Last week I argued that budgeting for Medicare’s hospital insurance program is flawed. Today, I offer two ways to fix it (and reject a third).

Medicare Part A is one of several federal programs that control spending through a “belt and suspenders” combination of regular program rules (the belt) and an overall limit (the suspenders). But it’s the only one that allows legislated savings to offset the costs of policy changes in other programs and extend the time before the overall limit constrains operations.

Congress can’t increase Social Security payroll taxes to pay for increased health care spending or reduce flood insurance subsidies to pay for tax cuts; in both cases, the resources stay within the affected programs. And when it cuts spending on Medicare Parts B and D to pay for other spending, no one claims those cuts will also postpone the day when trust fund exhaustion will disrupt their operations.

Such double counting is possible only in Medicare Part A. And it’s a real problem, creating needless confusion and reinforcing the sense that Washington plays fast and loose with budget numbers.

Happily, Congress knows how to fix this problem. All it needs to do is apply to Medicare A the practices used by one of the other programs that have “belt and suspenders” budgeting but avoid potential double counting.

One approach would be the rules used by the National Flood Insurance Program. As I discussed in more detail last week, those rules require that any legislated savings remain in the program. Lawmakers can’t reduce NFIP subsidies to pay for new spending in other programs. Instead, any savings are automatically earmarked to pay future NFIP claims that would go unpaid because of the program’s borrowing limit. (For an example, see here.)

This approach brings the overall limit explicitly into the budget. But it makes for weird budgeting. For example, the budget baseline would show Medicare A breaking even over the long run, since the trust fund limit would take precedence over its fundamental deficits.

A better approach would adopt the rules used by Social Security. Those rules show Social Security running deficits far into the future in the budget baseline, but they still take the trust fund seriously when examining new legislation. Any proposed cuts to the program’s spending or increases in its revenues are “off budget”. The Congressional Budget Office reports them, but Congress can’t use them to pay for other spending.

A recent Senate bill provides a telling example. The bill would expand the type of income subject to payroll taxes in order to pay for a one-year extension of low interest rates on student loans. Those low rates would cost $6 billion, but the Senate proposal would raise $9 billion. The bill had to overshoot that much because $3 billion comes from higher Social Security taxes and is thus off limits. Meanwhile, the $6 billion in usable revenues comes from Medicare Part A, which is considered “on budget” despite having a trust fund just like Social Security’s.

That difference highlights the inconsistency in current budgeting. If policymakers believe the Part A trust fund is as sacrosanct as Social Security’s, they should provide the same budgetary protection: Part A savings should be off budget, where they couldn’t be used to pay for health reform, student loans, tax cuts, or anything else outside the hospital insurance program.

If Congress doesn’t believe the trust fund deserves that protection, it should adopt a third approach: make the Part A fund as operationally toothless as the one for Medicare B and D. Those programs spend much more than they receive, so their trust fund has unlimited ability to draw on general revenues. If the same were true for Medicare Part A, program changes could be used to pay for health reform (as they were in 2010) or anything else, just like any other mandatory program. But we wouldn’t have any confusion over whether those changes also extend the program’s ability to operate.

The Social Security and Medicare B and D approaches both make more sense than the mishmash that applies to Medicare A today. I think the Medicare B and D approach is the better of the two, not least because it would put all the parts of Medicare on equal footing. But one could certainly argue for the Social Security approach instead. That’s the discussion we should have now so that we can avoid needless double-counting debates in the future.

P.S. Several readers noted an important qualification to my Social Security discussion in my earlier post. Many experts believe past Social Security surpluses have been used to finance deficits in the rest of the budget and, as a result, Social Security resources have been paying for higher spending or lower revenues elsewhere in government. I agree. My comments in these posts apply only to explicit budgeting decisions, like those in 2010’s health reform or today’s student loan legislation. In that context, Social Security savings cannot be legislatively used to pay for other programs. But they still might have indirect effects. For example, by reducing future unified budget deficits, Social Security savings might weaken future congressional efforts to reduce deficits outside Social Security.

