A 20 Percent Tax Rate Cut Would Blow a Huge Hole in the Budget
In the back-and-forth over deficit reduction on Capitol Hill, Republicans have floated the idea of cutting individual tax rates by 20 percent across the board. There is much more to their plan: Crucially, they’d also trim tax subsidies. However, they don’t say how, so my colleagues at the Tax Policy Center looked only at what this broad rate cut would mean for the deficit. And the answer is nothing good.
The plan would cut individual income tax rates to 8 percent, 12 percent, 20 percent, 23 percent, 27 percent and 28 percent (rounded up to the next 1 percent). Compared to current law (that is, assuming the Bush-era tax cuts expire as scheduled in a year) cutting rates would increase the deficit by nearly $200 billion in 2015 alone. That’s $200 billion in one year. Relative to current policy (or assuming the relatively low rates and other provisions of the 2001/2003/2010 tax law remain on the books) it would reduce tax revenues by more than $150 billion in 2015.
This seems to violate the useful old aphorism that suggests, “When you are in a hole, the first thing to do is stop digging.”
These estimates assume Alternative Minimum Tax rates are left unchanged. If they also are reduced by about one-fifth, to 21 percent and 23 percent, the plan would lose more revenue than if the AMT rates remain at 26 percent and 28 percent. That’s because lower regular tax rates would only throw more households into the AMT, where they’d be paying at the higher 26 percent and 28 percent rates.
Also keep in mind that these are static estimates and assume no economic growth from lower rates. Most economists believe that, all else equal, cutting rates would boost the economy. However, much of this benefit would be lost over time if government has to borrow money in order to finance those rate cuts. That is to say, if Congress does not offset the revenue loss caused by the rate reductions with spending cuts or other tax hikes.
And that brings us back to the problem. This rate reduction plan was offered in the context of the congressional Super committee’s efforts to reduce the deficit by $1.2 trillion over 10 years. Starting off with a huge tax rate cut would deepen the 10-year hole by trillions of dollars. We’ve seen that deficit reduction isn’t easy, but it sure would help if the pols started by putting away their shovels.