Two Points on the GOP’s Tax Hikes and Jobs Act

Tax Hikes and Jobs Act

Point #1

Like a broken record, Republican promotors of the Tax Cuts and Jobs Act insist that by raising the 2018 standard deduction for single filers from $6,500 to $12,200, for couples from $13,000 to $24,400, and by lowering selective tax rates, that their plan will usher in a huge tax cut for the middle-class. It, in fact, does no such thing.

Whenever challenged with the reality that their proposal will result in a tax increase on many of their constituents, they exclaim, “Yes, but we are doubling the standard deduction!” Yet, not one of them ever mentions that they are, simultaneously, repealing the personal exemption deduction of $4,150, per person.

In 2018, the standard deduction for single filers will be $6,500, and for married taxpayers filing jointly $13,000, while the personal exemption will be $4,150 (per person). That means a single non-itemizer would already have received $10,650 ($6,500 standard deduction + $4,150 personal exemption) of tax exempt income before the proposal, versus $12,200 after. And, a married couple, without children and not itemizing, would already have received $21,300 of tax exempt income before the proposal, versus $24,400 after.

For single filers, the difference between $12,200 and $10,650 isn’t double, it’s only $1,550. For married couples, the difference between $24,400 and $21,300 is a mere $3,100. This isn’t a doubling of the standard deduction. It is effectively an increase to the standard deduction of $1,550 for single filers and $3,100 for couples without children. So, please stop lying to us.

Furthermore, since this is income that would have been taxed at a rate of 10% before the proposal, the amount of taxes saved will be just $155 for singles, and $310 for couples without children. Those with at least one child will start out in the hole, and must rely on an expansion in tax credits just to get back to par.

Point #2

According to the Congressional Research Service, more than 50% of taxpayers with adjusted gross incomes of $50,000, or more, itemize their deductions. Those with $50,000 to $100,000 of adjusted gross income claim average itemized deductions of $19,187, while those with $100,000 to $200,000 in income claim an average of $25,598 (see table below).

Share of Itemized Deductions and Average Claimed

So, more than half of taxpayers, who pay most of the income tax, itemize. And, the Republican bill seeks to eliminate their deductions for state and local taxes, real estate taxes, medical expenses and unreimbursed employee expenses. This won’t end well.

Share of Avg Itemized Deductions by Income

Among the deductions Republicans seek to disallow, according to the Congressional Research Service, on average, most itemizers with adjusted gross incomes of $50,000 to $100,000 stand to lose a least the following (see table above):

  • State and local taxes: $2,879
  • Real estate taxes: $3,494
  • Total $6,373

And, most itemizers with adjusted gross incomes of $100,000 to $200,000 will, on average, lose at least the following:

  • State and local taxes: $6,033
  • Real estate taxes: $4,883
  • Total $10,916

Although Republicans are also repealing medical expenses and unreimbursed employee expenses, they are not included here because they are not claimed by the bulk of taxpayers. On the other hand, state and local taxes, and real estate taxes are claimed as often as the mortgage interest deduction.

You might say that mortgage interest, real estate taxes and state and local taxes go hand in hand. But, that doesn’t mean one should discount the importance of deductions for medical and unreimbursed employee business expenses.

Almost everyone knows at least one infirm or elderly person that spends all or most of their income on medical care. This is not by choice. Denying them the ability to offset their income will force many into a tax liability where none previously existed.

Collecting taxes from the elderly and infirm, those with the least ability to pay, is of course detestable, but well within the spirit of this horrible bill. The same applies to sales persons and other employees who spend much of their time on the road and are not reimbursed for all the expenses they must incur to earn their pay.

Add the loss of deductions for the state and local taxes, and real estate taxes to the loss of the $4,150 (per person) personal exemption deduction, and single itemizers with adjusted gross incomes between $50,000 and $100,000 stand to lose total deductions of at least $10,523, while married itemizers (without children) lose $14,673.

Thus, under the Republican proposal, an average single itemizer with adjusted gross income between $50,000 and $100,000 stands to lose $10,523 in deductions, which equates to an $1,884 tax hike (at 17.9%). An average married couple (without children) in the same bracket will lose $14,673 in deductions, which equates to a $2,421 tax hike (at 16.5%).

Single itemizers with incomes between $100,000 to $200,000 will lose total deductions of $15,066, while married filers (without children) lose $19,216. Thus, an average single itemizer with adjusted gross income of $100,000 to $200,000 will see a $3,254 tax hike (at 21.6%), while a married couple in the same bracket will see their taxes rise by $3,728 (at 19.4%).

