Tax Cuts and Deficits

After nearly ten years and at the last minute, the Congress finally passed an extension of the 2001 tax cuts. But only for two more years. With a Republican House and a Democratic Senate and White House, there seems to be little chance for agreement on a permanent solution to the problem that was caused by a budgetary gimmick used in 2001.

For those who don't recall, the Congress generally has to make revenue neutral laws over a period of ten years. So if they cut taxes somewhere, they have to increase taxes somewhere else or they have to cut expenses somewhere. And, the Congress always likes to push problems into the future when other legislators will have to deal with the problems. So the tax cuts in 2001 were set to expire in 2011 with a reversion of the tax deductions, credits and other variables to the 2001 levels. Meanwhile, in the intervening nine years, they introduced voluminous changes in a law that was at risk of being repealed by a sunset provision. Trying to deal with all of the changes from 2002 through 2010 would be a legislative and regulatory nightmare.

After nine years of lower tax rates, increased deductions and exemption, plus hundreds of subsequent revisions, the argument about extending the 2001 cuts turned into an argument about whether extending them would be the same as a tax cut or whether letting them expire would be the same as a tax increase.

Take your pick. Is the glass half full or half empty?

For me, letting the cuts expire would be a tax increase on everyone, rich and poor alike. (Even the poor were getting "refundable" tax credits.) Simple logic suggests that you can't have a tax cut by letting the rates and exemptions remain the same. The alleged "cut" is simply a cut from a fictitious amount that might have been if the "cuts" were extended. The cuts have been embedded in the law for nine years and the potential repeal was a mere budget gimmick.

But the Liberals want to argue that extending the tax cuts is like a new tax cut and will cause an increase in the annual deficit and in the national debt. First, it's not a cut from the existing law. It's a continuation of what is. Second, the Liberal/Keynesian argument that taxpayers won't react to tax increases and that the higher rates will result in added revenue has been proven false time and again. The rich are sensitive to higher taxes and they are able to hire experts to help them find ways to modify their business or investments to postpone or avoid the higher taxes. As a last resort, if taxes are increased beyond their toleration level, they will vote with their feet and will leave the U.S. permanently.

For some details about the 2010 tax relief act, see http://finance.groups.yahoo.com/group/JacobsReport/message/881

Vern