U.S. Budget and Economy

Thursday, April 12, 2018

Do the Trump Tax Cuts Mostly Pay for Themselves?

On April 9, 2018, the Congressional Budget Office released The Budget and Economic Outlook: 2018 to 2028. The next day, the Investor's Business Daily ran an editorial titled It's Official: Trump Tax Cuts Are Boosting Growth And Mostly Paying For Themselves. That editorial begins:

When the Congressional Budget Office released its updated budget forecast, everyone focused on the deficit number. But buried in the report was the CBO's tacit admission that it vastly overestimated the cost of the Trump tax cuts, because it didn't account for the strong economic growth they would generate.

Further on, the editorial states:

The CBO report also makes clear that this faster-growing economy will offset most of the costs of the Trump tax cuts.

In a table buried in the appendix of the CBO report, it shows that, before accounting for economic growth, the tax cuts Trump signed into law late last year would cut federal revenues by $1.69 trillion from 2018-2027.

But it goes on to say that higher rate of GDP growth will produce $1.1 trillion in new revenues. In other words, 65% of the tax cuts are paid for by extra economic growth.

The "table buried in the appendix of the CBO report" is Table A-1, on page 94, the second page of Appendix A. The title of the table is "Changes in CBO’s Baseline Projections of the Deficit Since June 2017". In the section for "Legislative Changes", the table lists the "Total Change in Revenues" from 2018-2027 as -$1.69 trillion. In the section for "Economic Changes", however, it lists the "Total Change in Revenues" from 2018-2027 as $1.088 trillion. This matches the two numbers cited in the editorial above. However, it's not clear from the table that these changes are due to the tax cuts. In fact, the CBO report states the following on page 94:

As a result of legislative changes, CBO has reduced its projections of revenues by $163 billion for 2018 and by $1.7 trillion for the 2018–2027 period. Almost all of that decrease stems from the 2017 tax act.

Regarding economic changes in revenues, the report states the following on page 99:

Revisions to CBO’s economic forecast caused the agency to increase its projections of revenues by $4 billion for 2018 and by $1.1 trillion for the 2018–2027 period. More than half of those changes were driven by the macroeconomic effects of recently enacted legislation—specifically, the 2017 tax act, the Bipartisan Budget Act of 2018, and P.L. 115-120. Updated data for key measures from the national income and product accounts (NIPAs) also led to economic revisions.

Hence, the report says that "almost all of the decrease" in revenues due to legislation is due to the tax cuts but "more than half" of the increase in revenues due to economic changes is due to the tax cuts and two other pieces of legislation. Just before the above statement, the report states:

About half of the economic changes stem from the macroeconomic effects of the 2017 tax act (see Appendix B).

Appendix B is titled "The Effects of the 2017 Tax Act on CBO’s Economic and Budget Projections". On page 129 is the following table:

Table B-3.
Contributions of the 2017 Tax Act to CBO’s Baseline Budget Projections
Billions of Dollars
                                                                                           Total
                                                                                       -------------
                                                                                        2018–  2018–
                                2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028   2022   2028
-------------------------------------------------------------------------------------- ------ ------
                              Effects Without Macroeconomic Feedback*
Effects on the Primary Deficit^  194  281  307  304  263  218  183  164   36  -60  -46  1,349  1,843
Effects on Debt-Service Costs      3    8   17   29   39   48   55   63   68   70   71     97    471
Effects on the Deficit#          197  289  325  333  302  266  238  227  104   10   25  1,445  2,314
                                Effects of Macroeconomic Feedback*
Effects on the Primary Deficit^  -33  -67  -65  -58  -55  -49  -47  -49  -48  -50  -51   -278   -571
Effects on Debt-Service Costs      0    5   12   18   23   27   23   13    3   -4  -11     59    110
Effects on the Deficit#          -33  -61  -53  -41  -31  -22  -24  -36  -44  -54  -62   -219   -461
                            Total Contributions to Baseline Projections
Effects on the Primary Deficit^  160  214  243  246  208  169  136  115  -12 -110  -97  1,071  1,272
Effects on Debt-Service Costs      3   14   29   47   63   74   78   76   71   66   60    156    582
Effects on the Deficit#          164  228  272  292  271  243  214  191   59  -43  -37  1,226  1,854
----------------------------------------------------------------------------------------------------
Source: Congressional Budget Office.
* Macroeconomic feedback refers to the ways in which the act would affect the budget by changing the economy.
^ The primary deficit is the deficit excluding debt-service costs.
# Positive numbers indicate an increase in the deficit; negative numbers indicate a decrease in the deficit.
On page 128, the CBO report explains the table as follows:

The 2017 tax act had significant effects on CBO’s budgetary projections for the 2018–2028 period. The agency took two steps to incorporate those effects into the projections. First, CBO estimated the act’s direct effects, which are the effects on the budget that do not take into account any changes to the aggregate economy. For example, this step incorporated the ways in which the act’s reduction in tax rates will diminish federal revenues through its effects on taxpayers’ behavior. Second, CBO considered macroeconomic feedback—that is, the ways in which the act will affect the budget by changing the overall economy (such as by increasing wages, profits, and interest rates). Incorporating both kinds of effects boosts the projected primary deficit by a cumulative $1.272 trillion over the course of the 11-year period. After debt service too is incorporated, the projected deficit is higher by $1.854 trillion (see Table B-3).

Hence, the CBO report puts the cost of the tax cuts at $1.85 trillion over 10 years, $1.26 trillion more than the $0.59 trillion suggested by the editorial. The CBO report does estimate the cost on the deficit over 10 years to be $1.84 trillion, close to the $1.69 trillion mentioned by the editorial. However, it also lists $0.58 trillion in additional debt-service costs due to the higher debt and somewhat higher interest costs. Also, it lists the full macroeconomic benefits to be $0.57 trillion, over a half trillion dollars less than the $1.1 trillion stated in the editorial. Those differences of $0.15 trillion, $0.58 trillion, and $0.53 trillion add up to the $1.26 trillion difference between the $1.85 trillion cost of the tax cuts given by the CBO report and the $0.59 trillion cost given by the editorial.

The lesson of this is to verify as much as possible any conclusions put forth in an article, especially if those conclusions may be affected by politics and/or the article is an editorial. In my experience, it's not uncommon for the numbers to be correct but for the interpretation of those numbers to be wrong. That is the case here. If possible, one should verify the numbers and attempt to check the conclusions. At the very least, it's instructive to check if the report from which the numbers come states the same or a contrary conclusion. Also, it can be helpful to seek other sources and check their interpretation of the numbers. Googling "Trump Tax Cuts Paying For Themselves CBO Report" (without the quotes) turns up a number of Washington Post article titled "No, tax cuts do not pay for themselves". Many of of the other headlines mention the tax cuts, spending, and trillion dollar deficits. However, an article in "The Hill" is titled "GOP tax law will add $1.9 trillion to debt: CBO" and states many of the numbers from Table B-3 above. It states:

The GOP's signature tax law is projected to increase the national debt by $1.9 trillion between 2018 and 2028, according to a new report by the Congressional Budget Office (CBO).

According to the report, the tax law would cost the government $2.3 trillion in revenues, but economic growth would offset that figure by about $461 billion.

Saturday, December 23, 2017

Who Will See Their Taxes Go Up under the Final GOP Tax Bill? (Part 2)

Taxpayer Examples Cited by Supporters of the Tax Bill

In my last post, I looked at several groups of taxpayers who would pay higher taxes under the new GOP tax bill. The Committee on Rules has posted a Summary of the bill, a Joint Explanatory Statement, and the full bill. Since then, however, it seems like Republican members of Congress are focusing more and more on just a couple of examples that show taxpayers who will receive large tax cuts. For example, a Washington Examiner article quotes Mitch McConnell reading an outline of a possible script for an advertisement that he expects will air:

“Here’s the commercial against Joe Manchin: ‘Head of household, family of four, making $73,000 a year, gets a $2,000 tax reduction. Now maybe Sen. Manchin that doesn’t sound like a lot of money to you, but for me it’s a 58 percent reduction in my taxes; 58 percent,’” McConnell said, playing the role of ad voiceover. “Or Sen. Heitkamp: ‘Maybe $1,300 doesn’t sound like a lot to you, but I’m a single mom with one child making $41,000 a year, and that’s a 73 percent reduction in my tax bill.’”

