As the filing deadline for individual income tax returns approaches on April 15, people are a bit uncertain about some of the changes in the federal “tax reform” law passed in 2017. Millions of tax returns have been submitted, but indications are that they are coming in slower than usual. That uncertainty is likely to continue. Tax experts often speak of three principles of taxation, which are fairness, simplicity, and efficiency.
Fairness is clearly in the eye of the beholder. To systematize our thinking, tax experts delineate two different dimensions of fairness. “Horizontal equity” holds that equally situated taxpayers should pay the same tax. Fair enough, but what does it mean to be “equally situated?” How can we compare the income of a family with six children to another family with one child? How many politicians will assert that a taxpayer with income from capital gains is less well off, or of greater merit, than a taxpayer with an equal amount of wage income, and therefore deserves a tax break?
{mosads}Even more controversial, “vertical equity” is generally taken to hold that people with higher incomes should pay a larger percentage of their incomes in tax or, in other words, that the government should impose a progressive income tax. Even ignoring those who dispute this premise leaves the puzzle of figuring out how much larger of a percentage from how much higher an income. Moreover, forget about economists and lawyers, even philosophers have had their say on this tax policy.
Simplicity is all well and good. But even though he or she will not admit it to a pollster, just about every taxpayer will gladly accept a complicated tax break. Efficiency means that taxpayers should make their investments that work in the marketplace, rather than alternatives that just reduce their tax bills. Ever heard of a “tax shelter?” Those are investments that make no significant economic profit but reduce the taxes paid by those well off. Think doctors and lawyers buying farms or office buildings.
These three principles are sometimes called the “holy trinity” of taxation. The success of the 2017 tax law on these criteria is indeed a matter of controversy. However, there is another standard that may arouse even more debate. Some tax policy texts refer to a fourth goal of “revenue sufficiency.” It would seem so fundamental as to not even bear saying.
Yet after almost two decades of consistent and sometimes enormous federal budget deficits, which are today clearly far too large, perhaps we should etch this fourth principle in stone. Our large budget deficits and soaring national debt, which are growing faster than our gross domestic product, crowd out both the private business investment and public infrastructure investment that we need to make our economy strong.
But the 2017 tax law took our already oversized deficits and made them even larger. Assuming all of its provisions are made permanent, that will expand the deficits and the debt by more than $2 trillion over 10 years, with larger and larger deficits thereafter. Some of the most generous provisions for typical taxpayers were originally made temporary, so that the price tag would look smaller in the legislation. Those provisions are certain to be made permanent without some very real soul searching.
Some will argue that the 2017 tax law, along with other initiatives, will speed economic growth and melt away the national deficit. We have heard such claims over and over again. They have not come true thus far, which is one reason why we have our budget problem. Others will assert that the American people are not overtaxed, but rather that spending is too high, which is an appealing argument for many of our politicians.
But the country is changing. The American people are on average getting older. The baby boom generation, which is the oversized population born between 1946 and 1964, began entering typical retirement years almost a decade ago. Over the next 10 years, the population aged 65 and over in our country will increase by a third and drive up the costs of Medicare, Medicaid, and Social Security. That added spending will be very difficult or impossible to make up elsewhere on the outlay side of the budget.
The 2017 tax law looks appealing to many citizens because it handed out a lot of money that would otherwise have gone to the Treasury. However, the oversized budget deficit, caused in part by the unavoidable aging of our population, will force lawmakers to revisit that tax law. The American people should be prepared for another very different dose of tax reform.
Joseph J. Minarik (@JoeMinarik) is senior vice president at the Committee for Economic Development. He served as chief economist at the Office of Management and Budget under President Clinton and is the coauthor of “Sustaining Capitalism: Bipartisan Solutions to Restore Trust & Prosperity.”