Push Me, Pull Me:
Tax Cuts vs. IRS Reform

Clint's Window
by Clint Stretch, Director of Tax Policy, Deloitte & Touche LLP

Monday, April 13, 1998

Another popular expiring provision allows employers to pay undergraduate tuition and other education costs for employees, without having to include the costs in the employees’ taxable income. Republicans want to expand this benefit to cover graduate education costs as well.

Another item high on the Republican tax agenda is relief for the so-called marriage penalty. Marriage penalty relief is intended to remedy a situation in which two-income couples who file taxes jointly end up paying much higher taxes than if both had filed separately. Although offering marriage penalty relief is politically popular, it costs so much that Congress is having a terrible time finding ways to pay for it, and Republicans may be able to offer only very limited relief.

Even if that $8 billion in tax hikes were acceptable to Congress, it would not be enough to pay for even half the cost of a $30 billion tax cut. Congress needs to find a total of $15 billion in tax increases to pay for these tax cuts (remember, they are counting on covering the other $15 billion through spending cuts), and they only have -- at most -- $8 billion.

That leaves them with a $7 billion shortfall to cover the cost. So, having committed to spending $6.5 billion for IRS restructuring, which provides tax relief for spouses and those who must pay penalties, many advocates of tax cuts must ask themselves: where do we get the money to pay for tax relief for everyone else?

Even if the already identified $8 billion covered the full cost of the tax cuts, the list includes about $7 billion in items targeted at the insurance industry that we would bet ultimately will not be enacted.

It Gets Worse: The shortfall looks even worse when the Senate’s accounting rules, which require tax cuts to be paid for over 10 years, not just five years, are taken into account.

Though the IRS restructuring bill is revenue-neutral over five years, it loses about $10 billion over ten years. When it reaches the Senate floor, an additional $10 billion in offsets will have to be found, or senators will have to agree to waive the budget rules. This is not a problem in the House, where the rules only require budget neutrality over five years.

Congressional aides said April 8, though, that Chairman Roth is committed to finding an offset for the second five years to pay for IRS restructuring and does not want to waive budget rules. This problem might be resolved before the Senate votes on the IRS restructuring bill in early May.

Finding tax increases will be even more troublesome for conservatives pushing for more than the $30 billion tax cut approved by the Senate. If the House approves a cut of up to $60 billion over five years, as their leaders have indicated, the shortfall will grow from a current estimate of $7 billion to about $22 billion over five years, assuming the offsets are split equally between tax increases and spending cuts. The pressure for "loophole closers" and other tax increases will be tremendous, under such a scenario.

What happens if the assumption that half the tax cuts can be paid for by spending cuts is wrong? The shortfall could double very easily, if Congress cannot find the money to pay for the cuts.

The Outlook: Amongst all the gloom and doom, there are possible solutions. Making the problem less insurmountable is the fact that Congress writes its own accounting and budget rules, so it can waive them when it sees fit.

Congress potentially could quickly solve the problem of where to get the money by waiving the rules and not offsetting the tax cuts. Before such a solution is attempted, Congress will have to determine to what extent the financial markets will tolerate a deviation from the rules that helped eliminate the budget deficit.

Also many potentially large excise tax proposals that now do not seem likely to go forward, such as the effort to renew the Superfund tax used to clean up abandoned hazardous waste sites (which could raise $14 billion over five years), may end up solving the budget problems if Congress renews them after all, providing a source for offsetting the revenue loss from the tax cut.

In the end, the limited list of potential tax increases will make it difficult for Congress to both restructure the IRS and cut taxes this year. How and if Congress works out this budgetary conundrum will be the main issue it will grapple with between now and when Congress adjourns in October.

The political morass of tobacco legislation seems likely to never be resolved, particularly now that tobacco companies have declared last summer’s tobacco deal dead, saying they are walking away from negotiations. During political summers, though, particularly in election years, even seemingly insoluble problems often end up being resolved. If the difficult snafu over tobacco legislation can be worked out, perhaps additional revenues can be found from that source. Congress may decide to raise cigarette taxes anyway, tobacco deal or no deal, and find enough revenue to cover their tax wish-list items.

Also, there is no law against new ideas. Maybe someone on Capitol Hill will come up with some creative, new revenue-raising measures.

A great big, multi-million word tax code is sitting out there, and some bright person might be leafing through it now, looking for tasty morsels to raise revenues. Some lemon might be in the tax code that can be squeezed for enough juice to help pay for IRS restructuring, extending expiring provisions, and other tax cuts or spending increases that Congress and the Administration only dream of now. We all will have to just wait and watch it play out as the clock on the 105th session of Congress begins to tick toward its October end.