Tax Policy
Fiscal Context and Economic Concepts
Molly Sherlock
Washington & Lee University
January 23, 2015
The U.S. Fiscal Position
Revenues and Outlays: FY1970 – FY2013
Source: CRS Report R43472, The Federal Budget: Overview and Issues for FY2015 and Beyond, November 4,
2014, by Mindy Levit.
2
Persistent Budget Deficits  Increasing Debt
3
Why is Spending Projected to Increase?
4
Changing Demographics are Increasing
Pressure on the Federal Budget
5
Federal Revenue by Source: 1946-2017
% of GDP
12%
Individual
Income Taxes
9%
6%
Social Insurance
and Retirement
Receipts
3%
Corporation
Income Taxes
Other
Excise Taxes
FY15
FY10
FY05
FY00
FY95
FY90
FY85
FY80
FY76
FY71
FY66
FY61
FY56
FY51
FY46
0%
FY14-FY19
are estimates
6
Federal Revenue by Source: FY2013
Corporate
Income 10%
Excise 3%
Individual
Income 47%
Payroll 34%
Other 6%
7
Why Tax Reform?

Raise additional revenue?

U.S. fiscal position is “unsustainable”


Over time… spending will have to be cut, or taxes
increased
Improve the system?

What does an improvement look like?

Economic tools for evaluating tax policy
8
Economic Concepts: Equity

Is the tax system “fair”?

Two concepts for evaluating fairness:

Vertical equity


Higher burdens on those with a greater ability to pay
Horizontal equity

Equal treatment of equals
9
Evaluating Vertical Equity
10
Evaluating Horizontal Equity

Those with “equal ability to pay” should pay equal taxes

Measuring ability to pay



Casualty losses
Medical expenses
Similarly situated individuals


Marriage penalties
Homeowners vs. renters
11
Economic Concepts: Efficiency

Taxes distort behavior

A goal of tax policy

Meet revenue targets with
minimal distortions
12
Balancing equity and efficiency

Cutting taxes on capital (investment) income

Wage credits for low-income workers
13
Economic Concepts:
Simplicity and Revenue Sufficiency

What makes taxes complicated?



Measuring income
Taxes as social policy
The purpose of taxes is to pay for the government’s
activities
14
Income Taxes: Computing Taxable Income
15
Average Tax Rates Paid
16
About those “Loopholes”
FY2013 Tax Expenditures (billions)
Provision
Amount
1
Exclusion for employer-sponsored health insurance
294.3
2
Mortgage interest deduction
100.9
3
401(k) plans
72.7
4
Lower rate on capital gains
62.0
5
EITC
55.7
6
Pensions
52.3
7
State and local tax deduction (excluding property tax)
46.3
8
Tax deferral for multi-nationals
41.8
9
Child tax credit
40.8
10
Charity deduction (other than education, health)
39.8
Source: US Budget, Analytical Perspectives, FY2013
Note: Health insurance estimate includes $113.7 billion payroll tax expenditure; EITC and child tax credit include
outlays of $52.6 and $22.4 billion, respectively
17
And what about those “47%”?
18