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Thursday, October 25, 2012

Obama and Romney's proposed tax plans


First off, I want to say I think we're way too obsessed with our Federal income taxes.

            Americans pay a slew of other taxes.  FICA (aka “Payroll”) tax, state income tax, sales taxes, excise taxes, taxes on inheritance, business (corporate) taxes, blah, blah, blah.

            But because we get most of our news from national media, we hear much more (and end up thinking much more) about our Federal taxes.  CNN is unlikely to do a story on income taxes collected by the state of California.  The New York Times probably won’t do a special interest piece on sales tax in Polk County, Oregon.

            What’s more, a debate about the tax code is a debate about how a government collects money, and who pays how much.  How the government ends up spending that scratch (and whether or not they really need that much) is a completely different issue.

            That’s why I’m a little hesitant to post about Federal income taxes, I feel like I’m kinda acting with the herd when I do. 

But seeing how we’re coming up on an election for the top post at the national government, I suppose now would be the acceptable time to worry about how that national government funds itself. 

So here we go!

In this post…

Today’s post is a briefing on the Romney and Obama Federal tax plans – essentially, “how the two candidates propose to fund their respective administrations.” 

My goal here is just to explain what the plans are; I don’t have much interest on giving an opinion of them.  If I do wind up giving an opinion on anything, I’ll be sure to identify it as such.

            And don’t worry – these plans aren’t too hard to understand.  They just take a minute to explain, a minute that real news outlets don’t seem to have.  Lucky for you, I’m a blogger and can go on for as long as I please!

Prelude – What Bush did during his terms

            In 2001 and 2003, Congress passed two tax acts proposed by then-president Bush.  These tax acts reduced ALL Americans' Federal income tax rates, usually around 2 or 3 percentage points. 

            The acts were unfortunately named "EGTRRA" and "JGTRRA," but eventually came to be known as "The Bush tax cuts."

            Both were supposed to be “temporary measures,” set to expire in 2010.

What Obama did during his term

            In 2009 and 2010, Congress passed the "American Recovery and Reinvestment Act" and the "Tax Relief,Unemployment Insurance Reauthorization, and Job Creation Act," a cluster of economic stimulus measures endorsed by then-president Obama. 

The act included things like:
  • A one-time round of government spending on infrastructure, education, health, and energy 
  • Extending unemployment benefits
  • Some new tax breaks, mostly for individuals
  • A 2 percentage point reduction in FICA taxes for two years

AND – on the insistence of the Congressional Republicans:
  • Extending the Bush tax cuts for everyone up until Dec. 31, 2012

What Obama proposes to do if elected
Obama has two big ideas for another term when it comes to taxes.

Obama wants to make the Bush tax cuts permanent, except for those making $250,000 a year or higher.  Meaning those in highest two income brackets will go back to having the tax rates they did when Clinton was president.  The rest of us will keep permanent the “temporarily” low rate that we’ve had for the last 10 years.

He’s also proposed “The Buffet Rule.”  This would be new.  The idea would be that if you make over $1 million in income, your tax rate will be 30%, no matter what. 

There's nothing on paper yet about how this would be accomplished.  We don’t really know how this one will work.  So we can think of the Buffet Rule as more of a goal then a plan right now.

Because both of these measures would require Congress' approval, I'd doubt that either will happen exactly as stated.  The House is majority Republican right now, and the Senate is split pretty evenly. 
So some compromise will likely have to be made.  I’d expect watered down versions or some extra stuff tacked on would ultimately be the reality.

What Romney proposes to do if elected

Obama’s proposed changes to the tax collection system are pretty minor compared to Romney's.  He's proposed a comparatively large overhaul of the whole tax code.

He wants to repeal taxes on inheritance, repeal the alternative minimum tax, and exempt “the middle class” from ever paying capital gains taxes.

But the capstone on the plan is 20% decrease in Federal income tax for everybody.

Note that this is different than a “20 PERCENTAGE point” reduction.  He’s not proposing everyone “subtract 20” from your tax rates.  He’s proposing everyone reduces it by 20 percent.

This means that the more money you make, the bigger your tax cuts will be.  The idea is to make income tax rates lower and flatter. 

For example:

A single person, earning less than $8,700 a year, faces a 10% tax rate right now.  Romney wants that person to pay 8% instead, a reduction of 2 percentage points (20% of 10 is 2, 10 minus 2 is 8).

However, a single person, earning $400,000 a year or more, faces a 35% tax rate.  Romney wants that person to pay 28% instead, a reduction of 7 percentage points (20% of 35 is 7, 35 minus 7 is 28).

