Revised February 3, 2000
LARGE COST OF THE ARCHER "MARRIAGE PENALTY RELIEF" PROVISIONS REFLECTS POOR TARGETING
Much of the Benefits Would Go to High-Income Taxpayers
or Those Who Already Receive Marriage Bonuses
by Iris J. Lav and James Sly
On February 2, the House Ways and Means Committee passed a $182 billion marriage-tax penalty relief proposal offered by its chairman, Representative Bill Archer. Although two of the proposal's marriage penalty provisions are focused on middle- or low-income families, the proposal as a whole is poorly targeted. The proposal's costliest provision, which accounts for nearly two-thirds of the package's overall cost when all provisions are in full effect, benefits only taxpayers in the top quarter of the income distribution. In addition, the proposal would provide as much as half of its "marriage penalty relief" to families that already receive marriage bonuses.
The Archer plan contains three principal provisions related to marriage penalties. The first, and by far the most costly, of these would increase the income level at which the 15 percent tax bracket ends for married couples and the 28 percent bracket begins. The second provision would raise the standard deduction for married couples, setting it at twice the standard deduction for single taxpayers. A third, much smaller provision would increase the earned income tax credit for certain low- and moderate-income married couples with children.
The Joint Committee on Taxation estimates that the Archer proposal would cost $182 billion over 10 years. The expensive provision that would extend the 15 percent tax bracket would phase in gradually starting in 2003 and not take full effect until 2008; without this slow phase-in, the bill's 10-year cost would be much higher. The Joint Tax Committee estimate shows that when all of the plan's provisions are fully in effect in 2009 and 2010, the plan would cost $30 billion a year.
Once in full effect, the proposal to expand the 15 percent tax bracket would itself cost about $20 billion a year. That provision would exclusively benefit taxpayers in brackets higher than the current 15 percent bracket; no other taxpayers would be touched by it. Since only the top quarter of taxpayers are in brackets higher than the 15 percent bracket, only those in the top quarter of the income distribution would benefit from this provision.
The bill's tax reductions are not focused on married families that face marriage penalties. Nearly as many families receive marriage bonuses today as receive marriage penalties, and the bill would reduce their taxes as well. The proposal would confer tens of billions of dollars of "marriage penalty tax relief" on millions of married families that already receive marriage bonuses. As much as half of the $182 billion in tax cut benefits the bill would provide would go to reduce the taxes of families receiving marriage bonuses.
The Administration's marriage penalty relief proposals, by contrast, would not confer large benefits on higher-income taxpayers and would be targeted on those married families that face marriage penalties. As a result, the Administration's proposals would provide substantial marriage penalty relief at less than one-third the cost of the Archer plan. The Administration's marriage penalty proposals would cost about $50 billion over 10 years.
Policymakers should exercise caution in providing general tax cuts under the rubric of "marriage penalty relief." As the year unfolds, there are likely to be other substantial demands on available resources, including both an array of other tax cuts and various program initiatives, such as proposals to increase resources for defense, education and agriculture, among other areas, reduce the ranks of the uninsured, and provide a Medicare prescription drug benefit. Moreover, the available surpluses are much smaller than is commonly understood.
The surplus projection issued by the Congressional Budget Office that is based on realistic assumptions about discretionary spending i.e., the projection that assumes discretionary spending will stay even with inflation shows a projected non-Social Security surplus of $838 billion over 10 years. This projection does not, however, reflect the costs of various tax and entitlement legislation that is virtually certain to be enacted: legislation to extend an array of expiring tax credits that Congress always extends; legislation to prevent the Alternative Minimum Tax from hitting millions of middle-class taxpayers and raising their taxes, as will occur if the law is not modified; and legislation to provide additional farm price support payments to farmers (beyond those the Freedom to Farm Act provides), as Congress has done each of the past two years. Legislation in these three areas alone could reduce the available non-Social Security surplus to about $600 billion over the next 10 years. The Archer marriage penalty proposal would eat up nearly one-third of this amount.
Furthermore, policymakers ought to set some of these projected surpluses aside as a hedge against the possibility that some of the surpluses may not materialize. CBO notes that surplus projections made five to 10 years in advance are highly uncertain; 80 percent of the non-Social Security surpluses projected for the next 10 years would come in the second five years of this period. CBO also reports that if the economic growth rate is just one-tenth of one percentage point a year lower than it has forecast, total budget surpluses will be about $200 billion smaller than it has projected. Congress also may decide to set aside a substantial portion of the non-Social Security surplus to help restore long-term Medicare solvency, which would represent a prudent course.