Listening to Barack Obama and John Boehner over the past few days put me in mind of two testosterone-addled 22-year olds preparing for a bar fight, rather than the President of the United States and the Speaker of the House discussing fiscal policy.

First, Boehner kicked off this high-level “whose your mama” conversation by demanding that Democrats agree to massive spending cuts as the price for allowing the U.S. to continue to borrow from the bond markets. No tax increases allowed.

At one point in his May 15 speech to a room full of budget wonks, Boehner began a sentence with the phrase, “Yes, allowing America to default would be irresponsible…”

The very fact that the Speaker of the House would follow that phrase with a… but… was itself remarkable. And sad.

But Boehner is absolutely right. Cutting off access to the bond markets (we wouldn’t really default, but that’s another story) would be irresponsible. Yet Boehner sounds like he can’t wait to replay the fiscal slugfest of last summer. “We shouldn’t dread the debt limit,” he said, “We should welcome it.”

Obama responded by inviting the congressional leadership to a White House lunch, where he unhelpfully warned that a rerun of last year’s fiscal debacle is “unacceptable.”

The context for all of this, of course, is the coming fiscal train wreck. Sometime in late 2012 or early 2013, the U.S. will reach its legal borrowing limit, just as the 2001/2003/2010 tax cuts will all expire, and deep automatic cuts will be made to some government programs, including defense.

Almost nobody in Washington wants all three of these things to happen.  But as long as both parties continue to treat this as a partisan brawl, they could.

Boehner knows full well that a lame-duck Senate will never pass anything that resembles the House GOP’s spending cuts-only budget. In fact, a day after his speech, the Senate voted on that budget. It got 41 votes. Then, it voted on another version offered by Senator Pat Toomey (R-PA). That one got 42 votes. Then, it voted on a budget that would cut the size of government in half over 25 years. That got 17 votes.

For his part, Obama understands that declaring that hostage-taking is not acceptable is equally meaningless. It wasn’t acceptable last summer either, yet it happened.     

So what is it that Boehner and Obama are really saying?

An optimist, which I am not, might think this is exactly the sort of macho posturing two 22-year olds do to avoid a fight. They splash their drinks and pound the bar. They wave fingers in one another’s faces and yell a lot, but they are really looking for a face-saving way to avoid a busted nose.

A pessimist would say that both men, but especially Boehner, are captive of political forces beyond their control. The speaker is again being goaded into this brawl by a group of GOP lawmakers who can think of nothing more productive than busting up the bar.

Then, of course, there is presumptive presidential nominee Mitt Romney, whose view of all of this is…well, we don’t actually have any idea what he thinks about a repeat fiscal showdown.

And Obama, who needs an enthusiastic base to win re-election, is hardly in a position to appear willing to deal with the GOP on, for instance, big changes in Medicare and Social Security.

Thus, we all prepare for a slugfest. And make sure we know the fastest route to the door when the chairs start flying.             

Now that a once-obscure J.P. Morgan Chase derivatives trader named Bruno Iksil has become infamous as the London Whale, I suppose it is time to ask whether what he does should be subject to new taxes.

The question predated Mr. Iksil’s misadventures, of course. Ever since the U.S. financial crash of 2008 and the beginnings of the pending Euro-zone financial collapse, governments have been debating whether financial services should be subject to a new tax.

Such a levy could, in theory, accomplish at least three goals: It could raise revenue for countries under great fiscal stress, assure that the financial sector (which often avoids tax) pays a “fair and substantial” share of taxes, and discourage bad behavior and thus stabilize markets.

These last two aims are especially important since the cost to governments of bailing out stupid (at least) financial institutions has run into hundreds of billions of dollars over the past four years.

Of course, such a tax could also have damaging unintended consequences that would damage financial markets.  

If they should be taxed, the really interesting question is: How? There are at least three major alternatives—and lots of variations on the theme.

