Tax Reform Not Perfect but Good for All Americans by David Montgomery

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If you only watch channels like CBS or CNN or read the Washington Post, you are no doubt convinced that the Republican tax reform bill announced yesterday has the sole purpose of taking money from the poor and middle class and handing it to businesses and the rich. There is a fundamental error behind that thinking. Tax policy is not just a zero-sum game – changes in tax law can make the pie larger or smaller as well as influencing who gets a bigger slice. And increasing the size of the pie is the whole purpose of the proposed tax reforms.

Nancy Pelosi is already complaining that the reduction in the corporate income tax rate from 35% to 20% is the largest reduction ever made in corporate taxes. She does not mention that the 35% rate American businesses now pay is the highest of any developed country, and the 20% rate will put us back into the middle of the pack. But what she and the other Progressives try to conceal is that tax reform will eliminate the incentive that American businesses now have to move their assets, factories and patents overseas, giving jobs and tax revenue to other countries and eliminating them here.

The corporate rate reduction is the most important part of the proposal for encouraging investment in the United States, and without it tax reform would be meaningless. In addition, the proposal will reverse the incentives that have caused American corporations to leave their foreign earnings on the books of their overseas branches in order to avoid taxes. In an arcane section at the end, the proposal will put a one-time tax on all past earnings held overseas, just as if they had been brought back. Thereafter, U.S. companies will be able to bring those earnings back for investment or dividends in the United States without paying taxes, thus freeing up more funds for investment here.

Finally, high corporate taxes have motivated many companies to register patents overseas and charge themselves high royalties that go to their foreign affiliates that pay little or no tax. The proposal will put a 20% additional tax on payments to foreign affiliates to eliminate the possibility of sheltering income from patents and other intangible assets. That provision is not as strong or effective as the abandoned border tax adjustment, but it will be a help to keep R&D at home.

The result of this reform of business taxation is not just higher profits for those companies. It will help everyone who owns shares of U.S. businesses in their 401(k) retirement funds, not just wealthy executives. Possibly more important to businesses on the Eastern Shore, tax reform will also limit to 25% the maximum tax rate that must be paid by owners of small businesses on the earnings of their C or S corporations that flow through to their personal taxes.

The effects of these changes in business taxation have been grossly misrepresented by the opponents of tax reform. The loudest claim by left-wing economists is that the proposals are “just another example of the discredited trickle-down theory.” Contrary to every principle they teach, these progressive true-believers speak as if heavy taxes have no effect on wages or job growth. They also have an odd reading of history. In the past eight years, we have seen an explosion of regulation and higher and higher taxes on business – and still, wage and job growth are stalled. Seems to me that pretty much proves the trickle-down theory – tax and regulate businesses to death and wages and job opportunities will fall. Relieve business of taxes and regulation and wages and job opportunities will grow.

Independent studies of the effects of the Ways and Means proposal show how this would work. First of all, all income groups will benefit from the personal tax reductions. Poorer working people will pay no tax, and every income group will pay less. With the increased standard deduction, most families will no longer need to itemize deductions, and this means more than saving time and money on tax preparation.

There is a great deal of self-interested and deceptive agitation against limiting deductions of state and local income taxes and mortgage interest. These deductions mean a lot to real estate agents and mortgage brokers who get more business from the subsidy to home purchases and to state and local governments that get less pushback against tax increases because they are tax deductible. And most of the increased revenue that would come from limiting these deductions will be paid by those in the highest income groups. With the increased standard deduction and personal exemptions, these deductions become meaningless because the standard deduction is a bigger benefit to most low and middle-income taxpayers. So this is not taking money out of the pockets of the middle class, it is fixing a subsidy to the rich. According to the Tax Foundation, 88% of the benefit of the state and local tax deduction goes to taxpayers with incomes over $100,000. Even the Treasury Department has labeled the deduction a perverse subsidy to the rich.

The Tax Foundation also estimates that the specific reforms just announced by the Ways and Means Committee will increase U.S. employment by about 1 million jobs after 10 years of increased economic growth, increase wages by 3.1%, and make middle-income families better off by about $2500 annually.

Maryland fared even better, with an increase of over 18,000 jobs and increased income for a middle-income family of $3,250. The proposed set of tax reforms are a rare example of a policy that is good for all Americans. Not perfect: keeping the border adjustment, reducing personal taxes on investment income further, and making expensing of all investment permanent would have given about three times the benefits, but good enough to deserve bipartisan support.

David Montgomery was formerly Senior Vice President of NERA Economic Consulting. He also served as assistant director of the US Congressional Budget Office and deputy assistant secretary for policy in the US Department of Energy. He taught economics at the California Institute of Technology and Stanford University and was a senior fellow at Resources for the Future.

 

 

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Letters to Editor

  1. Hugh Silcox says:

    An alternative read on the comparison of corporate tax rates, world-wide:

    https://www.cbpp.org/research/federal-tax/actual-us-corporate-tax-rates-are-in-line-with-comparable-countries

  2. Joseph Coyle says:

    1. Most agree that the best way out of wage stagnation is to develop better educated workers. The Republican plan speaks to a way of undermining access to education by taxing the endowments of colleges and universities and eliminating school loan interest deduction. This is only compounded by deVos’ push to bring back for-profit colleges/trade schools that scammed hundreds of millions of dollars from poor students and her proposal to eliminate forgiveness of bad loans for students who had been cheated by the predatory for-profit schools, which had previously been agreed to.
    2. The argument to eliminate the inheritance tax is that people shouldn’t be taxed twice…works for the small number of very wealthy, who qualify. Why doesn’t that argument work for the proposed elimination of the state and local tax deduction, which adversely affect the middle class? If you are wealthy, such a lost deduction is annoying but not catastrophic. For the 40% of the population that lives pay check to pay check, it could be catastrophic.
    3. For a Republican party that screamed about increasing debt during the Obama administration when a stimulus was most needed after the great recession (remember..the worst since the Depression), it is shocking to see them advocate a $1.5 trillion increase in debt for a stimulus when unemployment is the lowest in 17 years. This is just a way to transfer wealth to the currently wealthy without concern to the impact on the next generation.