Searching for 73,000 and 41,000 in the December 19 Congressional Record shows 11 and 7 occurrences of those two examples, respectively. In addition, there's a Twitter hash #2059more for the tax cut calculated for the $73,000 example. In fact, these two examples are the first two of three taxpayer examples that were released in November 21st by the Senate Committee on Finance.

Because of the continued focus on these two examples, it may help to looks at variations of these examples to show taxpayers who will pay higher taxes under the new bill. Following is information for these two examples as generated by the interactive application at this link:

Married, 2 children, 73000 income, standard deduction

         Names    Taxes Released After_Tax
1 Current 2018  3,557.5           69,442.5
2   Final Bill  1,499.0           71,501.0
3       Change -2,058.5    -2059   2,058.5
4     % Change    -57.9                3.0

Household, 1 child, 41000 income, standard deduction

         Names    Taxes Released After_Tax
1 Current 2018  1,792.5           39,207.5
2   Final Bill    488.0           40,512.0
3       Change -1,304.5            1,304.5
4     % Change    -72.8                3.3

Married, 2 children, 73000 income, standard deduction

                      Tax Plan     2018 Final Bill   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   73,000     73,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions  -16,600          0   16,600
5          Standard deductions  -13,000    -24,000  -11,000
6          Itemized deductions        0          0        0
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes        0          0        0
11      Home mortgage interest        0          0        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   43,400     49,000    5,600
16 --------------------------- --------   -------- --------
17       Tax on taxable income    5,558      5,499      -58
18                Child credit   -2,000     -4,000   -2,000
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax    3,558      1,499   -2,058
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax    3,558      1,499   -2,058
Household, 1 child, 41000 income, standard deduction

                      Tax Plan     2018 Final Bill   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   41,000     41,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions   -8,300          0    8,300
5          Standard deductions   -9,550    -18,000   -8,450
6          Itemized deductions        0          0        0
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes        0          0        0
11      Home mortgage interest        0          0        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   23,150     23,000     -150
16 --------------------------- --------   -------- --------
17       Tax on taxable income    2,792      2,488     -304
18                Child credit   -1,000     -2,000   -1,000
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax    1,792        488   -1,304
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax    1,792        488   -1,304
2017 GOP Tax Cut (dollars) - Married, 2 children, 73000 income, standard deduction 2017 GOP Tax Cut (dollars) - Household, 1 child, 41000 income, standard deduction
2017 GOP Tax Cut (percent) - Married, 2 children, 73000 income, standard deduction 2017 GOP Tax Cut (percent) - Household, 1 child, 41000 income, standard deduction

The above plots show the tax cut that will be received by taxpayers in both examples, in dollars and percentage, for all incomes up to $200,000. You can click on any of the plots above or following to see a fully expanded version of the plot. Red points indicate taxes for which the taxpayer receives a refund under both the current and new laws and black points indicate taxes for which the taxpayer pays taxes under both the current and new laws. The blue points are taxes for which the taxpayer pays taxes under the current law but receives a refund (or pays nothing) under the new law or vice-versa.

As can be seen, the incomes that were selected for the examples provided relatively large tax cuts when judged by percentage. Still, the plots show that all taxpayers with the same characteristics (married couple with 2 children and no deductions or single mother with one child and no deductions) will receive tax cuts under the final tax bill, at least up to an income of $200,000.

Family of Four, Making $73,000 a Year

A natural question is whether there are taxpayers with one or more different characteristics who don't receive tax cuts. The above plots show that varying income, at least up to $200,000, does not reveal any taxpayers who will see their taxes increase. But, as suggested by a prior post, two of the oft-mentioned benefits of the tax bill are the doubling of the standard deduction and child tax credit. What if the taxpayer has characteristics such that they don't benefit from these provisions? The first of the following two examples varies deductions from zero up to $73,000, the total wages for the first Senate example. It assume the deduction to be for home mortgage interest since this is the largest deduction for many families and it's not uncommon for families to spend 35 to 45 percent of pretax income on housing. However, any deductions can be included, as long as they are deductible under both the current and new laws.

The second of the following two examples looks at exactly the same thing as the first example except that it assumes only one child. Following is information for the two examples as generated by same interactive application:

Married, 2 children, 73000 income, 37500 itemized

         Names Taxes Released After_Tax
1 Current 2018  -110             73,110
2   Final Bill  -121             73,121
3       Change   -11    -2059        11
4     % Change   -10                  0

Married, 1 child, 73000 income, 37500 itemized

         Names Taxes Released After_Tax
1 Current 2018 1,505             71,495
2   Final Bill 1,879             71,121
3       Change   374    -2059      -374
4     % Change    25                 -1

Married, 2 children, 73000 income, 37500 itemized

                      Tax Plan     2018 Final Bill   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   73,000     73,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions  -16,600          0   16,600
5          Standard deductions        0          0        0
6          Itemized deductions  -37,500    -37,500        0
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes        0          0        0
11      Home mortgage interest  -37,500    -37,500        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   18,900     35,500   16,600
16 --------------------------- --------   -------- --------
17       Tax on taxable income    1,890      3,879    1,989
18                Child credit   -2,000     -4,000   -2,000
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax     -110       -121      -11
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax     -110       -121      -11
Married, 1 child, 73000 income, 37500 itemized

                      Tax Plan     2018 Final Bill   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   73,000     73,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions  -12,450          0   12,450
5          Standard deductions        0          0        0
6          Itemized deductions  -37,500    -37,500        0
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes        0          0        0
11      Home mortgage interest  -37,500    -37,500        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   23,050     35,500   12,450
16 --------------------------- --------   -------- --------
17       Tax on taxable income    2,505      3,879    1,374
18                Child credit   -1,000     -2,000   -1,000
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax    1,505      1,879      374
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax    1,505      1,879      374
2017 GOP Tax Cut (dollars) - Married, 2 children, 73000 income, 37500 itemized 2017 GOP Tax Cut (dollars) - Married, 1 child, 73000 income, 37500 itemized
2017 GOP Tax Cut (percent) - Married, 2 children, 73000 income, 37500 itemized 2017 GOP Tax Cut (percent) - Married, 1 child, 73000 income, 37500 itemized

As can be seen from the plots on the left for the first example, the tax cut received is $2,059 up to a deduction level of $13,000 but then drop sharply to $24,000 and then a bit less sharply to $37,250. This is the deduction level to which the above numbers apply. Hence, with $37,250 in mortgage interest (or some other) deduction, the family's tax cut drops to just 11 dollars. That's an $11 increase in their refund which is why the point is colored red.

The plots on the right for the second example shows that, if the family has only one child, the tax cut is $1,681 (instead of $2,059) up to a deduction level of $13,000 but then drops sharply to just above zero (to $31) at a deduction of $24,000 and reaches a minimum of a $494 tax increase at a deduction of $41,500. That is over half of their income so the above numbers are once again for a deduction of $37,250. At that level, the tax increase is $374, nearly 25 percent.

