Dave Camp's pitch to overhaul U.S. taxes: An impossible dream?

By :: February 28th, 2014

Unlike many previous Republican proposals to cut taxes, the Michigan congressman specifies how government would pay for them. This is critical, but it's not pretty.

On Wednesday, U.S. Rep. Dave Camp (R-Mich.), chairman of the House Ways and Means Committee, unveiled an ambitious plan to overhaul America's complicated tax code. This is both a technical and a political feat.  The number of changes is immense -- the table of contents listing the provisions runs for 8 pages.  The number of political enemies created is probably equally immense.

The news that people will want to hear is the proposed cut in tax rates.  Officially, income tax rates would fall to 10% and 25%.  The alternative minimum tax would be repealed.  For corporations, the tax rate would be reduced to 25% from 35% and the tax treatment of international income would be changed almost all the way to a system that exempts foreign income.

Unlike many previous Republican tax-rate-cutting proposals, Camp's actually specifies how he would finance these changes.  This is vital, but it is not pretty. Here's why:

  • First, the effective rates that people would face will be higher than they might look.  There is essentially a third bracket, at 35%, for those with high income.  The proposal would phase out a variety of benefits as income rises and impose surtaxes on high-income households.  These provisions raise revenue but they also raise the effective marginal tax rate to higher -- and possibly significantly higher -- levels compared to the "official" tax rates.  They also complicate tax planning and filing.
  • Second, the state and local income tax deduction would be eliminated.  Mortgage interest deductions would be restricted.
  • Third, Camp adopts President Obama's proposal to limit the value of itemized deductions. Camp would cap them at 25%, slightly less generous than Obama's proposed cap of 28%.
  • Fourth, literally, scores of targeted provisions are slated for deletion.  Lobbyists will howl, but this is what tax simplification looks like.
  •  Fifth, there are some items that can only be described as budget gimmicks, such as an increased emphasis on Roth IRAs versus conventional saving incentives.  Because Roth IRA contributions are not deductible, a switch from traditional, deductible IRAs to Roths will raise revenue within the 10-year budget window, even though it reduces long-term revenue by even more.  Thus, what looks like a revenue increase is actually a long-term tax cut.  A number of other provisions, like phasing in the corporate tax rate cuts and reducing depreciation allowances have the same effect. They induce long-term budget shortfalls that are not accurately represented in the 10-year figures.

With all of these changes and caveats, the Joint Committee on Taxation scores the proposal as roughly revenue - and distributionally neutral over 10 years.  If this conclusion holds up over time, it is an important one, since the proposals invokes many changes moving in different directions.  For example, the personal exemption is eliminated, but the standard deduction is raised.  The earned income credit is reduced but the child credit is increased.  The net effect of these changes on low-income households is estimated to be roughly a wash.  But it will be important for policy makers and the public to think of these changes as a package.  If provisions are cherry picked, by policy makers or advocates, the proposal can be made to look much more regressive or progressive than it is.  Likewise, there are numerous provisions affecting the well-off that the proposal offers as a package.

Interestingly, despite the pro-business aura of the proposal, the proposal would cut individual income taxes and raise revenue collected from business.  The proposal does little to change Obamacare.  In fact, it would retain the high-income surtaxes that the Affordable Care Act created, though it does propose to repeal the medical device tax.

While the basic contours of the proposal are clear, there remain a lot of unanswered questions in understanding the potential impact of the proposals, in particular in terms of how the various provisions would interact.

What seems more certain is there will be immense political opposition to the changes proposed.  That is the Achilles heel of tax reform proposals that aim to broaden the base and take away people's cherished deductions.

Still, Camp's proposal opens the door for a potential conversation.  While it seems extremely unlikely that anything could happen soon on tax reform, it also seemed that way in the 1980s for a long time leading up to the tax reform act of 1986.

41Comments

  1. Eugene Patrick Devany  ::  4:37 pm on February 28th, 2014:

    For decades the top 10% have used the tax code to get all increases in net wealth. The poorer half have slowly lost over 70% of their net wealth since 1995 and this has destroyed the American family. Even the middle and upper middle class lost 8% of their share of net wealth. “Distribution neutrality” effectively means that only the rich will prosper. Pope Francis describes the harmful effects of the growing economic gap as the “Economy of Exclusion”. It must be reversed rather than preserved with tax reform.

