"Knowledge will forever govern ignorance"

--James Madison--

"The real division is not between conservatives and revolutionaries, but between authoritarians and libertarians"

--George Orwell--

The Tax Cuts That Weren't

Why do I review some history of US taxation here? It isn't the most exciting subject. But it does relate to how our country runs today. Reagan and Congress sold the media and the public on the idea that two tax bills that resulted in huge tax increases for everybody, even the wealthy, were actually tax cuts for everybody.

They weren't. So, even in this current atmosphere of extreme tax rebellion, it would be possible to raise taxes while appearing not to. More on that at another time.

But President Obama would need to be able to sell it to the media and the public as well as Reagan sold his. I don't think he can do it.

Any tax provisions that he or any other Democrat proposes will be denounced by the wingnut noise machine as "socialism". It wouldn't matter what it was, either. An excise tax on caviar would be considered "socialist" by a surprising number of Americans.

There is a conservative meme that states "tax receipts rise after taxes are cut because tax cuts stimulate economic activity".

If you look at the numbers, they would seem to bear this out. The two biggest "Reagan tax cut" bills were TEFRA (1982) and the Tax Reform Act of 1986 (TRA '86). In the years following the "tax cuts" taking effect, tax receipts certainly did rise. But did they rise because rates were cut?

Or did they rise because the "Reagan Tax Cuts" weren't tax cuts at all?

Rates aren't everything. If you tax income, then the definition of income is far more important than the rate.

TEFRA took an obscure item out of the tax code called the "Minimum Tax", and changed it so that it applied to a lot more people. Where the Minimum Tax only affected less than 1% of all tax returns, the Alternative Minimum Tax initially affected almost 10%, and a lot more than that now.

The 77% rate was done away with by deleting the Minimum Tax's cousin, MaxiTax.  The top rate on the tax tables was dropped from 70% to 50%, and dropped all the way down the tables.  So when tax receipts rose in future years even though the tax rates were lower, it must have been because the tax cuts "stimulated" the economy.


After all, the economy really was kicking ass in 1983-1985.  Or maybe not.  Actually, it pretty much sucked.  High inflation with slow wage growth.  "Stagflation".

It also changed depreciation rules for real estate, decreasing paper losses for real estate investors.  Real estate is the original income tax shelter, and TEFRA eroded that somewhat.

All told, what happened was basically that this increased the tax on most of the top 10%, even though their marginal rates had been cut. It's really unfavorable to people who get compensated with stock options. It was a stunning example of the 1% shoving a bunch of their tax burden onto the top 10%.

Of course, the payroll tax increase that was also in that bill screwed everyone who works for a living.

TEFRA, billed by the MSM and the American left as "Reagan's tax cuts for the rich" were a big tax increase, mainly on the rich. Which brought tax receipts up.

Interestingly, though, a lot of tax analysts consider TEFRA to be one of the biggest tax increases in US history.

But not nearly as much so as the next round of "Reagan's tax cuts for the rich". TRA 86(the Tax Reform Act of 1986) was an almost complete rewrite of the tax code.  The title of the tax code was even changed to "The Internal Revenue Code of 1986".  Among many other provisions, it imposed something called the "passive activities rules", a term that only a lawyer could love.  

Think about it.  



A few simple yet very confusing paragraphs of tax law made almost all existing tax shelters worthless. Again, rates were cut. But this time, billions of dollars of previously sheltered income was now being taxed.

The top tax rate was now 28%, but there was a catch or two.  Once you reached a certain level of income, all of your taxable income going down to the 15% bracket level was subject to the 28% rate. In addition, more types of income, including rental income, were subject to a now expanded AMT.  After an exclusion, all other AMT income was taxed at a flat rate of 33%. 

The Clinton tax cuts really were cuts, and didn't have so many sneaky offsetting provisions. But tax receipts kept rising. The reason that time was because the economy really was booming. Which, I am pretty sure, was not because of the tax cuts. But do let me know if you figure that part out. :)

Then the Bush tax cuts, which were absolute cuts with no monkey business, just low taxes, son, were enacted just as the economy was slowing. So what happened? Tax receipts went down. So did the economy.

Did tax cuts and declining government revenues ruin the economy?  Definitely not by themselves.  But they didn't help, either.

Tax cuts do not pay for themselves.

Reagan raised taxes.

Clinton cut taxes, and the benefits went mainly to the middle class.  Even though welfare programs became more restrictive during his administration, he signed tax bills that had very generous credits for having children.  The Child Tax Credit was created, the Earned Income Credit was expanded.  

During the Bush years the Child Tax Credit became refundable.  As a result, the Treasury pays out $90 billion or so in refundable tax credits. 

Bill was right.  It's not welfare as we knew it.  It's different.

But it's still a welfare program.

But the Bush tax cuts were also of great benefit to the wealthy.

Everybody pays less.  Nobody pays enough.  It isn't creating jobs, either.

Reality is not just complicated. 

It's passively active.