CBO Examines Distribution Of US Income Tax Expenditures
31 May 2013
Posted by: Author: Mike Godfrey
Source: Mike Godfrey (Tax-News.com, Washington)
The Congressional Budget Office (CBO) has provided a report that examines how the largest tax expenditures in the United States individual income tax system in 2013 are distributed among households with different amounts of income, and how they affect the federal budget.
The CBO divides the exclusions, deductions, preferential rates and credits in the federal tax system, which provide financial assistance to specific activities, entities or groups of people, and cause revenues to be much lower than they would be otherwise for any given structure of tax rates, into four categories.
Those categories are exclusions from taxable income (such as employer-sponsored health insurance, net pension contributions and earnings, capital gains on assets transferred at death, and a portion of Social Security benefits); itemized deductions (certain taxes paid to state and local governments, mortgage interest payments, and charitable contributions); preferential tax rates on capital gains and dividends; and tax credits (the earned income tax credit and the child tax credit).
Although the ten major tax expenditures listed in the report represent a small fraction of the more than 200 tax expenditures in the individual and corporate income tax systems, the CBO estimates that they will account for roughly two-thirds of the total budgetary effects of all tax expenditures in 2013.
Together, those ten tax expenditures are estimated to total more than USD900bn, or 5.7 percent of gross domestic product (GDP), in 2013 and are projected to amount to nearly USD12 trillion, or 5.4 percent of GDP, over the 2014-2023 period. In addition, tax credits to subsidize premiums for health insurance provided through new exchanges to be established under the Affordable Care Act will represent a new tax expenditure beginning in 2014, estimated to equal 0.4 percent of GDP in the period from 2014 to 2023.
The CBO finds that those major tax expenditures are distributed unevenly across the income scale. In 2013, more than half of their combined benefits will accrue to households with income in the highest quintile (or one-fifth) of the population (with 17 percent going to households in the top 1 percent of the population).
In contrast, 13 percent of those tax expenditures will accrue to households in the middle quintile, and only 8 percent will accrue to households in the lowest quintile.
The distribution of tax expenditures across the income scale also varies considerably among the different tax expenditures. For example, the CBO estimates that more than 90 percent of the benefits of reduced tax rates on capital gains and dividends will accrue to households in the highest income quintile in 2013. In contrast, about half of the benefits of the earned income tax credit will accrue to households in the lowest income quintile, equaling 6 percent of after-tax income for households in that group.
Tax credits that will provide assistance in paying premiums in health insurance exchanges are excluded from the CBO report, because they are not in effect in 2013. However, when those tax credits come into effect, the CBO calculates that they will appreciably increase tax expenditures for households in the lower and middle income quintiles.
Finally, in a comment that confirms the difficulties involved in structuring any individual income tax reform that looks to use reduced tax expenditures to cut tax rates, the CBO points out that it is not possible to gauge the amount of revenues that would be raised, if certain tax expenditures were eliminated, by only measuring households' tax liabilities under present law and the tax liabilities they would have incurred if the provisions generating those tax expenditures were repealed, as the consequent changes in incentives would lead households to modify their behavior in ways that would mute the impact on revenues.
For example, it notes that, if the preferential tax rates on capital gains realizations were eliminated, taxpayers would reduce the amount of capital gains they realized, and the amount of additional revenues that would be received if those preferences were eliminated would be smaller than the reported tax expenditure.