THE 1986 TAX reform act was a trade-off. Rates were reduced in return for a thorough cleaning of the tax attic -- repair of the income definition to which the rates apply. Years of accumulated preferences were swept from the code.
The most important of these for individuals was the preferential treatment of long-term capital gains. Congress over the years had exempted 60 percent of such gains -- the profit from the sale of assets -- from taxation; the money simply didn't count as income. The act eliminated the exemption.
The decision to treat capital gains as ordinary income was the great balancer of the reform bill, in social terms as well as fiscal. It recouped some $20 billion a year of the money lost through rate cuts, and raised perhaps three-fourths of this from the rich, who were the rate cuts' main beneficiaries. Without the capital gains provision, the bill would not have been revenue-neutral, as the White House above all insisted it be. Nor would it have been neutral as to income class; the rich would have ended up bearing a smaller share of the burden.
But, of course, no deal lasts forever. The administration and others are saying the rate half of the reform act is sacred, etched in stone. But Vice President Bush has said as part of his campaign for the Republican presidential nomination that he thinks the capital gains tax should be cut again -- that the preferential status of this form of income should be restored. And now the president himself has said so in the appendix to his State of the Union address. It appears he will not make a particular legislative proposal this year, but rather that he seeks to give some future legitimacy to the idea.
The rationale is that a capital gains cut will tilt the tax code more in favor of investment, which the country needs, and will return, through greater economic growth, at least as much revenue as it may briefly lose. Surely you remember where you heard that before. It is as if the past seven years had never happened. Thanks in part to the tax cuts already enacted in this administration, the deficit is above $150 billion, the income gap between the richest and poorest fifths of the population is the greatest it has been in the 40 years the Census Bureau has been keeping the statistic -- and what is proposed? Another tax cut mainly in the lofty income regions.
In both fiscal and distributional terms, what the country needs is the opposite -- to raise taxes rather than lower them, to reaffirm rather than slither away from the noble idea of progressivity in taxation. The 1986 bill deserved support on grounds that the cleaner code was worth the flatter rates, especially since they were all that most people were paying anyway. The right next step is not to put the clutter back in the code but to lift the rates a little.