Were you surprised that the 2017 tax overhaul, commonly referred as the Tax Cuts and Jobs Act (TCJA), did not increase revenues in 2018? Probably not, but several prominent conservatives, including Republicans in the House and Senate, former Reagan economist Art Laffer, and members of the Trump Administration, would be disappointed if they looked at the data. They have repeatedly claimed that TCJA either increased revenues or will pay for itself.
In principle, a tax cut could “pay for itself” if it spurred substantial economic growth. Revenues would rise from the combination of higher wages and hours worked, greater investment returns, and larger corporate profits. Under this scenario, that “dynamic” effect would more than offset the entire “static” revenue loss of the tax cut. TCJA, however, is not that tax cut. While some TCJA supporters are touting that nominal revenues were higher in fiscal year (FY) 2018 than in FY2017, that comparison does not address the question of TCJA’s effects. Nominal revenues rise because of inflation and economic growth. Adjusted for inflation, total revenues fell from FY2017 to FY2018 (Figure 1). Adjusted for the size of the economy, they fell even more. The most appropriate test of the revenue impact of TCJA is to compare (a) actual revenues in FY2018 with (b) predicted revenues in FY2018 assuming Congress had not passed the legislation. In fact, the actual amount of revenue collected in FY2018 was significantly lower than the Congressional Budget Office (CBO)’s projection of FY2018 revenue from January 2017—before the tax cuts were signed. The shortfall is $275 billion, or 7.6 percent of revenues that were expected before the tax cuts took place. Given that the economy grew, unless one can find some other change that caused a large revenue loss, the data imply that TCJA reduced revenues (Figure 1) – substantially.
Let’s look at the taxes most affected by TCJA (Figure 2). TCJA reduced the top corporate tax rate from 35 percent to 21 percent. Actual corporate income tax revenue in FY2018 was $135 billion lower than CBO’s projection from 2017, a decline of nearly 40 percent (almost exactly equal to the decline in the rate). TCJA reduced income taxes for most Americans, which led to a decline in revenues relative to prior projections. For individual income taxes, the gap between the pre-TCJA projections and actual collections in FY2018 was $97 billion, or 5.4 percent of what was expected before the tax cuts took place. These shortfalls can’t be attributed to errors in CBO’s pre-TCJA forecast. For example, TCJA did not directly affect payroll taxes, so looking at payroll taxes is a good test of whether the 2017 projections for FY2018 revenues were sound. In fact, payroll taxes only fell slightly – 1.7 percent – from projected values (Figure 2).
These effects are accentuated if one looks at taxes as a share of GDP (Table 1). In 2017, before the tax cuts were considered, CBO estimated that total revenues would be 18.1 percent of GDP in FY2018. With TCJA, revenues were only 16.4 percent of GDP. Similar patterns hold for individual income taxes and (in more extreme form) for corporate income taxes.
Due to data limitations, the revenue numbers in Table 1 are on a fiscal year (October 2017 – September 2018) basis. As a result, 2018 data include the three months prior to TCJA’s enactment. If the values were instead on a calendar year basis so that 2018 only included post-TCJA revenues, the revenue declines would be even larger. None of these findings should be surprising. Almost every major analysis of the legislation correctly predicted that revenues would fall in 2018 relative to a scenario without the tax cuts, with sources ranging from government entities such as the Congressional Budget Office and the Joint Committee on Taxation, to non-governmental think tanks such as the Tax Policy Center and the Tax Foundation, academic researchers in studies by Robert Barro and Jason Furman, and in analyses using the Penn-Wharton Budget Model. For those who might argue to “wait and see” what happens in 2019, the findings from the studies, cited above, offer little hope. On average, these models estimated that economic growth effects (the “dynamic effects”) will only offset about a quarter of the ten-year revenue loss associated with TCJA. Excluding the Tax Foundation, which is an outlier in these estimates, drops the average offset to less than 20 percent. There are many debates to have about TCJA, but whether it raised or reduced revenues in 2018 should not be one of them.