The tax cut debate

Republicans and Democrats have kicked up so much rhetorical dust as they tussle over the economy, it’s often hard to discern exactly they’re fighting over. Such is the case with the soon-to-expire tax cuts enacted during President George W. Bush’s first term. Some of the news coverage has implied that President Obama’s plan would force some small businesses to pay half of their income in federal and state taxes. Meanwhile, the Democrats have made it sound as if ending the tax cuts for the wealthiest Americans is vital to closing the $1.3 trillion federal budget deficit.

Both sides exaggerate the stakes and oversimplify the policies involved. Democrats and Republicans have both proposed to extend the bulk of the Bush cuts, to the benefit of rich and poor alike. Included are lower rates on the first $200,000 to $250,000 of taxable income, larger credits for children and dependent care and lower taxes for married couples, regardless of how much the taxpayer made overall. In the end, according to the nonpartisan Tax Policy Center, either party’s plan would leave the wealthiest taxpayers paying thousands of dollars less than they did before the Bush tax cuts.

Where Republicans and Democrats split is on what to do about the tax rates on income after that first $200,000 (for individuals) or $250,000 (for couples), and whether to increase the rates that high-income filers pay on capital gains and dividends. In short, the question is how much to extract from the wealthiest taxpayers. The GOP wants to maintain the Bush cuts; Obama has proposed to restore most of the pre-Bush rates on income, capital gains and dividends.

Again, the rich would pay less under Obama’s proposal than they would if the Bush cuts expired on schedule at the end of the year. But they wouldn’t save as much as they would under the GOP plan — especially not those at the top of the income ladder. For the average taxpayer earning $200,000 to $500,000, the Tax Policy Center estimates that Obama’s proposal would cost $988 more than the Republican plan — not exactly a crushing blow. Those with $1 million in taxable income would pay about $11,000 more than they would if the Bush tax cuts were extended. And for the top 0.1% — those with average incomes of $8.4 million — Obama’s proposal would cost an estimated $310,000 more.

Republicans argue that it’s not just wealthy individuals who’d be dunned; it’s also small businesses whose profits are taxed on individual returns, not corporate ones. Congress’ Joint Committee on Taxation, however, has estimated that only 3% of these businesses would report incomes high enough to be affected by the higher marginal rates.

The GOP plan would cost about $70 billion more per year than Obama’s approach. That’s not much in comparison to the roughly $9 trillion in projected deficits over the next decade. Nevertheless, considering how much of the $70 billion would go to a tiny fraction of the population, it’s too high a price to pay.