When President Bush’s Advisory Panel on Federal Tax Reform issued its report in November after 10 months of study and debate, US Sen. John Kerry wasn’t impressed. A fairer, simpler tax code will never come about, Kerry said, “so long as this process is driven by politics and special interests.”
That’s hard to argue with. Even as Bush’s appointed panel, which included conservatives and moderate Democrats, recommended reform that would, to a degree, simplify the tax code, it also stirred up a firestorm of protest from a variety of groups, particularly those in real estate and health care.
Even conservatives long eager for radical tax reform complain that the proposals don’t go nearly far enough, failing to further their goal of a national sales or flat tax, while mostly preserving the basic outlines of the current income-based system. “I’ve stopped allowing myself to get excited,” says Barbara Anderson, the longtime executive director of Citizens for Limited Taxation. “I get the impression they are throwing things out there but aren’t really serious.”
Serious or not—the administration has put tax reform on hold, at least until next year—the proposals are prompting a good deal of debate, not only in Washington but also in the states, where local impacts could vary and are still uncertain. In Massachusetts, some claim the proposed tax revisions would devastate the real estate and health care sectors, but others say that reduced income tax rates might be a boon to our high-cost, but high-wage, state.
“It looks regressive overall, but it might actually bring more dollars into Massachusetts because we’re a high-income state,” says Noah Berger, executive director of the Massachusetts Budget and Policy Center, a liberal think tank. “But that doesn’t mean it’s good public policy.”
The Bush panel actually forwarded two proposals, one that simplifies the current income tax and one that would replace it with what the panel called “a progressive consumption tax” because it would exempt earnings from savings and investment. The two plans, though, are nearly identical on individual income taxes, with the major differences falling on the business side.
Both plans take aim at the granddaddy of tax breaks, the home mortgage interest deduction—a loss that could hit hard in the Bay State, where high property values translate into big mortgages. The plans also call for reducing deductions for state and local taxes—a worry in a place widely known, fairly or not, as “Taxachusetts” —and cutting back the tax exemption companies receive for employer-provided health insurance.
The simplified income-tax proposal would make four brackets out of the current six, and lower the top marginal rate from 35 percent to 33 percent. The proposed consumption tax would establish four brackets, as well, but keep the top rate at 35 percent. Under both plans, the mortgage interest deduction would be replaced by a tax credit equivalent to 15 percent of the interest paid, but only on mortgages up to $312,000. In some areas of the country, where home prices are lower, the cap would be $172,000.
Both plans eliminate the alternative minimum tax, a 1960s creation aimed at cracking down on excessive deductions claimed by well-to-do taxpayers but, because it was not indexed to inflation, is now ensnaring a growing portion of the middle class. They would also both cap the tax exemption for health insurance provided by employers tax-free at $11,000 for families, $5,000 for individuals.
For businesses, the simplified tax plan would reduce the top corporate rate from 35 percent to 32 percent, and it would also eliminate taxes on overseas business operations, as well as the corporate alternative minimum tax. The consumption tax plan would also reduce the top rate to 32 percent, but replace the existing system, under which businesses depreciate assets over time, with immediate write-offs of capital investments.
There’s big money at stake. According to Congress’s Joint Committee on Taxation, the existing tax breaks for these items are projected at $600 billion for health insurance between 2004 and 2008; the mortgage deduction, $380 billion; and state and local income and property taxes, almost $200 billion. The tax-reform advisory panel says the shift wouldn’t raise taxes overall. Inevitably, however, there would be winners and losers.
Which would Massachusetts be? Nobody really knows for sure, at least not yet. As Berger says, high-income earners in the Bay State would benefit from a reduced top rate, and there are more of them here than in other states. Massachusetts residents would also benefit disproportionately by the elimination of the alternative minimum tax, as it marches inexorably toward middle-class income levels. According to a March 2005 report by the Congressional Research Service, nearly 3 percent of Massachusetts taxpayers were hit with the AMT in 2003. Only five other states had a higher percentage of taxpayers paying the tax.