The first option is a financial transactions tax (FTT) that imposes a levy on each trade without regard to profits or losses.  Thus, if I buy a share of stock for $10 and then sell the same share for $10, I’d be taxed on the value of both transactions even though I made no money. The European Commission recently proposed such a tax for the EU, and Sen. Tom Harkin (D-IA) and Rep. Peter DeFazio (D-OR) proposed one in the U.S.

The second option is a financial activities tax (known, sadly, as a FAT). This tax, which has been proposed by the International Monetary Fund staff, is levied only on net proceeds of securities transactions. You could think of it as a Value-Added Tax on financial transactions—which are normally exempt from the VAT.

Just to make things even more interesting, some versions of the FAT would not tax all profits, only those that are very high. They might, for instance, have taxed some of the big derivatives bets that Wall Street placed in the early 2000s.

The third idea, which has been proposed by the Obama Administration, is a direct tax on the balance sheets of large, financial institutions. The idea is that a firm should pay a tax that reflects its contribution to systemic risk—and, thus, its likelihood of needing a taxpayer bailout.

The differences between even the FAT and FTT can be pretty arcane. As New York University law professor Dan Shaviro, who has written a terrific paper for Tax Notes on the subject, says, “It is difficult to imagine a question that initially sounds as tedious as whether we should tax financial transactions or activities.”

But this choice is a very big deal. For instance, taxing every transaction could generate an enormous amount of money, even with a very low rate. A 0.01 percent tax would collect $16 billion Euros annually and the Harkin-DeFazio 0.03 percent tax could raise $350 billion over 9 years. Because the FAT taxes only profits, it would take a much higher rate to generate as much revenue.

And there are other questions: What is a financial transaction? How, in fact, would those derivatives that created so much unpleasantness for J.P Morgan in recent days, be taxed?

Then, there is tax competition. Even if all the world’s major developed countries adopted the levy, what would prevent financial markets from decamping to some warm Caribbean island to avoid the tax?   

If you’d like some answers to these timely questions, the Tax Policy Center is sponsoring a panel on the subject on Friday.  Panelists include Dan Shaviro, IMF Deputy Director for Fiscal Affairs Michael Keen, Tax Notes contributing editor Lee Sheppard, and AFL-CIO special counsel Damon Silvers. TPC visiting fellow Steve Rosenthal will moderate.

Robin, thanks for asking me back on Good Morning America to talk about my views on tax reform. After we spoke about gay marriage, I got to thinking about another deeply-held emotional issue that affects every American family.

Well– you know, I have to tell you, as I’ve said, I’ve– I’ve been going through an evolution on this issue. I’ve always been adamant that Americans should be treated fairly and equally. I do believe we ought to have a revenue code that raises enough money to fund the government we want. And we should do it in a way that interferes as little as possible in the market economy.  

I’ve stood on the side of tax reform. But I had hesitated– in part, because I thought tinkering around the edges would be sufficient–something that would close a few loopholes and raise taxes on the rich. And– I was sensitive to the fact that– for a lot of people, you know, the– the phrase tax reform is something that evokes very powerful reactions, brings out the lobbyists, and so forth.

But I have to tell you that over the course of several years, as I talk to friends and family and neighbors. When I think about members of my own staff who pay very high tax rates, who are raising kids together but are thrown into the Alternative Minimum Tax…. When I think about new businesses that are unable to take advantage of the same tax subsidies that their bigger, more established competitors can and cannot commit themselves to expanding their business….

You know, Malia and Sasha, they’ve got friends whose parents make the same income and even do the same kind of work, but who pay very different effective tax rates.  And I– you know, there have been times where Michelle and I have been sittin’ around the dinner table. And we’ve been talkin’ and– about their friends and their parents. And Malia and Sasha would– it wouldn’t dawn on them that somehow their friends’ parents would be treated differently. It doesn’t make sense to them.

