Moving from a debt-busting tax cut to pro-growth tax reform | American Enterprise Institute
This blog post is part of a series dedicated to analyzing the impact of the Tax Cuts and Jobs Act. Click here to see all of the blogs in the #TCJANowWhat series.
In 2016, House Republicans released a “Better Way” tax
reform framework, which called for dramatically lowering tax rates, eliminating
the alternative minimum tax (AMT), repealing or reforming the vast majority of
tax breaks, ending the estate tax, and replacing the corporate income tax with a
business consumption tax. The framework aimed to substantially accelerate
economic growth and improve simplicity through permanent, distributionally neutral,
and deficit-neutral reforms to the tax code.
Sadly, the Tax Cuts and Jobs Act (TCJA) lived up to few
of these principles. Rates may have gone down, but only one tax expenditure was
few were reformed; the AMT and estate tax were retained in a smaller form; and the
corporate tax was shrunk rather than shifted to a business consumption tax. Meanwhile,
TCJA’s effects on economic growth was
increased complexity in nearly as many ways as it reduced it, and it was
neither permanent, distributionally neutral, nor deficit neutral. Although much
of the bill will expire at the end of 2025, it still added nearly
$2 trillion to the national debt — mostly by
cutting taxes for the wealthiest Americans.
It’s no wonder then that so many of the experts writing in this series have expressed concerns over
TCJA’s impact: It fell far short of what was envisioned. Regardless if one
supports or opposes the TCJA, we should all agree that it could have done
Fortunately, it isn’t too late to fix what’s broken. It is
neither advisable nor politically possible to revert entirely to the old tax
code. We should build on the law’s improvements, repeal the expensive giveaways
and gimmicks, and turn the TCJA from debt-busting tax cuts into true pro-growth
tax reform. Here’s how.
Build on what’s working
We strongly opposed the TCJA — especially because of how much it added to the debt —but that doesn’t mean there’s nothing to like. The legislation got many
things right, and policymakers should build upon them.
That starts with the law’s limits on itemized deductions.
In 2017, 31 percent of taxpayers itemized; last year, only about 11 percent were expected to.
Thanks in part to the $10,000 limit on the state and local tax (SALT) deduction
and a smaller mortgage interest deduction, several regressive and distorting
tax breaks are much smaller than they used to be. Policymakers should build on
this success, strengthening the SALT cap by applying it to businesses rather
than just individuals and by reducing it in half for single taxpayers to remove
the marriage penalty. And now that itemized deductions are even more skewed
toward a small number of wealthy taxpayers, further reductions to the mortgage
interest deduction are also no-brainers.
In addition, policymakers should build on the temporary full expensing in the bill, which allows businesses to immediately deduct many of their capital purchases and was coupled with new limits on interest deductibility. Under current law, expensing begins to phaseout in 2023. The ideal policy might be to make all investments deductible and end the interest deduction, transforming the corporate income tax into a type of consumption tax. A good start would be extending and expanding existing expensing provisions while adopting further limits to the interest deduction.
Finally, enlarging the child tax credit in place of the
dependent exemption was a great concept: simplifying two provisions into one
and changing a regressively designed deduction into a more universal credit.
However, low-income families did not get the full expanded child tax credit
because it was made refundable up to only $1,400 per child. Making the credit fully
refundable would help the provision’s progressivity and help families bear the
cost of raising children. The cost of this change could be paid for in part by
undoing the expansion of the child credit to high-income families.
Repeal what isn’t working
Other parts of the TCJA added needless complexity,
encouraged tax avoidance techniques, provided a windfall tax cut on past
investment decisions, and provided a poorly timed tax cut to the wealthy. Some
of the worst decisions were made solely to shoehorn twice as many
deficit-financed tax cuts into a bill without increasing its cost on paper.
