Three Important Points About the Republican Tax Plan
Accelerated depreciation would boost growth. Pass-through treatment for business owners is a sop to the well-off. And tax cuts just widen deficits.
Bloomberg, October 2, 2017
A broad new set of tax policies have been proposed by the White House and GOP Congressional leaders. They involve both tax reform and tax cuts.
Before it gets away from us, I have one small plea to make: can we please have an honest debate about tax policy? For once, I would like to see an actual policy debate that does not resort to magical thinking, faux austerity from deficit chicken-hawks, and the usual unproductive partisan dance.
There are numerous areas worthy of discussion, with the actual corporate rate (in my opinion) the least interesting of them.
To me, the most intriguing ideas are a variation of the full Depreciation of Capital Spending (DCS), the LLC pass-throughs, and the debate about the cost of the tax cuts. Let’s take each in turn.
1. Full Depreciation of Capital Spending: Do not overlook the potential impact DCS could have on the economy. It is an under-appreciated corporate reform would be to allow companies to write off their purchases as soon as they are made. Trucks, software, buildings, equipment, etc. are currently depreciated over time.[i] Instead, goes one of the main proposals circulating D.C., is to allow many if not most of these CapEx spends to be written down in year one. Spend $150,000 on a drilling rig or a truck, and that is setoff against your profits by the same dollar amount in year 1.
The previous version of this was implemented in 2003, to some small measure of success. (I discussed it here: “Accelerated Depreciation of Capital Spending”). Note it is a policy with bi-partisan support: it was passed again in 2014 and signed into law by President Obama.
From an economic perspective, it encourages companies to make capital purchases, perhaps even over hiring. Given the economy is near full employment, this should be more economically stimulative, with less of a drag on employment than the 2003 version[ii] was. Companies would prefer a lower tax rate over ACDS, but it is easy to understand why Congress likes this reform.
No. 2. Business owner pass through: This has appeal, especially for small business owners using a limited liability company structure. 1Admittedly, this is a bit of a sop to the upper middle class, which frequently selects LLCs or partnerships as the preferred legal corporate structure. Owners of pass-through entities are now taxed at their ordinary income tax rate — 39.6 percent for those with taxable income of more than $418,400 ($470,000 for married filers). The proposed plan would lower this rate to 25 percent. I know lots of folks licking their lips over this one.
No. 3. Unfunded tax cuts: This is the bullet point that generates the most magical thinking on the right. If you want tax cuts to be revenue-neutral, then you must offset the lower rates with some combination of eliminated deductions, closed loopholes and lower spending.
We have learned from past tax cuts, the beauty of supply-side economics isn’t that it reduces deficits or balances budgets; it’s that gullible rubes believe it will. The reality of human behavior requires more than just an incremental change in tax rates to significantly alter economic behavior.
This is why the George W. Bush tax cuts made the deficit bigger while doing little or nothing to stimulate the economy. It is also why the income-tax cuts in Kansas caused the budget to significantly deteriorate. 2 It’s why Ronald Reagan’s tax analysts, such as David Stockman and Bruce Bartlett, have all acknowledged that unfunded tax cuts don’t create growth. They only make the deficit bigger. You can come up with all sorts of counterarguments, but the overwhelming evidence is that people don’t change their economic behavior for modest reductions in tax rates.
Thus, tax cuts equal bigger deficits.
I don’t have a problem with this. I was never a big deficit hawk; and I wouldn’t mind paying 15 percent less in taxes. But let’s at least be honest about tax cuts and understand that its supporters adhere to a belief system founded on the principle of the consequences be damned. The usual suspects who were harping about deficits under Barack Obama suddenly lost their voices once the occupant of the White House changed; reducing deficits suddenly became a nonissue. These faux fiscal hawks are intellectually dishonest, hypocritical and potentially even dangerous. 3
Anyone who believes the new deficit fighters care about deficits has not been paying attention. These new deficit hawks — those who voted for an unfunded entitlement program (prescription drugs), who gave away trillions in unfunded tax cuts, who voted for a trillion-dollar war of choice — are simply not to be believed.
I often begin public discussions of climate change by disclosing my excessively large carbon footprint: My house is too big for just two people, I own too many inefficient cars, a small boat and I travel a lot by air. However, that doesn’t mean I need to lie or engage in agnotology when discussing the many ways people affect the climate.
I hope those in Washington share a similarly honest approach when debating tax policy.
1. Disclosure: I am paid via two different LLCs, one for my work at Bloomberg and a separate one for my work at Ritholtz Wealth Management. Hence, I stand to benefit personally by a substantial amount if this is passed, and have little objectivity about the topic.
2. Our earlier discussion on Kansas tax cuts see: “The Kansas Supply-Side Experiment Unravels” and “How Much Can You Cut Taxes? Don’t Ask Kansas.” My Bloomberg View colleague Justin Fox has made similar arguments.