    The other gross misstatement in the Macroeconomic Analysis of the Tax Reform Act of 2014 prepared by the Joint Committee on Taxation is the claim that as many as 1.8 million new jobs would be created. A careful reading shows that this claim is based upon the assumption that everyone has a job who wants one – Macroeconomic Equilibrium Growth model (“MEG”). Since the 2007 Great Recession women have regained all the jobs lost while men have regained just 75 percent. In 1970, 94 percent of men worked, but by 2010 only 81 percent were working. Real data makes the MEG job projection ridiculous and embarrasses the GOP as much as Mr. Romney’s comments about the 47%.

    Thank goodness this bill is not HR 1 – the number reserved for real tax reform.

  2. Michael Bindner  ::  5:06 am on March 1st, 2014:

    This is a great summary of the main points of the Camp proposal. The acid test will be if the Department of the Treasury Office of Tax Policy weighs in and begins negotiating. They might for appearances sake, or they might do it seriously. That would be interesting because it would seem that the President got his tax agenda as promised in the 2008 in the passage of the American Taxpayer Relief Act on January 2, 2013 – which as everyone knows made the Bush tax cuts on the bottom 98% permanent (for the most part) but let them expire for the top 2%. Because the reform leaves the current distribution in place, at least in the short term, I could see him supporting it – although I think the surtax treating employer provided health insurance as taxable might lose Presidential support. If Obama gets on board, the Senate and the House Democrats may fall in line – provided some old guard House Republicans who are retiring do so too.

    This proposal is probably one of the best doing what the Simpson Bowles committee wanted, although with different numbers and more pain at the top. If you are trying to duplicate 1986, this would be the way to do it. Still, I don’t think that is enough. Reform should not be a wash for poorer people – it should increase their income dramatically through a much higher child tax cut (even if rate cuts are less). For good measure, it should also stop most people from having to file taxes, shifting payment to employers through a VAT-like net business receipts tax (ala both myself and Lawrence B. Lindsey or even a VAT ala Michael Graetz). That would be bold in an election year – which is why Camp’s proposal is likely the basis of any bill passing before 2016 – which gives Camp an excuse to keep his Chair for another two years. Of course, if this bill is a swan song then it is DOA. We will see shortly.

  3. AMTbuff  ::  2:46 pm on March 1st, 2014:

    “The news that people will want to hear is the proposed cut in tax rates. Officially, income tax rates would fall to 10% and 25%.”

    As you note, the actual marginal rates are substantially higher due to several phase-outs and add-ons. It’s an odd kind of tax simplification that includes so many stealth taxes, don’t you think?

    I wish politicians would stop trying to deceive the public. It’s so disrespectful to us. We’re adults. Give it to us straight, please.

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  5. Uncleike  ::  9:03 am on March 3rd, 2014:

    Calling the Camp draft “distributionally neutral” is an oversimplification. It is neutal only if one ignores the rather large variations in the cost of living among geographical regions in the US.

    Capping the home mortgage interest deduction at $500,000 of principal is a good example. That $500,000 will buy a mansion in Biloxi or, maybe, a small studio apartment in New York.

    More generally, the bubble rates it creates for upper middle income classes with the numerous phase-outs are considerably more pronounced those created by the 1986 Act, raising marginal rates for those in high-cost areas to levels exceeding 50%. The effect on state and local finances in those areas resulting from the effective loss of the federal tax deduction will be significant.

    Within income classes, the draft preserves the large differentials between individuals with capital income and those with earned income.

    Distribution is a complicated concept.

  6. Uncleike  ::  10:06 am on March 3rd, 2014:

    It is also an over-simplification to say that the draft would increase taxes on corporations Some of the changes affecting corporations, such as accelerated cost recovery, increase tax revenue far more in the short term than on a permanent basis. On the other hand, the reduction in the corporate rate to 25% is phased in over 5 years, reducing the 10-year revenue cost by at least a quarter relative to the permanent cost. The draft would likely lose significant corporate revenue in the long term.

  7. Michael Bindner  ::  1:28 am on March 6th, 2014:

    There is a bubble, but that is why the rates are going down to compensate for it. There is little danger, however, that this plan will pass anything more than his committee.

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