Only a Few of the 2001 and 2003 Tax Cut Provisions Benefit Families with Modest Incomes: But a Superficial Treasury Analysis Obscures this Fact

A recent Treasury Department release, “Tax Relief in 2001 Through 2011,” shows the reduction in taxes that four hypothetical families with modest incomes are receiving as a result of “legislation enacted during the President’s term in office.”^[1] The implication of the release is that the 2001 and 2003 tax cuts have been highly beneficial for such families and hence should be extended.

An examination of the calculations on which the paper rests shows, however, that 100 percent of the tax benefits the Treasury computed for all four of its example families come from just three provisions of the 2001 and 2003 legislation: (1) the improvements to the Child Tax Credit; (2) the creation of the 10-percent income tax bracket; and (3) “marriage penalty” relief. By reporting only the aggregate effect of the 2001 and 2003 tax cuts on these representative families, Treasury’s release masks this fact. Some readers may mistakenly conclude from the release that many of the tax cuts enacted in 2001 and 2003 are contributing to the overall tax benefits the example families are receiving, when, in fact, few of the 2001 and 2003 tax-cut provisions touch low- and middle-income people. The Treasury release consequently is likely to do more to obscure than to illuminate the choices policymakers face regarding which provisions of the 2001 and 2003 tax cuts to extend and which to allow to expire as scheduled at the end of 2010.

Treasury’s Four Families Benefit Only From the Child Tax Credit Improvement, the 10 Percent Income Tax Bracket, and Marriage Penalty Relief

The Treasury’s first hypothetical family is a married couple with two children in which one spouse earned $40,000 in 2007. The Treasury release reports that this family paid $2,053 less in taxes as a result of the 2001 and 2003 tax cuts, compared to what it would have paid if the tax cuts had not been enacted.^[2] The Treasury document does not make clear that this relief comes entirely from three provisions of the tax legislation. The family’s $2,053 tax cut consists of ^[3] $1,000 from the improvement in the Child Tax Credit^[4], $783 from the 10 percent tax rate on the lowest income-tax bracket,^[5] and $270 in “marriage penalty” relief.^[6]

As Table 1 makes plain, the Child Tax Credit, 10 percent income tax bracket, and (to a much lesser extent) marriage penalty relief are responsible for all of the tax cuts that all four of Treasury’s representative families receive.^[7]

Improvements to the Child Tax Credit, which allow each of the hypothetical families to receive the maximum credit of $1,000 per child, are responsible for more than 30 percent of each of these families’ tax reductions and account for more than half of the tax cut that two of the families get. The creation of the 10 percent tax bracket accounts for at least 36 percent of each of the families’ tax cuts.

By contrast, none of Treasury’s example families benefit from any of the other tax cuts enacted in 2001 and 2003, including the reductions in taxes on capital gains and dividends, the reductions in tax rates for the top four tax brackets, the curtailment of the estate tax, and various other provisions.

Only Three of the Tax Cuts Deliver Real Benefits to Low- and Moderate-Income Households

This finding is not limited to Treasury’s example families. Tax Policy Center (TPC) data confirm that the only tax provisions enacted in 2001 or 2003 that deliver significant benefits to most households in the middle 20 percent of the income distribution — as well as to households in the bottom 40 percent of the distribution — are the improvements in the child credit, the 10 percent income tax bracket, and marriage penalty relief.

For example, TPC estimates that households in the middle income quintile will receive an average tax cut in 2010 of $414 from the 10 percent income tax bracket, $227 from the improvements in the Child Tax Credit, and $83 from marriage penalty relief. (See Table 2.) The total average tax cut from these three provisions for households in the middle of the income scale will be $724. In contrast, the average tax cut in 2010 for households in the middle income quintile from the reductions in the top income rates, the capital gains tax cut, and the dividend tax cut combined will be $30. (See Table 3.)

The tax benefits from the reductions in the top rates and the capital gains and dividend tax cuts accrue overwhelmingly to households at higher income levels. For example, while households in the middle 20 percent of the income distribution will receive an average of only $8 in 2010 from the 25 percent and 28 percent tax brackets, households in the top 20 percent of the income distribution will receive an average of $1,535 from these tax cuts, and those in the top 1 percent of the population will receive an average gain of $3,269. (See Appendix Table 1.)

Similarly, while households in the middle 20 percent of the income distribution will receive an average tax reduction of $22 from the capital gains and dividend tax cuts in 2010, households in the top 20 percent of the income distribution will receive an average tax benefit of $842 from these provisions, and those in the top one percent will receive an average benefit of $10,885.

Indeed, 85 percent of the benefits from extending the 25 percent tax bracket, 89 percent of the benefits from extending the capital gains and dividend tax cuts, and virtually 100 percent of the benefits of extending the 28 percent bracket and the higher brackets would flow to taxpayers in the top 20 percent of the income distribution. (See Appendix Table 2.) Moreover, the top 1 percent of households would capture 58 percent of the benefits from extending the capital gains and dividend tax cuts. (See Appendix Table 3.)

Households at the top of the income scale also will receive extremely large tax cuts as a result of the reductions in rates in the two top tax brackets — what are now the 33 percent and 35 percent brackets. The Tax Policy Center data do not provide estimates of the magnitude of the average tax reduction in 2010 by income group as a result of the rate reductions in the two top brackets. The TPC data do show, however, that the total tax cut in 2010 as a result of all provisions enacted in the 2001 and 2003 legislation will equal an average of $7,452 for those in the top 20 percent of the population, $62,515 for those in the top 1 percent, and $157,573 for those with incomes over $1 million. By contrast, the total average tax cut for people in the middle 20 percent for the population will be $814; for those in the bottom 20 percent, the average tax cut will be $37.^[8]

Conclusion

Policymakers must decide in the next two years which of the tax cuts enacted in 2001 and 2003 to extend and which to allow to expire at the end of 2010. One factor for policymakers to consider in making these decisions is which households benefit from each of the tax provisions.

Treasury’s recent analysis does not help policymakers with this task: it masks the fact that while improvements to the Child Tax Credit, the 10 percent income tax bracket, and marriage penalty relief benefit middle and low-income families along with other families, other costly tax cuts enacted in 2001 and 2003 deliver virtually no relief to low- and middle-income Americans and concentrate their benefits on people much higher on the income spectrum.

Furthermore, extending the tax provisions that are poor at delivering relief to low- and middle-income Americans would be costly: it would cost $1.02 trillion over 2009 to 2018 to extend the cuts in the top four marginal income tax rates, the capital gains and dividend tax cuts, and provisions that eliminate the personal exemption phase-out and the phase-out of itemized deductions for high-income taxpayers.^[9] Extending the elimination of the estate tax through to 2018 would cost an additional $670 billion. By contrast, it would cost $678 billion to extend through to 2018 the Child Tax Credit improvement, the 10 percent income tax bracket, and marriage penalty relief, the three tax cuts that do benefit low- and middle-income families.^[10]

Appendix: Distribution of the Tax Cuts by Income Percentile