Monday, December 13, 2010

The Disproportionate Tax Burden and Taxing Economics

New Jersey is disproportionately affected by the scourage of the tax code - the alternative minimum tax. While the national average is that 2.6% of taxpayers pay the AMT, New Jersey sees nearly 6% statewide pay the AMT. Indeed, some towns in Northern New Jersey see a quarter to a third of taxpayers paying the AMT.

These taxpayers wont see a significant hit in their tax bill in April 2011 if Congress finally enacted the much delayed tax package to extend the 2001 and 2003 tax cuts.

New Jersey Senator Bob Menendez says that he's voting for the tax bill because of the AMT patch that once again extends the inflation adjustment.

This situation needs to be properly redressed, and the solution is simple.

Eliminate the AMT and roll the restrictions into the standard tax brackets. Carve out a new tax bracket - say at 40% (which is close to the pre-2001 top tax bracket), and make that bracket such that all income above the threshold (say $1.5 million, adjusted annually for inflation) is no longer eligible for tax credits, deductions, etc.). This would ease the compliance burden and be a good first step to clarifying and eliminating the onerous and complicated tax system. The next step would be to reduce credits and deductions for the other tax brackets while simultaneously reducing the rate so that there is no net increase in the tax burden on those taxpayers.

Simplification would improve compliance and eliminate the multitude of tax credits and deductions that distort various markets - whether it is home purchasing (mortgage tax deductions) or child care tax credits. The tax code is needlessly complicated, but it has evolved in this manner because special interests each compete to protect their corner of the economy from taxation.

Yet, no one in Congress is moving to make such a drastic and necessary fix. The reason for that too is simple. The AMT revenue is a necessary part of the equation and limiting the AMT or eliminating it altogether, while curtailing the number of people affected would reduce revenues to such an extent that Congress will take no such action since it would need to correspond with a cut in spending.

Instead, taxpayers who have gotten the benefits of various tax credits and special tax treatment may be surprised to find that benefits they had in 2010 are expiring in 2011. That includes the elimination of an enhanced commuter discount. Through 2010 commuters were able to set aside up to $230 pre tax for mass transit or parking for mass transit. That can result in a savings of up to $1,000 or more a year for taxpayers taking advantage of the program. In 2011, the level will revert to $130 a month unless it is included in the tax package before Congress.

That's yet another significant hit to the New York metro area, which not only has some of the highest mass transit usage in the nation, but where commuting costs are also sky high. Eliminating the discounts will mean that commuters will end up paying still more out of pocket and reconsider driving to their destinations rather than mass transit.

Then, there's the giveaways that make little economic or fiscal sense. Continuing subsidies for ethanol production is a sop to agribusinesses and farm state producers, but does little to actually unhinge domestic reliance on oil importation. A 2009 stimulus package program to provide incentives for weatherization is included, but New Jersey has spent 5% of the $119 million devoted to it.

At its heart, the tax policy in the country is a mess because the politics subsumes the economic benefits of a rational tax policy. Cutting deals to assure passage means that you get disjointed programs and goals without accountability.

The Senate will be holding a test vote to see whether passage of the newly revised tax package will happen.
Supporters and even some opponents of the $858 billion deal say it is likely to pass Congress, even though some Democrats remain opposed to the provision on the inheritance tax. Under the measure, a top rate of 35% would be applied next year to estates worth more than $5 million.

At its heart, the agreement reached between Obama and congressional Republicans would extend for two years the Bush-era tax cuts set to expire at the end of the year for all income levels. It also includes a cut in payroll taxes paid and a 13-month extension of unemployment benefits.

Rep. Paul Ryan, the incoming chairman of the House Budget Committee, praised the deal as one that would get the economy moving and "prevent tax increases from hitting our economy."

The Wall Street Journal reports, citing three unnamed Senate aides, that it appears a bipiartisan group of 65 to 70 senators is likely to support the procedural vote this afternoon and move forward on the bill. Final passage there could occur as early as Tuesday.

Senate Majority Leader Harry Reid, D-Nev., makes a point recently in the Capitol.
By Alex Brandon, AP
In a sign of the Senate's bipartisanship on the deal, the bill is co-sponsored by Senate Majority Leader Harry Reid, D-Nev., and Minority Leader Mitch McConnell, R-Ky.

The inheritance tax was eliminated for 2010. If Congress does not act on it, the tax rate on inheritances is scheduled to go up to 55% next year and apply to estates worth more than $1 million.

The question in the House is how many Democrats will join most of the 179 Republicans now in the chamber to pass the bill. Last week, the Democratic caucus passed a non-binding resolution that said it would reject the deal in its present form.

Rep. Chris Van Hollen, D-Md., a member of the Democratic leadership, said there could be a separate test vote held on estate taxes.
The main holdup appears to be the estate tax fix, which Democrats in the House oppose because they consider it a giveaway of billions in revenue. It comes from a mindset among Democrats who consider money earned by taxpayers to be subject to taxation first, rather than the taxpayers' hard earned money to be dispensed as the taxpayer seeks first - and then taxed as a necessary evil second. It's a philosophical difference that once again rears its ugly head in the negotiations over the expiring tax cuts - particularly since Democrats and Republicans largely agree on accepting the tax cuts for all tax brackets except the richest echelon.

Democrats want the tax rate to revert on the richest across the nation, and say doing so is in the nation's interest for reducing the debt, but that's a dubious argument since the tax cuts reduced revenues across the board. If accepting lower revenues from the lower and middle class is acceptable, it should be acceptable across the board, otherwise it exposes the hypocrisy of claiming fiscal responsibility and shows that the tax policy is nothing but a money grab.

No comments: