Tax Analysts Blog

End Game for the Bush Tax Cuts?

Posted on Aug 5, 2011

The debt ceiling squabble is over. What did we accomplish? Not much, frankly.

The Budget Control Act of 2011, signed into law by President Obama on August 2, involves an initial round of spending cuts worth $900 billion plus a second round of cuts worth at least $1.2 trillion. (All dollar amounts discussed here relate to a 10-year time frame.) The second phase of spending cuts could be slightly larger if the so-called 'Super Congress' comes up with a plan that wins both congressional and administration support. I'm skeptical the Super Congress plan -- regardless of its details -- will go anywhere given the toxic political climate on Capitol Hill.

This results in a combined deficit reduction of $2.1 trillion over the next decade. All of the savings take the form of spending cuts, since new tax revenues weren't part of the deal. Some observers might argue this is real progress toward fiscal responsibility. Think again.

Moody's and Standard & Poor's warned us months ago that we need a minimum of $4 trillion in deficit reduction to avoid a down grade of our credit rating. As measured by that yardstick, we failed miserably to address our fiscal woes. The analogy here is a kid who turns in only half of his homework and expects a passing grade. If the U.S. credit rating is downgraded, nobody can argue: (a) that we didn't see it coming, and (b) that we don't deserve it. Moreover, the agreed to cuts come from discretionary spending and the defense budget. The main drivers of our projected future budget deficits -- entitlement programs -- were left largely untouched.

So where does Uncle Sam find the additional dollars necessary for meaningful deficit reduction? We have the answer. The Bush-era tax cuts are scheduled to sunset at the end of next year. Their expiration will generate an additional $3.6 trillion in tax revenue. That represents deficit reduction over and above the spending cuts under the Budget Control Act.

Returning to the Clinton-era tax rates would solve all our problems, right?

No doubt it would cause more cash to flow into government coffers. But the revenue generated from expiring tax cuts does nothing to address the accelerating costs of our entitlement programs, especially Medicare. Those costs desperately need to be controlled regardless of the prevailing tax structure.

Also, back in 2008 then-candidate Obama promised to not raise taxes on families making less than $250,000 a year. Allowing the Bush tax cuts to expire in their entirety would seem to violate that campaign pledge. The Democrat's preferred option, of course, is to retain the Bush tax cuts only for taxpayers under the targeted income threshold. But the GOP-controlled House of Representatives will never agree to that, just as they refused to include a penny of new revenue in the debt ceiling deal.

This allows us to predict what will transpire in Washington next year. The House will pass a bill extending the Bush tax cuts for everyone; while the Senate will pass a bill extending the tax cuts only for families under earning under $250,000. Neither bill will stand a chance of passage in the opposing chamber. There will be no compromise; neither side will blink. Democrats assume that GOP lawmakers will eventually cave, after much protest, since the alternative is seeing everyone's taxes go up. I'm not so sure it plays out that way. These Tea Party folks seem all too eager to fall on their sword for the sake of principle rather than compromise and hand Obama a political victory.

Expect this to be a hot button issue for the 2012 elections: Who owns blame for the pending across-the-board tax hike? Let the drama begin.

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