Three Takeaways from President Obama’s Decision to Scrap Taxing 529 Plans

President Obama’s decision to drop his plan to tax the earnings of college savings plans known as 529s was a jaw-dropper for many reasons. Rarely, if ever, does a president offer up a detailed proposal in the State of the Union—the best annual opportunity for the White House to introduce and gain support for policy proposals—and then completely back away from it in less than a week. What on earth do we take away from this startling bit of politics? Here are our thoughts:

  1. This is amateur hour in the White House.

Typically, if the president is going to make a policy proposal with all of Congress and millions of Americans watching, the White House will have at least done its due diligence. That mean carefully working through the language to work out kinks, bringing in relevant stakeholders to get their take, conducting extensive polling to see where Americans are on the issue, talking to members of your party to make sure it is something they’ll stand behind and support, and offering up a trial balloon to make sure the idea won’t crash and burn.

 

Apparently the White House did exactly none of those things. According to National Journal’s Josh Kraushaar the White House’s reasoning for not polling supporters was: “Since few of the proposals stood to pass through a Republican Congress, there wasn’t the same degree of scrutiny paid to the political impact of all of the budgetary details.” Unsurprisingly, Americans were displeased, a feeling shared by stakeholders in higher education groups, state governments, and parents of college-bound kids, each of whom came out swinging against the proposal. Even key Democrats appeared stunned by President Obama’s audacity. POLITICO reports:

Sources told POLITICO that the president was lobbied even on his own plane by House Minority Leader Nancy Pelosi. And a key call came from House Budget Committee ranking Democrat Chris Van Hollen while Obama flew from India to Saudi Arabia. He called Pelosi, who was in the air with the president hours ago, to complain.

Pelosi insisted that Obama drop the plan, scuttling what had been quickly labeled a disastrous policy that would hurt the middle class.

As a result, the president dropped the proposal, sending out a spokesman to say that “it has become such a distraction” that they “were not going to ask Congress to pass the 529 provision.” The problem is that the tax hike—embarrassingly—is still going to be included in the budget document to be presented to Congress next week. “The announcement yesterday,” Eric Schultz told the media, “was made after the book was in the shop to be produced.” That shows just how little thinking and planning the president did before introducing this bit of bad policy.

  1. Liberals are scraping the bottom of the barrel in search of revenue to fund their ideas.

The fact that President Obama felt the need to go after 529 plans, a tax benefit that helps traditional Democrat constituencies, improves the affordability of higher education, and would hit many families with incomes of less than $250,000 (which the president explicitly promised not to do), shows just how hard up the White House is for cash. The problem, as the White House policy shop is quickly finding out, is that they have to turn to the middle class to get it. As Ramesh Ponnuru wrote after the fiscal-cliff deal in 2013:

Regardless of what politicians have been saying in public, everyone who has looked at the budget projections for the next few decades understands that, absent a sudden reduction in Americans’ life expectancy or other shocking development, middle-class -benefits are going to have to be cut, middle-class taxes are going to have to be raised, or both. The war between liberals and conservatives over the future of the welfare state is largely a matter of how much of each will be done.

The same analysis applies in the case of 529s – there isn’t all that much tax revenue to be gained by “soak the rich” schemes, which means that liberalism is going to have to sell programs designed to help the middle class by increasing taxes on the middle class. Good luck with that sales pitch!

  1. The president’s struggle offers a lesson in how difficult comprehensive tax reform will be.

Although President Obama undoubtedly faces a dilemma in figuring out how to pay for his agenda, the 529 debacle also shows just how difficult it will be for Republicans to clean out the tax code. Fundamental tax reform—or at least the conservative’s preferred brand of it—requires eliminating deductions, exemptions and credits and then using that money to fund a broad-based drop in tax rates.

In a sense, everyone wins because the gunk in the tax code creates economic distortions that draw investment towards sub-optimal uses. But in another sense, there will be a lot of perceived losers, because anyone who loses their individual tax break is likely to be unhappy, even if their ultimate bottom line is improved. As David Wessel writes about tax reform, “[It’s] very popular in principle and very difficult in practice. Tax reform creates winners and losers–and the losers often shout louder. The losers know what they’re losing; the winners first have to do the math.”

The system we have is undeniably broken. Republicans are wise to try and fix it. But we absolutely must keep in mind that it’ll be a struggle to win the battle of ideas against people who perceive that it’s in their best interest to keep it broken. President Obama just showed exactly how not to succeed: Eliminate a targeted exemption and then refuse to use the money to reduce the larger tax burden.