Tax reform does not guarantee growth

By David Callahan
September 28, 2012

One of the few thin­gs that President Obama and Mitt Romney are likely to agree on when they debate next week is the need for tax reform. Both candidates have backed streamlining America’s crazy-quilt tax code, and both have said that reforms could boost economic growth. Meanwhile, two key congressional committees held a rare bipartisan hearing last week – with lawmakers from both parties saying that tax reform is needed to rev up the economy.

Yet exactly how and why tax reform would spur growth is far from clear. Many proponents of reform, including Romney, want to lower tax rates while retaining the same level of revenue. But doing that means reducing major individual tax breaks that subsidize key sectors of the economy – including housing and healthcare. Long term, there are good arguments for whacking such subsidies, which tilt heavily in favor of affluent households and distort our economy. But curbing these freebies doesn’t offer a short-term economic fix and, in fact, could hurt growth.

Let’s start with the best-known big tax break – the mortgage interest deduction, which will cost the U.S. Treasury about $100 billion next year, according to the Congressional Research Service. Shrinking this loophole is a good idea in principle, since it primarily benefits more affluent households who have big mortgages and itemize their taxes, but it would be a blow to a housing sector that is still struggling. Smaller subsidies for home buyers would mean weaker sales and less new construction and would keep home values depressed – not an outcome that anyone wants to see right now. Among other things, such reform could be another severe blow to construction workers, who now have the highest unemployment rate of any group.

Or consider the biggest tax expenditure of all – the exclusion of employer-provided health insurance. Thanks to this deduction, which clocks in at over $150 billion annually, the IRS doesn’t count the value of health benefits that workers get from their employers as compensation – thus providing the health sector with tens of millions of subsidized customers. This break is also heavily tilted toward the affluent, who receive better health benefits, and is a ripe target for reform – just not right now. The healthcare sector is one of the few bright spots in the economy, accounting for many of the new jobs created in recent months, according to the Bureau of Labor Statistics. Whoever is inaugurated in January won’t want to mess with this job growth.

The story is the same for most other big tax breaks. Close any loophole and somebody is going to take a hit. Even scrapping some of the most indefensible corporate tax breaks – like subsidies for energy companies – could have adverse near-term effects. Oil and gas exploration is creating a lot of jobs right now, with unemployment a mere 3 percent in the fracking boom state of North Dakota. Ending tax giveaways to this profitable industry probably won’t cost jobs – but it’s hard to imagine that any president, including Obama, really wants to test that hypothesis right now.

While the concrete costs of closing tax loopholes are easy to see, the benefits of lower rates are more speculative. Consumers and employers have been holding back even though tax rates are at a 60-year low. It’s hard to see why even lower rates would lead to more hiring or spending, as Romney’s economic blueprint assumes.

None of this is to say that tax reform isn’t a good idea. It is, and this issue commands unusual support across the ideological spectrum. Conservatives don’t like using the tax code to choose winners and losers, while progressives don’t like how the lion’s share of breaks goes to better-off households or to corporations. Amid partisan deadlock in Washington, it would be nice if Congress could actually do something big – and tax reform is the best candidate for such action.

Congressional leaders, who are well aware that their institution is less trusted by the public than ever before, seem determined to move tax reform forward next year, according to Politico.

Realistically, though, rewriting the tax code may have to wait until after the economy perks up. Closing big loopholes will be a heavy enough lift given the power of interest groups inside the Beltway. It is even less politically feasible during hard times, when no political leaders want to inflict yet more pain.

Tax reform is what Congress should do after the economy starts growing faster. It is not the way to achieve that goal.

PHOTO: The National Debt Clock, which displays the current United States gross national debt and each American family’s share, hangs on a wall next to an office for the Internal Revenue Service near Times Square in New York, May 16, 2011. REUTERS/Chip East

14 comments

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Make offshore job outsourcing only partially deductible and offset raising the 15% corporate federal tax rate threshold from $ 50K to $ 250K.

It will create domestic jobs and make small business more competitive.

Posted by robb1 | Report as abusive

I wonder if Congress and the next Administration will consider shaving points across the on all tax break loopholes so none of the sacred cows are slaughtered.

This could possibly be the most equitable.

However in the total equation of any type of tax reform, the state and local governments cannot be left out since at least in my experience any tax break on the federal level seems to be offset by a tax increase closer to home.

Example,I am a resident of West Orange, NJ and even though Governor Christie was able to pass that property taxes could only be increased by 2%, the local government where I reside got around this by reassessing the property value and publicizing that they were able to meet the recent budget without raising taxes. Personally my property taxes increased $400 a month totaling $1,100, yet the property values continues to decrease regardless of what the so called experts indicate in the media. Recently I heard that the housing market has improved by 10%, which sounds pretty good at first, but an increase of a number that has been on the negative side for a long time, in truth has little to no value in my opinion other than the sound bit it creates to make someone feel good.

