Digging deeper into the Trump tax plan’s revenue hole
AEIdeas
On Wednesday, I used the open source Tax-Calculator — to which I am a core contributor — to calculate an upper bound on how much revenue Trump could save by restructuring the rates and brackets of his tax plan. He said on Monday in Detroit that he’s abandoning the 10, 20, and 25% tax rates in his original plan and adopting the 12, 25, and 33% tax rates and tax brackets in the House Republicans’ tax plan.
I estimated on Wednesday that he could pick up $3.3 trillion, at most, by scaling back the rate cuts.
Since the Urban-Brookings Tax Policy Center and the Tax Foundation put the cost of his old plan around $10 trillion and Steven Moore, his adviser, said that the cost of the new plan would be around $3 trillion, I concluded that we should expect many more revisions to be forthcoming. In particular, Trump may need to scale back his proposal for a massive expansion of the standard deduction.
Reuters
Clinton’s speech in Michigan yesterday highlighted how important the debate over fiscal irresponsibility will be in this campaign when she charged that Trump will “explode our national debt.”
All of this spurred me to get back on TaxBrain and try to narrow in on how much revenue Trump might pick up from his rate tweaks under more realistic economic assumptions. My goal is to calculate a central estimate, rather than the upper bound I calculated on Wednesday.
I made two assumptions to ensure that I would calculate an upper bound:
First, I assumed that itemized deductions would be completely gone under both Trump’s old plan and his new plan. If some itemized deductions are retained, as they surely would be, then taxable income will be lower and rate hikes will pick up less revenue.
Second, I assumed that taxpayers would work and save the same amount and earn the same taxable incomes under the two rate structures. If we assume instead that taxpayers will substitute from taxable activities to non-taxable activities as taxes increase, then tax rate hikes will also pick up less revenue.
Below is a matrix of results that relaxes both of these assumptions. Rather than assuming full repeal of itemized deductions, I assume that the benefits taxpayers receive from itemized deductions are cut in half. Rather than assuming no taxpayer behavior, I assume that there is a 5.5 percent reduction in a taxpayer’s taxable income for each 10 percent reduction in the fraction of taxable income that taxpayers can keep, on the margin. In economic jargon, I’m assuming that taxable income has an elasticity of 0.55 with respect to the net of tax rate. This assumption is based on Sarah K. Burns and James P. Ziliak’s findings on the elasticity of taxable income in their recent paper.
As I described in my Wednesday post, I am not modeling Trump’s exact plan because Trump hasn’t fully specified it and because TaxBrain doesn’t yet have fully-featured business tax modeling capabilities. Rather, I am modeling a stylized version of Trump’s plan as it relates to ordinary income and then calculating the 10-year revenue difference between the stylized plan with Trump’s old rate schedule and the stylized plan with Trump’s new rate schedule.
| Itemized deductions | Substitution effect (Elasticity of Taxable Income) | Change in revenue from Trump’s rate tweaks | TaxBrain links to stylized reforms for replication |
| Full repeal | 0 | $3.3 T | New rates vs. current law, |
| Full repeal | 0.55 | $2.11 T | New rates vs. current law, |
| Cut in half | 0 | $3.19 T | New rates vs. current law, |
| Cut in half | 0.55 | $2.04 T | New rates vs. current law, |
As expected, incorporating behavior leads to a major reduction in the revenue that Trump can pick up from scaling back his rate cuts.
At first I was surprised that the difference between a full repeal of itemized deductions and cutting their benefits in half is so small. But, the results make sense, in view of Trump’s large expansion of the standard deduction. When the standard deduction is $25,000 for single filers, $50,000 for joint filers, and $37,500 for heads of households, far fewer households will choose to itemize, and modifications to itemized deductions will be much less important.
What’s the conclusion? Based on my work on Wednesday, I learned that an upper bound on the revenue that Trump could gain by tweaking the rate schedule for his tax proposal was about $3.3 trillion. From my work today, a central estimate is closer to $2.04 trillion.
If Trump and his team aim to take a $10 trillion plan and turn it into a $3 trillion plan, the rate tweak described in Monday’s speech will take them less than a third of the way.
Given that Trump also proposed new tax cuts on Monday — immediate expensing for business investment and tax subsidies for child care — we should look for many new revenue raisers coming down the line.
As always, feel free to analyze tax plans yourself using OSPC’s TaxBrain web application or the underlying economic models available at http://www.github.com/open-source-economics.
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Matt Jensen directs the Open Source Policy Center at the American Enterprise Institute. He is also a core contributor to Tax-Calculator.
Let’s pretend that payroll taxes are a tax on income and that workers actually suffer the combined rate of 15.7%. For workers earning less than $115k the real tax rates are 27.7% and 40.7%. Those in the 33% bracket stop paying payroll taxes and keep their generous tax expenditures (credits, exemptions, low rates, deferrals and deductions). Most importantly, people like Buffet and Trump have taxable income that is only a few percentage points of their real economic income that includes appreciation. The greed at the top can be further extended by pushing the tax avoidance into the next life with the elimination of the estate tax.
The term “greed” is used only because the current tax regime has resulted in a 70% decline in the share of family wealth of the poorer half of the population (down from 2.6% in 1995 to just 1% today). The middle class share is also down to 24%. We need tax reform that helps families become millionaires and lets multimillionaires fend for themselves. A pick-your-own tax rate can make sure that the distribution is fair without $1.3 trillion in tax expenditures.
Family wealth should generally grow slowly over a lifetime. Consider the effect of a taxpayer choice of income tax rate between 8% and 28% paired with a wealth tax rate of 2% decreasing to zero. Each taxpayer would also be able to save up to $500,000 wealth tax free for retirement, health care and education; and payroll taxes would be eliminated. Social Security would be funded by a 4% VAT and 8% C corporation tax with no tax expenditures. Cumulative wealth taxes could be used to offset estate and gift taxes (set at 28%) – finally making the Estate Tax fair to all.
Why don’t you go where the real story is, the Hillary and Slick Willy Slush fund? Too lazy, or too Hillary?
And once again the “analysis” ignores what is BY FAR the BIGGEST driver of how much revenue the government actually takes in: ECONOMIC GROWTH.
Bruce, the analysis does take into account economic growth. The labor supply effects captured in the elasticity of taxable income would contribute to higher GDP.