President Donald Trump’s election-season promise of a new 10 percent tax cut for the middle class raised a host of questions about its design, cost and effectiveness.
With details of the surprise initiative still a mystery, analysts could only guess at the types of tax breaks the president may be considering. The only clues so far are that the package would be geared narrowly to the middle class, and go beyond a House-passed bill that would make permanent the temporary tax cuts for individuals enacted last year.
“We’re giving a middle-income tax reduction of about 10 percent,” Trump told reporters Monday. “We’re doing it now for middle-income people. This is not for business. This is for middle — that’s on top of the tax decrease that we’ve already given them.” On Tuesday, Trump added that a tax cut “resolution” could be introduced this week or next, which suggests that perhaps a nonbinding measure to put lawmakers on record might serve as a starting point.
House Ways and Means Chairman Kevin Brady of Texas is keeping his cards close, saying Tuesday that he’d work “over the coming weeks to develop an additional 10 percent tax cut focused specifically on middle-class families and workers, to be advanced as Republicans retain the House and Senate.”
One option could be a reduction in payroll taxes, which typically hit middle-income workers harder than income taxes. Nearly 62 percent of all taxpayers this year will pay more in payroll taxes than they pay in income tax, according to estimates from the Tax Policy Center, a joint venture of the Urban Institute and the Brookings Institution.
Some conservatives have backed the idea in the past, saying it would help the middle class while boosting economic growth. “The payroll tax is, after all, a tax on work,” said James Capretta, a resident fellow at the American Enterprise Institute, in a National Review article last year. “Cutting it would encourage more people to join the labor force; it would also motivate those who are already working to increase the number of hours they work.”
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But a 10 percent reduction in payroll tax revenue would be costly — about $140 billion a year, said Kyle Pomerleau, an economist at the Tax Foundation. Ultimately, the cut could drain federal revenues of more than $1.7 trillion over a decade, he said, rivaling the size of last year’s tax code overhaul.
Former President Barack Obama and Capitol Hill leaders pushed through a reduction of the Social Security payroll tax in late 2010 as part of the deal extending the Bush-era tax cuts. The one-year payroll tax break cut the share of Social Security taxes paid by workers by 2 percentage points, at a $111.7 billion cost, according to the Joint Committee on Taxation.
Another option that could help at least part of the middle class, analysts said, would be an expansion of the Earned Income Tax Credit, which gives low-income workers a tax break on a percentage of their earnings. Ohio Sen. Sherrod Brown, and California Rep. Ro Khanna, both Democrats, have proposed to double the EITC for families with children and dramatically expand the credits for childless workers. The Tax Policy Center estimates their plan could cost $1.4 trillion over a decade.
A third option would be another cut in marginal income tax rates for taxpayers who earn less than a certain income threshold, though such a move could complicate efforts to make last year’s tax cuts permanent.
Trump has also talked up the possibility of indexing capital gains for inflation. “I’m thinking about it very strongly,” he told Bloomberg in an August interview.
Adjusting the sale of financial assets for inflation, a move conservatives say could spur growth, would amount to a windfall for investors selling stock or real estate. But casting a capital gains break as a tax cut for the middle class would be a tough sell. Such a plan could give 86 percent of the tax cut to the top 1 percent of households, at a cost of $102 billion over a decade, according to an estimate from the University of Pennsylvania’s Penn Wharton Budget Model.
Past administrations have often offered small-scale tax relief measures when confronted with economic downturns. Former President George W. Bush offered tax rebates in 2008 of $600 for single filers and $1,200 for joint filers aimed mostly at the middle class. Those checks from Uncle Sam cost $116.7 billion, the JCT estimated at the time.
And Obama offered a “Making Work Pay” tax credit, enacted under the 2009 stimulus, which gave workers a 6.2 percent credit on their earned income, up to a maximum of $400 for single filers and $800 for joint filers. The credit, which phased out for single filers earning more than $75,000 a year and households making more than $150,000, cost $116.2 billion over the two-year life of the credit, according to the JCT.
Similarly, if all federal taxes paid by those earning under $100,000 in 2018 had been slashed by 10 percent, it would cost nearly $60 billion this year, based on figures compiled by the JCT that don’t factor in additional economic growth that might result. Some 133 million households would see their taxes cut on average by about $440, though the savings would grow with income: households earning between $75,000 and $100,000 would receive tax breaks of about $1,367 on average.
Cutting only payroll taxes by 10 percent would be slightly cheaper, and more targeted at middle income earners since the burden falls on them more than the rich; the cap on earnings subject to Social Security taxes is $128,400 in 2018, rising to $132,900 next year. If a policy had been in place this year cutting payroll taxes by 10 percent for those earning under $100,000, it would cost about $45 billion in lost 2018 revenue.
Bang for the buck?
Under almost any scenario, a 10 percent tax cut would be costly, coming on top of last year’s tax overhaul that the Congressional Budget Office said would cost nearly $1.9 trillion over a decade, even after accounting for additional economic growth.
That’s why another round of tax cuts unnerves some conservatives who worry about rising debt. “We should be addressing the deficit and the debt before we double down on additional tax cuts,” said Adam Michel, a tax policy analyst at the Heritage Foundation. “It doesn’t seem like additional tax cuts on the individual side are prudent, since there’s no appetite to cut spending.”
And unlike the tax-cutting efforts of the Bush and Obama administrations, which were designed to combat recessions, the new push from Trump comes at a time when the economy is already strong, and unemployment is at record lows. Another round of tax cuts runs the risk of overheating the economy — and prompting the Federal Reserve to raise interest rates faster than anticipated.
Rising interest rates, in turn, could offset the savings taxpayers reap from a tax cut. “The effect could be not much stimulus at all,” said the Tax Foundation’s Pomerleau. “It could be nil.”
Trump may have decided to promise another tax cut now, analysts say, to compete with Democrats pitching their own tax plans in the weeks leading up to the midterm elections. It’s not just Brown; California Sen. Kamala Harris, another 2020 presidential hopeful, has pushed a tax credit of up to $6,000 a year for families making up to $100,000. And New Jersey Sen. Cory Booker has proposed creating a federal savings account for every child, with the government contributing up to $2,000 annually, based on family income.
But with so many questions hovering over Trump’s promise, analysts remain skeptical that a new tax cut is coming anytime soon. “I don’t think they’re looking at anything,” Pomerleau said. “It’s a Trumpian thing to put forth something before anyone’s done the work.”
And Trump’s top economic adviser appeared eager to stall for more time when pressed by reporters Tuesday on the tax initiative. “It may not surface for a while,” said Larry Kudlow, director of the National Economic Council. “But that’s his goal. That’s his policy intent. I don’t see anything wrong with that.”