Losing the ability to deduct state and local taxes, real estate taxes, medical expenses and employee business expenses may impair a taxpayer’s ability to itemize at all. That’s because mortgage interest and charitable contributions, alone, for the majority, will not be enough to exceed the proposed $12,200 and $24,400 standard deduction. Thus, taxes will rise more on some taxpayers than others.

At this point, Republican lawmakers will say, “But, you have to look at the whole package. We are also lowering tax rates, and your boss is going to give you a $4,000, or more, pay raise.”

Expanding the 12% bracket to the first $45,000 of taxable income for single filers, to $90,000 for couples; and the 25% bracket to incomes of $200,000 and $260,000, respectively, doesn’t make up all the shortfall for those losing deductions. Although the average tax rate will drop by 1.2 percentage points on single filers, and 1.4 percentage points on couples, middle-class itemizers will at best break even. That’s because a greater amount of their income will be subject to income taxes. At worst, they are punished with a tax hike.

Apples to apples, if deductions were not being disallowed, the GOP’s proposed adjustment to the tax brackets would be a good thing. But, this isn’t apples to apples, it’s apples to applesauce. The GOP is telling more than 50% of middle-class taxpayers, who currently itemize their deductions, “We’re going to tax you on a greater amount of your income, but you’ll save money because we’re taxing it at a lower rate.”

Voilà! That explains why a majority, already carrying the burden of taxes, now face a Republican tax hike. Meanwhile, health insurance premiums continue to spin out of control, and if you’re fortunate enough to afford it, it will no longer be deductible. If this bill passes, you better hope that pay raise comes fast, otherwise the public will vote against every one of you in 2018.

The GOP’s tax reform proposal effectively raises the standard deduction by $1,550 for single filers, and by $3,100 for married couples without children, while lowering it for couples with at least one child. It takes away average deductions of $10,523 to $19,216 for more than half of middle-class taxpayers that itemized their deductions. The lowering of tax rates and expansion of tax credits are fancy mechanisms designed to mitigate a portion of the damage. This is not a tax cut, it’s a tax hike by design.

Another Way

To avoid raising taxes on the middle-class, the GOP could increase its proposed standard deduction on single filers from $12,200 to $21,800, and on couples from $24,400 to 43,600. That way, more than 50% of middle-class taxpayers won’t be punished. A move in this direction would promote simplicity and fairness. It would also be more in line with the original proposal that put DJT in the White House.

 

What the Republican Tax Reform Plan Lacks

According to White House Press Secretary, Sarah Sanders, “Very few people itemize. I think it’s around 20% of people that actually itemize. Those things will be offset by other tax credits that are part of this plan…”

Ms. Sanders would be correct, if she was referring to households earning less than $50,000 per year, a figure which barely skirts the middle-class. However, as you can see in the chart below, 41.7% of households earning between $50,000 and $75,000 itemize. The figure jumps to 58.5% for those earning $75,000 to $100,000, and rises to 78.8% for those earning between $100,000 to $200,000.

Itemized_Deductions-21

On average, 30.1% of taxpayers itemize. A figure which comprises roughly 44,000,000 households. This is something neither the White House nor Congress should take lightly. Any effort to reform the tax code should at least begin with the facts.

The Republican tax reform plan proposes to eliminate the $4,050 (per person) personal exemption, and limit a household’s ability to itemize deductions, replacing both concepts with a higher standard deduction. The proposed standard deduction is $12,000 for single filers, and $24,000 for married couples.

In tax year 2016, the standard deduction and personal exemption(s) combined were $10,350 (6,300 + 4,050) for single filers, and $20,700 (12,600 + 8,100) for married couples. Keep in mind that taxpayers able to claim dependents were allowed additional personal exemptions of $4,050 for each. Dependents include children and in many cases elderly parents.

Under the Republican framework, single taxpayers, who currently do not have enough deductions to itemize, and are not claiming dependents, will receive an extra $1,650 (12,000 – 10,350) of tax free income. Since this income was previously taxed at 10%, their savings under the Republican plan are a mere $165.

Married taxpayers filing jointly, who currently do not have enough deductions to itemize, and are not claiming dependents, will receive an extra $3,300 (24,000 – 20,700) of tax free income. Since this income was previously taxed at 10%, their savings under the Republican plan are a mere $330.

The Republican framework further eliminates the 10%, 15%, 28% and 33% tax brackets. Commencing at 12%, the new framework then jumps to 25%, then 35% and potentially up to 39.6%. We don’t yet know where each bracket will end, but we do know that the plan represents a 20% tax hike at the lowest level. Not good.

