As the big tax reform push commences on Wednesday, Congress should focus on slashing as many deductions as possible.
This imperative takes on a new urgency in that the Republicans published outline for reform "eliminates most itemized deductions, but retains tax incentives for home mortgage interest and charitable contributions."
While that might sound good, retaining those two deductions will carry a heavy price tag. In January, the Joint Committee on Taxation assessed that for the years 2016 through 2020, the total value of the mortgage interest deduction would amount to $357 billion. Over the same period, the committee assesses that the total value of all charitable deductions will be $298 billion. That's a total five-year cost of $655 billion or an annual cost of $131 billion.
These sums mean that if tax reform isn't going to blow up the deficit, it will have to smash away the vast majority of other tax deductions.
I worry that absent that choice, reform will preference the immediate gratification of tax cuts alongside exploding deficits. And considering the nation's already terrible debt-to-GDP ratio of 103 percent, adding to the deficit would pummel America's future with higher interest rates and depleting investment.
Still, other figures from the Joint Committee on Taxation shows that there's hope! Eradicating three other major deductions, tax reform could match the retained mortgage and charitable deductions to major tax cuts, and avoid blowing up the deficit.
First off, eliminating the tax exclusion for employer-provided healthcare, cafeteria plans, and miscellaneous fringe benefits would save $1 trillion over five years. While these exclusions are popular, they are unfair on self-employed Americans and promote the inefficient allocation of resources. Getting rid of the employer-provided healthcare exclusion would also force individuals to take responsibility for their own health consumption, and thus bend the healthcare inflation curve.
Second, by cancelling the state and local income and sales tax deduction, we would find $369 billion over five years. At present, by reducing their net federal income tax liability, residents of higher-tax states such as New York have an undue advantage over those in low-tax states such as Florida. Shouldering the full tax burden for their state government expenditures, this reform would encourage high-tax state residents to demand lower government spending.
Third, by removing the property tax deduction, tax reform would generate $180 billion over five years. Again, this would promote more efficient state and local government in disposing of the effective federal subsidy granted to residents of states with high property taxes. This is also a regressive tax in that it unduly benefits wealthier taxpayers who own their homes.
Don't get me wrong, this is just the start. Ultimately, any effective tax reform would also include discarding the many smaller tax subsidies in the code.
Regardless, if Congress doesn't kill these big three deductions, it won't be able to offset rate eductions and the deficit will get another boost.