The first of the following two examples looks at exactly the same thing as the last two examples except that it assumes that the married couple has no children. The second example likewise looks at the same thing except that it assumes that the couple has two dependents who do not qualify for the child credit, for example two children aged 17 or over, possibly in college. Following is information for the two examples as generated by same interactive application:

Married, no children, 73000 income, 37500 itemized

         Names Taxes Released After_Tax
1 Current 2018 3,128             69,872
2   Final Bill 3,879             69,121
3       Change   752    -2059      -752
4     % Change    24                 -1

Married, no children, 2 other dependents, 73000 income, 37500 itemized

         Names Taxes Released After_Tax
1 Current 2018 1,890             71,110
2   Final Bill 2,879             70,121
3       Change   989    -2059      -989
4     % Change    52                 -1

Married, no children, 73000 income, 37500 itemized

                      Tax Plan     2018 Final Bill   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   73,000     73,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions   -8,300          0    8,300
5          Standard deductions        0          0        0
6          Itemized deductions  -37,500    -37,500        0
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes        0          0        0
11      Home mortgage interest  -37,500    -37,500        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   27,200     35,500    8,300
16 --------------------------- --------   -------- --------
17       Tax on taxable income    3,128      3,879      752
18                Child credit        0          0        0
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax    3,128      3,879      752
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax    3,128      3,879      752
Married, no children, 2 other dependents, 73000 income, 37500 itemized

                      Tax Plan     2018 Final Bill   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   73,000     73,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions  -16,600          0   16,600
5          Standard deductions        0          0        0
6          Itemized deductions  -37,500    -37,500        0
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes        0          0        0
11      Home mortgage interest  -37,500    -37,500        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   18,900     35,500   16,600
16 --------------------------- --------   -------- --------
17       Tax on taxable income    1,890      3,879    1,989
18                Child credit        0          0        0
19      Other dependent credit        0     -1,000   -1,000
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax    1,890      2,879      989
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax    1,890      2,879      989
2017 GOP Tax Cut (dollars) - Married, no children, 73000 income, 37500 itemized 2017 GOP Tax Cut (dollars) - Married, 2 nonchild dependents, 73000 income, 37500 itemized
2017 GOP Tax Cut (percent) - Married, no children, 73000 income, 37500 itemized 2017 GOP Tax Cut (percent) - Married, 2 nonchild dependents, 73000 income, 37500 itemized

The plots on the left for the first example show that, if the family has no children, the tax cut is $1,304 (instead of $2,059) up to a deduction level of $13,000 but then drops sharply to a tax increase of $347 at a deduction of $24,000 and reaches a minimum of a $992 tax increase at a deduction of $45,500. That is over half of their income so the above numbers are once again for a deduction of $37,250. At that level, the tax increase is $752, about 24 percent.

The plots on the right for the second example show that, if the family has no children but two non-child dependents, the tax cut is $1,059 (instead of $2,059) up to a deduction level of $13,000 but then drops sharply to a tax increase of $592 at a deduction of $24,000 and reaches a minimum of a $989 tax increase at a deduction of $37,500. That is a tax increase of about 52 percent and is shown in the numbers above.

One interesting thing about these two examples is that they both reach about the same minimum ($992 versus $989) even though the second example is the same as the first with two added dependents. This is because each nonchild dependent causes the elimination of a $4,150 personal exemption. Multiplying that by 12 percent (this taxpayer's top marginal rate) gives $498. This is just $2 dollars less than the $500 credit that the taxpayer receives so that credit supplies a net benefit of just about two dollars. In the same way, the $1,000 increase in the child tax credit supplies about a $502 benefit for a taxpayer whose top marginal rate is 12 percent.

Two other number to note are the $13,000 and $24,000 levels of deductions at which the plots change direction above. They are equal to the size of the standard deduction under current law and under the new law, respectively. In any event, the next section deals with the second Senate example, a single mother with one child who makes $41,000 a year.

Single Mother with One Child, Making $41,000 a Year

The first of the following two examples varies deductions from zero up to $41,000, the total wages for the second Senate example. As before, it assume the deduction to be for home mortgage interest but, as before, any deductions can be included, so long as they are deductible under both the current and new laws.

The second of the following two examples looks at exactly the same thing as the first example except that it assumes that the child is 17 or older and does not qualify for the child tax credit. Following is information for the two examples as generated by same interactive application:

Household, 1 child, 41000 income, 19000 itemized

         Names Taxes Released After_Tax
1 Current 2018   375             40,625
2   Final Bill   368             40,632
3       Change    -7                  7
4     % Change    -2                  0

Household, no children, 1 other dependent, 41000 income, 19000 itemized

         Names Taxes Released After_Tax
1 Current 2018 1,375             39,625
2   Final Bill 1,868             39,132
3       Change   493               -493
4     % Change    36                 -1

Household, 1 child, 41000 income, 19000 itemized

                      Tax Plan     2018 Final Bill   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   41,000     41,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions   -8,300          0    8,300
5          Standard deductions        0          0        0
6          Itemized deductions  -19,000    -19,000        0
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes        0          0        0
11      Home mortgage interest  -19,000    -19,000        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   13,700     22,000    8,300
16 --------------------------- --------   -------- --------
17       Tax on taxable income    1,375      2,368      993
18                Child credit   -1,000     -2,000   -1,000
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax      375        368       -7
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax      375        368       -7
Household, no children, 1 other dependent, 41000 income, 19000 itemized

                      Tax Plan     2018 Final Bill   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   41,000     41,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions   -8,300          0    8,300
5          Standard deductions        0          0        0
6          Itemized deductions  -19,000    -19,000        0
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes        0          0        0
11      Home mortgage interest  -19,000    -19,000        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   13,700     22,000    8,300
16 --------------------------- --------   -------- --------
17       Tax on taxable income    1,375      2,368      993
18                Child credit        0          0        0
19      Other dependent credit        0       -500     -500
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax    1,375      1,868      493
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax    1,375      1,868      493
2017 GOP Tax Cut (dollars) - Household, 1 child, 41000 income, 19000 itemized 2017 GOP Tax Cut (dollars) - Household, 1 nonchild dependent, 41000 income, 19000 itemized
2017 GOP Tax Cut (percent) - Household, 1 child, 41000 income, 19000 itemized 2017 GOP Tax Cut (percent) - Household, 1 nonchild dependent, 41000 income, 19000 itemized

The plots on the left for the first example show that the mother with one child and income of $41,000 will receive a tax cut of $1,305 up to a deduction level of $9,500 but then drops sharply to a tax increase of just $7 at a deduction level of $19,000. That represents a tax cut of about 1.9 percent.

The plots on the right for the second example show that, if the child is 17 or older and is not eligible for the child tax credit, the mother will face a tax increase of $493, an increase of nearly 36 percent. This assumes home mortgage interest of $19,000 as before.

The change from a $7 tax cut to a $493 tax increase makes perfect sense since the difference is $500, same as the difference between the child tax credit increase of $1,000 and the dependent credit of $500. Similar to before, the numbers that mark the endpoints of the line segment that heads sharply down are $9,500 and $18,000, the size of the standard deduction under current law and under the new law for a head of household.

Summary

The above examples show that, in the case of the two examples being cited as providing large tax cuts, those tax cuts become tax increases if deductions reach about a third of wages and the children are over 17 and do not qualify for the child tax credit. To be precise, this occurs at about 28 percent (20,500/73,000) for the family of four and at about 37 percent (15,000/41,000) for the single mother. The tax increases in these cases are $989 or 53 percent and $493 or 36 percent, respectively.

A tax increase also occurs at about 35 percent (22,000/73,000) if there is just one child in the family of four (making it a family of three) and at about 30 percent (22,000/73,000) if there are no children (making it a family of two). With a deduction of $37,500, the family of three will see a tax increase of $374 or 25 percent and the family of two will see a tax increase of $752 or 24 percent.

The fact that the level of a taxpayers current deductions can turn an expected tax cut into a tax increase could cause some problems with withholding. An article in Newsday concludes as follows:

For many people, the law renders obsolete the calculations companies use to withhold taxes from their paychecks, potentially leading some workers to not set aside enough for federal taxes and face a penalty. The American Payroll Association is warning of a potential “disaster” as companies wait to update their computer systems to reflect the changes.

Sunday, December 17, 2017

Who Will See Their Taxes Go Up under the Final GOP Tax Bill?