Posted by MDCooks | Report as abusive

Raise tariffs on imports, to the point where companies will have to move their factories back to USA or lose market share to their competitors that do. This would raise revenue and create jobs. It would however make USA even more unpoplar with developing countries like china.

Posted by Lothiel | Report as abusive

I wonder if Congress and the next Administration will consider shaving points across the on all tax break loopholes so none of the sacred cows are slaughtered.

This could possibly be the most equitable.

However in the total equation of any type of tax reform, the state and local governments cannot be left out since at least in my experience any tax break on the federal level seems to be offset by a tax increase closer to home.

Example,I am a resident of West Orange, NJ and even though Governor Christie was able to pass that property taxes could only be increased by 2%, the local government where I reside got around this by reassessing the property value and publicizing that they were able to meet the recent budget without raising taxes. Personally my property taxes increased several hundred $$$$ a month offsetting what was saved by refinancing,yet the property values continues to decrease regardless of what the so called experts indicate in the media. Recently I heard that the housing market has improved by 10%, which sounds pretty good at first, but an increase of a number that has been on the negative side for a long time, in truth has little to no value in my opinion other than the sound bit it creates to make someone feel good.

Posted by MDCooks | Report as abusive

The “journey of a thousand miles still begins with a single step”. It is important this step be forward, not backward. Since “everyone” believes tax reform is necessary, I think there are things that CAN be done NOW (or VERY soon).

It’s time to look at the tax deduction for home mortgages. As it presently exists, it should remain unchanged for taxpayers with existing mortgages. It is uncertainty in the tax code that hurts growth, and so doing this “grandfathers” existing loans and places the industry on notice that the rules have changed.

How should the rules change? Well, you can create any kind of society you want with two tools: tax benefits (those things you want more of) and tax penalties (those things you want less of). Should we really continue to pay the “poor” by the head to produce ever more of themselves for more and more “benefits”?

The old rules made home ownership “smarter” than renting so long as just about everywhere home selling prices increased over time. Renting was dumb unless you moved frequently and valid questions if you moved frequently. Was your employment situation “good” and “stable”, are are you frequently relocating to elude day to day bills?

They also made “moving up” to a larger and/or more expensive residence logical whether or not you needed more room, just so there was more “investment” to grow. Never mind that two to four people don’t need a 4000+ sq. ft. MacMansion.

Guess what’s a glut on the market today? 4000 sq. ft. MacMansions. Guess what’s more and more valuable? Decent farm land (which has been gobbled up by developers near large population centers for decades). We need to “”send a message” to NOT build more. The developers that already have land just need to redraw or rezone future development.

If the mortgage interest deduction for the single family home is eliminated at this time, building won’t stop. It will simply occur in the manner most consistent with “demand”. “Demand” will be for smaller or multi-unit residences, condos, townhomes, etc., all of which is good for the preservation of farmland for farming.

John Doe hasn’t seen any appreciation on his residence for approaching a decade, so the “investment” angle is no longer a factor in buying or renting the place he lives in. The very well-to-do would most miss this loophole as well as those with the “surplus income” to “invest” in second homes. In my opinion, though, neither should continue to be subsidized by ALL taxpayers through “our” tax code. That’s NOT “in the public interest”.

As for health care, once again the present “system” is a “one size fits all” approach that disproportionally increases available benefits for the wealthy. To be blunt, neither Congress nor state lawmakers nor government workers nor union workers nor senior business management nor CEOs should receive tax-advantaged coverage most Americans can’t afford. That’s NOT “in the public interest”.

Define a “basic benefit package” with individual options. Maybe cover children OR older parents OR students or, like a “Health Spending Account” anything up to a certain limit each year; which might be carried forward if not used, or not. You could buy coverage beyond that “base benefit”, but the cost would NOT be tax-deductible.

Define the “new incentives” and the same business that provide coverage today will still do so. The transition will be smooth and those considering health care as a career opportunity or a business have no rug pulled out from under them.

A similar approach taken with common sense progressively through our bloated federal state and local governments and “society” would offer many fiscal opportunities if current lobbies understand that the alternative is probably a “flat tax” with NO exceptions where everyone begins again to fight for undue advantage at the expense of everyone else.

Posted by OneOfTheSheep | Report as abusive

The mortgage deduction is a distortion of the market. One ingredient that has helped fuel an unsustainable housing market. Keeping it alive for things such as trying to prop us the throes of unemployed construction workers doesn’t do anyone, least of all the construction workers, any good.
The housing market should be allowed a more natural progression, probably allowing for more future stability. Give these unemployed guys a clear indication that easy jobs won’t be coming back, and ideally they’re retrain for something else.
The economy needs less “engineering”, not more.

Posted by keenan77 | Report as abusive

Sometimes I wonder whether raw GDP numbers are getting divorced from what is happening in the REAL economy; or in other words, the challenges that are discussed around the dinner tables of middle America, and the difficulties faced by the hidden legions of American workers who live in small cabins, trailer homes etc.

