At midnight this New Year’s Eve most Americans will be watching the ball drop in Times Square. However, as the ball is dropping there will be a far more important change within the tax system. Set to expire at midnight are the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) and the Jobs and Growth Tax Relief Reconciliation Act of 2003 (JGTRRA), better known as the Bush tax cuts. Lawmakers on both sides of the aisle are scrambling to find a supplement for the expiring cuts, but as of press time there are no solutions in place.
Prior to EGTRRA in 2001 the top tax bracket rate was at 39.6% for those annually grossing more than $300,000. EGTRRA lowered that rate to 35%, as well as lowered subsequent three bracket rates by about 3%. Two years later Congress passed JGTRRA, which implemented the EGTRRA cuts earlier than originally planned. Both bills hold an important caveat that provides the basis for the current debate over replacing the cuts.
Fearing a filibuster, Majority Leader Trent Lott invoked an unusual Senate rule called reconciliation, allowing for a simple majority vote instead of a 60 vote supermajority. Reconciliation is subject to the Byrd Rule, which assures that bills passed through reconciliation must either decrease the deficit or increase the deficit for no more than 10 years. Both bills were passed through this process.
According to the Tax Policy Center’s analysis, over the last decade the Bush tax cuts have cost about 2.3 trillion dollars. Still, it has become a very common conservative argument that the cuts pay for themselves by stimulating the economy and increasing revenues that supplement the lowered taxes. As pointed out by Tax Notes’ tax analyst, David Cay Johnston, during the last eight years tax revenues dropped 11.8% or $144.66 billion dollars. With this evidence, many still argue that tax cuts do not need to be offset in the budget.
Many proponents of tax cuts have stated that allowing taxes to increase would directly harm small businesses. These statements are difficult to believe since only two percent of all small businesses are within the top-filing bracket. Another problem with the term “small business” is that the Joint Committee on Taxation report titled Present Law and the President’s Fiscal Year 2011 Budget Proposals Related to Selected Individual Income Tax Provisions Scheduled to Expire Under the Sunset Provisions of the Economic Growth and Tax Relief Reconciliation Act of 2001, “50 percent of the approximately $1 trillion of aggregate net positive business income will be reported on returns that have a marginal rate of 36 or 39.6 percent. These figures for net positive business income do not imply that all of the income is from entities that might be considered ‘small.’ For example, in 2005, 12,862 S corporations and 6,658 partnerships had receipts of more than $50 million.” An “S” corporation has its income reported through the personal income taxes of its shareholders. Companies with fewer than 100 shareholders can qualify for this status. Which is what allowed Fidelity Investments, which took in about $11.5 billion in 2009 revenue and Tribune Co., which took in about 4.2 billion in 2008 revenue, to be taxed as small businesses.
Supporters of tax cuts state that cuts to the top bracket trickle-down to the lower brackets. Part of that equation is average income, which David Cay Johnston’s research shows fell about 7% or $3,512 per person between 2000 and 2008. Another fact that seems to disagree with the idea of the whole economy receiving a benefit is the level of poverty within the United States. According to the U.S. census Bureau, there were 37,276,000 under the poverty line in 2007, compared to only 31,581,000 in 2000.
The most important policy change will be allowing the current tax bracket to return to the 1993 level of 39.6%. This idea of a tax hike within an economic downturn is widely considered a negative policy, yet it could hold some positive economic impact. For historical context, Bill Clinton was elected at the tail end of a small recession that had the country in an economic downturn. Within his first year President Clinton signed the Revenue Reconciliation Act of 1993, which raised the top bracket from 31% to 39.6%. Over the next two years unemployment dropped from 6.9% to 5.7%. Compare that to the post EGTRRA unemployment numbers, which grew from 4.5% in June 2001 to 6.3% in June 2003. This makes a small tax hike for the upper bracket seem like a more palatable policy. Allowing the top bracket tax cuts to expire would also help the country towards austerity. According to the Congressional Budget Office, extending these cuts would cost about $40 billion in the first year and $700 billion over the next decade. These numbers explain why some have challenged Republicans fighting for both a balanced budget and an extension of all the tax cuts.
