2016: Too Long to Wait for Tax Reform

Tax reform is in the news again and history provides some interesting lessons. The departing Ford administration started a conversation about tax reform in January 1977 with a visionary document, “Blueprints Basic Tax Reform.” Nearly a decade later, in 1986, a version of this proposal was enacted by a Democratic Congress and signed into law by a Republican President.

Now, 20 years later, the tax code is clearly broken again. This time, we can’t afford to wait so long to fix it.

From the perspective of tax purists, the biggest problems are the growth in complexity, special interest provisions and—above all—the kudzu-like entanglement of the individual alternative minimum tax (AMT), guaranteed to complicate tax filing for tens of millions of families if nothing is done.

But as we set about reform, we should focus not just on the internal logic of the tax code but also on how the tax code can ameliorate broader social problems, chiefly the rise of inequality. Larry Summers, Jason Bordoff and I pointed out in a Hamilton Project Strategy Paper that America has witnessed a $664 billion income shift from the bottom 80 percent of households to the top 1 percent of households since 1979. A recent bipartisan report put a more progressive tax code at the center of any response to the challenges of globalization and the associated growth in inequality.

The recent tax reform proposal by Ways and Means Chairman Charlie Rangel of New York follows from both premises. Tax nerds will find much to like. The elimination of the AMT has garnered the most attention, but the proposed expansion to the standard deduction will also simplify taxes for millions of families and the expansion in tax credits for low-income workers. As I explained in another opinion piece, the sweeping corporate tax reform proposal will improve the overall efficiency of the tax code.

But the Rangel proposal wisely recognizes that revisions in the tax code should also be mindful of the large increase in inequality in recent decades. One way to measure that increase in inequality is to note that the top 1 percent of households will all earn an additional $600,000 annually relative to what they would have earned if the income distribution was unchanged since 1979.

Estimates by the Tax Policy Center show that that the Rangel proposal would offset a mere 5 percent of that increase, a small price for political support for the institutions that allowed that wealth creation in the first place. It calls for raising about $867 billion through a surtax on high-income taxpayers and by reinstating the limit on itemized deductions and personal exemptions. All of this money would be used for tax cuts. The biggest is the repeal of the AMT but the plan also includes two significant proposals for low-income households: one to help ensure that more moderate-income families are not denied the full benefit of the child tax credit and another to offer a long overdue expansion of the Earned Income Tax Credit (EITC) for childless workers.

Much more remains to be done. The Rangel proposal would leave much of the complexities and inefficiencies of the individual tax code in place. It makes important strides in reforming corporate taxation but leaves unanswered the question about how to more broadly rationalize the tax treatment of business income, including ending the gap between the overly generous tax benefits for debt-financed corporate investment and the unnecessarily punitive taxes on equity-financed corporate investment.

With luck—and some leadership—the conversation about these and other important tax issues should not take another nine years to complete.