The 1997 tax law

Sanjay Paul
September 1997

(A slightly revised version of this article appeared as "Tax Law Numbers Political" in Business Forum, Green Bay Press-Gazette, September 6, 1997.)

  Months of negotiations, often steeped in acrimonious wrangling, have come to an end. With considerable fanfare, President Clinton and the Republican Congress have at long last signed off an agreement that promises to balance the budget by 2002.

If it was just a balanced budget that the politicians wanted, they might as well have left things alone. With the U.S. economy in fine fettle, the budget deficit has all but evaporated. The robust economic growth that the country has enjoyed since 1992 has yielded tax revenues in considerably greater profusion than had been deemed likely by even the most rosy White House estimates. The surge in revenues, coupled with reduced government spending on defense and welfare, has served to bring down the budget d eficit from $290 billion in 1992 to less than $50 billion today. Since the U.S. economy churns out goods and services worth $7 trillion annually, the budget deficit has become practically insignificant. And with the economy projected to exhibit continued growth, albeit at a somewhat milder clip, the budget deficit will have ceased to exist in the next few quarters.

If the buoyancy of the domestic economy is sufficient to bring the dreaded budget deficit to its knees, why then did Clinton and the Republicans put on such a tortured show of bipartisanship in arriving at the balanced-budget agreement?

In a word, politics.

President Clinton had promised early on to offer tax relief to the middle class. Now with the economy lending a helping hand, he could finally deliver the goods. The result: An assortment of tax credits and deductions, mainly for families with children. Beholden to their more-affluent constituency, the Republicans pursued their agenda - a cut in the capital-gains and estate taxes - with almost monomaniacal zeal and finally prevailed.

And so it is that the economy is being treated to a slew of tax cuts that are not only unnecessary - given the state of full employment today - but also make the process of filling out our tax forms much more complicated. With all the various tax deductions, credits and exemptions contained in the new tax laws, only a tax accountant could possibly relish the arrival of the next April 15 filing deadline.

In the end, both parties claimed credit for hammering out the "historic" agreement - and the tax goodies contained therein. Middle-class families will find it slightly less financially onerous to raise a child, thanks to the child tax credit (of $400 per child in 1998 and $500 thereafter). College students can offset some of their costs of education through various tax credits and deductions. Individual retirement accounts (IRAs) now come in more flavors. Capital gains on homes will be treated more gener ously by the Treasury.

How about the affluent? They stand to benefit as well; in fact, the decline in capital-gains and estate taxes ensures that they will reap a significant chunk of the gains under the agreement. The top tax rate on capital-gains will initially be brought dow n to 20%, and then to 18%. With the maximum tax rate on ordinary income remaining at 39.6%, rich folks will now have even more of an incentive to alter their income in favor of capital gains.

Well, all these tax cuts sound fine, but how exactly does the government propose to balance the budget while it is reducing taxes?

By decreasing spending, primarily on Medicare. Amid the fulsome enthusiasm (irrational exuberance?) engendered by the prospect of reduced taxes, this tiny detail seems to have escaped attention. The spending cuts envisaged in the agreement do not augur we ll for doctors and hospitals who now face the unpleasant prospect of reduced payments for their services. A consequence of this, apparently overlooked in the debate, is that health-care providers will respond by reducing the quantity or quality of the ser vice they provide to Medicare recipients.

In their overweening desire to please their respective constituencies, Clinton and the Congress have squandered the opportunity to tackle some of the long-term ills afflicting the economy. Under current projections, two government programs that already co nsume large portions of the spending pie - Social Security and Medicare - threaten to lapse into insolvency within a decade or two.

Various proposals to place these programs on a sounder financial footing have been put forward. Reforming Social Security, for example, might involve a slight increase in the retirement age and a greater role for the stock market. Strengthening Medicare is likely to require higher premiums from the affluent elderly and a greater emphasis on HMOs. Since these measures are anathema to the beneficiaries of the programs, any consideration of reform will meet with strenuous opposition from senior-citizen lobbying groups such as AARP. Even a modest proposal in the Senate to raise Medicare premiums on the wealthy met with loud protests, and the idea was quickly shelved.

Raising premiums - or fees, or taxes - has never been popular; in today's environment, politicians have come to regard such actions as tantamount to committing political suicide. The rallying cry in the federal, state and local governments seems to be: Offer tax relief to the masses! A few extra dollars in the pocket at tax time, apparently, is what elected officials think will endear them to voters. The two certainties in life today have become, to paraphrase Mark Twain, death and tax cuts.

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