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July 30, 2002

Tax Reform but Keep Tax Credits

The Hauser Report quotes approvingly a far right tax source that eliminating tax loopholes would benefit everyone by saving funds for either tax relief or social spending. On this point, I am with Jeff a big fan of tax reform-- I thought the 1986 Tax Reform Act was one of the great reform achievements of the 80s.

However, I part ways with him on the idea that all tax incentives (deductions/credits) should be eliminated. He hopes that a simple tax code will eliminate "compliance costs", so we can spend the money on social spending. But since many social programs are means tested in some form, moving them from the tax code would just create compliance costs somewhere else.

I would advocate a much more progressive allocation of tax credits for a range of areas - from rent to health care - but spending money through the IRS is no more or less progressive than when the welfare office hands out the check. If the 1986 Act was the great tax achievement of the 80s, the 1993 Earned Income Tax Credit expansion was the great achievement of the 1990s. Now, there are unquestionably ways to simplify the various child tax credits, for which Max Sawicky has designed a solution. So simplification yes, elimination of tax incentives no.

Posted by Nathan at July 30, 2002 12:17 AM

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I like the EITC because it is refundable, which is not only a) very progressive for us lefties, but b) can be defended to conservatives as sort of a societal "response to Coase" arrangement for stuff like (apologies for shorthand) i. violations of the Lockean proviso in allocating property and ii. imposition of non-actionable externalities like pollution onto the poor that facilitate the wealth of others.

But more substantively, I'm a fan of spending programs on the grounds that it seems to me that they have abetter record, Reagan lies aside, of excluding unintended beneficiaries than tax credits. However, at some level the question of via credit or spending becomes empirical.

Except. . . that a total elimination of deductions, rather than a retention and expansion of liberal tax credits, is a MUCH more plausible political sale. I cited to the right wingers to point out why a bipartisan, no deduction world is at least vaguely possible. Is a world in which only the rich and businesses give up their tax credits foreseeable?

Posted by: Jeff at July 30, 2002 08:23 AM

My quasi-educated take on the tax code was that a lot of the overly complicated deductions were stripped out in 1986, but similar complication has been put back in over the last 16 years. Clinton was one of the biggest violators of a simple tax code. Clinton figured out that if you call a wealth transfer a "tax cut" -- even if its a tax credit that someone gets without paying taxes -- then the right wing can't attack it. So all sorts of complicated tax credits were passed and/or proposed, and Gore wanted even more of them. Its politically expedient, but inefficient. Poor people can't afford to find out that they are eligible for a lot of these tax credits.

Posted by: pj at July 31, 2002 04:04 PM

Clinton's affection for tax gimmicks was largely due to conservative-fed biases against spending, to some extent institutionalized in budget rules that favored tax cuts over spending increases.

Most of the credits have no value to the poor because they are not refundable. Few poor people owe any income tax. The EITC is a complex credit, but the participation rate for it is high, in comparison to spending programs (over 85%). On empirical grounds the EITC looks pretty good compared to spending programs.

As for the likelihood of an elimination of deductions v. expanded tax credits, that's no contest. The latter have an undeniable political edge. After all, one is a tax increase, the other a tax cut. Assuming either was proposed along with offsetting tax cuts and increases, the deduction killer would probably not stand a chance. The cost of deductions is concentrated in a few extremely popular ones pertaining to housing and pensions. If Soc Sec is the third rail of politics, eliminating these deductions is like going from the shower to the electric chair. I'll leave you with that happy thought.

Posted by: Max at August 1, 2002 06:26 PM

I disagree with Max. As a lawyer, I know one thing very well -- people hate lawyers (despite the fact I'm public interest!). And accountants were never the life of the party, and now. . . .

Killing all deductions as once has a chance because no one likes the complex tax code. Additionally, the idea that NY Law firm sharpies are manipulating by taking advantage of that complexity -- well, I think the populace is raedy to accept that.

Applying the Hauserian "1/3rd plan" -- 1/3rd of the returns a refundable per person tax credit, 1/3rd to popular spending (e.g., education and transportation and the like), and 1/3rd deficit reduction -- makes this comprehensive plan more appealing, I believe, to voters than retaining tax credits.

It also offers the room for compromise after election of whomever carries this banner. . . .

Posted by: Jeff at August 4, 2002 05:52 PM

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