For these reasons, tax and spending proposals considered this year should be well-designed and carefully targeted. Congress should establish a budget framework that sets prudent limits on total tax cuts and spending increases and establishes priorities for the use of surplus funds before it rushes pell-mell to begin consuming these resources. The tax plan the Ways and Means Committee approved February 2 does not meet these criteria.
Archer Plan Favors Higher-Income Taxpayers
The most expensive provision in the Archer bill would raise the income level at which the 15 percent bracket ends for married couples and the 28 percent bracket begins. The Joint Tax Committee estimates show this provision would cost nearly $100 billion over the next 10 years even though it does not fully phase in until 2008. Once it is fully phased in, it would account for 65 percent of the plan's costs.
Because this provision would raise the income level at which the 15 percent bracket ends and the 28 percent bracket starts for married couples, it would benefit only those couples whose incomes exceed the level at which the 15 percent bracket now ends. A couple with two children would need to have income surpassing $62,400 (in 2000 dollars) to benefit.(1) Only one of every four taxpayers has income that places the taxpayer above the point at which the 15 percent bracket currently ends.(2)
Thus, when the provisions of the Archer plan are phased in fully, nearly two-thirds of its tax cuts would come from a provision that exclusively benefits taxpayers in the top quarter of the income distribution. This provision ultimately would cost nearly twice as much and provide nearly twice as much in tax cuts as the bill's other provisions combined.
A second provision in the Archer bill would increase the standard deduction for married couples. This approach focuses its tax benefits on middle-income families. Most higher-income families have sufficient expenses to itemize their deductions and do not use the standard deduction. Most low-income working families have no income tax liability and would not benefit. If this provision were effective in 2000, the standard deduction would increase by $1,450, which would generate a $218 tax cut for most couples in the 15 percent tax bracket. This provision would account for a little more than one-third of the plan's costs over the first 10 years and one-fourth of the plan's annual costs when all provisions of the plan are phased in fully.
The third proposed provision of the Archer plan is an increase in the amount of the earned income tax credit that certain married couples with low earnings can receive. This is the one provision of help to low-income married families. When all of the provisions of the plan are phased in fully, the EITC provision would represent four percent of the plan's annual costs. (This provision would account for six percent of the plan's costs over the first 10 years.)
Low-income married families can face marriage penalties that arise from the structure of the Earned Income Tax Credit. EITC marriage penalties occur when two people with earnings marry and their combined, higher income makes them ineligible for the EITC or places them at a point in the EITC "phase-out range" where they receive a smaller EITC than one or both of them would have received if they were still single.
The Archer proposal would reduce EITC marriage penalties by increasing by $2,000 the income level at which the EITC for married families begins to phase down, as well as the income level at which married families cease to qualify for any EITC benefits. For a husband and wife that each work full time at the minimum wage, this provision would alleviate about one-third of their marriage tax penalty.
The plan also contains a fourth provision a small measure to prevent some families' tax bills from rising as a result of complex interactions between the bill's provisions and the Alternative Minimum Tax. This provision would account for six percent of the legislation's total cost when all of the bill's provisions are fully implemented.
Archer Plan Does Not Focus Its Benefits on Families Facing Marriage Penalties
All three of the principal proposals in the Archer plan would provide general tax relief for married couples, rather than marriage penalty relief focused on families that actually face penalties.
Under the current tax structure, no one-earner couples face marriage penalties; they generally receive marriage bonuses. The families that face marriage penalties are two-earner families. The Archer plan, however, would reduce tax burdens for one-earner and two-earner couples alike. As a result, the plan is far more expensive than it needs to be to reduce marriage penalties.