Taxpayer Examples Cited by Supporters of the Tax Bill

On December 15th, the GOP released its final tax plan. The Committee on Rules has posted a Summary of the bill, a Joint Explanatory Statement, and the full bill. In addition, House Speaker Ryan released an article that states that, with this bill, "the median family income of $73,000 will receive a tax cut of $2,059". This has been repeated many times since then, such as here, here, and here. In fact, this example is the first of three taxpayer examples that were released in November 21st by the Senate Committee on Finance. Following is information for this and the second example, as generated by the interactive application at this link:

Example S1 - Family of Four Earning $73,000 Per Year

         Names     Taxes Released After_Tax
1 Current 2018  3,557.50          69,442.50
2   Conference  1,499.00          71,501.00
3       Change -2,058.50    -2059  2,058.50
4     % Change    -57.86               2.96

Example S2 - Single Parent with One Child Earning $41,000 Per Year

         Names     Taxes Released After_Tax
1 Current 2018  1,792.50          39,207.50
2   Conference    488.00          40,512.00
3       Change -1,304.50           1,304.50
4     % Change    -72.78               3.33

Example S1 - Family of Four Earning $73,000 Per Year

                      Tax Plan     2018 Conference   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   73,000     73,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions  -16,600          0   16,600
5          Standard deductions  -13,000    -24,000  -11,000
6          Itemized deductions        0          0        0
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes        0          0        0
11      Home mortgage interest        0          0        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   43,400     49,000    5,600
16 --------------------------- --------   -------- --------
17       Tax on taxable income    5,558      5,499      -58
18                Child credit   -2,000     -4,000   -2,000
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax    3,558      1,499   -2,058
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax    3,558      1,499   -2,058
Example S2 - Single Parent with One Child Earning $41,000 Per Year

                      Tax Plan     2018 Conference   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   41,000     41,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions   -8,300          0    8,300
5          Standard deductions   -9,550    -18,000   -8,450
6          Itemized deductions        0          0        0
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes        0          0        0
11      Home mortgage interest        0          0        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   23,150     23,000     -150
16 --------------------------- --------   -------- --------
17       Tax on taxable income    2,792      2,488     -304
18                Child credit   -1,000     -2,000   -1,000
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax    1,792        488   -1,304
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax    1,792        488   -1,304
2017 GOP Tax Cut (dollars) - Example S1 - Family of Four Earning $73,000 Per Year 2017 GOP Tax Cut (dollars) - Example S2 - Single Parent with One Child Earning $41,000 Per Year
2017 GOP Tax Cut (percent) - Example S1 - Family of Four Earning $73,000 Per Year 2017 GOP Tax Cut (percent) - Example S2 - Single Parent with One Child Earning $41,000 Per Year

The above plots show the tax cut that will be received by taxpayers in both examples, in dollars and percentage, for all incomes up to $200,000. You can click on any of the plots above or following to see a fully expanded version of the plot. As can be seen, the incomes that were selected for the examples provided relatively large tax cuts when judged by percentage. Still, the plots show that all taxpayers with the same characteristics (married couple with 2 children and no deductions or single mother with one child and no deductions) will receive tax cuts under the final tax bill, at least up to an income of $200,000.

Taxpayers Who Have Deductions as Large as the New Standard Deduction

A natural question is whether there are taxpayers with different characteristics who won't all receive tax cuts. As suggested by my prior post, two of the oft-mentioned benefits of the tax bill are the doubling of the standard deduction and child tax credit. What if the taxpayer has characteristics such that they don't benefit from these provisions? The following two examples are for single and married taxpayers who have no children and who currently have deductions equal to the new standard deductions. Under these conditions, the taxpayers will not benefit from either the expanded child credit or the expanded standard deduction. However, they also won't be hurt by any deductions that are being eliminated since they will still get the amount of their deductions through the new standard deduction. Following are the two examples:

Example X1 - Single Person Making $25,000 Per Year with $12,000 in Deductions

         Names Taxes Released After_Tax
1 Current 2018   885             24,115
2   Conference 1,370             23,630
3       Change   484               -484
4     % Change    55                 -2
Example X2 - Married Couple Making $50,000 Per Year with $24,000 in Deductions

         Names Taxes Released After_Tax
1 Current 2018 1,770             48,230
2   Conference 2,739             47,261
3       Change   969               -969
4     % Change    55                 -2
Example X1 - Single Person Making $25,000 Per Year with $12,000 in Deductions

                      Tax Plan     2018 Conference   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   25,000     25,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions   -4,150          0    4,150
5          Standard deductions        0    -12,000  -12,000
6          Itemized deductions  -12,000          0   12,000
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes   -3,000     -3,000        0
11      Home mortgage interest   -9,000     -9,000        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income    8,850     13,000    4,150
16 --------------------------- --------   -------- --------
17       Tax on taxable income      885      1,370      484
18                Child credit        0          0        0
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax      885      1,370      484
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax      885      1,370      484
Example X2 - Married Couple Making $50,000 Per Year with $24,000 in Deductions

                      Tax Plan     2018 Conference   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   50,000     50,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions   -8,300          0    8,300
5          Standard deductions        0    -24,000  -24,000
6          Itemized deductions  -24,000          0   24,000
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes   -6,000     -6,000        0
11      Home mortgage interest  -18,000    -18,000        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   17,700     26,000    8,300
16 --------------------------- --------   -------- --------
17       Tax on taxable income    1,770      2,739      969
18                Child credit        0          0        0
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax    1,770      2,739      969
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax    1,770      2,739      969
2017 GOP Tax Cut (dollars) - Example X1 - Single Person Making $25,000 Per Year with $12,000 in Deductions 2017 GOP Tax Cut (dollars) - Example X2 - Married Couple Making $50,000 Per Year with $24,000 in Deductions
2017 GOP Tax Cut (percent) - Example X1 - Single Person Making $25,000 Per Year with $12,000 in Deductions 2017 GOP Tax Cut (percent) - Example X2 - Married Couple Making $50,000 Per Year with $24,000 in Deductions

As can be seen in the plots, taxpayers in both examples will pay higher taxes if their incomes are below about $43,000 for the single taxpayer and about $85,000 for the married taxpayers. One thing to check, however, is how realistic those deductions are for various income levels. As can be seen in the calculation of the tax cuts above, the deductions were set to real estate taxes of $3,000 and mortgage interest of $9,000 for the single taxpayer and twice that for the married taxpayers filing jointly. These number were derived from taxpayer examples posted at this link by the Tax Foundation. The fifth household uses the example of a $340,000 home financed with a 30-year mortgage with 3.5 percent interest and 20 percent down and an effective property tax rate of 1 percent. This works out to mortgage interest of $9,520 ($340,000 * 0.8 * 0.035) and property tax of $3,400 ($340,000 * 0.01). Assuming a $300,000 home financed with a 30-year mortgage with 3.75 percent interest and 20 percent down will give mortgage interest of $9,000 ($300,000 * 0.8 * 0.0375). Assuming an effective property tax rate of 1 percent on that home will give a property tax of $3,000 ($300,000 * 0.01).

For the married couple, I just assume a $600,000 home with all of the same rates. That gives mortgage interest of $18,000 ($600,000 * 0.8 * 0.0375) and property tax of $6,000 ($600,000 * 0.01). Hence, these two examples could represent homeowners in any state, regardless of whether or not that state has state income taxes. For example, if the taxpayer did pay $1,000 in state income tax but $1,000 less in mortgage interest, the result would be exactly the same. In fact, it would even be the same if that $1,000 were instead for a deduction that has been repealed, say for moving expenses.

As the tables show, both examples result in a 55 percent tax increase. The plots show that for single taxpayers, taxes will increase between incomes of about $13,000 and $42,000 and for married couples, taxes will increase between incomes of about $25,000 and $84,000.

Taxpayers Who Have Deductions Larger than the New Standard Deduction

The results will be generally the same if the taxpayer has more deductions than the new standard deduction. To be precise, the above plots will appear to move to the right by the amount more than the standard deduction that is deductible. That is because the only real change is that the taxpayer's taxable income is lowered by that amount. However, the taxpayer will see a larger increase in taxes if some of those deductions have been repealed. Under the final tax bill, most lower income taxpayers should not have deductions that are repealed. That's because the major deductions (medical, state and local taxes, real estate taxes, mortgage interest, and charity) are still deductible with some limitations. Those limitations should likely not hit lower income taxpayers who have modest homes. For example, the married couple in the second example above could pay an 8% effective state income tax on their income of $50,000 and would just hit but not go over the limitation of $10,000 for combined state income and property tax.