2016 Tax Bracket Single

2016 Single Tax Rate Schedule

Actually, in raising the bottom tax rate from 10% to 12%, the Republican plan takes back all of the initial tax savings, placing both single filers and couples in the red. Thus, for non-itemizers, the premise of a higher standard deduction combined with the elimination of the personal exemption results in less than nothing in terms of a tax cut.

Furthermore, married and single non-itemizers with dependent parents or children turn out to be big losers. So, if the framework does nothing for non-itemizers, what will it do for those that currently itemize? I’ll use myself as an example.

For tax year 2016 I filed as Single with no dependents, had itemized deductions of just over $20,000, and claimed a personal exemption of $4,050. Rounding it off, my total deductions were $24,000. That means my taxable income was computed as total income minus $24,000. That’s where the tax brackets kick in.

Of the $20,000 I claimed in itemized deductions, around $6,000 was mortgage interest, $9,000 were employee business expenses (which don’t appear to be part of the discussion), and the remainder were real estate and state and local income taxes.

Being single in 2016 meant the first $9,275 of taxable income (i.e. income above my deductions of $24,000) was taxed at 10%, the next $28,374 at 15%, and the next $53,499 at 25% (see table above).

Moving forward, instead of being allowed to claim my usual itemized deductions and personal exemption of roughly $24,000, the Republican framework will limit me to a new standard deduction of $12,000 (for single filers). Thus, $12,000 of my income that was previously un-taxed will now be subject to a 12% income tax.

So, where $12,000 of my income wasn’t previously taxed, the Republican plan taxes it at 12%, thereby increasing the government’s coffers by an extra $1,440. And, this is just the starting point.

Where the next $9,275 of my income was previously taxed at 10%, the Republican plan taxes it at a rate of 12%, favoring the government by an additional $186. So far, the government is ahead by $1,626. Will an adjustment in the tax brackets make up for my shortfall?

Now, where my next $28,374 of income was previously taxed at 15%, it will presumably be taxed at 12%, assuming the new 12% bracket covers at least the first $49,649 of taxable income (12,000 + 9,275 + 28,374). Compare this to the chart above. If correct, this saves me $851 in taxes (3% of 28,374). Yet, the government is still ahead by $775. If the bracket isn’t extended, I am forced even further into the abyss.

In fact, to break even the 12% tax bracket must be extended to $55,611, for a single person in my shoes (49,649 + (775 / (.25 – .12))). But, since the Republican framework is billed as a big beautiful tax cut, not just a crafty way to simplify the code, at the expense of the middle-class, the 12% bracket must be extended further for me to realize an actual reduction in taxes.

To receive a modest tax cut of $1,440, the 12% tax bracket must apply to taxable income of $0 to $66,688. That’s what it will take for me to lose my current itemized deductions and personal exemption, and wind up with a modest tax cut. It may take more, or less for you, but you get the gist.

Yet, according to the White House, the average American family will receive a $4,000 tax cut. For a taxpayer in my shoes to receive a $4,000 tax cut, the 12% bracket for single individuals must be extended to taxable income of up to $86,380.

So, my new benchmarks for the Republican plan are as follows (yours may differ). If the 12% bracket, for single individuals, ends at $55,611 or less, then the bill is garbage. If the bracket extends to the first $66,688 of taxable income, then it’s alright. And, if the 12% bracket for single filers applies to taxable incomes of up to $86,380, then I’m all in.

Tax brackets for married individuals filing jointly should be roughly double the single brackets. That means the 12% bracket for married couples should apply to taxable income of no less than $111,222 to break even, $133,376 for a modest tax cut, and more optimally to $172,760 to be in line with the administration’s rhetoric.

If you think the Republican middle-class tax hike will be made up for by tax credits, first know that refundable tax credits are not in line with Republican principles. The refundable child tax credit, earned income tax credit, and education tax credit are wealth redistribution mechanisms, favoring special interests, supported by liberals and socialists, and should be abolished under a true Republican administration.

Leaving refundable tax credits in the tax code lends nothing towards simplification, or fairness. As I have long advocated, it is enough not to owe any income taxes at all, that should be as good as it gets. Going beyond this, into the realm of refundable tax credits, only leads to government dependence and unnecessary red ink.

To sum it up, if the 12% tax bracket doesn’t apply to taxable incomes of at least $66,688 for single individuals, and $133,376 for married couples, then the Republican tax plan is little more than a sham, favoring special interests, and will end up confiscating and redistributing even more wealth from the middle-class than it does today.

Alternative Plan:

As an alternative, Republicans could simply raise the standard deduction as proposed, keep the deduction for personal exemptions, maintain the current framework for itemizing, and lower tax rates starting from the bottom up. Add to this a business tax cut and you’ve got something that makes sense.

References:

Tax Foundation: Who Itemizes Deductions?