Indeed, close to half of the cost of its "marriage penalty relief" provisions results from tax reductions that would increase marriage bonuses rather than reducing marriage penalties. When the Treasury Department examined a proposal to expand the standard deduction for married filers and to set the tax brackets for married couples at twice the level for single taxpayers a plan similar to the Archer proposal it found only about half of the resulting tax cuts would go to reduce marriage penalties; the rest would go to increasing marriages bonuses.(3)
Archer Plan Almost Certainly Would Cost More than $182 Billion Over 10 Years
The plan's $182 billion price tag over 10 years is a hefty one. Yet this estimate almost certainly understates the cost that these proposals would entail. The plan's cost is kept to this level only because the Joint Tax Committee's cost estimate assumes that the Alternative Minimum Tax will reach into the middle class and affect millions of middle-class taxpayers within a few years, as will occur if Congress stands idly by and fails to address this problem. If millions of middle-class families were to become subject to the AMT because Congress failed to act to prevent that from occurring, these families would not be able to receive the full benefits of the tax cuts in the Archer plan; the AMT would limit the degree to which these families could use these provisions.(4)
But no observer expects Congress or any Administration to allow the AMT which was designed to prevent tax avoidance by high-income taxpayers who make excessive use of tax shelters to affect millions of middle-class families and raise their taxes. Congress is virtually certain to address this matter. If the AMT problem is dealt with, as it surely will be, the cost of the tax cuts in the Archer plan would be substantially larger.
As a result, the cost of the Archer plan would likely turn out to be considerably greater than $182 billion over the next 10 years. Treasury estimates indicate that without these AMT effects, the Archer plan would cost an additional $17 billion a year by 2010, raising the bill's cost to nearly $50 billion a year by that time.
The Targeting of the Clinton Plan
The Clinton marriage penalty tax cut proposal contrasts sharply with the Archer plan. The Clinton proposal would target tax relief primarily on those couples that face marriage penalties.
Like the Archer plan, the Clinton proposal would reduce taxes for married couples by boosting the standard deduction they can claim and also by raising the income level at which the EITC begins to phase down for married families, as well as the level at which the EITC phases out for such families. But both its standard deduction and EITC provisions are targeted not on all married filers, but on two-earner married filers that is, the group of married families likely to face marriage penalties.
While the Clinton proposal would raise the standard deduction for both one-earner and two-earner married families, the increase would be nearly four times larger for the two-earner families. The plan would increase the standard deduction for married families by the amount of the second-earner's earnings, up to the point where the standard deduction for a couple is double the standard deduction a single filer can claim. If this provision were fully in effect for tax year 2000, the standard deduction a two-earner family can claim would increase by up to $1,950. One-earner couples would receive a standard deduction increase of $500. The standard deduction also would rise $250 for single filers.
The Clinton plan's EITC marriage penalty relief would similarly be focused on two-earner families, rather than all married families, in the relevant income range. The plan's EITC marriage penalty relief for these two-earner families would be about three-quarters the EITC marriage penalty relief they would receive under the Archer plan.
Finally, the Clinton plan does not raise the income level at which the 15 percent bracket ends for married filers and the 28 percent bracket begins. Because of its targeted design, the Clinton plan is able to provide significant marriage penalty relief at less than one-third of the cost of the Archer plan.(5)
Large Tax Cut Not Fiscally Prudent
The $182 billion cost of the Archer plan would be paid for out of the non-Social Security surplus. When policymakers consider how much of this surplus is available for tax cuts or program initiatives, they should take into account the costs of several pieces of legislation that are virtually certain to be enacted, such as legislation to extend the array of expiring tax credits that Congress extends every year or two, legislation to change the Alternative Minimum Tax so it does not hit increasing numbers of middle-class families, and legislation to provide additional payments to farmers beyond those the Freedom to Farm Act provides. Taking these factors into account suggests that, at most, the available surplus is approximately $607 billion over the next ten years. (See box on page 7.)
Competing for these funds are other tax cuts, defense and various domestic priorities, and shoring up the long-term solvency of the Medicare and Social Security systems. The size of the surplus also is heavily dependent upon what economic assumptions are used.
Taken together, these factors suggest a need for Congress to proceed cautiously before enacting proposals that would consume substantial parts of the projected non-Social Security surplus. These factors argue against passing, at the very beginning of the legislative session, a costly proposal that is not well targeted and that may consume resources that turn out to be needed for other, more pressing needs.
HOW BIG IS THE NON-SOCIAL SECURITY SURPLUS?
CBO has projected surpluses under several different sets of assumptions regarding discretionary spending levels. Under the highly unrealistic assumption that discretionary spending will be frozen at the fiscal year 2000 level for the next 10 years, with no adjustment for inflation for a decade, CBO projects the non-Social Security surplus will total $1.85 trillion.