And– and frankly– that’s the kind of thing that prompts– a change of perspective. You know, not wanting to somehow explain to your child why somebody should be treated– differently, when it comes to– the eyes of the law.

At a certain point, I’ve just concluded that– for me personally, it is important for me to go ahead and affirm that– I think the tax code needs a major reform. Now– I have to tell you that part of my hesitation on this has also been I didn’t want to politicize the issue. There’s a tendency when I weigh in to think suddenly it becomes political and it becomes polarized.

And what you’re seeing is, I think, Members of Congress working through this issue– in fits and starts. Different policymakers are arriving at different conclusions, at different times. And I think that’s a healthy process and a healthy debate. But this is an issue upon which the President must lead, and that is what I will do.

That is why I have asked Treasury Secretary Tim Geithner to develop a detailed, specific tax reform plan in consultation with congressional leaders of both parties, business leaders, and others. I will present this plan to the American people next January and will strongly urge Congress to complete action on the bill by the end of 2013.

Thank you Robin, for letting me get this off my chest.   

The recent double-counting dispute isn’t just about politics; it also reveals a flaw in budgeting for Medicare Part A.

Budget experts are waging a spirited battle over the Medicare changes that helped pay for 2010’s health reform. In April, Chuck Blahous, one of two public trustees of the program, released a study arguing that the Affordable Care Act (ACA) would increase the deficit by at least $340 billion by 2021, a sharp contrast from the $210 billion in deficit reduction estimated by the Congressional Budget Office (CBO).

Chuck bases his estimates on several factors, but the item that has garnered the most attention is his charge that the ACA’s spending cuts and revenue increases in Medicare Part A are being double counted: once to help pay for the ACA’s coverage expansion and a second time to improve the finances of the Part A trust fund, whose predicted exhaustion was delayed by several years.

Chuck notes that those resources can be used only once: They can either offset some costs of health reform or strengthen Medicare, but not both. He believes those resources will ultimately finance additional Medicare spending and thus can’t offset any health reform costs. For that reason, he concludes that the ACA would increase deficits, rather than reduce them.

That argument inspired a host of commentary from leading budget experts, ranging from denunciation to affirmation. See, for example, Jeffrey Brown, Howard Gleckman, Peter Orszag, Robert Reischauer (as quoted by Jonathan Chait), and Paul Van de Water, and a follow up by Chuck and Jim Capretta.

Why does this dispute exist? It can’t just be politics. If it were, we’d have double-counting disputes about every program. But we don’t. We thus need an explanation for why this debate has erupted around Medicare Part A, which provides hospital insurance, but not around other programs. Part A is not unique in controlling spending by a “belt and suspenders” combination of regular program rules (the “belt”) and an overall limit (the “suspenders”). Such budgeting also applies to Social Security, Medicare Parts B and D (which cover physician visits and prescription drugs), and the National Flood Insurance Program. The federal debt limit acts as “suspenders” for the entire budget. But none of those give rise to double-counting disputes.
That suggests that there is something unusual—perhaps flawed—about budgeting for Medicare Part A. To see what that is, it helps to boil the dispute down to two basic questions about programs subject to “belt and suspenders” budgeting.

First, can spending reductions or revenue increases in the program offset spending increases or revenue reductions in other programs? In short, can budget savings pay for other programs? Or must they stay within the program itself?
Second, would hitting the overall budget limit affect program operations? In other words, do budget savings extend the period during which the program can operate at full capacity? Or is the limit operationally toothless?

As shown above, policymakers have answered these questions differently for different programs (for further details, see the appendix).

This comparison reveals the unique feature of Medicare Part A: It is the only one of these programs that allows budget savings to pay for other programs and has a trust fund with real operational teeth. It alone answers Yes to both questions. That is why Medicare Part A is the only program that creates the possibility of double counting and suffers from the reality of a double-counting dispute.

