Payroll Taxes and Reform Proposals Anderson: Income and Payroll Taxes

2 Payroll Taxes Payroll taxes are a related form of taxation, with a narrow base including only wage and salary income. This is the major source of revenue for the social security system in the U.S. The FICA tax applies to employees (Federal Insurance Contributions Act). The SECA tax applies to self-employed persons (Self Employed Contributions Act).

FICA and SECA Tax Rates and Maximum Taxable Earnings, 2014 Self-EmployedMaximum OASDI OASIDIOASDIHITotalRateTaxable Earnings 5.30%0.90%6.20%1.45%7.65%15.30%$117,000

Direct and Indirect Effects Direct: The effects of government interventions that would be predicted if individuals did not change their behaviors in response to interventions. Indirect: The effects of government interventions that arise only because individuals change their behavior in response to the interventions.

Marginal and Inframarginal Impacts Marginal: Changes in behavior the government hopes to encourage through a given tax incentive Inframarginal: Tax breaks the government gives to those whose behavior is not changed by new tax policy

Static versus Dynamic Scoring Static: Effects that occur at an initial point when the proposal is implemented Dynamic: Effects that occur over time

Tax Policy Transitions Transitional inequities: Changes in the treatment of similar individuals who have made different decisions in the past and are therefore differentially treated by tax reform Examples: Tax shelters: Activities whose sole reason for existence is tax minimization Mortgage interest deduction

Principles of Sound Tax Policy Adequacy Neutrality Fair or equitable Horizontal Vertical Ease of Administration and Compliance Accountability Administration and enforcement should be efficient and fair Government must enforce the laws Open, transparent tax policy

9 Proposals National sales tax Value-added tax Hall-Rabushka Flat Tax Progressive Consumption Tax Income tax reform

Camp Tax Reform Plan Three brackets 10 percent (phased out for high income filers) 20 percent 35 percent Increase the standard deduction $11,000 for individuals $22,000 for joint filers

Eliminated Provisions personal exemption Pease provision which limits itemized deductions state and local tax deduction the alternative minimum tax deduction of interest on education loans. adoption tax credit credit for green energy residential improvements credits for qualified electric vehicles and alternative motor vehicles first time homebuyer credit deduction for tax preparation expenses deduction for medical expenses deduction for moving expenses

Modified Provisions Reduces the principal cap for the home mortgage interest deduction from new mortgages from $1 million to $500,000 over four years. Reduces the maximum credits for the EITC to $200 for joint filers with no children, $2,400 with filers with one child, and $4,000 for joint filers with two or more children. For taxpayers with children, phase outs begin at $20,000 for single filers and $27,000 for joint filers. Converts some excludable 401(k) contributions to Roth-style retirement accounts for those contributing more than $8,750. Modifies allowable contributions to Roth IRAs, eliminating the income eligibility limit for contributors and prohibiting contributions to traditional IRAs. Consolidates the four higher education tax credits into a reformed American Opportunity Tax Credit. The new credit would provide a 100 percent credit on the first $2,000 of certain education expenses, and a 25 percent credit on the next $2,000 of expenses. The first $1,500 of the credit would be refundable.

Expanded Provisions Expands the child tax credit from $1,000 per child to $1,500 per child and $500 for non-child dependents. Credits will be indexed to chained CPI. Increases in the standard deduction to $11,000 for an individual and $22,000 for joint filers, with an additional deduction of $5,500 per qualifying child.

Flat Tax The tax is best though of as a consumption type value-added tax that would be applied in two pieces. A consumption type VAT taxes gross receipts, less the cost of raw materials and intermediate goods, less investment. The deduction of investment expenses for new machinery, equipment, and facilities is what makes this version of a VAT a consumption-type VAT.

15 Flat Tax [continued] In terms of simple national income accounting, national income or product Y is comprised of the components C, consumption expenditures and I, investment expenditures: Y = C + I. If investment expenditure is deducted, we are left with consumption expenditures. This consumption-type VAT is then applied in two parts.

Flat Tax [continued] First, a tax is applied at the household level on wages, salaries, and pension benefits. Second, a tax is applied to all businesses on their gross receipts less wages, pension contributions, raw materials costs, and investment.