Scott Sumner  

House bill >>>>>>>>> Senate bill

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Let's hope the House wins at least a few battles in committee, because the Senate tax bill has a number of disappointing features:

Keeps mortgage interest deduction as is: The Senate bill would still let you claim a deduction for the interest you pay on mortgage debt up to $1 million. The House wants to cap the loan limit at $500,000 for new mortgages.

Preserves the Alternative Minimum Tax: The original Senate bill, like the House-passed bill, would repeal the AMT. But to help offset the cost of other late amendments, the final revision of the Senate bill now keeps the AMT in place but raises the amount of income exempt from it.

Preserves the estate tax, but exempts almost everybody: Unlike the House GOP bill, Senate Republicans have not proposed repealing the estate tax.
But they are proposing to double the exemption levels -- which are currently set at $5.49 million for individuals, and $10.98 million for married couples. Even at today's levels, only 0.2% of all estates ever end up being subject to the estate tax.

Increases teacher deduction:
Teachers who buy their own supplies for the classroom may deduct up to $250 today. The Senate bill doubles that amount to $500.
The House bill, by contrast, eliminates the deduction.

Expands the medical expense deduction: Today itemizers may deduct their medical and dental expenses that exceed 10% of their adjusted gross income.
While the House bill gets rid of that deduction, the Senate bill not only keeps it but temporarily lowers that 10% threshold to 7.5% for tax years 2017 and 2018.


I wonder if this partly reflects the characteristics of the two leaders. Paul Ryan has a reputation as being someone who cares about public policy, whereas Mitch McConnell is often described as someone who likes to make deals.

The last major tax reform was in 1986, and was far superior to what's being proposed here. Interestingly, that was a bipartisan endeavor, from back before the US became a tribal country. I don't expect miracles (indeed the worst aspects of the tax code---health care, marriage penalty, etc.--- aren't even touched.) But the Senate bill is hardly worth the effort, while the House bill does have some meaningful simplification, which would make our lives a bit less annoying.

I pay little attention to the "who gains and who loses" discussion, as those estimates are not worth the paper they are written on. In any case, the next Democratic President will reverse the tax cuts, as we'll need higher taxes to pay for the big spending programs that are now favored by both parties.

In contrast, tax simplification actually might stick, and is a worthy goal of Congress.

Questions for Senate Republicans:

1. Why do you think that married people like me should pay higher taxes than my colleagues who are "living in sin"? One of my colleagues recently got divorced for the sole purpose of lowering his tax bill. Does the GOP disapprove of marriage?

2. Why do you favor the AMT?

3. Why do you think equity financed investment should be taxed at a higher rate than debt financed investment? Are we trying to encourage more debt?


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CATEGORIES: Tax Reform , Taxation




COMMENTS (22 to date)
Thaomas writes:

Scott,

A few questions.

Why is either eliminating or raising the exempt limit of the estate tax a good thing? Shouldn't we be raising more from estate taxation? It looks to me like the prefect consumption tax.

As for consumption taxes, should we not be raising the deduction/tax credit for retirement/any other kind of savings [in a revenue neutral way]?

What is the distortion that we should wish to limit by reducing the mortgage interest reduction. (I can think of one but what is yours?)

Isn't teacher purchase of materials for their class just another kind of charitable contribution? Why allow it or disallow/reduce it?

Shouldn't medical expenses get a tax credit rather than a deduction? Wold that not help move us away from employer-purchased health insurance?

While we are on the subject, shouldn't all deductions aimed at promoting certain kinds of consumption be made partial tax credits? Why should one guy's contribution to charity get him a 39% reduction in his taxes and another guy (who does not itemize) get nothing.

Instead of a standard deduction, shouldn't we just have a higher 0% tax bracket?

And isn't all this trivial compared to the increase in the structural deficit? Should we not be trying to reduce the structural deficit?

Zeke5123 writes:

Isn’t teacher classroom expenses a business expense? There is little concern that classroom expenses are hidden consumption. Consequently, under an income tax isn’t the proper system deducting teacher expenses for classroom expenditures in full?

RobertB writes:

Doesn’t the Senate bill repeal the marriage penalty? I think all the MCJ bracket numbers are doubled compared to individual/MFS.

Chris writes:

This tax rewrite adds trillions to the national debt, makes no part of the tax code substantially simpler for the majority of people, and doesn’t even really follow any rational conservative tax policy argument. On top of this, the Republican politicians have repeatedly ignored every model of its effects and flatly lied about the effects of their proposed changes.

It feels like discussing the size of the teaching materials deduction is incredibly unimportant at the moment and you do a disservice to economic discussion by focusing on these ‘trees’ when Congress is setting fire to the forest.

Also, other than anecdotal evidence of fraud, what possible issue could you have with letting teachers deduct school supplies they purchase for the classroom?