However, repealed deductions could still be a problem for lower income taxpayers if they take any of the following deductions which have been repealed:

  • Home equity indebtedness
  • Personal Casualty and Theft Losses
  • Miscellaneous Itemized Deductions Subject to the 2 Percent Floor including:
    • Unreimbursed employee expenses
    • Tax preparation expenses
    • Safe deposit box rental
    • Hobby expenses
    • Investment fees and expenses
    • Legal expenses
  • Alimony payments
  • Moving Expenses
The following two examples are similar to the prior two examples except that the taxpayers have additional deductions ($3,000 for the single taxpayer and $6,000 for the married couple) which have been repealed:

Example X3 - Single Person, $82,000/year, $36,000 Itemized, $3,000 Repealed Deductions

         Names Taxes Released After_Tax
1 Current 2018 5,366             76,634
2   Conference 6,060             75,940
3       Change   693               -693
4     % Change    13                 -1
Example X4 - Married Couple, $128,000/year, $36,000 Itemized, $6,000 Repealed Deductions

         Names  Taxes Released After_Tax
1 Current 2018 10,732            117,268
2   Conference 12,119            115,881
3       Change  1,386             -1,386
4     % Change     13                 -1
Example X3 - Single Person, $82,000/year, $36,000 Itemized, $3,000 Repealed Deductions

                      Tax Plan     2018 Conference   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.   82,000     82,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions   -4,150          0    4,150
5          Standard deductions        0          0        0
6          Itemized deductions  -39,000    -36,000    3,000
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes  -13,000    -10,000    3,000
11      Home mortgage interest  -26,000    -26,000        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   38,850     46,000    7,150
16 --------------------------- --------   -------- --------
17       Tax on taxable income    5,366      6,060      693
18                Child credit        0          0        0
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax    5,366      6,060      693
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax    5,366      6,060      693
Example X4 - Married Couple, $128,000/year, $36,000 Itemized, $6,000 Repealed Deductions

                      Tax Plan     2018 Conference   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.  128,000    128,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions   -8,300          0    8,300
5          Standard deductions        0          0        0
6          Itemized deductions  -42,000    -36,000    6,000
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes  -16,000    -10,000    6,000
11      Home mortgage interest  -26,000    -26,000        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income   77,700     92,000   14,300
16 --------------------------- --------   -------- --------
17       Tax on taxable income   10,732     12,119    1,386
18                Child credit        0          0        0
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax   10,732     12,119    1,386
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax   10,732     12,119    1,386
2017 GOP Tax Cut (dollars) - Example X3 - Single Person, $82,000/year, $36,000 Itemized, $3,000 Repealed Deductions 2017 GOP Tax Cut (dollars) - Example X4 - Married Couple, $128,000/year, $36,000 Itemized, $6,000 Repealed Deductions
2017 GOP Tax Cut (percent) - Example X3 - Single Person, $82,000/year, $36,000 Itemized, $3,000 Repealed Deductions 2017 GOP Tax Cut (percent) - Example X4 - Married Couple, $128,000/year, $36,000 Itemized, $6,000 Repealed Deductions

As can be seen from the calculation of the taxes, both of the above examples have repealed deductions due to having property taxes above the $10,000 limit. The two examples assume an effective property tax rate of 1.3 percent and 1.6 percent, respectively. This is line with some of the property tax rates shown on this map from the Tax Foundation. The mortgage interest of $26,000 comes from assuming that it has a 30-year mortgage with 3.4667 percent interest and 25 percent down (1,000,000 * 0.75 * 0.034667). Note that paying 25 percent down keeps the debt under the new $750,000 limit.

As the tables show, both examples result in a 13 percent tax increase. The plots show that for single taxpayers, taxes will increase between incomes of about $37,000 and $105,000 and for married couples, taxes will increase between incomes of about $37,000 and $174,000.

Taxpayers Who Live in States with High Income Tax Rates

The above examples look at homeowners because lower and middle income taxpayers who have large deductions tend to be homeowners. Because they don't include state income taxes, they could generally apply to taxpayers in any state. However, states that do have high income tax rates present an additional problem to some middle income and most all high income taxpayers. The following tables and plots show examples for single taxpayers and married couples with incomes up to 2 million dollars:

Example X5 - Single Person with 8 Percent of Income in State and Local Taxes

         Names   Taxes Released After_Tax
1 Current 2018 124,530            345,470
2   Conference 135,990            334,010
3       Change  11,459            -11,459
4     % Change       9                 -3
Example X6 - Married Couple with 8 Percent of Income in State and Local Taxes

         Names   Taxes Released After_Tax
1 Current 2018 669,497          1,330,503
2   Conference 670,499          1,329,501
3       Change   1,002             -1,002
4     % Change       0                  0
Example X5 - Single Person with 8 Percent of Income in State and Local Taxes

                      Tax Plan     2018 Conference   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.  470,000    470,000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions   -4,150          0    4,150
5          Standard deductions        0    -12,000  -12,000
6          Itemized deductions  -37,600          0   37,600
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes  -37,600    -10,000   27,600
10           Real estate taxes        0          0        0
11      Home mortgage interest        0          0        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income  428,250    458,000   29,750
16 --------------------------- --------   -------- --------
17       Tax on taxable income  124,530    135,990   11,459
18                Child credit        0          0        0
19      Other dependent credit        0          0        0
20               Parent credit        0          0        0
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax  124,530    135,990   11,459
24                 Payroll tax        0          0        0
25 --------------------------- --------   -------- --------
26                   Total tax  124,530    135,990   11,459
Example X6 - Married Couple with 8 Percent of Income in State and Local Taxes

                      Tax Plan      2018 Conference   Change
1  ---------------------------  --------   -------- --------
2  Wages, salaries, tips, etc. 2,000,000  2,000,000        0
3   Tax-deferred contributions         0          0        0
4                   Exemptions    -8,300          0    8,300
5          Standard deductions         0    -24,000  -24,000
6          Itemized deductions  -160,000          0  160,000
7  ---------------------------  --------   -------- --------
8                      Medical         0          0        0
9        State and local taxes  -160,000    -10,000  150,000
10           Real estate taxes         0          0        0
11      Home mortgage interest         0          0        0
12                     Charity         0          0        0
13   Misc. repealed deductions         0          0        0
14 ---------------------------  --------   -------- --------
15              Taxable income 1,831,700  1,976,000  144,300
16 ---------------------------  --------   -------- --------
17       Tax on taxable income   669,497    670,499    1,002
18                Child credit         0          0        0
19      Other dependent credit         0          0        0
20               Parent credit         0          0        0
21    Earned income tax credit         0          0        0
22 ---------------------------  --------   -------- --------
23                  Income tax   669,497    670,499    1,002
24                 Payroll tax         0          0        0
25 ---------------------------  --------   -------- --------
26                   Total tax   669,497    670,499    1,002
2017 GOP Tax Cut (dollars) - Example X5 - Single Person with 8 Percent of Income in State and Local Taxes 2017 GOP Tax Cut (dollars) - Example X6 - Married Couple with 8 Percent of Income in State and Local Taxes
2017 GOP Tax Cut (percent) - Example X5 - Single Person with 8 Percent of Income in State and Local Taxes 2017 GOP Tax Cut (percent) - Example X6 - Married Couple with 8 Percent of Income in State and Local Taxes

The above examples assume an effective state income tax rate of 8 percent. This is in line with some of the state income tax rates shown on this map from the Tax Foundation. Most of the states with top marginal rates above 8 percent are so-called blue states though there is one (Iowa) that is not. In any case, the plot shows that an 8 percent rate results in a single taxpayer having their taxes increase by about 9 percent at an income of $470,000. The increase then starts to become less, reaching about 3 percent at an income of $2 million. A married couple, however, will continue to receive a tax cut until an income of about $2 million at which their tax will increase by just $1,002. The reason for this difference between the effect of the tax cut on single taxpayers and married couples appears to be due to the change in the brackets. For a single taxpayer, the tax rate actually goes up from 33% to 35% between $200,000 and $424,950. For married couples, there is a similar glitch where the tax rate goes up from 33% to 35% but it only goes from $400,000 to $424,950.

At very high incomes, the effect of an 8 percent state income tax converges to about 1.56 percent for both single taxpayers and married couples. By $200 million, the increases are 1.55% and 1.57%, respectively. The reason for the convergence is that, under the current system, a very high income taxpayer will pay about 39.6 percent on 92 percent of their income (after deducting the 8 percent that they pay to the state). That comes out to 36.432 percent of their income. Under the new system, that taxpayer will just pay about 37 percent on ALL of their income. The increase then is 37 divided by 36.432 or about 1.56 percent. If the effective state income tax is 6 percent, then the change in the tax is 37 - 39.6 * 0.94 which equals -0.224 percent, a slight tax cut. In fact, the break-even state income tax rate is 1 - (37/39.6) which equals about 6.57 percent. This likely has much to do with why the upper tax rate was lowered to 37 percent. This serves to nullify the increase in taxes for taxpayers with very high incomes in states with an top income tax rate of 6.57 percent or less. That's even before considering other changes from which such taxpayers may benefit, such as the lower corporate and pass-through tax rates and cuts in the Alternate Minimum Tax and the estate tax.