The most important issue ahead of this country for the next few years is finding some sort of catalyst to spur economic growth. Many of the austerity measures called for conservatives may be impossible at this time. Before a nation can truly begin dealing with budgetary weakness, it must be on solid economic footing. This economy is far from being strong enough to endure budget cuts, especially to necessary safety-net programs that receive more use during economic downturns.
With the recession came a massive loss in revenue that caused a spike in the size of the deficit. Before any administration can begin to look towards a balanced budget, revenue will need to return to pre-recession levels. In order to regain the revenues lost to the recession, the economy will need a boost in growth that can come from new spending projects.
As seen with the stimulus package, it is quite possible to use federal spending to stimulate a struggling economy. Spending on programs such as infrastructure repairs and tax credits for hiring new employees are policies that hold promise for the economy. According to the assessments of Alan Blinder and Mark Zandi, the stimulus package alone prevented the loss of about 12 million jobs. Spending on infrastructure projects like those targeted in the American Recovery and Reinvestment Act (ARRA) could create a two-fold positive impact as it would stimulate economic growth and help stabilize the country’s crumbling infrastructure.
Recently a study from the Political Economy Research Institute at UMASS Amherst highlighted the point that 18,000 jobs are created for every $1 billion spent on infrastructure. If anything, these added investments could be important for job growth and strengthening the middle class. The Council of Economic Advisors released a report in October stating that about 80% of jobs created would be in sectors mainly populated by the middle-class. Along with infrastructure spending, there is a need to institute a temporary tax credit on hiring. Through these credits, businesses would be able to reduce their tax burden while adding jobs to the US economy. According to the Congressional Budget Office, this plan would lead to about four to six times more jobs created than an extension of the Bush cuts. $17.5 billion has already been spent on a plan similar to this, called the HIRE Act, which has led to the hiring of about 6.9 million new workers after about 3 months. With added employment comes an increase in consumption that could potentially stimulate the economic growth that the United States needs.
Depending on the decision made about the cuts, 2011 could either usher in a new decade resembling either our boom in the 1990s or our bust in the 2000s.
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Amadeo, Kimberly. “Economic Growth Tax Relief Reconciliation Act – Impact of EGTRRA on the U.S. Economy.” US Economy and Business – US Economic Indicators – US Economic News. N.p., n.d. Web. 21 Oct. 2010. http://useconomy.about.com/od/fiscalpolicy/p/EGTRRA.html.
Bills, rd rule may be invoked only against reconciliation, and amendments. “SUMMARY OF THE BYRD RULE.” Committee on Rules. N.p., n.d. Web. 21 Oct. 2010. http://www.rules.house.gov/archives/byrd_rule.htm.
Cay Johnston , David. “tax.com: So How Did the Bush Tax Cuts Work Out for the Economy?.” tax.com: The Tax Daily for the Citizen Taxpayer. N.p., n.d. Web. 21 Oct. 2010. http://www.tax.com/taxcom/taxblog.nsf/permalink/chas-89lpz9?opendocument.
“S Corporations.” Internal Revenue Service. N.p., n.d. Web. 21 Oct. 2010. http://www.irs.gov/businesses/small/article/0,,id=98263,00.html.
Kerber, Ross. “Fidelity changes its corporate structure – The Boston Globe.” Boston.com. N.p., n.d. Web. 21 Oct. 2010. http://www.boston.com/business/markets/articles/2007/11/03/fidelity_changes_its_corporate_structure.
DeLong, Brad. “Income and Poverty Over the 2000-2007 Business Cycle – Grasping Reality with Both Hands.” Grasping Reality with Both Hands. N.p., n.d. Web. 21 Oct. 2010. http://delong.typepad.com/sdj/2008/08/income-and-pove.html.
Marr, Chuck. ” Letting High-Income Tax Cuts Expire Is Proper Response to Nation’s Short- and Long-Term Challenges — Center on Budget and Policy Priorities.” Center on Budget and Policy Priorities. N.p., n.d. Web. 21 Oct. 2010. http://www.cbpp.org/cms/index.cfm?fa=view&id=3241.
