Five Rules for Fiscally Responsible, Pro-Growth Tax Reform

From Heritage.org (May 7):

Fiscal conservatives generally support reducing the size and scope of the federal government, but few would have any qualms with acknowledging that certain federal spending is beneficial and warranted. Conservatives should also recognize that the details matter when it comes to tax cuts. Tax cuts can be highly beneficial, but certain tax cuts in certain situations can be counterproductive. With the United States facing a $2 trillion annual deficit (and growing) and already having accumulated $34.6 trillion of debt, a poorly designed tax cut could do more harm than good. A deficit-financed tax cut that fails to spur economic growth would exacerbate America’s fiscal situation and ultimately lead to future tax increases, higher inflation, or both.

On the other hand, a well-designed tax reform could dramatically improve the economy and the federal budget, especially over the long run. By spurring investment, innovation, higher employment, and increased productivity, strongly pro-growth tax reform can reduce the nation’s debt burden as a share of the economy. Advocates of higher taxes often ridicule the notion of tax cuts paying for themselves, but all that they can refute is the generalized statement that tax cuts always, unequivocally do pay for themselves. However, the idea that tax cuts never pay for themselves is equally absurd. Clearly, when tax rates are sufficiently high, they discourage productive activity so much as to become utterly counterproductive to the goal of deficit reduction.

No serious policymaker would advocate a 99 percent income tax bracket. People would not continue working and taking entrepreneurial risks if the government confiscated 99 cents for every additional dollar they earned. Such a tax would cost taxpayers dearly and destroy the federal budget in the process. However, a tax need not have a 99 percent rate to worsen the budget situation. Look no further than the spate of wealth taxes that European countries have tried and abandoned, and it becomes clear that poorly conceived taxes can be economic and budgetary disasters even with low statutory tax rates of 1 or 2 percent of wealth.

For tax reform to be economically beneficial and fiscally responsible, policymakers should mitigate the parts of the tax code that are especially anti-growth. Fiscally responsible, pro-growth tax reform improves incentives to work, save, invest, and innovate and removes unnecessary distortions and complications. It also makes the tax system simpler and fairer by repealing unjustifiable tax carveouts such as tax credits for politically favored businesses or activities.

This report briefly describes how the looming expiration of the 2017 Tax Cuts and Jobs Act (TCJA) will bring tax reform discussions to the forefront in 2025. It then explains why fiscally responsible tax reform should be strongly pro-growth, providing five basic rules for evaluating whether a tax-reform package would mostly spur a larger economy or just a larger deficit. It includes some recommendations and specific examples of tax changes that would satisfy these rules. However, the purpose of this report is not to provide a specific blueprint for the ideal tax reform but rather to describe general principles that should underlie effective reform.

Tax Reform and the Looming Tax Cliff

The next Congress will have to grapple with whether to extend some or all the provisions of the 2017 TCJA. Most of the TCJA will expire after December 31, 2025. Some of the provisions have already begun phasing out. If Congress fails to act, the expiration of the tax cuts would result in a large tax increase for most Americans. Alternatively, Congress may plot a different course for federal taxes by passing an altogether new reform.

How Congress decides to act will have important implications for the American people, the economy, and the federal budget. The TCJA included some very strong, pro-growth elements. It reduced excessively high taxes on businesses and corporations, which faced among the highest tax rates in the developed world. The improvements to the business tax code spurred job growth and higher wages.

The tax cuts also simplified and reduced the cost of capital investments by businesses through the allowance of full and immediate expensing of equipment and machinery. With expensing, businesses can simply deduct valid business expenses instead of using complicated, drawn-out depreciation schedules that diminish the value of tax deductions before they are claimed.

The TCJA was strong overall, but it was not perfect. Important pro-growth provisions, including expensing, were made temporary instead of permanent. The reforms added to the complexity of the international tax code and small business taxation. They increased the tax code’s use of refundable tax credits—payments to individuals with no net income tax liability. They left many problems in the tax system unaddressed, including many unjustifiable tax breaks. All this leaves an opportunity for further improvements in 2025. [read more]

Rules that Comrade Kamala (or as Tampon Tim called Harris a "prostitutor") will ignore. I do like the rule about keeping the tax cuts permanent.