Yesterday on Coffee & Markets we interviewed Curtis Dubay of the Heritage Foundation on his critiques of the Tax Policy Center’s framing of Mitt Romney’s tax plan. The podcast is here. I agree thoroughly with Dubay’s criticism of the TPC’s approach – the assumptions it makes are designed to place Romney’s plan in the worst possible light, and it’s hard to make the case that’s not intentional.
But in another area, Romney’s tax plan strikes me as trying to have its cake and eat it too, particularly in the wake of his remarks about a deductions cap. As the WSJ notes, “only households that earned less than $45,000 a year averaged less than $17,000 in deductions” – so Romney would be putting in place a cap at that amount necessarily going to raise the tax burden of many Americans who are in the middle class, one that will assuredly NOT be offset by his elimination of cap gains/dividends. Romney later pegged the amounts differently in the debate, so it’s clear he’s still thinking this through (feel free to expand this to all areas of policy), but let’s assume it happens. If it does, Romney will be penalizing upper middle class people who live like he does, and rewarding those who are less charitable.
Tax policy experts like to talk as if populations at the same level of adjusted gross income have similar returns, but this is of course not the case – you can easily have somebody at $100,000 AGI with $50,000 in deductions and another who has only $20,000. Under Romney’s plan, someone with $50,000 is going to feel significantly pinched by the tax man under a new limit compared to the guy with only $20,000 in deductions. In other words, it’s better to live like Joe Biden under this new system.
I asked a tax policy expert to crunch the numbers on a typical household with an individual filer and deduction amounts. Consider them an evangelical suburbanite at the $100,000 level who has a mortgage, tithes, and has some annual medical expenses. Here’s what comes back:
If you make $100,000, have a new $300,000 mortgage @ 4 percent, tithe 15 percent, pay $5,000 in state/local taxes, and have $7,500 in qualified medical expenses, you would pay $12,100 in federal income taxes on AGI of $60,500 w/ deductions of $39,500 (assume 20 percent effective rate). Under the Romney plan, you'd pay $13,280 (new effective rate would be 16 percent on AGI of $83,000), an increase of nearly 10 percent.
I’m very skeptical a Romney administration would be able to pull off a new tax law with these very broad rules (a fixed deduction cap and a relative rate drop) that doesn't raise anybody’s total amount of taxes or their relative burden (the promises Romney has repeatedly made on the trail). In this, I think the critiques from the left are largely correct: I think it’s mathematically impossible to protect everyone from a tax increase, and ultimately, the largest number of people who see a tax increase under this approach are likely to be in the middle and upper middle class.
But the rich would likely shift their activity as well. As Bloomberg points out today, the disincentives for charitable giving under such an approach would be significant for large dollar funders:
For every percentage-point increase in the expense of giving to charity, contributions shrink by 1 percent, according to a 2011 paper that Bakija co-wrote. With Romney’s proposed 20 percent rate cut, because people couldn’t deduct as much, the price of giving for people in the top tax bracket would rise by 10.8 percent. That suggests an equivalent drop in donations even before considering the estate tax repeal and limits on deductions… Last week, he floated an idea to cap all itemized deductions at $17,000… Almost all U.S. taxpayers in the top 1 percent itemize deductions, and that group deducts an average of $173,670 a year... About 78 percent deduct more than $50,000. Anyone with donations exceeding the cap would have no tax incentive to make charitable contributions, Bakija said.
Conservatives excoriated Obama for considering cutting back on the incentive to make charitable donations – indeed, it’s a point of pride among conservatives that the right is far more generous than the left with their personal funds (largely, again, because of tithing). Favoring less government should lead to favoring more private philanthropy and generosity. But you can design a plan because you intend for it to work or you can design a plan to help you get elected. Most politicians choose the latter, for obvious reasons.
This piece is adapted from The Transom, Ben Domenech's daily installment of news and analysis.