    • frank digialleonardo says:

      Amen to Joseph Coyle’s response comment. Especially re his point #3. Also, our business and corporations seem to be doing just fine, along with those of us fortunate enough to be invested in them. By most conventional measures, we are at full employment. If anything, we are tempting inflation and the Fed has delayed rate increases and quantitative tightening as a result, even though such actions are overdue and put us in a poor position to respond to another financial crisis.
      The real issue that needs attention is a response is structural unemployment caused by the inevitable evolution of industry and the jobs supporting it. The government needs to focus investment in education and retraining of those unemployed as well as those who have prematurely taken themselves out of seeking employment.

  3. Deirdre LaMotte says:

    I oppose the proposed tax reform for a number of reasons. First of all, Trump is the first President in 40 years not to release HIS tax returns. He is obviously keeping it hidden for dubious reasons and the American taxpayer has no way of determining how the proposed changes would effect his future taxes. Trump was also very comfortable having another crook, Paul Manafort, as his Chairman of the Trump campaign. He has been indicted for tax evasion, money laundering, lying to Federal agents, and more.

    It is no wonder Trump does not want the Special Counsel examining his family’s finances. Add to this the elimination of the Estate Tax. Only the wealthiest individuals pay this now, $10.98 million per married couple. Repeal would amount to a massive windfall averaging $3 million apiece for the top 0.2 percent , and more than $20 million to the wealthiest. And only 80 small business and farm estates NATIONWIDE will have to pay an estate tax in 2017. And to top it off, the largest estates are mostly ‘unrealized’ capital gains that have NEVER been taxed.

    So the argument that the estate tax is a double tax does not hold. This is nothing but another gift to very, very, rich Conservative supporters.

    Are we really believing that Corporations would use these proposed tax cuts to create jobs? They have not done this in the past. Instead the pay for executives has reached stratospheric levels, they have created a lot of jobs in low-paying China and India and bought back a lot of their stock so as not to pay dividends to as many people.

    So, we have a tax proposal that benefits the rich disproportionately while busting the budget. Wow, not impressive Republicans.

  4. James Nick says:

    There are two iconic running gags in the US. One is that Lucy always pulls the football away from naive Charlie Brown who is constantly fooled into trusting the conniving Lucy. The other is the same thing… the Republicans always fool their base into believing they are the party of fiscal responsibility and the promises that the voodoo economics of tax cuts will help the middle class.

    There are absolutely no empirical data showing that supply-side economics work. On the contrary, one only needs to look at a pilot experiment recently undertaken in one of our “Laboratories of Democracy” to see where all this is heading. In 2012, Kansas Republican governor, Sam Brownback signed into law a monumental tax cut for the state. The bill slashed state income taxes by roughly $3.7 billion over five years in the hopes spurring an economic revival. Brownback’s stated goal was to put more money into the hands of Kansas taxpayers hoping those dollars would energize the economy.

    Sound familiar?

    Five years later, the results are in. The experiment was unequivocally an abject failure. A year after the experiment began, growth in Kansas slowed and the state deficit shot up and is now out of control. As reported in mid-2016, Kansas had a jobs growth rate of 0.0 percent for the preceding 12 months. That was the seventh worst figure in the entire country at the time (1). A Kansas GOP lawmaker who helped lead a revolt to rollback the tax plan in 2016, called the experiment “reckless fiscal management (2).

    And so it will be that this latest Republican, so-called, “Tax Reform”, emerging from the fever dreams of Paul Ryan and Arthur Laffer will yield the exact same dismal outcome that happened in Kansas but this time transferring even more wealth to the already obscenely wealthy while adding not mere billions but at least $1.5 trillion to the national debt on the hope that all will work just as Governor Brownback had hoped.

    Good luck with that, Charlie Brown!

    (1) http://www.kansascity.com/opinion/opn-columns-blogs/yael-t-abouhalkah/article72012847.html
    (2) http://www.wbur.org/hereandnow/2017/10/26/melissa-rooker-kansas-tax-cuts

  5. Michael Johnson says:

    In 1980 America’s middle class controlled 56 % of the nations wealth. Today that number is around 22 %. Where did that wealth go ? It went to the same people that stand to gain the most from this tax bill, the richest of America’s obscenely wealthy. Every benefit in this bill for the middle and lower income American expires in the middle of the next decade, yet the huge benefits for hedge fund managers, corporations and people that make 100’s of millions of dollars a year ? Those cuts are permanent ! Americas’ corporations, hedge fund managers and billionaires have been sitting on mountains of cash for years, refusing to invest that money in America when we needed it most. When millions of Americans lost there homes the richest of the rich refused to help by investing in the infrastructure rebuild proposed by President Obama. Now they tell us if we just reduce their obligation to America a little bit more they will rebuild our infrastructure, probably by privatizing and profiting from it in my opinion. We are told not to worry about the 1.5 trillion dollars this will add to our national debt, the economy spin so fast it will raise revenues through the roof. Well the Reagan and Bush tax cuts didn’t do that . In fact after those gifts to billionaires America’s revenues dropped over 1 % both times. If you believe this tax plan is good for anybody except those that are already doing just fine I have some $5 bills I’d like to sell you. They are only $20 now, but don’t wait too long. This offer won’t last forever.

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