But the loss of interest deductions would hurt in the Bay State. In 2005, the average sale price of homes in the Boston area, including condominiums, was about $420,00, double the national average. Reducing the mortgage interest write-off and deduction for local taxes would “suck equity away from the American middle class,” says David Drinkwater, a Scituate real estate agent and a regional vice president of the National Association of Realtors.
Massachusetts residents could also be slammed by the cap on the health care exemption. According to a study by Hewitt Associates, a human resources consulting firm, health insurance in the Bay State cost nearly $8,000 per employee in 2005, compared with $7,500 nationwide. Under the tax-reform proposals, employees would have to pay taxes on everything above $5,000 for an individual plan.
“This is going to pass on more of the cost of insurance to the employee,” says Michael Doonan, a Brandeis University professor and executive director of the Massachusetts Health Policy Forum. “If the employee feels the pain of the cost, the thinking is that they might be a more knowledgeable consumer.” But that’s not the only possible result, Doonan says. “If you increase the cost to the employee, then some of them will drop coverage and it will increase the number of uninsured.”
Losing the state and local tax exemption might not hurt the Bay State as much as expected. According to the Tax Foundation, a conservative research group in Washington, DC, the burden of state and local taxes as a percentage of personal income in Massachusetts is 9.8 percent, placing the state 32nd in the nation.
In Washington, the proposals have not divided cleanly along party lines. Conservatives such as Phil Kerpen, policy director for the Free Enterprise Fund, worry that the panel’s proposals could leave tax overhaul advocates with nothing to build on. The recommendations “should be in the context of pro-growth reform, not tinkering,” he says. Moderate tax revisions like those proposed by the president’s panel, he adds, are “going to take the same political hits without a lot of the benefits” of a more radical sales- or flat-tax proposal.
But liberals like Jason Furman of the Center for Budget and Policy Priorities see something to like in the plan to reduce mortgage interest deductions. “In effect, it would pay for a working-family tax cut by raising taxes on some high-income families,” he recently wrote.
Still, when it comes to big changes in the tax code—considering that the lawmakers are preparing to face voters this fall—the operative thinking seems to be, “don’t just do something, stand there.”
NO CHICKEN LITTLE
It’s flu season, but hardly the usual one. Just before members returned to their districts for the Christmas break, Congress passed legislation appropriating $3.8 billion—about half what the Bush Administration requested —to stockpile vaccine to combat the deadly avian influenza, or bird flu, which has sparked fear of a pandemic in southeast Asia.
But US Sen. Edward Kennedy, who has been among the most vocal on Capitol Hill about the bird flu threat, says the administration’s plan, even if fully funded, is woefully inadequate. “We need to strengthen the capacity of hospitals and health care facilities to respond and react to a pandemic,” he said at a recent press briefing.
No one disputes that the stakes are high. “If we are facing a pandemic flu, it’ll make Hurricane Katrina look like a very small thing,” Julie Gerberding, director of the Centers for Disease Control and Prevention, recently told Congressional Quarterly. Indeed, the National Institutes of Health estimates that 40 million to 50 million people worldwide could die unless the illness is contained.
So far, avian flu has killed about 150 people, mostly in Vietnam and Thailand, but recent cases in Turkey have widened fears of a westward migration, and experts worry that the disease could easily mutate into a more virulent strain.
Legislation filed by Kennedy would go beyond the Bush proposal, requiring that federal regulators design “a national flu plan” and set forth “a set of guidelines to stockpile enough vaccine to inoculate half the population.” The bill also requires regulators to expand global surveillance and international cooperation, and to work with hospitals so that they are better equipped to handle a “surge” of flu cases.
And with Kennedy, never rule out the local angle: Among those that could help in the avian flu fight are the new University of Massachusetts biological laboratories in Mattapan, where Kennedy announced his plan. Kennedy said the facility could be a key player in manufacturing supplies of the flu vaccine.
But don’t count your chickens just yet. The Republicans in control of Congress aren’t exactly leaping to embrace Kennedy’s bill. He has nine fellow Democrats as cosponsors, but no one from across the aisle has signed on.