Double counting isn’t possible in Social Security or the NFIP because budget rules require that savings stay in the program. It isn’t possible for the budget as a whole since there are, by definition, no other programs to fund. And double counting isn’t possible in Medicare Parts B and D because its trust fund does nothing to limit operations.

But double counting is possible in Medicare Part A. That happens whenever someone claims that the health reform legislation both reduces deficits and provides additional resources to Medicare Part A. I will leave it to others to adjudicate whether any health reform proponents committed that error. I will note, however, that every budget expert, including Chuck Blahous, agrees that CBO didn’t do so (its baseline ignores the trust fund, so savings reduce deficits and have no effect on program operations).

Bottom line: The peculiar budget rules for Medicare Part A make it possible for analysts, pundits, and policymakers—whether willfully or inadvertently—to double count budget savings in Medicare Part A. That needless confusion is a significant flaw. To correct it, Congress could adopt the budget practices it uses in Social Security, Medicare B & D, or the NFIP. In a follow-up post, I will examine the pros and cons of these alternatives.

 Appendix: How “Belt and Suspenders” Budgeting Works

In Medicare Part A, spending is determined by rules about benefit eligibility and provider payment rates. If the Hospital Insurance (HI) trust fund balance falls to zero, however, spending faces a separate, hard limit: payments can’t exceed receipts. Program operations would thus be disrupted if the trust fund became exhausted. Congressional budget rules ignore the trust fund and assume that spending will continue at scheduled levels regardless of its balance. Under that approach, any spending reductions or revenue increases in Medicare Part A generate new budget resources that can be used to pay for changes in other programs.

Social Security operates differently. It faces the same operational limitations as Medicare Part A if its trust fund balance falls to zero. But Congress enacted special rules that forbid any Social Security spending cuts or revenue increases being used to pay for other programs. Such savings therefore accrue in the trust fund. The trust fund thus matters for operations, and savings cannot be directed to other parts of the government. (Social Security actually involves two programs, one for retirement and one for disability, and two corresponding trust funds; these comments apply equally to both.)

Medicare Parts B and D operate in a third way. Like Part A and Social Security, their spending is determined by eligibility and payment rules and gets paid out of a trust fund (the Supplementary Medical Insurance or SMI trust fund). But that fund has unlimited right to draw on general tax revenues. A zero balance thus results in general revenue transfers, not operational disruptions. Reforms don’t increase the life of the trust fund (since it can never go broke), and savings can be used to finance other programs.

The National Flood Insurance Program operates in yet another way. The NFIP is required to finance itself out of its insurance premiums; if its costs exceed those premiums, it can borrow from the federal government up to a specified limit. Once that limit is reached, payments can’t exceed its revenues, and operations are disrupted. The borrowing limit thus acts like the trust fund balance in Medicare Part A or Social Security, except that it allows the program to go a fixed amount into the red.

Congressional budget rules treat the borrowing limit as a fundamental restraint on NFIP spending. If the program is expected to run annual deficits, as it is today, those deficits exist only until the borrowing limit is reached. After that, the NFIP is projected to break even, with spending restrained to equal revenues. If Congress reduces the annual deficits in the NFIP (e.g., by increasing premiums), those savings allow the program to operate longer before reaching its borrowing limit. Any temporary budget savings thus get offset by increased NFIP spending in later years. Those temporary budget savings thus cannot be used to offset spending in other programs (unless hitting the borrowing limit is pushed beyond the budget window).

The debt limit, finally, acts as a “suspenders” restraint on deficits incurred by the entire federal budget. As we saw last summer, the debt limit threatens real operational restraints. Spending reductions and revenue increases can delay when the debt limit is reached. But they cannot be used to pay for other programs. Why? Because there are no other programs. The debt limit thus operates like the Social Security trust fund: it imposes an important operational restraint, and budget actions used to avoid it cannot pay for other programs.

Europe is undergoing a massive political upheaval. You may have noticed.

Caught in the wake of deep recession, painfully high unemployment, bank failures, and growing demands for fiscal austerity by the bond markets, governments across the continent are collapsing.

