Tax Proposals
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Research question 3: Tax Proposals on Itemized Deductions and Itemized Capital Gains
Two tax proposals are being debated where itemized deduction provisions would be modified. This would be followed by evaluating each of the proposals in terms of costs, benefits, and compare them to the current law. Under the current law, there are 7 income tax brackets (10%, 15%, 25%, 28%, 33%, 35%, and 39.6%). Thus, tax increases as the income increases. Those with incomes exceeding $400,000 are taxed at 39.6%.The current law imposes a 15% tax on qualified dividends and long-term capital gains for people earning less than $450,000/$400,000. For those with incomes exceeding these amounts, a tax of 20% is imposed (Nitti, 2014).
The first proposal is referred to as Chairman Camp’s proposal. David Camp who is the Chairman of the House Ways put this proposal forward last month and Means Committee provides radical changes to the current law, which was last amended in 1986. Chairman Camp’s proposal reduces the tax brackets from 7 to 3 (10%, 25%, and 35%) and imposes a maximum tax benefit of 25% for certain deductions including itemized deductions and capital gains. This means that taxpayers can at most receive a 25% reduction on their taxable income regardless of which income bracket they are in. This means that those in the 35% bracket (earning more than $450,000/$400,000) can only get itemized deductions of 25%. It follows that they are levied a surtax of 10% on preferences such as bond interests, retirement payments, and employer-provided healthcare. The second proposal on tax reform is the one made by the former presidential candidate Mitt Romney. Romney proposed to cap itemized deductions at $25,000 (Nitti, 2014).
An analysis of the two proposals and comparison with the current law reveals several things. First, the proposal to limit the itemized deductions is more efficient since the rates are fewer and the maximum rate is reasonable. It also does not pander to special interests. The proposal by Camp does not give taxpayers any preferences on qualified dividends and long-term capital gains. The proposal instead seeks to tax these incomes at 10%, 25%, and 35% based on the taxpayer’s level of income. On the issue of preferential rates, the proposal seeks to let non-corporate taxpayers take up to 40% of their qualified dividends and long-term capital gains in above-the-line deductions. Other benefits that will accrue from the Camp proposal are that preferential rates will lead to savings of $450 billion in the next 4 years; it will broaden the tax base and rope in more income, and retain revenue neutrality. On the other hand, the solution by Romney will help marginally to increase revenues but it will not benefit many people because high-income earners mostly do itemization of deductions. According to Williams (2012), there were less than 10% of the two end quintiles itemized deductions in 2011. On the other hand, 80% of those in the two topmost quintiles and 95% of those in the topmost quintile itemized their deductions. Additionally, the high-income taxpayers claimed more itemized deductions. This means that capping the itemized deductions at $25,000 as proposed by Romney would affect a very small percentage of taxpayers. Additionally, the solution by Mitt Romney does not retain revenue neutrality since they do not touch the preferential gains for dividends and capital gains. It is also not a progressive solution (Nitti, 2014).
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