Craig writes:

Married people with two incomes pay higher taxes than people who are "living in sin", which is the marriage penalty. Taxes and benefits in the US favor single income households. It could be argued that it would be better to have more single income households.

See wikipedia on the Marriage_penalty:


https://en.m.wikipedia.org/wiki/Marriage_penalty
It can be shown[5][6] that it is mathematically impossible for a tax system to have all of (a) marginal tax rates that increase with income, (b) joint filing with income splitting for married couples, and (c) combined tax bills that are unaffected by two people's marital status

Pierre Lemieux writes:

All very relevant points, including:
"I pay little attention to the 'who gains and who loses' discussion, as those estimates are not worth the paper they are written on. In any case, the next Democratic President will reverse the tax cuts, as we'll need higher taxes to pay for the big spending programs that are now favored by both parties."

That reminds me of James Madison in Federalist # 62:
"The internal effects of a mutable policy are [...] calamitous. It poisons the blessings of liberty itself. It will be of little avail to the people that the laws are made by men of their own choice, if the laws be so voluminous that they cannot be read, or so incoherent that they cannot be understood; if they be repealed before they are promulgated, or undergo such incessant changes that no man who knows what the law is today can guess what it will be tomorrow."

Michael Byrnes writes:

The bills are consistent on the really important stuff, like trying to give a huge and needless tax break to people like Donald Trump.

I suspect the final bill will look more like the Senate version.

Scott Sumner writes:

Thaomas, I'll do a post on the estate tax. We should get rid of all loopholes.

A higher standard deduction reduces itemizing, simplifies taxes.

Robert, It does look like it will make the marriage penalty smaller, a point I'd overlooked. But I believe it's still there, as the Medicare tax kicks in at $200,000 for single people and $250,000 for married people.

Zeke and Chris, It adds complexity. Have the schools compensate teachers, if appropriate.

Craig, Let married people file as single. Problem solved.

Alan Goldhammer writes:

Scott inadvertently writes one of the funniest tings I have read all year, "Paul Ryan has a reputation as being someone who cares about public policy..." Also, 1986 was real tax reform and this was not.

Regarding the estate tax, it is the only way to capture realized capital gains that are passed on to heirs from the very rich. Those who argue against it, are permitting the pass through of large amounts of never taxed money, e.g., large stock portfolios or holdings of stock in a foundation company (Jeff Bezos and all his Amazon stock is a great example here).

Scott's question #1 - as a happily married man of a lot of years, I totally agree!!

Scott's question #2 - it seems each year I get caught in the AMT trap even if it's only a few $100.

Scott's question #3 - YES, we do deserve an answer to this.

@Zeke5123 - most teachers are not independent contractors or LLCs so deducting classroom provide stuff that they bought is likely not an option. However, maybe the new pass through tax laws will provide such opportunities as well as lowering their tax rate.

zeke5123 writes:

@ Scott

Point taken. On the other hand, the Code already permits numerous business deductions/ Presumably, these could be offset by others. Maybe the response is to get rid of those as well. But if we aren't getting rid of general business deductions, then I don't see why the business expense of teachers should be disallowed.

@ Alan Goldhammer

Alternatively, you could just not permit the stepped up basis on death, and thus preserve the built-in gain. Maybe that furthers the lock-in problem. Regardless, it seems a more equitable to impose the Estate tax to all, not just the super rich. By eliminating SUB, I think you eliminate that unfairness without requiring the family farm to be sold for paying a tax bill.

MikeP writes:

Shouldn't we be raising more from estate taxation? It looks to me like the prefect consumption tax.

It's the "perfect consumption tax" in the same way the xenomorph is the "perfect organism": it forces the liquidation of investments -- often times elemental investments that cannot survive partial liquidation -- exposing them to consumption.

If you meant to say it's the "perfect tax-the-rich tax", you should probably have said that instead.

Nicholas Weininger writes:

As I understand it, the standard case for the AMT is that it's a sanity check to prevent very rich people from gaming the available deductions in the "regular" tax code to pay extremely low effective rates. It's true that GOP lawmakers are less likely than others to buy this, but it seems intuitively compelling enough that some would.

Scott, why do *you* think that eliminating the AMT is an improvement, given all the complexity and potential for abuse of the "regular" tax code which isn't going to be fixed by either the House or Senate bills? Isn't keeping the AMT a second-best to making the "regular" code more like the AMT?

MikeP writes:

Indeed, since the main point of the AMT is to eliminate deductions, tax reform that does nothing but make everyone pay AMT, while dropping the tax rates, would probably be a pretty good improvement.

Alan Goldhammer writes:

Scott writes wrongly (very rare for this to happen) on Medicare,

"Robert, It does look like it will make the marriage penalty smaller, a point I'd overlooked. But I believe it's still there, as the Medicare tax kicks in at $200,000 for single people and $250,000 for married people."