In November, voters in Spain dumped a Socialist government for the conservatives. Last weekend in France, voters replaced conservative President Nicolas Sarkozy with a Socialist. In the past year, governments have fallen in Portugal, Italy, and Denmark, just to name a few. In Greece, voters tossed out just about everyone and at the moment the nation has no government at all. In Britain, PM David Cameron’s ruling conservatives are polling at about 32 percent

It is easy to look at all this and see a massive rejection of fiscal austerity. Certainly, many Democrats in the U.S. take that message even as they fret over a multinational “throw the bums out” tidal wave (There are some exceptions such as Russia, where the bums enjoy the unfettered ability to rig elections).

But is the left in the U.S. right, er, correct? Is the lesson from Europe that deficit reduction is a loser and the key to political success is short-term economic growth? If it is, Republicans may find themselves on the wrong side of history in the coming election.

I suspect, however, that the story is more complicated than that. In Europe, economy is in worse shape than here, spending cuts are deeper, and tax increases steeper.  We are not Europe, at least not yet.

For instance, overall unemployment in the European Union averages 10.1 percent, two full percentage points higher than here. In Spain it is a staggering 23 percent. In Greece, nearly 21 percent.

It is the same story with taxes. Ireland has raised its Value Added Tax rate to 23 percent. Spain has raised its VAT to 18 percent. In the U.S., GOP rhetoric notwithstanding, we have been cutting taxes throughout the Obama years, not raising them.

And spending cuts? The sort of budget cutting going on in Europe is far more draconian than what the U.S. has seen. In Greece, for instance, government spending as a share of the economy is projected to drop by nearly 6 percentage points from 2009 to 2012. By contrast federal outlays in the U.S. are expected to fall by about 2 percent of GDP over the same period, nearly all from the expiration of one-time spending programs such as the TARP and other stimulus.

Even the 2012 House Republican budget would have made relatively modest cuts. For example, it would have reduced all discretionary spending by about $40 billion from 2011 levels—a cut of about 0.4 percent of GDP.

Am I suggesting that austerity could be a winning campaign platform in the U.S.? Hardly. Even in the best of times, Americans oppose most spending cuts(with the exception of foreign aid and “earmarks”) and favor raising taxes on only rich people (of whom there are, conveniently, relatively few).

But the parameters of the fiscal debate are far narrower here than in Europe, and the economy is much healthier. Oddly, the only true short-term austerity budget on the table is the end-of-the-year do-nothing option. That’s where congressional gridlock lets the 2001/2003/2010 tax cuts expire, the automatic spending cuts Congress approved in 2010 kick in, and Congress fails to increase the debt limit.

But short of that, there is only real lesson for us to learn from the recent European experience:  The U.S. needs to fix its long-term budget problem as soon as it can, and on its own terms. Because you never, ever, want to find yourself at the mercy of the bond vigilantes. If y0u don’t believe me, just ask the Greeks.

Critics of the Buffett Rule often argue that the idea is hardly worth the trouble since it would raise taxes on less than a tenth of one percent of Americans and generate less than $5 billion a year. With annual deficits projected at 100 times that amount over the next decade, the additional revenue is little more than rounding error, they say.

But that $5 billion revenue estimate assumes a reality that most critics of the Buffett tax reject. If you think the 2001/2003/2010 tax cuts should be extended—an idea most opponents of the millionaire tax support—revenues would increase by a much more significant $162 billion over the decade. And that’s hardly the chump change they imply.

As usual, it is all about the baseline. The Joint Committee on Taxation (JCT) says that the Buffett Rule as proposed by Senator Sheldon Whitehouse (D-CT) would increase revenues by $47 billion over the coming decade, assuming that the 2001-2010 tax cuts expire as scheduled. Why? If those tax cuts disappeared, more millionaires would pay higher taxes and thus be exempt from the Buffett Rule’s minimum tax.