GDP recognizes economic ACTIVITY, right? However, not all “profitable” economic activity is beneficial to its customers, or to the world/society we live in…

Posted by matthewslyman | Report as abusive

Maybe not not but this president’s anti business policies guarantee no growth. I’ll go with the maybe.

Posted by costag1 | Report as abusive

The idea that government lives off of that says “I know better how to spend your money and what is right for you, so it’s your money or your life” has never and will never create a single sustainable job. All taxes are theft as long as they are compulsory. When you tax a population too much, they think “what am I working for?” and the economy suffers. The problem isn’t tax “policy”, it’s the “tax” its self. Eliminate the taxes and you eliminate the legalized support structure for the rich. Then you’ll have localized small business growth.

Posted by LysanderTucker | Report as abusive

False promises and misleading statements cover almost everything related to taxes, especially to tax preferences for the wealthy and to corporations that thrive under the current system. These people are delighted with the current mish mash.

The problem is that 90% of the populations gets poorer every week, and has for over a decade. At the same time, when you add in “payroll taxes” / FICA “contributions” and the Income Taxes levied on those taxes (double taxation), wage earners in the USA pay an effective tax rate that is higher than people earning 100 times their pay. The tax system is regressive. And as with all regressive tax systems, the result is economic decline.

This can be altered a number of different ways, but it must be altered or the USA as we have known it for 150 years will disappear. If “trickle down” did not work over the past 30 years, it is unlikely to become suddenly efficacious. If a reform does not work, it needs to die. All reforms should have a life span of no more than 5 years before automatically expiring. Renewed reforms that failed to achieve their goal should be advertised in every medium available that uses public assets (e.g. wireless “spectrum”) as an expensive failure proposed by Government.

Posted by usagadfly | Report as abusive

I’m no expert on taxation, but I did buy 4 different homes during my working class years in the USA. I’ve often thought that a flat tax was not perfect, NO tax is, but possibly a flat tax would be more equitable than any of the gimmicky tax structures blessing this consumer or that business enterprise. With no constituencies looking for their individual pieces of the pie, might en the policy makers have less incentive to be bought and paid for?

Posted by hapibeli | Report as abusive

Before reform of the tax take is considered the way of reporting taxable income should be simplified. Tax reform should begin by a tax take neutral reform.

When that is accomplished it would become easier to reform the taxes to improve the national share of income through taxable income and share.

Further a form of VAT should be considered with low rates on essentials and a higher rate on luxuries. Low income households should be compensated through redistribution policies to even out the unfairness.

Reform without simplification would be meaningless.

Posted by rCharel | Report as abusive

“Tax reform is what Congress should do after the economy starts growing faster. It is not the way to achieve that goal.”

The above statement is only valid because Congress somehow always manages to screw the poor when the say they’re going after the rich. If they truly wanted to craft a ‘bubble-up’ strategy, (as opposed to the ‘trickle down’ we hear so much of), it could easily do so. Unfortunately, the WORKING poor have no advocates in Congress or the White House, and I doubt they ever will.

1) Cease any and ALL withholding from anyone earning less than $2000 a month. It’s not like they’re going to sit on that money, it’s going to be spent. The increased velocity will result in instant economic expansion. Won’t help the rich, or even the middle-class, so ‘No’, such a thing is NEVER going to happen.

2) Require employers to furnish pro-rated benefits to part time workers. In other words, a part-timer working 20 hrs a week will get 50% of the benefits package a full-time worker enjoys. Again, this won’t help the rich (not directly at least) and actually may drive up some costs for the middle-class, but it will correct serious economic inequities, and give poor people spending power that WILL be put into immediate use. Again, this is a velocity equation. The benefit in the short run is economic expansion, reduced unemployment, and less government welfare. The ‘bubble-up’ effects will in time benefit the middle class and rich, perhaps even more-so than the truly poor.

3) Require Federal Income Tax to be file every OTHER year. This would save our economy hundreds of billions of dollars. I’d prefer to dump income tax overboard, but in the meanwhile each and every one of us could be spared the enormous hassle of filing every twelve months. A very small contingent (accountants and tax lawyers) would hate this, but the rest of us would be throwing a party every other April 15th instead of burying our noses in spreadsheets and .pdfs.

4) Remove ALL corporate tax loop-holes, but lower corporate tax to a low, FLAT 12%. Don’t worry about leaving the ‘rich’ off the hook. These profits are ‘doubly’ taxed anyway, as when these profits are returned to investors, they again pay taxes on it. And here you can apply your ‘fairness’. (Just for an example) Investment income over $100,000 could be taxed another 25%, while returns under that level might be taxed at something like %8. Encourage investment, but don’t rob grandma’s only source of income.

Sadly, only special interests get their way in this world, so as a whole society is probably screwed. Better not mess with the tax code, because congress is liable to only make things worse.

Posted by pax_vobiscum | Report as abusive

A majority of Americans don’t WANT a society economically identical to Europe’s current unsustainable examples. Get used to that.

Posted by OneOfTheSheep | Report as abusive