House GOP Offers “A Better Way” on Tax Reform

The vast gap between the reality of our tax system and people’s perceptions of it (fed by misinformation from the pundit class) has made reforming the tax code nigh impossible. Perhaps the biggest misconception is its progressivity.

Rising inequality has created the belief that the rising incomes among the 1 percent are the product of repeated tax cuts. But as the Tax Foundation noted in 2014, “the irony is that the tax systems has become increasingly progressive as inequality in America has grown.” A new report from the Congressional Budget Office shows that the tax code isn’t just progressive (especially compared to the European social welfare states that liberals love), it’s the most progressive it’s been in more than 35 years.

Specifically, the CBO’s report shows that the top 1 percent of taxpayers now pay 34 percent of their before-tax income in federal taxes and the top 10 percent now pay more than 23 percent. Those numbers are comparable to the late 1970s before the Reagan-era tax cuts. But, the middle three quintiles pays 14 percent of their income (down from 20 percent) and the lowest quintile pays just 3 percent (down from 9 percent) of their before tax income in federal taxes.

Taken together, the federal tax burden is around 18 percent of total economic output, which is in line with the 50-year average of 17.4 percent of GDP. But the CBO, in a separate document, warns that “real bracket creep,” i.e. earnings growth pushing people into higher tax brackets, and tax increases in Obamacare, will push federal revenues to historic levels.

“Without significant changes in tax law, the system’s effects in 2040 would be quite different from what they are today,” the CBO writes. “A larger share of each additional dollar of income that households earned would go to taxes, and households throughout the income distribution would pay more of their total income in taxes than households in similar places in that distribution pay today.”

As Ryan Ellis writes in Forbes, given this backdrop it’s absolutely the wrong time to be talking about raising taxes, especially as a means of alleviating poverty.

To say that an anti-poverty plan involves higher taxes and higher spending (the preferred method of Hillary Clinton, Bernie Sanders and Congressional Democrats) ignores what’s happening on the tax side. Record levels of taxation are already going to be a huge fiscal drag on our productivity and job creation mechanisms. Taxes even higher than the table above would plunge us into a permanent recession.

That’s not an anti-poverty plan. It’s a plan to make more people poor.

Enter the House Republicans’ A Better Way agenda. Last week, the House, led by Speaker Paul Ryan, introduced a plan to tackle poverty by empowering local community groups and streamlining the federal government’s myriad anti-poverty programs. This week, they’re back with a tax reform plan that would help to raise incomes by promoting economic growth.

“Our broken tax code does more than just impose unnecessarily burdensome paperwork requirements, subsidize some industries at the expense of others, punish savings and investment, and force businesses to move overseas. The broken tax code also undermines economic growth – the growth that has been our country’s engine of prosperity for generations,” the plan’s authors explain. “Promoting robust economic growth is nothing less than a national imperative – it fuels our standard of living, makes balancing our Federal budget less challenging, and ensures that there is opportunity for all Americans.”

Among the central tenets of the plan, it:

  • Simplifies the tax systems by consolidating the existing brackets down to three and lowers the top individual income tax rate to 33 percent
  • Creates a larger standard deduction and a larger child and dependent tax credit
  • Cuts taxes on small businesses by creating a new tax rate of 25 percent for many Main Street businesses (i.e. sole proprietorships or S-corporations)
  • Lowers the corporate tax rate—which is the highest in the industrialized world—to 20 percent, creates a 0 percent marginal tax rate on new business investment, and shifts to a territorial system (currently, we have a worldwide system that discourages corporations from repatriating the income they earn overseas)

This is what actual reform look likes. One that will make our tax code simpler and fairer, wipe out opportunities for cronyism, and make us more competitive in the global economy. Democrats will inevitably criticize these ideas, but until they have an idea other than just jacking up rates to pay for their pet projects, there can be no doubt that Republicans’ have presented “A Better Way.”