The coming tax debate

Monday, April 19, 2010

IN LITTLE MORE than eight months, the tax cuts passed under President George W. Bush are set to expire. That would be, for the most part, fine with us, although the timing, at the beginning of an economic recovery, could be problematic. Not to worry, however. There is almost no chance that Congress will let the tax cuts expire. The only question is whether it will act with a modicum of fiscal responsibility. Recent signs on that front -- which we'll get to in a bit -- are not promising. But we urge lawmakers to allow the upper-income tax cuts to expire and, if they must extend those for households making less than $250,000 a year, to do so for a year or two, not permanently.

The tax cuts were unaffordable when passed; that has become clearer in retrospect. President Obama has proposed making most of the cuts permanent, at a 10-year cost of $2.5 trillion. However, he would let those for the wealthiest 2 percent of households expire, raising $680 billion in the next decade. Under Mr. Obama's plan, the top marginal tax rates would return to the Clinton-era levels of 36 percent and 39.6 percent, up from 33 and 35 percent. Capital gains rates for the wealthiest taxpayers, now 15 percent, would rise to 20 percent. Economic performance during the 1990s suggests that these are not crippling burdens.

One mischievous suggestion has been to let the upper-income tax cuts expire but to carve out an exemption for small-business income. The argument is that many small businesses are organized in such a way that they pay tax at the individual rate. That is true, but only a sliver of small businesses earn enough to be affected by a change in the top rates and only a sliver of the "business" income reported by top-bracket filers represents what is typically thought of as a small business. Write a loophole into the tax code for business income, and smart, rich taxpayers will find creative ways to drive through it.

Another mischievous notion is to extend all the tax cuts for a few years, which just increases the likelihood that they will all be extended permanently. The next Congress is not likely to be more amenable to tax increases than this one.

Which is saying something. Seizing on the political opportunity of tax-filing day, Sen. John McCain (R-Ariz.) offered a "sense of the Senate" resolution expressing opposition to a value-added tax. A VAT is one promising mechanism to bring in additional revenue while promoting savings. There are reasonable arguments against such a tax, but putting any mechanism preemptively off the table is deeply unwise. Disturbingly, the resolution passed by a vote of 85 to 13, with just one Republican, retiring Ohio Sen. George V. Voinovich, and a dozen Democrats bravely voting against it: Daniel K. Akaka (Hawaii), Jeff Bingaman (N.M.), Sherrod Brown (Ohio), Robert C. Byrd (W.Va.), Benjamin L. Cardin (Md.), Byron L. Dorgan (N.D.), Ted Kaufman (Del.), Carl M. Levin (Mich.), Jack Reed (R.I.), Tom Udall (N.M.), James Webb (Va.) and Sheldon Whitehouse (R.I.). This is not a good omen for the coming tax debate.

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