. No doubt Californians, New Yorkers and other residents of high-tax states see matters differently. This legislation limits deductions of state and local taxes of any kind to $10,000. But most of the country could argue a different line, and with justice. The old code, to make up for the revenues lost to those huge deductions, implicitly forced on all Americans higher statutory rates than they would otherwise have had to pay. People across the country effectively shouldered some of the burdens imposed by political decisions made in Sacramento, Albany and a few other state capitals. This matter disappears in the new law.
In addition to geographic equity, this new legislation takes steps to secure greater equity across the income distribution. Previously, the law allowed people to deduct mortgage interest on loans all the way up to $1 million. Since the biggest mortgages garnered the greatest tax benefit, the wealthy gained the most from the provision. By lowering that cap to $750,000, the new law rectifies some—but only some—of the code’s pro-wealth bias. To even the relative tax burden across the income distribution further, the new law offers much to those at lower income levels. Because these taxpayers seldom itemize, it offers a near doubling in the standard deduction and major increases in child tax credits. Further, it raises the threshold of income before each taxpayer moves into a higher bracket, and makes the biggest relative tax cuts in lower income brackets: those facing individuals who have taxable income below $200,000 a year, and married couples with joint incomes below $400,000 a year.
Even the proposed elimination of the estate tax, though it seems to favor the very wealthy, can make a claim of equity. The current code, though it seems to tax inheritance heavily, falls mostly on the middling rich: those who inherit family farms or small businesses. They frequently have to sell off their inheritance just to pay the tax. Meanwhile, the very rich, many of whom promote high estate taxes, protect their heirs by giving their money, tax free, to foundations of their own making, where they see to it that those heirs have comfortable positions with sometimes lavish benefits. Whatever they may claim for the good their foundations do, they ensure that the benefits of their wealth pass from one generation to the next, tax free. The legislation simply allows the middling rich a break previously open only to the megarich.
The most questionable aspect of this new law is the break on unincorporated business earnings, the so-called pass-through income. Those pressing for this argued that reductions in the corporate rate would bias the code against small businesses and limited-liability partnerships, which would have to pay at higher individual rates. Matters, however, are not so straightforward. Corporations pay their own tax, and then shareholders pay at their individual rate, or close to it, when they receive any distributions, usually in the form of dividends. The people behind the corporations pay a combined tax at about the individual rate, just as those behind other business arrangements did. Giving a special break to these businesses now offers them an advantage. It is pleasant to think that small-business owners will find relief in this new law, but it raises questions why they should pay less tax than a corporate shareholder or the wage earner who lives next door.