Tax breaks benefit rich households the most, report says

WASHINGTON — Federal income tax breaks disproportionately benefit wealthier households, according to a report issued Wednesday that is certain to become ammunition in the budget battles as Congress debates the best ways to reduce Washington’s deficits.

The nonpartisan Congressional Budget Office found that the top 10 major tax breaks “are distributed unevenly across the income scale,” with the top 1% of households — those who make more than $450,000 a year — receiving more than 17% of the savings in 2013.

Totaling $900 billion a year, the top tax breaks include the mortgage-interest deduction, the low rate on dividends and capital gains, breaks for charitable giving and the tax-free status of employer-sponsored healthcare plans.

The report, requested by Democrats on the tax-writing House Ways and Means Committee, comes as Congress slowly returns to the debate over federal spending.

Rep. Chris Van Hollen of Maryland, a top Democrat on the committee, said the report offered a “really good reason the party should move forward in the budget process to resolve our differences in a balanced way that combines target cuts with limitations on tax preferences.”

Committee Republicans declined to comment immediately, but top House Republicans have been pushing for an overhaul of the tax code in a way that would reduce rates for corporations and individuals while limiting or doing away with some deductions.

Republicans argue that lowering tax rates will spur economic growth, bringing in more tax revenue that can be used to reduce the federal deficit.

Democrats worry that middle-income households will end up paying more to cover tax breaks for the wealthy under the GOP approach, and largely prefer President Obama’s proposal to limit deductions only for wealthier households, but divisions among Democrats remain.

The report focused on a small, but crucial, part of the tax code: the 10 major income tax breaks, deductions and exclusions. In all, there are more than 200 individual and corporate tax “expenditures,” as they are often called because they cost the government money.

The most costly is the benefit that workers receive as their employer-sponsored health insurance goes untaxed, totaling $260 billion in fiscal year 2013, which ends Sept. 30.

The next two are the tax-free savings of 401(k) and other retirement and pension plans and the special treatment of dividends and capital gains, which are taxed at a 20% rate for households earning above $450,000 — a lower rate than for ordinary income.

Both of those tax breaks accrue heavily to top-income households, those making more than $462,500 a year, the report said. In fact, almost 70% of the benefit of the lower tax rate for capital gains and dividends is “going to households in the top percentile.”

Another popular tax break, the mortgage-interest deduction, is costing the government $70 billion in this fiscal year, but it falls more evenly across the income groups. That is because the mortgage deduction generally does not apply beyond the first $1 million in debt. It is the “least tilted [among deductions] toward the top of the income distribution,” the report said.

Other tax breaks on the top 10 list include the charitable deduction ($40 billion); the earned-income tax credit, which refunds money to lower-income workers ($61 billion); and the child tax credit ($57 billion).

Congress has hit the pause button on the budget wars that dominated the last two years on Capitol Hill, as the nation’s fiscal outlook has improved.

A combination of the across-the-board-spending cuts made March 1 and higher tax revenue from an improving economy have put the federal deficit on track to be its lowest since Obama took office, at $642 billion this fiscal year.

But Congress will again be asked to raise the nation’s debt limit, probably in the fall, to cover the nation’s accrued bills.

Republicans are refusing to raise the debt limit without more progress on reducing deficits, and both parties have become uncomfortable with the across-the-board cuts, which they would like to redistribute.

Failure to raise the nation’s borrowing beyond its nearly $17-trillion limit would result in a default that would risk another credit downgrade.

lisa.mascaro@latimes.com