The above examples look chiefly at homeowners and other taxpayers whose deductions equal or exceed the amount of the current standard deduction and taxpayers in high tax states. Some taxpayers who are in both groups may see an even larger effect. There are many other concerns such as the currently scheduled expiration of most of the individual tax cuts in 2025 and spending cuts which may be forced by increased deficits. But the above examples highlight some of the taxpayers who will see increases in their taxes immediately.

Wednesday, December 13, 2017

How Big of a Benefit is the Doubling of the Standard Deduction and Child Credit?

Note: This post has been updated to use the final GOP tax bill.

On December 15th, the GOP released its final tax plan. The Committee on Rules has posted a Summary of the bill, a Joint Explanatory Statement, and the full bill. A fact sheet on the White House web site lists the following points, among others:

  1. The Tax Cuts Act nearly doubles the standard deduction.
    • For individuals, the standard deduction will be increased from $6,500 to $12,000.
    • For single parents, the standard deduction will be increased from $9,550 to $18,000.
    • For married couples, the standard deduction will be increased from $13,000 to $24,000.
  2. The vast majority of American families will now be able to file their taxes on a single page because they lower taxes by claiming the standard deduction.
  3. American families will see their Child Tax Credit doubled to $2,000 per child under age 17.
    • Families will receive a new $500 tax credit for dependents age 17 or older.
    • The full Child Tax Credit will now be available for families with incomes of up to $200,000 for single households and incomes of up to $400,000 for married households.
    • Lower and Middle-Income families will benefit from a 40 percent increase in the refundable portion of the Child Tax Credit.

Effect of the Change in the Brackets

The following tables show the decrease in the tax rates for single, head of household, and married couples filing jointly under the final bill:

          SINGLE FILER                    HEAD OF HOUSEHOLD FILER           MARRIED FILING JOINTLY FILER

   Bracket Current   Final              Bracket Current   Final              Bracket Current   Final
 N   Start    2018    Bill Change     N   Start    2018    Bill Change     N   Start    2018    Bill Change
-- ------- ------- ------- ------    -- ------- ------- ------- ------    -- ------- ------- ------- ------
 1       0    10      10      0.0     1       0    10      10      0.0     1       0    10      10      0.0
 2    9525    15      12     -3.0     2   13600    15      12     -3.0     2   19050    15      12     -3.0
 3   38700    25      22     -3.0     3   51800    15      22      7.0     3   77400    25      22     -3.0
 4   82500    25      24     -1.0     4   51850    25      22     -3.0     4  156150    28      22     -6.0
 5   93700    28      24     -4.0     5   82500    25      24     -1.0     5  165000    28      24     -4.0
 6  157500    28      32      4.0     6  133850    28      24     -4.0     6  237950    33      24     -9.0
 7  195450    33      32     -1.0     7  157500    28      32      4.0     7  315000    33      32     -1.0
 8  200000    33      35      2.0     8  200000    28      35      7.0     8  400000    33      35      2.0
 9  424950    35      35      0.0     9  216700    33      35      2.0     9  424950    35      35      0.0
10  426700    39.6    35     -4.6    10  424950    35      35      0.0    10  480050    39.6    35     -4.6
11  500000    39.6    37     -2.6    11  453350    39.6    35     -4.6    11  600000    39.6    37     -2.6
                                     12  500000    39.6    37     -2.6
The above tables were created by merging the brackets under current law and the Senate bill. The tables and following plots were generated by the interactive application at this link. As can be seen, the new rates are generally lower except for a few brackets (such as $157,500 to $195,450 for single filers) where the tax rate is slightly higher. These would seem to generally be more than compensated by lower rates in the brackets below them. However, the final bill does give single and head of household filers higher rates over all or most of the incomes from $157,500 to $424,950. This can be seen in the following plots:

2017 GOP Tax Cut (dollars) - Effect of New Brackets - Single, no children, 437000 income, standard deduction 2017 GOP Tax Cut (dollars) - Effect of New Brackets - Household, no children, 440000 income, standard deduction 2017 GOP Tax Cut (dollars) - Effect of New Brackets - Married, no children, 440000 income, standard deduction

Clicking on any of the above or following plots to enlarge them to full size. Red points indicate taxes for which the taxpayer receives a refund under both the current and new laws and black points indicate taxes for which the taxpayer pays taxes under both the current and new laws. The blue points are taxes for which the taxpayer pays taxes under the current law but receives a refund (or pays nothing) under the new law or vice-versa.

As can be seen, single and household filers actually see a tax increase in the area around $440,000 due to these higher rates. On the other hand, married filers tend to see progressively larger tax cuts over this entire range. Still, it does appear that single and head of household filers will likewise see gains (though somewhat smaller) up to $160,000.

Effect of the Near Doubling of the Standard Deduction and the Elimination of the Personal Exemption

As stated in the first point from the White House fact sheet, the standard deduction will nearly double, increasing by the amounts listed for single filers, heads of households, and married couples. However, the fact sheet makes no mention of the fact that personal exemptions are being eliminated. Factoring this in, a single taxpayer will lose $4,150 of the $5,500 increase in the standard deduction, resulting in a net gain of just $1,350 (12000-6500-4150). A head of household will lose $4,150 of the $8,450 increase in the standard deduction, resulting in a net gain of $4,300 (18000-9550-4150). Finally, a married couple will lose $8,300 (for 2 exemptions) of the $11,000 increase in the standard deduction, resulting in a net gain of just $2,700 (24000-13000-8300). Hence, the net gain in deductions will be about 20.7 percent (1350/6500 or 2700/13000) rather than the expected 84.6 percent (5500/6500 or 11000/13000) for single and married filers. For head of household filers, the net gain will be a bit larger 45 percent (4300/9550) rather than the expected 88.5 percent (8450/9550).

As mentioned above, the standard deduction will cause a net increase of $1,350, $4,300, and $2,700 for single, head of household, and married filers, respectively. However, this will be an increase in taxable income and will mean a larger dollar tax cut for taxpayers who have a higher top-marginal rate. This can be seen in the following plots:

2017 GOP Tax Cut (dollars) - Effect of Changes in Standard Deduction and Exemptions - Single, no children, 440000 income, standard deduction 2017 GOP Tax Cut (dollars) - Effect of Changes in Standard Deduction and Exemptions - Household, no children, 437000 income, standard deduction 2017 GOP Tax Cut (dollars) - Effect of Changes in Standard Deduction and Exemptions - Married, no children, 437000 income, standard deduction

Effect of the Doubling of the Child Tax Credit and the Elimination of the Child Exemption

The increase in the child tax credit has a similar problem due to the loss of the exemption for each child. For a taxpayer with a new top marginal rate of 22 percent, the loss of a $4,150 exemption will increase their taxes by $913 (4150*0.22), just $87 short of the increase in the child tax credit of $1,000. Hence, that taxpayer will gain just 87 dollars. For the new marginal rates of 10 and 12 percent, the gains will be $585 (1000-4150*0.10) and $502 (1000-4150*0.12), respectively. However, this only applies to single and head of household filers making up to $75,000 and married filers making up to $110,000. Above that, the child credit starts to phase out under current law but not under the Senate bill. This can be seen in the following plots:

2017 GOP Tax Cut (dollars) - Effect of Changes in Child Tax Credit and Exemptions - Household, 1 child, 75000 income, standard deduction 2017 GOP Tax Cut (dollars) - Effect of Changes in Child Tax Credit and Exemptions - Married, 1 child, 110000 income, standard deduction

Effect of the New $500 Dependent Credit and the Elimination of the Dependent Exemption

The loss of the exemption creates an even bigger problem for dependents who are not children. For each of these dependents, the Senate bill provides a $500 credit. This means that a taxpayer will experience a loss of $500 greater than they would if that dependent were a child. Hence, a taxpayer with a top marginal rate of 22 percent will see a tax increase of $413 (87-500) for each non-child dependent over what they would have seen otherwise. A taxpayer with a top marginal rate of 10 and 12 percent will see small decreases in their taxes of $85 and $2, respectively. At the top marginal rates of 22, 24, 32, 35, and 38.5 percent, it causes tax increases of $413, $496, $828, $953, and $1,098, respectively. These changes in taxes due just to the loss of the exemption and the new $500 credit can be seen in the following plots:

2017 GOP Tax Cut (dollars) - Effect of Changes in Dependent Tax Credit and Exemptions - Household, 1 nonchild dependent, 75000 income, standard deduction 2017 GOP Tax Cut (dollars) - Effect of Changes in Dependent Tax Credit and Exemptions - Married, 1 nonchild dependent, 110000 income, standard deduction

Summary

In summary, the Senate bill causes the following changes:

  1. The change in the brackets cause a general increase in the tax cut except for incomes from $157,500 to $424,950 for single and head of household filers.

