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More on the Bush tax cuts

Megan McArdle makes the case against even a temporary extension of the Bush tax cuts. Earlier, I made the case for one.

I don't actually disagree with much that she says. In particular, I agree that "a temporary extension is simply going to make it harder to let them expire next year, for the same reasons that the AMT keeps getting 'fixed' on an annual 'temporary' basis. It is going to be hard enough, psychologically, for people to give up tax breaks they have had for ten years." But I'm worried about the fragility of the economy in 2011. If we could kill the Bush tax cuts and put that money into, say, a one-year payroll tax holiday instead, I'd certainly find that preferable.

By Ezra Klein  |  July 15, 2010; 11:49 AM ET
Categories:  Taxes  
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Comments

Wow, Ezra and Megan on the same page!

May be, just may be; we may have a chance in this country to have some consensus about few economic policies after all.

Posted by: umesh409 | July 15, 2010 11:56 AM | Report abuse

I think part of the problem is uncertainty.

Temporary tax hikes, cuts, and fixes make it more difficult to plan. Given what might be possible in the current environment, I'd try to pass Wyden-Greg permanently.

Posted by: justin84 | July 15, 2010 11:57 AM | Report abuse

A one year payroll tax holiday is a bad idea for the same reason an extension of the Bush tax cuts is a problem. Reinstating it would provoke endless howls of 'TAX INCREASE' from the Republithugs, and since the payroll tax is larger than income tax for the majority of working stiffs, the ability to rile people up would be even greater. Justin84 is right, business hates uncertainty more than it hates difficult economic conditions. Figure out what the permanent fix should be and pass it.

Posted by: guesswhosue | July 15, 2010 12:28 PM | Report abuse

I don't get these calls for "permanence." We've had a "permanent" change in the tax code that people can base their expectations on since 1986. Marginal tax rates themselves changed in 1990, 1993, 2001, 2003, and will go on to change today. A stable tax structure with small perturbations in the marginal tax rate and maybe limited short term incentives *is* the certainty that people can plan on.

Posted by: constans | July 15, 2010 12:47 PM | Report abuse

constans,

Constantly fluctuating tax rates, deductions and credits lead more effort towards gaming the tax code and less effort towards long term planning. Repeated changes to the tax code also make it more complicated (on average) and increase compliance costs.

Capital gains taxes are going up in 2011? Okay great, let's sell all of our winners in 2010, and all of our losers in 2011. And so much for trying to make investments for the purpose of capital gains: 39.3% rate plus inflation = confiscatory tax rates. No thanks. But rates could be 15% or 20% and I could deal with that - but since the rate might go to nearly 40%, I'm not going to make any long term investments until this crystalizes.

Dividend taxes are going up? Let's pay out dividends to our investors rather than expand, as our shareholders are probably going to see a better return avoiding that huge tax hike than whatever we can invest in over the next several years.

How much should I save for my retirement today? That's a hard question to answer not knowing what taxes will be like 40 years from now. I'd feel pretty stupid saving up $2 million and then 30 years from now that amount is reduced to an effective $500,000 between social security means testing, a VAT and higher marginal tax rates. Save enough to collect the 401k match and then spend the rest.

Should I get another degree? Is the time and money worth it? There's already risk of not being able to find another job right out of school, but on top of that if marginal tax rates are going to 70% in order to fund entitlements then there's no point in the human capital investment. I'd rather just collect the entitlement as its a lot easier, and vote out the people who try to cut it.

Should I start a new business? Being my own boss is fun and I could make a lot of money but what are marginal tax rates going to look like the future? Will I have to comply with a VAT? Is this really worth my time and effort?

People like the devil they know. For any given tax regime, uncertainty amplifies the disincentives of said regime.

Why, if we could do a permanent reform would we want to content ourselves with a series of temporary measures? There is virtually no benefit from tons of ad-hoc changes that can offset the cost of added complexity and uncertainty.

Posted by: justin84 | July 15, 2010 1:19 PM | Report abuse

Its difficult to have a plan for stable tax rates when the REPUBLICANS RUTHLESSLY DEMAGOGUE AND CALL FOR CLOTURE FOR EVERY SINGLE PROPOSAL THE DEMS PUT FORWARD.

Every time the dems need to garner 60 votes, legislation gets compromised to the likings of the 59th and 60th senator and has uniformly made those bills less effective.

I can't see extending the tax cuts for those making household incomes of 250k.

Posted by: srw3 | July 15, 2010 1:32 PM | Report abuse

As I said, justin84, that was the point of the 1986 tax overhaul. There are now far fewer deductions than there used to be: and look at how it's work out-- the fundamental structure of that law hasn't changed in 25 years. At the same time, it's not unreasonable to expect small changes to marginal rates over time. Nor is it reasonable to expect that massive cuts to dividend, interest, and capital gains taxes will be permanent (because those changes from the 00s were fundamentally unsustainable).

Issues like VAT, of course, should either be adopted now and for all time (ie, the next few decades) or not at all.

It is unreasonable, if not disingenuous, to claim that taxes should never change, lest companies be unable to do any long term planning. Tax rates have always changed. If individuals and businesses can't handle that, it must be because they are fundamentally incompetent. Instead, it seems like some people are claiming that tax rates should not change at all because they are disingenuously arguing against fixing bad tax cuts that were made under the Bush administration and are desperately clinging to any possible argument they can make to stop changes.