Approximately $1 trillion of that amount, however, is essentially a mirage it vanishes once one makes the more realistic assumption that discretionary spending will be maintained at the 2000 level, adjusted for inflation, over the next 10 years. Under that assumption concerning discretionary spending, which is more likely to understate than overstate the amounts that actually will be appropriated, CBO projects the non-Social Security surplus will total $838 billion over the next 10 years.
This does not mean, however, that $838 billion will be available over the next 10 years to fund big tax cuts or large expansions in entitlement programs.
- Legislation that is virtually certain to be enacted to continue providing additional aid to farmers, extend expiring tax credits, and keep the Alternative Minimum Tax provisions from affecting increasing numbers of middle-class taxpayers could cost about $230 billion over 10 years.
- The remaining non-Social Security surpluses of approximately $600 billion may be depleted further by:
- Defense spending that grows faster than inflation. A majority in the Congress and the President apparently support real growth in defense spending in coming years.
- Non-defense discretionary spending that grows faster than inflation. Such spending grew about 20 percent in real terms over the last decade.
- Economic growth that turns out to be less robust than CBO is forecasting.
Before lawmakers make plans to use whatever non-Social Security surplus remains to fund big tax cuts or major entitlement expansions, they also should keep in mind that a substantial portion of the surplus almost certainly will be needed to help fund plans to ensure long-term Medicare and Social Security solvency. Proposals that make benefit changes or payroll tax increases in these programs of sufficient magnitude to restore long-term solvency (without a substantial infusion of general funds) are not likely to be politically viable. For example, the Medicare reform plan put forward by Senator John Breaux and Representative Bill Thomas, which seeks to reduce Medicare expenditure growth through changes that many lawmakers do not support, closes only one-quarter of the gap between projected Medicare expenditures and anticipated revenues over the next 30 years. It appears virtually inevitable that an infusion of revenue from the non-Social Security surplus ultimately will be needed as part of a Medicare solvency package. The same is likely to hold true for Social Security.
1. The income level at which the 15 percent bracket ends has been widely misreported as being $43,850 for married filers. The $43,850 figure, however, is the level of taxable income at which the 15 percent bracket ends for married filers; it is not the level of adjusted gross income at which filers move from the 15 percent to the 28 percent tax bracket. The lowest level of gross income at which the 15 percent bracket ends for a married family of four is $62,400.
2. Approximately three-fourths of all taxpayers pay taxes at the 15 percent rate or less. Approximately two-thirds of married taxpayers are in this category.
3. In 1999, the Treasury department conducted a study analyzing various proposals designed to provide major marriage penalty relief. The study estimated, for each proposal, how much of the "marriage penalty relief" would go to reduce marriage penalties and how much would go to increase marriage bonuses. The study found that 46 percent of the tax reductions resulting from raising the standard deduction for married couples so it would be twice the deduction for single taxpayers would go to increase marriage bonuses. The study also found that coupling such an increase in the standard deduction with an expansion in the tax brackets so that all of the brackets for married filers were double those for single filers would result in 52 percent of the total tax cut going to increase marriage bonuses.
The Archer plan would increase the standard deduction and the 15 percent tax bracket for married couples so both are double the levels for single filers. It also would expand the EITC for married couples. It would not expand the higher tax brackets. The percentage of the Archer tax cut that would go to increase marriage bonuses should be approximately the same or somewhat higher than the percentages under the proposals Treasury examined. The EITC expansion and small AMT provision represent such a small portion of the plan's total tax cut that they should not materially affect this percentage. Expanding the higher tax brackets a feature of one of the proposals that Treasury examined but that is not part of the Archer plan would provide larger tax cuts for families that Treasury found to have more marriage penalties relative to marriage bonuses than the rest of the population. This suggests that 50 percent or more of the tax cuts in the Archer package would go to increase marriage bonuses rather than reduce marriage penalties.
4. Indeed, the Treasury Department estimates that if the AMT provisions of current law were to remain unchanged, the Archer bill itself would cause eight million additional families to become subject to the AMT by 2010.
5. The Treasury Department estimates that the Administration's standard deduction proposal would cost $45 billion over 10 years. Its EITC marriage penalty relief proposal should add about $5 billion, for a total cost of about $50 billion.