But can Romney pay for it?

If the government collects less in taxes, then it has less of an income.  It will either have to spend less, or borrow more, right?

So the question has now become: which would the Romney administration do? 

Romney’s answer has thus far been “neither.”

There’s one last critical piece of the Romney proposal that I've yet to mention.  That’s the elimination of tax exemptions.  He plans on closing loopholes, dropping deductions, removing credits, and doing away with tax breaks, enough to make up for the revenue lost from decreasing tax rates.

Which tax exemptions will he drop?  He hasn’t said.  But there’s plenty to chose from.

Paying a mortgage?  There’s an exemption for that.

Low income and have kids?  There’s an exemption for that.

Paying off a student loan?  There’s an exemption for that.

All told, there’s tons of personal exemptions a tax payer can claim.

However, most of them are for relatively small amounts.  This has given rise to the debate about whether or not its mathematically feasible to shore up the gap left by Romney's tax reductions by eliminating tax exemptions alone.

Whether or not it can be done, I don’t want to get into.  Figuring it out depends on a lot of assumption about employment, growth and spending, and I’m not nearly clever enough to make good judgment calls on those assumptions.  Politifact has a decent time line on the debate here, if your interested.

What’s the result of the Romney plan?

But let’s assume for a second that Romney’s plan works out exactly as he says it would.  He reduces rates, and eliminates enough exemptions to keep the Federal government's revenue unaltered.

At this point, there’s a question you should be asking yourself:

“If my tax rate goes down, but I lose all those exemptions, deductions, and breaks that I used to get, what happens to my tax rate?”

The answer is: "probably nothing."  The tax rate decrease will lower your rates.  The removal of exemptions will bring them back up.  The net effect of the Romney plan is to keep your rates the same.

So what Romney’s really proposing is something that will simplify the tax system, and remove a lot of the variability in it.  But in the end, the plan DOES NOT aim to raise or lower our personal Federal income tax bills.

But I happen to think the simplification bit is a pretty noble cause. 

Today, two individuals with identical incomes might pay very different amounts of Federal income tax, just because one has a student loan or a mortgages.  This can be a little unfair.  

          I can understand a deduction for the working poor with kids, sure.  But mortgage payments?  Why does the Fed reward people to buy, but not to rent?  After all, tenets drive the demand for landlords to own the houses!

What’s worse, if I did my taxes with two different accountants in the same year, I could get two different tax bills!  The onus is on the tax payer to find the exemptions they want to claim.  But there’s so many of them!  If there’s one that applies to me, but I don’t know about it, its "too bad, so sad" for me!

Its totally possible (probably likely) that you’ve overpaid taxes before, simply because there were exemptions you qualified for, but didn’t know about, so didn't claim.  In my opinion, this aspect of our tax code can makes it unnecessarily complex, cumbersome and unfair. 

          It still blows my mind that people don't flip out more about how messy the tax code is.  If the cable or phone company billed two different people different amounts for the exact same service, there'd be a damn riot!  The Federal govt does it to millions of people every year - and not a peep.

        A simplified tax system is on a lot of people’s want list, and would definitely bring the US up to speed with the rest of the world.  So hats off to Romney for the sentiment.

        Now if he would only tell us how he plans to do it - what exemptions would he drop?  With out that, this just feels like a pie in the sky promise.

Economystified’s take

I’m over simplifying, but I’d characterize the main goal of the candidate’s tax proposals like this:

Major aspect: Those making over $250,000 get a small Federal income tax hike, but otherwise the tax code stays the same.
Minor aspect: Possibility of a Buffet Rule.

Major aspects: Simplify and streamline the entire tax code, but everyone's ultimate tax bill generally stays the same.
Minor aspect: No tax on any investment income made by those earning $200,000 or less (ie they're exempt from paying capital gains). This is essentially a new tax incentive for the rest of us to get into investing, not just the upper class.

Personally, I wouldn’t mind a little of both. 

I want to stress again that tax plans are just one aspect of a broader economic platform.  And an economic platform is only one aspect of a candidate. 

Obama and Romney’s economic agendas also include plans for spending and stimulus; the addition and termination of programs and functions; and new regulations and policy.  None of those things have been addressed in this post, but they are incredibly important in their own right.  

          The argument about Federal income tax is just an argument about how they plan to pay for what they plan to do.  Don’t attach more weight to it than the issue deserves.

For more on this topic, check out this video:

"Barak Obama and Mitt Romney on taxes"

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