Posted by: constans | July 15, 2010 2:36 PM | Report abuse

I don’t want to hear failed republican policies that have led us into this economic mess we have today. With the top 1% earning almost 25% of income, the middle class disappearing, its time for the big boys to start paying their share! Social security can be saved just by lifting the cap on wages , the more you make, the more you pay. Republicans do not want to continue unemployment benefits, but we are paying farmers in Afganistan not to grow poppies? Real wages have declined under the republican policies, the elite have the money and politcal power, politicians sre bought and bought and paid for by the system!The two Bush wars to change the minds and hearts of Afgans and Iraqi's are consuming our treasure and lives. They are religous
wars, and we are the unbelievers...

Posted by: roosboys | July 15, 2010 3:58 PM | Report abuse

I wonder how many people here are really affected by the different tax rates and understand how they work.

My take is that raising the top cap gains rate from 15% to 20% (what it would default backl to) is a miniscule change of 5% on the gain. First, it only applies to sales of assets heldf for more than a year. Most investors I know took losses in 2008 and 2009 and have loss carry-forwards that will offset any anticipated gains for a few years. Maybe some of you are hedge fund managers who are making 25+% gains this year and had no losses last year?

The 15% rate on dividends, OTOH, can be substantial for wealthy people, since the defrault top marginal rate for ordinary income is 39.5%. That is likely to be more of a hit.

And how much to save for retirement? Same as ever--as much as possible! Save it in a ROTH IRA so it is funded with after-tax dollars but the gains are NEVER TAXED. You pay income taxes on pensions, Social Security, dividends, interest and withdrawals from a 401(k) or traditional IRA.

There is no such thing as a "permanent reform." I've paid income taxes for 45 years, and the only "permanent" features of the tax code (besides complexity) seem to be (1) progressive marginal rates and (2) lower rates for long-term capital gains. The best features of the Bush tax cuts that should be kept are the Earned Income Tax CDredit and the higher zero bracket. Anyone making under $10,000 shouldn't have to pay taxes. And they do pay their share of payroll taxes at rates only slightly higher than the effective income tax rate for the top 10%!

Posted by: Mimikatz | July 15, 2010 5:33 PM | Report abuse

Too bad Washington hasn't studied Hauser’s Law, otherwise they would know that these tax increases will do very little to address the budget deficit.

Posted by: JerrySelter | July 15, 2010 11:42 PM | Report abuse

"The best features of the Bush tax cuts that should be kept are the Earned Income Tax CDredit and the higher zero bracket. Anyone making under $10,000 shouldn't have to pay taxes"

You mean the Bush tax cuts didn't just benefit the rich after all? Golly gee whiz. So the Democrats can't just let them expire, because the Bush tax cuts actually benefited millions of lower income people.

Who knew?

Posted by: bgmma50 | July 16, 2010 12:26 AM | Report abuse

"The best features of the Bush tax cuts that should be kept are the Earned Income Tax CDredit and the higher zero bracket. Anyone making under $10,000 shouldn't have to pay taxes"

You mean the Bush tax cuts didn't just benefit the rich after all? Golly gee whiz. So the Democrats can't just let them expire, because the Bush tax cuts actually benefited millions of lower income people.

Who knew?

Posted by: bgmma50 | July 16, 2010 12:27 AM | Report abuse

Most business should actually welcome a VAT as it should reduce the costs of doing business and for manufacturers create a level playing field vs cheap imported goods, at the same time favouring exports. The only business segments that are likely to get hurt or hit by a VAT are the banks (oh boo hoo). Consumers can accept a VAT if it is introduced with a corresponding decrease in personal tax rates and incentives for the low waged and poor.

Posted by: CanunkinKL | July 16, 2010 2:07 AM | Report abuse

"Most business should actually welcome a VAT as it should reduce the costs of doing business and for manufacturers create a level playing field vs cheap imported goods, at the same time favouring exports. The only business segments that are likely to get hurt or hit by a VAT are the banks (oh boo hoo). Consumers can accept a VAT if it is introduced with a corresponding decrease in personal tax rates and incentives for the low waged and poor."

Yes, businesses should love a VAT! Nothing like compliance and lower sales to make business owners giddy. Let's just double payroll taxes too, because surely the poor would love those.

How on earth would a VAT, if it was put in place today, "reduce the cost of doing business" or "favor exports"? As for banks, VATs usually exempt financial services.

https://globalvatonline.pwc.com/uk/tls/gvol2/gvol2.nsf/AllByCode/RJAI-6XLJXR?opendocument

"And how much to save for retirement? Same as ever--as much as possible! Save it in a ROTH IRA so it is funded with after-tax dollars but the gains are NEVER TAXED. You pay income taxes on pensions, Social Security, dividends, interest and withdrawals from a 401(k) or traditional IRA."

But if CanunkinKL & co gets their way, there will be a fat VAT, which is basically a tax on your Roth savings. If we have a Euro-style VAT and means testing Social Security, those Roth savings will have proven to be a bad investment. I think a lot of people saving in Roth's in their 20s and 30s have a high risk of being extremely disappointed in their nest egg by retirement.

But of course, tax regime uncertainty doesn't matter, because the average Joe will blindly keep putting money in their account.

Everyone talks about how the average person won't respond much to tax incentives, but the impact is on the margin, the 5-10 percent who don't think like you or respond the same way you do.

People keep talking about the last recession as if 'the economy was in depression' and 'no jobs are out there', even though GDP was up 0.4% in 2008 and only down 2.4% in 2009, and even though 3-4 million new jobs are created each month. Its the action on the margin which is creating all the pain in the economic statistics, and yet when looking at the impact of policies you care about the average, not the margin.

Posted by: justin84 | July 16, 2010 10:20 AM | Report abuse

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