  2. The increase in the standard deduction (along with the loss of the taxpayer exemptions) causes net decreases of $1,350, $4,300, and $2,700 in taxable income for single, head of household, and married filers, respectively. This results in tax cuts ranging from $135, $430, and $270 for single, head of household, and married filers with a top marginal rate of 10 percent to about $500, $1,591, $999 for those filers with top marginal rate of 37 percent.

  3. The increase in the child tax credit (along with the loss of the child exemption) causes tax cuts of $585, $502, and $87 for taxpayers with top marginal rates of 10, 12, and 22 percent, respectively. This jumps up to around the full $1,000 after $75,000 for single and head of household filers and after $110,000 for married filers due to the fact that the credit no longer phases out at that level under the Senate bill. However, this then declines to nearly a $1,600 tax increase at the top marginal rate of 37 percent where the credit phases out under the Senate bill.

  4. The new credit for nonchild dependents (along with the loss of the dependent exemption) causes tax cuts of $85, and $2 for taxpayers with top marginal rates of 10, 12 percent, respectively. At the top marginal rates of 22, 24, 32, 35, and 37 percent, it causes tax increases of $413, $496, $828, $953, and $1,036, respectively.
This last item suggests that dependents may cause many taxpayers to have their taxes increase under the Senate bill. The following plots show the effect of declaring one nonchild dependent on the taxes of head of household and married filers:

2017 GOP Tax Cut (dollars) - Effect of All Changes - Household, 1 nonchild dependent, 40000 income, standard deduction 2017 GOP Tax Cut (dollars) - Effect of All Changes - Married, 1 nonchild dependent, 55500 income, standard deduction

As can be seen, there are no tax increases except for head of household filers with incomes over $300,000 (caused by the increase in rates above $160,000). This is likely due to the benefit provided by the increase in the standard deduction. The following plots show the same filers with itemized deductions equal to the new standard deduction:

2017 GOP Tax Cut (dollars) - Effect of All Changes - Household, 1 nonchild dependent, 40000 income, 18000 itemized 2017 GOP Tax Cut (dollars) - Effect of All Changes - Married, 1 nonchild dependent, 55500 income, 24000 itemized

As can be seen, taxpayers now see an increase in taxes up to incomes of about $56,000 for head of household filers and $88,000 for married filers. This is as expected, given the preceding analysis of specific changes in Senate bill. Hence, this analysis aids in finding winners and losers that may not be apparent when simply looking at the assorted taxpayer examples that have been put out by various organizations. In addition, this analysis shows that the benefits of the doubling of the standard deduction and child tax credit is not as large as they appear once the loss of the taxpayer and child exemptions are included. Also, the benefit of the decrease in brackets reverses for incomes from $157,500 to $424,950 for single and head of household filers. Finally, it show that the benefit of the credit for nonchild dependents is more than offset by the loss of the dependent exemption.

Wednesday, December 6, 2017

The Problems with "Taxpayer Examples" (Part 3)

On December 4, the House debated and voted on the motion to go to conference with the Senate on the Republican tax reform bill. A transcript of the debate can be found in the Congressional Record and a video can be found at this link. As mentioned here, Kevin Brady had been named the conference chair by Paul Ryan and he spoke many times throughout the debate. In the process, he offered numerous examples of taxpayers who would get a tax cut from the bill. In fact, each example appeared to follow a Democrat speaker and show a family from their district that would get a tax cut. Following are the examples, taken from the Congressional Record. In addition, each example is preceded by the time that it occurred and can be found in the video. The list under the video allows the user to jump to the exact time desired.

1. (0:50:09) Mr. Speaker, I would point out that a family of four in Michigan’s Ninth District will save over $1,700 each and every year.

2. (0:55:31) Mr. Speaker, I would note that the average family of four making $59,000 a year in the 35th District of Texas will see a tax cut of over $1,100.

3. (1:00:20) Mr. Speaker, I would point out that the average family of four in the Fifth District of California will see a tax cut of over $2,370.

4. (1:06:03) Mr. Speaker, I am proud to remind the House that a family of four in Connecticut’s First District will see a tax cut of $3,858 each and every year.

5. (1:11:12) Mr. Speaker, I would note that a family of four in Oregon’s Third District will see tax savings of $2,256.

6. (1:12.53) Mr. Speaker, that family of four in New Jersey’s Ninth District making $90,000 a year, two workers, will see a tax cut of $2,044.

7. (1:14:52) Mr. Speaker, I am pleased to report that the median family of four in New York’s 14th District making $63,000 a year working hard will see a tax cut of $1,251.

8. (1:16:38) Mr. Speaker, I am proud to report that that median family of four with two kids in the Seventh District of Illinois making $73,000 really working hard where every dollar counts will see a tax cut of $1,546.

9. (1:18:31) Mr. Speaker, I am proud to report that that median family of four making $74,000, blue-collar workers in the 26th District of New York, will see a tax cut of $1,562.

10. (1:20:14) Mr. Speaker, I would point out that the median family of four making $65,000 in Alabama’s Seventh District would see a tax cut of $1,311.

11. (1:22:05) Mr. Speaker, I point out that a median family of four with two kids in Washington’s First District will see a tax cut of $5,008.

12. (1:23:43) Mr. Speaker, I would point out that that hardworking family of four in California’s 38th District would see a tax cut of $1,870.

13. (1:25:23) Mr. Speaker, I would point out that that hardworking family of four in the 27th District of California will see a tax cut of $2,249.

14. (1:30:19) Mr. Speaker, I point out that a middle class family making $74,000, in the Fifth District of South Carolina, will see a tax cut of $1,568.

15. (1:36:27) Mr. Speaker, I am proud to report that a median, hardworking, middle class family in the Fifth District of Maryland, will see a tax cut of $4,158.

16. (1:49:42) I would point out that a hardworking middle class family in the 12th District of California will see a tax cut of $5,508.

The following table summarizes these 16 examples:

                                                                                          HOUSE    DIFFERENCE     SENATE
 N          FAMILY DESCRIPTION  CONGRESSIONAL DISTRICT             INCOME      TAX CUT     2018  AMOUNT  PERCENT    2018 
--  --------------------------  --------------------------------  -------  ------------  ------  ------  -------  ------        
 1              family of four  Michigan’s Ninth District                  over $1,700*
 2      average family of four  35th District of Texas            $59,000  over $1,100   1105.5     5.5    0.500  1638.5
 3      average family of four  Fifth District of California               over $2,370
 4              family of four  Connecticut’s First District                    $3,858*
 5              family of four  Oregon’s Third District                         $2,256
 6              family of four  New Jersey’s Ninth District       $90,000       $2,044   2035.5    -8.5   -0.416  2568.5
 7       median family of four  New York’s 14th District          $63,000       $1,251   1225.5   -25.5   -2.038  1758.5
 8       median family of four  Seventh District of Illinois      $73,000       $1,546   1525.5   -20.5   -1.326  2058.5
 9       median family of four  26th District of New York         $74,000       $1,562   1555.5    -6.5   -0.416  2088.5
10       median family of four  Alabama’s Seventh District        $65,000       $1,311   1285.5   -25.5   -1.945  1818.5
11       median family of four  Washington’s First District                     $5,008
12              family of four  California’s 38th District                      $1,870
13              family of four  27th District of California                     $2,249
14         middle class family  Fifth District of South Carolina  $74,000       $1,568   1555.5   -12.5   -0.797  2088.5
15  median middle class family  Fifth District of Maryland                      $4,158
16         middle class family  12th District of California                     $5,508

* each and every year
The first four columns come from Brady's examples. As can be seen, every single one of the first 13 is a "family of four" though two are described as "average" and 5 are described as "median". The last 3 examples are described as "middle class family". It appears that Brady was likely referring to a family of four since the first of the three examples seem to match the numbers for a family of four under the House plan. The remainder of this analysis will assume that the last three examples are for a family of four but there's no way to be sure, especially for the last two.