One of the TCJA’s most troubling provisions, reviled by
tax experts on the left and right, is the 20 percent deduction for pass-through
income. While it was intended to give small businesses a parallel rate cut to
corporations, this deduction offers huge windfalls for the rich, creates
complexity, and encourages needless
tax gaming. It also costs over $50 billion per year. Policymakers
should repeal this deduction if they can, or at least make it
less prone to abuse.
Many provisions were added to the TCJA for the sole
purpose of including more tax cuts in the price tag that Congress allowed
itself. One of the most senseless gimmick required the amortization of research
and experimentation starting in 2022. While spreading out the deductibility of
research costs to better match their benefits is not unreasonable in isolation,
it makes no sense in the context of a bill that did the opposite for equipment,
ending multiyear depreciation. Policymakers should be honest and ditch this
provision rather than making businesses keep a new set of books to prepare for
Finish what TCJA started, but do so responsibly
While the Better Way plan called for repealing the overly
complex AMT and oft-gamed estate tax, the TCJA did neither. Instead, it retained both in much smaller forms.
That decision had most of the fiscal cost of full repeal, without the benefit
of ending these complex taxes. Policymakers should finish what they started,
but with replacements to ensure the debt is reduced rather than increased
A full repeal of the AMT could be replaced with a broad
limit on tax deductions and exclusions that
prevents higher earners from benefiting from these provisions any more than the
middle class. That limitation could raise far more than repealing the AMT would
lose, and it would achieve the AMT’s goal — to stop high earners from not
paying their fair share — without forcing people to calculate their taxes two
Meanwhile, the estate tax could be replaced by
eliminating the current loophole that allows taxpayers to avoid capital gains
taxes by holding them until death and by establishing an inheritance
tax for large bequests. Again, these changes
would raise far more revenue than the estate tax does and in a more fair and
what we can afford
It makes no sense that “once-in-a-generation” tax reform
expires after eight years. Not only do expirations make the tax cuts seem
artificially cheaper but they also introduce uncertainty and undermine economic
growth. Yet extending the bill without reform would double down on its costs, enshrine
the law’s worst parts, and add as much as $300 billion per year to the deficit.
Instead, the expirations should be viewed as an
opportunity to revisit the law and decide which elements are important.
Extensions should be enacted sooner rather than later but should be done in a
way that reduces rather than adds to the debt.
As a starting point, we suggest extending the structural
reforms to the tax code — the limits to itemized deductions and replacement of
the personal and dependent exemptions with a larger standard deduction and
child tax credit. This trade would raise revenue, particularly with the
proposed tighter limits on itemized deductions.
Some of the lower individual rates could also be
extended, but only to the extent they are offset. Extending them all would thus
require further reductions to tax breaks, changes to corporate taxes, new
sources of revenue, or spending cuts.
Bringing it all
We believe our above suggestions would improve the tax
code relative to current law or pre-2017 law. And while the revenue effect
would depend on details beyond what we have described, it’s easy to imagine
covering the $1 trillion remaining direct cost of the TCJA over the next decade.
Fiscally responsible extensions should ideally raise more on top.
The tax code’s purpose is to raise enough revenue to
finance the costs of government; it is not doing that. Currently, more than one
in five dollars that the government spends are deficit-financed, and the
deficit is higher than it has ever been at this point
in the economic cycle. Those high deficits will
burden long-term economic growth, weighing down what should have been positive
gains from tax reform. A tax code that raises sufficient revenue is a better
tax code and more pro-growth at that.
* * *
TCJA did not live up to the Better Way principles — it
was expensive, regressive, only modestly pro-growth, and introduced new
complexity into the code — but it did include a number of important reforms.
The country would have been better off without a $2 trillion tax cut but would
be better served improving the TCJA than endlessly relitigating it. Lawmakers
should build on what works, remove what doesn’t, finish what TCJA started,
enact responsible extensions, and help tax reform live up to its
Marc Goldwein is the senior vice president and senior policy director at the Committee for a Responsible Federal Budget. Tyler Evilsizer is the deputy policy director.