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Tuesday, November 6, 2012

Challenges of lower tax rates for individuals

An October 11, 2012 letter from the Joint Committee on Taxation to Senator Baucus indicates that even significant tax law changes will not produce any sizable rate reduction.  The letter explains that if we were to:
  • Make the EGTRRA and ARRA changes to EITC and child credit permanent
  • Repeal the individual AMT
  • nRepeal the limitation on itemized deductions and personal exemptions ("PEP" and "Pease")
  • nRepeal all itemized deductions
  • nTax capital gains and dividends as ordinary income
  • nRepeal the exclusion for state and local bond interest for bonds issued after 2012
  • nOffer no transitional relief
ThisThis would allow for a revenue neutral tax rate reduction of 4% to achieve the following bracket structure (rather than the 15% to 39.6% structure scheduled to return in 2013):
  • n14.4%, 26.88%, 29.76%, 34.56% and 38.02% 
The baseline used to compute the above considered that the 2013 rates returned as scheduled, there was no AMT "patch" and the limitation on itemized deductions and personal exemptions exist. 
I think the small resulting tax rate reduction is due in part to the expense ("cost") of the AMT patch which is about $68 billion per year. So if there is no patch, repeal of all of the individual AMT is quite costly (so to pay for it, you can't reduce rates much).

But is still seems a bit surprising because the proposed changes would increase the rate on capital gains and eliminate itemized deductions. 

The JCT letter also includes several tables including how the estimated distributional effects.

What do you think?

1 comment:

Lisa Pan said...

Wouldn't the income level at which each rate kicks in also play an important role? Though this nuance may not be readily visible when so much focus is on the rate itself.