Tax Reform’s Murky Future

Joanne Butler Contributor
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In D.C. the tax reform show is going strong.  Republicans want tax cuts for everybody (including Bill Gates) as well as corporations.  Democrats say this is the old Republican game of helping the rich and big businesses at the expense of the less well off.  Plus it seems any tax reform bill won’t go through the usual legislative process.  If a bill comes to fruition, it will have to be passed via the mysterious ‘reconciliation’ process.  Politics, process and a razor-thin Republican majority in the Senate results add up to a murky future for tax reform.

How did we get here?

President George W. Bush’s 2001 tax cuts are a one reason for any reform difficulties.  The Tax Foundation indicates that the tax rate on low-income people to be about ten percent.  However, with various tax credits, about half of U.S. workers pay no income tax.  Nor will Republicans dare to impose an income tax on them now.

Thus the taxable ‘pie’ on individuals was cut in half.  What about the other half – that pays taxes?

I expect the lower end of this scale consists of upper middle class two-earner households.

If they have children, a large part of their income goes to pay for private schools and/or tutors, saving for college expenses, and/or a more expensive home (and higher real estate taxes) in a desirable public school district.  In some cases, these households may defer saving for retirement until their children have grown up.

People in this group understand the need to give their children advantages to advance through the system.  With strong supports, these kids have a better chance of reaching economic peer status with their parents or rising to a higher status.

The DINKs (double income, no kids) in this group seem to spend a great deal of their disposable income (considering the low national savings rate).

Next up: the wealthy.  Oddly, I can’t characterize this group as living in million-dollar homes, as extremely low mortgage interest rates have put these homes within reach of the upper middle class.  So perhaps we should say the wealthy have two one-million-dollar homes or a single two-million-dollar home.  A Mercedes and a Land Rover in the two-car garage completes the lifestyle picture.

For these households, spending money to help their children is not a problem; nor do they need to delay retirement savings to help their children now.

Finally, we have the super-wealthy.  As a CNBC watcher, I routinely see commercials for Lamborghinis, Rolls, and Bentleys.  Naturally, the prices are staggering – unless you’re super-wealthy.

Republicans constantly tell us how the super-wealthy pay most of the income taxes.  This is understandable considering how half of workers pay no income tax.

The taxpayer ‘pie’ has shrunk.  Thus, instead of spreading the tax burden over more income groups, it’s concentrated among the upper middle class, the wealthy, and the super-wealthy.  Plus the super-wealthy are truly at the peak.  Again, think of Bill Gates.  Outsized incomes result in outsized income tax payments.

Turning to corporate income taxes, America truly has one of the highest rates in the world. According to the Tax Foundation the U.S. rate is 38.9 percent.

Some say China’s corporate tax rate is 15 percent.  But this rate comes with loads of fine print, thanks to the PRC’s State Central Committee.  In sum, the very low rate applies only to certain high-tech firms.  All others pay a 25 percent rate.  However, that’s still much lower than America’s 38.9 percent.

Finally, why does tax reform need to be legislated under a ‘reconciliation’ process?  Because this process prevents filibusters and allows a bill to be passed in the Senate by a simple majority (instead of a two-thirds majority).

In today’s politically polarized environment, having a two-thirds majority for any substantive legislation is impossible.  Senate Majority Leader Mitch McConnell can’t guarantee all Republican Senators will vote for tax reform, nor can he depend on a few Democrat defectors.

But if the package is structured to benefit upper middle class taxpayers, it may pick up some Democratic support.  The key is the ‘middle class’ part of ‘upper middle class.’  Democrats in competitive 2018 races could point to helping the middle class while excluding the super-rich.

A lower corporate tax should be an easier sell.  But Republicans need to tell the truth: for most firms operating in China, their tax rate is 25 percent, not 15 percent.

It’s no wonder that the future of tax reform is murky.  Earlier this year, we saw how merely a few Senate Republican defectors were able to deep-freeze health care legislation.

McConnell undoubtedly will face party defectors no matter what a tax reform bill contains.  Thus, for a bill to pass, he will need Democrat votes.  The only way McConnell can get these votes is to write a bill that a Democrat (in a red/purple state) can vote for.

I did say this was murky, right?