Actually the converse is true!!! Medicare which is means tested for all of you who haven't reached the magic age as I and my wife have (this is something that most politicians seem not to know even if they are senior citizens). We just got our Social Security and Medicare statements last week. Married and single folks are treated the same. The income thresholds for Married filing jointly is simply twice the amount of the Single rate.

For those interested, the base Part B premium is $134/month and there are four income brackets that carry an extra surcharge which might be as high as $294/month for those with MAGI over $160K for singles and $320K for marrieds. Lest anyone think that they will not be in a higher category, it's quite easy with pensions, investment income, social security payments, and mandatory IRA withdrawals. No such thing as free healthcare for seniors!!!

Troy Camplin writes:

Why is increasing the teacher's deduction a disappointing feature? Teachers ought to be able to deduct everything they spend on the classroom, because they are being made to spend money from their own paychecks on their students. It would be like businesses requiring their employees to bring their own paper and toner, to supply most of their daily supplies just to be able to do their work. That of course is illegal for private businesses, but perfectly legal for public schools. The least teachers ought to get is a tax deduction for all their own personal money that have to spend on your kids.

Mark writes:

This seems like public choice theory in action. Each deduction individually is small enough to seem irrelevant to the general public, and big enough to a particular interest group with a few sympathetic senators to guarantee its retention.

In any case, what's happening to the SALT deduction? If Collins is voting for the bill, it doesn't bode well for the goal of getting rid of that.

Antischiff writes:

Dr. Sumner,

It seems you agree with Friedman that the distortion caused by higher taxes are worse than the collection of said taxes.

Thomas Boyle writes:

Teacher deductions: there should be no limit at all on how much teachers can recover, as long as the money is legitimate unreimbursed classroom expenses. Teachers are, as a practical matter, forced to buy the supplies for their own classrooms. They should not pay tax on that money.

Marriage tax penalty: as far as I can tell, the Senate bill eliminates it and instead imposes a singles' tax penalty - while my testing wasn't exhaustive, I couldn't find any combination of incomes for a married couple that would result in them paying more federal income tax than they would as single people, under the provisions of the Senate bill. For an affluent, dual-income household, filing as single people would now result in substantially higher taxes, compared to filing as a married couple.

mariorossi writes:

Given that the current tax bill is going to raise government deficits substantially, I think we can easily conclude that they do want to create more debt.

I still think that it's actually wrong to believe that taxes on US dividends are much higher than taxes on interest income. I don't dispute that an unoptimized business could pay substantially more tax, but I think they are largely the exception rather than the rule.

The easiest way to ensure the tax is the same is to declare it as a pass-through entity. Pretty much solved the problem entirely in one go. No extra tax.

Assuming you cannot do that it's a bit more complicated. For extremely rich families it's pretty straightforward: remove all dividends (with some holding wrapper for example) and allow the step-up basis to remove the liability. Debt and equity are again on the same level (actually equity might be even better). Borrow to consume.

For businesses with off-shore income, simply don't repatriate the income. Just borrow against it and distribute it (maybe even buy bonds from companies in the same situation to have no real effect) most likely through share buybacks (to help with the previous point).

I am not a tax lawyer so I am sure I am missing a lot of tricks, but I think that this is an issue for a relatively small sliver of the population. I am pretty sure our host is in this unfortunate cohort, too rich to avoid the tax and too poor to be able to avoid it. But I wonder what percentage of either population or income is really in that bracket...

DW writes:

Although it would be better if schools compensated teachers for the purchase of classroom materials, schools are not run by the federal government. If the federal government wants to do something about this issue, they can:

1) compensate teachers a bit by allowing them to deduct these expenses or

2) encourage schools to pay for their own supplies by withholding federal funds unless they do, or something similar.

I think that option 2) carries even more complexity in enforcement than option 1).

Justin D writes:

My goodness, why do people care so much about the teacher school supplies deduction?

Suppose you have a teacher who deducts $250 for school supplies purchased at the 25% marginal tax rate. He gets 62 bucks and fifty cents back. Is losing that really worth complaining about? Won't the much larger standard deduction offset that and a lot more for the vast majority of teachers anyway?

Plenty of people have work expenses for which they are not partially reimbursed through the tax system, or will no longer be partially reimbursed after tax reform. For example, the transit/parking deduction is going away too, which in my case costs $2,640/yr, and worth $660 at the 25% marginal rate. Honestly, I have no sympathy whatsoever for teachers for losing this tax deduction.

Get rid of all of the deductions/credits/exemptions except to ensure that the tax burden on lower and middle incomes isn't too extreme and lower the rate(s).

Seth Green writes:

Scott,

I also favor capping the mortgage interest deduction -- but a sharp discontinuity at either 500k or 1M is going to create perverse incentives (and potentially some interesting regression discontinuity designs!) right at that margin, no? Is there a way to create a sliding scale of deduction percentages that would smooth out behavior across the range of mortgage sizes and, related, home sizes?

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