Cut tax expenditures, too
Recently we listed in this space some items on the budget-cutting menus of President Reagan, the Congress, and outside think tanks that seemed to make a sensible package.
Today, in advance of the President's own budget speech, let's look at a sometimes hidden budget drain -- what the Congressional Budget Office calls "tax expenditures." They are so named because they are, the CBO says, "equivalent to direct payments by the federal government" to individual taxpayers.
These tax revenue losses have been rising more rapidly (14 percent a year since 1975) than the government's direct spending (11 percent). The total amount of loss in this category is estimated by the CBO at more than $200 billion for fiscal 1981, equal to about a third of the federal budget. Unlike the government's direct budget expenditures, these tax revenue losses grow each year without congressional appropriation. In this, they run parallel to the insidious "bracket creep" which propels taxpayers, rich and poor, into higher brackets as their money inflates in numbers but not in buying power.
Of course the "bracket creep" in the case of these $200 billion in tax losses has the opposite effect. It tends to give escalating tax relief to those individuals and corporations who are eligible for tax exceptions. Many of these exemptions and deductions continue long after the initial economic justification has disappeared, or continue when their goals could be achieved less expensively.
President Reagan has called for a comprehensive review of both spending and taxation. He has warned that all segments of society will be called upon to sacrifice. So it will not be surprising to discover that Congress is looking at both types of bracket creep. If so the law writers ought to be balancing all factors in the interest of fair sharing of sacrifice -- with the hope of increased real wealth for all in the future.
Some of the items in the $200 billion revenue loss or "tax expenditure" are so built into contemporary life that any review is bound to be contentious. Four prominent examples are: consumer-credit interest deductions, tax-exempt municipal bonds, home- mortgage interest deductions, and nontaxation of unemployment benefits.
The temptation for any of us is to say: go ahead on taxing unemployment benefits but don't touch municipal bonds -- or vice versa -- depending upon one's position in society. It would appear that any examination of these parts of the tax structure would pit upper- bracket Americans against unemployed wage earners; time-payment buyers against house mortgage holders, etc.
But Americans can, and should, avoid emotional divisions and look at the facts dispassionately. Only that way can we proceed with the national reordering of priorities that is inherent in the Reagan call for massive budget and tax cutting. There are going to be trade-offs. Sacrifices, especially society- wide ones, operate that way. But the aim of economy, greater efficiency, less bureaucracy, and long-range gain for all make the trade-offs worthwhile.
For instance, the tax-writers in Congress may gulp and take a look at the deduction for mortgage interest. There is a huge constituency for this deduction.But, if most Americans are going to get a big tax cut, perhaps they will countenance their lawmakers' looking at an upper limit on the amount of interest that might be deducted. The CBO calculates that if an annual ceiling of $10,000 were set, the federal budget would be saved $800 million for fiscal 1982. If the ceiling were lowered to $5,000, the saving would be $4.3 billion.
Obviously any such pruning would have to be approached carefully. No one would wish to make home buying impossible for the next generation. Although it is more complicated than can be detailed here, in theory, any lowering of the deduction would also result in lowering skyrocketing home real estate prices. (Canada, which has no deduction, has comparably lower housing prices.) It would tend to discourage excessive speculative buying. But any venture in this direction should be undertaken slowly, since its effects might be less predictable than the statisticians believe. It could also, for instance, create hardships for families which are heavily in debt for their homes.
There is presumably an equally large constituency for the consumer interest deduction (although only 17 percent of taxpayers claimed this deduction in 1979 ). But here, too, big money is involved -- about $6 billion next year; some $39 .6 billion over the next 5 years. The question here is whether all taxpayers should, in effect, support credit buying by the relatively small number who benefit from this deduction. As long as this money-saver has existed, it has made good sense for people to use it. But if Americans are to return to habits of saving and investment -- in the path of both their ancestors and their counterparts in Western Europe and Japan -- this might be a useful place to start.
A smaller constituency exists for the tax- free state and municipal bond. That device has served two purposes: (1) to help communities borrow at cheaper rates and thus benefit local property taxpayers, and (2) to help upper-bracket taxpayers diminish the impact of 50 to 70 percent income taxation. If Congress reexamines this exemption it ought to do so with an eye to improving revenues ($ 6 billion is involved) while not destroying the dual benefits.
Suggestions have been made that local government units might be given the option of using the current low-interest, tax-free system or shifting to prevailing rates of bond interest and receiving a federal subsidy to make up the difference. This would make sense only if the federal subsidy turned out to be appreciably less than what is lost in taxes. And much of any benefit could be drained away if this change resulted in a new layer of federal bureaucracy to administer the subsidies. On the other side, high-bracket taxpayers might feel better about this proposal if their brackets were lowered, as Reagan planners say they wish.
A fluctuating-sized constituency would be concerned over proposals to tax unemployment benefits. Tax law was changed in 1978 to make a portion of unemployment compensation taxable for those with incomes of over $20,000 (single) or $25,000 (married couples). To make all the compensation taxable might result in raising the compensation (since it was originally calculated to be nontaxable). The trade-offs would have to be carefully weighed. But to tax these benefits would bring a revenue gain of $17.8 billion between 1983 and 1986 . The Congressional Budget Office suggests that the result might also be a lessening of the work disincentives associated with the benefits.
The list could go on, as the debate must. Even where tax expenditures serve a necessary purpose, that purpose can sometimes be achieved more economically through direct subsidy. Cost, fairness, ease of administration, and what the CBO calls "budget visibility and controllability" are among the criteria for deciding which method is best in ea ch circumstance.