URBAN INSTITUTE

Tax Policy & Budget Reform

C. Eugene SteuerleRichard B. Fisher Institute Fellow

The Urban Institute

National Small Business AssociationSmall Business Congress

Washington, DCNovember 28-30, 2012

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19341937

19401943

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19701973

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19821985

19881991

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20002003

20062009

20122015

20182021

0

10

20

Federal Receipts by Source: 1934-2022percentages of GDP

C. Eugene Steuerle and Caleb Quakenbush, The Urban Institute 2012. Data from OMB Historical Tables and the President's Proposed Budget, FY2013. 'Other' includes estate and gift taxes, customs, and deposits of earnings by the Federal Reserve System.

Individual Income

Corporation Income

Social Insurance & Retirement Receipts

Excise

Other

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Federal Revenues as a Percentage of GDP

19721974

19761978

19801982

19841986

19881990

19921994

19961998

20002002

20042006

20082010

20122014

20162018

20202022

10

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25

CBO's Baseline Projection Alternative Fiscal Scenario

Source: CBO Budget and Economic Outlook, January 2012

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Federal Taxes & Spending per Household($2012)

2012 2022

Taxes $ 21,000 $ 29,000

Total Spending $ 30,000 $ 37,000

Tax Expenditures $ 9,000 $ 12,000

Interest Spending $ 2,000 $ 6,000

Source: C. Quakenbush and C. E. Steuerle, the Urban Institute, 2012. Revenues, outlays, and interest based on CBO Alternative Baseline projections; tax expenditures based on extrapolation of Treasury estimates.

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The Current Squeeze

2000 2010 2020 203010%

15%

20%

25%

Perc

enta

ge o

f GD

P

Resources Left for Other Domestic Outlays

Receipts(if tax cuts made permanent)

Spending on Social Security, Health, Defense, International, and Interest

Deficits if all other spending = 0

C. Eugene Steuerle and Stephanie Rennane, The Urban Institute 2011. Based on earlier work with Adam Carasso and Gillian Reynolds. Authors' calculations based on data from CBO, OMB and OASDI and HI-SMI Trustees Reports.

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Top 30 Tax Expenditures Net Interest Medicare & Medicaid Social Security Other Mandatory Discretionary Nondefense Defense (200)

(100)

-

100

200

300

400

265 293

250

169

(83) (78)

(175)

The President's Priorities for Changes in Spending and Tax Subsidiesbetween 2012 and 2017

Billi

ons,

201

2$

Source: C. E. Steuerle and C. Quakenbush, the Urban Institute 2012. Data from OMB, FY2013 Budget and Green Book. Other Mandatory includes unemployment insurance, SNAP, other income security programs. Discretionary non-Defense includes, among others, most education funds, and energy. Does not account for interaction effects between tax expenditures.

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Relationship Between Tax &Budget Reform

Four ways to reduce deficits(1) Reduce direct spending (2) Raise tax rates (3) Spend less on tax subsidies(4) Work more (& save more)

• Example: Raise early retirement age – Biggest budget effect: income tax revenues

All except (1) related to taxes

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Taxes & the BudgetReforming federal or state taxes involves dealing with thousands of provisions:

Entire revenue side of budget, including special taxes for:Social Security & Medicare & highways

Incentives for work & saving (which affect future revenues)Tax ratesAbout 1/4 to 1/3 of all “spending” or subsidies

More housing subsidies (e.g., mortgage interest) than HUDA larger low-income subsidy (EITC) than welfare (TANF)

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Focus on Residual • Why attention to itemized deductions & to

those making over $250,000?– Both parties afraid to be honest with middle

class, and • Republicans oppose top tax rate increase• Democrats want burden at top

– The residual: • tax subsidies • hidden tax rate increases

– Phase outs: new health subsidies, itemized deductions

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Reality CheckDeficits and Itemized Deductions

$billion (2015)

Deficit (current policy) $ 810 All individual tax expenditures $1,160Repeal itemized deductions $ 180Repeal itemized > $50,000 $ 60

Calculations like these, and promised to protect middle class, imply much must be done on the spending side of budget

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Tax Expenditures

Expenditure-like preferences in tax codeExclusions, deductions, credits, special rates, timing shiftsGoals: social, economic, redistributive

Usually targeted at specific groups or for specific activities

Other IssuesAccounting for them doesn’t make them good or badOften not “neutral” or efficient

E.g., favor one form of energy production over another

Some controversy over which to count Most conflicts over capital income taxation

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Top 10 Individual Tax Expenditures, FY2013(Billions)

Employer contributions to health insurance* $ 181

Exclusions for pensions & retirement plans* 165

Mortgage interest deduction and exclusion of net imputed rental income 152

Deductibility of nonbusiness state & local taxes, including property tax on owner-occupied homes 69

Capital gains (except agriculture, timber, iron ore, and coal) 62

Deductibility of charitable contributions (all) 46

Exclusion of Social Security benefits 38

Exclusion of interest on public purpose state & local bonds 26

Step-up basis of capital gains at death 24

Capital gains exclusion on home sales 23

Source: OMB Table 17-2. Notes: *Excludes payroll tax effects. OMB also excludes outlay effects from its estimates. The combined revenue and outlay estimates for FY2013 of the EITC and CTC are $55.7 billion and $40.8 billion, respectively. Extension of the payroll tax cut through CY2012 was also not included in OMB’s standard tax expenditure estimates. Treasury estimates this to be $31.1 billion in FY2013.

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Decline in Fiscal Democracy or Freedom: The Modern Budget Disease

Extraordinary promises by both political parties stretching infinitely into the future

Building permanency and growth into programsIncluding automatically growing tax breaks

Reducing taxes below levels required to support those programs

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-10%

0%

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80%

Percentage of federal revenues remaining after subtracting mandatory and interest spending. Excludes spending on Troubled Assets Relief Program (TARP). Data from OMB Historical Tables and CBO Budget and Economic Outlook 2012, Alternative Fiscal Scenario.C. Eugene Steuerle and Caleb Quakenbush, 2012. Based on earlier work with Timothy Roeper.

Steuerle-Roeper Fiscal Democracy IndexPercentage of Federal Revenues Available for Noninterest, Discretionary Spending

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Why It Really is Different This Time

Traditional problem: fiscal profligacy year after year

Potential for succeeding periods of give-away legislationBut long-term budgets in balanceWhat changed?

Built in growth in spendingTaxes and bills shifted to future generations

Both parties try to dictate future before it has arisen