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Deep-Sixing 529s Could Add Up to Zero for Tax Overhaul

(Bill Clark/CQ Roll Call)

In divided government, it's nothing special for a presidential budget to be immediately dismissed as dead on arrival in Congress. It’s much rarer for the president himself to whack an important piece of his budget a full week before delivery.  

President Barack Obama’s swift killing of a proposal to effectively eliminate the college savings accounts known as 529s is instructive about this year’s legislative dynamic because it connects two emerging story lines: The efforts by both parties to be perceived as doing the most for the middle class and the drive toward the biggest overhaul of the tax code in a generation.  

Obama’s abandonment was forced on him by lawmakers in both parties. The lesson is that the relatively affluent, if they don the mantle of the middle class, have bipartisan clout to block changes in tax law they don’t like. That could force a tax overhaul down a very narrow track.  

To make college more accessible, the president announced in the State of the Union address his budget would call for consolidating and simplifying tax breaks for tuition, in part by ending the tax advantages for new deposits in 529s. (For 14 years, parents have used the accounts to save for their children’s college without paying a tax on the investment profit.) Obama would have used the projected revenue, $50 billion over a decade, to expand and extend the $2,500 tax credit all families may claim for education expenses.  

Administration officials called it an equitable tradeoff: Sacrificing a break that helps a relatively small number of better-off families to help many many more people of modest means.  

Senior members of Congress from both parties immediately declared they didn’t see it that way at all. Speaker John A. Boehner of Ohio said “middle-class families” would be harmed by ending the tax preference for 529s, a somewhat predictable position for a top Republican inclined to resist most things the president proposes.  

But Obama reversed course so fast because three leaders of his own party went public with the same view: Minority Leader Nancy Pelosi of California and Budget ranking member Chris Van Hollen of Maryland in the House, and Charles E. Schumer of New York, the Democrats’ No. 3 leader in the Senate. (Obama's 529 plan remained in the budget proposal the White House delivered to the Hill on Monday because the giant volumes had been printed before Obama gave up on the idea.)  

The takeaway is there’s bipartisan agreement in Congress that the middle class is a larger and wealthier slice of the population than most economists describe.  

The lawmakers' expansive definition is influenced by how their constituents view their own situation. Very few Americans see themselves as rich, even when they’re making and spending plenty of money. But some are wealthier than others, at least in relative terms, and and they are mainly clustered in cities and suburbs along the coasts, where Democrats have more political sway.  

The wealthiest 10 percent of congressional districts in 2013, according to the Census Bureau, had median family incomes above $75,000, almost half again as much as the $53,000 national median.  

All but four of those 43 districts are in solidly blue states Obama carried in both of his presidential victories. Seven are in Schumer’s New York. And 25 are currently represented in the House by Democrats, including not only Pelosi of San Francisco, but also Van Hollen and Minority Whip Steny H. Hoyer, who represent Maryland suburbs of Washington, D.C.  

None of the Democrats from the richest districts sit on the tax-writing Ways and Means Committee, but four of the 18 Republicans do: Peter Roskam of suburban Chicago, Erik Paulsen of suburban Minneapolis, Tom Price of suburban Atlanta and Sam Johnson of Plano, Texas.  

Loud complaints about Obama’s proposal came from such areas, where living expenses can be high enough that two-income professional couples making more than $200,000 a year see themselves as having limited means. The White House says such families are the richest 8 percent and about half of them have 70 percent of the money invested in college accounts.  

That such upper-middle-class people could quickly save the 529s is a warning about the inherent difficulty of engineering the first big tax overhaul since the 1980s.  

The president, along with Hill leaders on tax policy from both parties, agree the goal should be to sufficiently broaden the tax base — by weeding out a host of preferences for relatively small groups — to lower overall rates without a loss of revenue.  

But such an IRS rulebook simplification, with or without special budget rule protections , will be impossible if Democrats and Republicans in Congress agree it’s politically imperative to shield the tax preferences relied on by their more affluent constituents. The 529 break is a drop in the bucket compared to deductions for state and local taxes, mortgage interest or employer-paid health insurance, all of which disproportionately benefit those with very good, if not enormous, incomes.  

In the short term, it’s difficult to imagine how lawmakers could devise policy changes that bolster the middle class when the emerging definition of that economic bracket ranges from people who earn a little less than average to families with triple the median income.  

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