The last four columns give the tax cuts according to the latest House and Senate plan according to this tax cut calculator. As can be seen, Brady only stated the income for 7 of his 16 examples. It's unclear whether this is an oversight or whether he attempted to use the median or average income for the districts in question. In any case, the tax cuts for the 7 examples for which he does give incomes appear to be much closer to those given by the House plan than the Senate plan. The largest discrepancy is $25.5 and 2.038 percent.

The following plot shows the dollar amount of all tax cuts under the current House plan for incomes under $300,000:

This plot was generated by going to the tax cut calculator, selecting "Example 1 - Family of Four (House)" for "Tax Examples", selecting "Current 2018" and "House 2018" for "Tax Plan 1" and "Tax Plan 2", and setting "Wage Maximum" to 300000. As can be seen, the plot shows tax cuts ranging from about $1,000 to $8,000. This can be used to estimate the incomes for the tax cuts for which Brady provided none. For example, the last tax cut of $5,508 appears to be for an income of about $250,000.

In fact, it happens that all of the tax cuts missing incomes in the table above are in the second and fifth segments of the above plot. For the second and fifth segments, the income can be calculated using the following two formulas, respectively:

2nd segment: income = (taxcut * 100/3) + 22150
5th segment: income = (taxcut * 100/3) + 68833.33
Using this second formula for the last tax cut of $5,508 gives (5508 * 100/3) + 68833 which equals $252,433. Using these formulas to fill in the above table gives the following:
                                                                                          HOUSE    DIFFERENCE     SENATE   HOUSEHOLD INCOME
 N          FAMILY DESCRIPTION  CONGRESSIONAL DISTRICT             INCOME      TAX CUT     2018  AMOUNT  PERCENT    2018    MEDIAN     MEAN
--  --------------------------  --------------------------------  -------  ------------  ------  ------  -------  ------  --------  --------
 1              family of four  Michigan’s Ninth District          80,000  over $1,700*  1735.5    35.5           2268.5   $56,582   $78,160
 2      average family of four  35th District of Texas            $59,000  over $1,100   1105.5     5.5    0.500  1638.5   $48,490   $61,107
 3      average family of four  Fifth District of California      101,200  over $2,370   2371.5     1.5           2904.5   $73,006   $94,695
 4              family of four  Connecticut’s First District      197,500       $3,858*  3860.0     2.0           4916.0   $70,215   $92,139
 5              family of four  Oregon’s Third District            97,350       $2,256   2256.0     0.0           2789.0   $63,231   $83,699
 6              family of four  New Jersey’s Ninth District       $90,000       $2,044   2035.5    -8.5   -0.416  2568.5   $64,964   $91,675
 7       median family of four  New York’s 14th District          $63,000       $1,251   1225.5   -25.5   -2.038  1758.5   $53,512   $70,658
 8       median family of four  Seventh District of Illinois      $73,000       $1,546   1525.5   -20.5   -1.326  2058.5   $54,147   $88,912
 9       median family of four  26th District of New York         $74,000       $1,562   1555.5    -6.5   -0.416  2088.5   $47,358   $64,320
10       median family of four  Alabama’s Seventh District        $65,000       $1,311   1285.5   -25.5   -1.945  1818.5   $34,664   $50,729
11       median family of four  Washington’s First District       235,770       $5,008   5008.1     0.1           6446.8   $91,018  $113,292
12              family of four  California’s 38th District         84,480       $1,870   1869.9    -0.1           2402.9   $66,421   $83,039
13              family of four  27th District of California        97,120       $2,249   2249.1     0.1           2782.1   $71,223   $99,899
14         middle class family  Fifth District of South Carolina  $74,000       $1,568   1555.5   -12.5   -0.797  2088.5   $48,743   $66,232
15  median middle class family  Fifth District of Maryland        207,430       $4,158   4157.9    -0.1           5313.2   $95,442  $109,200
16         middle class family  12th District of California       252,430       $5,508   5507.9    -0.1           7113.2  $105,918  $146,341

* each and every year
As can be seen, some of the calculated incomes are very high with 3 of them over $200,000 and one very nearly equal to it. The last example lists an income of $252,430 for the 12th District of California but the U.S. Census lists the median and mean household income to be $105,918 and $146,341, respectively, for this district. The following shows the corresponding incomes for all four of these high-income districts:
                                                                            HOUSEHOLD INCOME
 N          FAMILY DESCRIPTION  CONGRESSIONAL DISTRICT             INCOME    MEDIAN     MEAN
--  --------------------------  --------------------------------  -------  --------  --------
 4              family of four  Connecticut’s First District      197,500   $70,215   $92,139
11       median family of four  Washington’s First District       235,770   $91,018  $113,292
15  median middle class family  Fifth District of Maryland        207,430   $95,442  $109,200
16         middle class family  12th District of California       252,430  $105,918  $146,341
As can be seen, all four have median and mean incomes far, far less than those implied by Brady's tax cuts. It's therefore unclear why Brady chose them unless it was to increase the reported tax cut. In any event, the table showing all 16 examples above shows that all of the incomes stated or implied by Brady were greater than the median and all but 5 were greater than the mean income reported by the U.S Census for that district.

Likely much more important, however, is the fact all of the examples are for a family of four. Following are the calculation shown on the "Calculation of Taxes" tab for Example 2 above:

Example 1 - Family of Four Making $59,000 Per Year

                      Tax Plan     2018 House 2018   Change
1  --------------------------- --------   -------- --------
2  Wages, salaries, tips, etc.    59000      59000        0
3   Tax-deferred contributions        0          0        0
4                   Exemptions   -16600          0    16600
5          Standard deductions   -13000     -24400   -11400
6          Itemized deductions        0          0        0
7  --------------------------- --------   -------- --------
8                      Medical        0          0        0
9        State and local taxes        0          0        0
10           Real estate taxes        0          0        0
11      Home mortgage interest        0          0        0
12                     Charity        0          0        0
13   Misc. repealed deductions        0          0        0
14 --------------------------- --------   -------- --------
15              Taxable income    29400      34600     5200
16 --------------------------- --------   -------- --------
17       Tax on taxable income   3457.5       4152    694.5
18                Child credit    -2000      -3200    -1200
19      Other dependent credit        0          0        0
20               Parent credit        0       -600     -600
21    Earned income tax credit        0          0        0
22 --------------------------- --------   -------- --------
23                  Income tax   1457.5        352  -1105.5
As can be seen, the tax cut in this case is chiefly due to the increase in the child credit and the standard deduction. Hence, the families that will get the largest tax cuts will tend to be those which have children and which are currently using the standard deduction. It's likely no coincidence that this was the type of family used by Brady in every single one of this 16 examples. This is an obvious example of cherry-picking. To be consistent, Brady should propose that the tax bill be renamed "Tax Cut for the Family of Four using the Standard Deduction Act".

It's important that the Democratic party continue to point to distributional studies of the tax cut such as the recent CBO and JCT studies. However, it would seem that they also need to respond to the taxpayer examples that Republicans continue to mention, verifying that they are correct, calling out mistakes and/or cherry-picking, and coming up with reasonable counterexamples. The distributional studies may be more meaningful and complete in some ways but the taxpayer examples are easier to verify and understand by the media and the public. Hence, both need to be addressed.

The Problems with "Taxpayer Examples"

The Problems with "Taxpayer Examples" (Part 2)

Who Will See Their Taxes Go Up under the House and Senate Plans?

About Me

I became interested in U.S. budget and economic matters back in 1992, the first time that I remember the debt becoming a major issue in a presidential election. Along with this blog, I have a website on the subject at http://www.econdataus.com/budget.html. I have blogged further about my motivations for creating this blog and website at this link. Recently, I've been working on replicating studies such as the analysis at this link.

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