But those who oppose the Buffett Rule also demand that Congress make permanent most, if not all, of the expiring tax cuts. The resulting lower tax bills would make more millionaires subject to the Buffett Rule, boosting the revenue gain to $162 billion over the decade according to JCT, more than three times the increase under the expiration scenario. The problem is that extending the tax cuts pumps up the deficit too—more than tripling its size in 2022, according to the Congressional Budget Office. In effect, the Buffett tax would make a very bad fiscal situation slightly less awful.

Politicians can argue all they want about how and how quickly we should close the deficit. That’s their job. But they should be consistent in the bases for their arguments. Using different assumptions depending on the point they want to make weakens everything they say.

These days, some people want to impose a new Buffett tax on millionaires while others are outraged that low income people pay no income taxes at all and still others want to cut taxes on “job creators.” All in the name of fairness.

Is the tax code fair? Should it be?

It all depends on what you mean by fair, of course, but at an Urban Institute panel this week, two economists, a tax historian, and a philosopher agreed that in many important ways, it very likely is not.

Fairness is one of those concepts that makes economists really nervous. Because it is so subjective and impossible to measure, they usually avoid the idea entirely, preferring to stick with what they can count.

Still, my Tax Policy Center colleague Gene Steuerle, Brookings Institution economist Belle Sawhill, Tax Analysts historian Joe Thorndike, and Howard University philosophy professor Charles Verharen joined moderator Greg Ip, The Economist’s U.S. economics editor, in tackling the issue. The result was a fascinating look at a complicated issue from some very different perspectives.  It is well worth watching.

Gene divided fairness into three categories:  The first, which he calls the king of principles, is equal justice (what economists define as horizontal equity). Are people with equal ability to pay taxed equally?

The second is progressivity (vertical equity in econo-speak). Do the better off pay more tax than those who are less well off?  

The third is individual equity. Are we entitled to keep the rewards of our own work? Is it unfair if we cannot?

To that, one could add a fourth, which Gene and TPCs Rudy Penner have written about extensively. And that is generational equity. For instance, is it fair to burden those not yet born with the bill for the cost of maintaining our standard of living?

Verharen argued that fairness, which he defined as love for those most in need  (others may say individual sacrifice for the greater good), is hard-wired in family relationships and in much religious thought—to say nothing of Karl Marx. But, he noted, the concept of fairness has changed dramatically over the centuries. Once, and still in some cultures, killing a sick child to preserve the rest of a family is considered “fair.”

In a much less profound way, our concept of tax fairness has also evolved over the past two centuries. Joe Thorndike reminded the audience that for much of U.S. history, people were taxed on what they consumed (mostly through tariffs and excise taxes). But from the Civil War though the late 19th century, tax fairness was redefined as ability to pay. The result: the rise of the progressive income tax.

But, Joe says, the idea was to distribute the tax burden, not to redistribute wealth. And that raises the question about whether today’s tax laws are an effective way to address income inequality. Assuming, of course, that you think it is even a problem.  

Much of the current political debate is over Gene’s concept of equal justice. With a tax code larded with $1 trillion in tax preferences aimed at rewarding some taxpayers and punishing others, we are far from a system where people with equal incomes are taxed equally. As Greg asked, if this concept is so important, why do we do it so badly?

And that raises yet another interesting question: Fair relative to what? Why do we presume that the current distribution of taxes is the right one, and thus judge proposals not on their own merits but compared to what we do today?  

Finally, Belle and other panelists warned that it is dangerous to think about the tax code in isolation. Shouldn’t a measure of fairness also consider who benefits from direct government spending, as well as that $1 trillion in tax preferences?

It probably should. That is, once we decide what we mean by fairness in the first place.

Sellers of stocks and other assets have always had to calculate their cost basis (generally, what they paid for the investment) in order to figure their taxable capital gains. In the past, this was often a hit-or-miss experience that required lots of tedious research (occasionally with help from brokers) and more than a bit of guesswork. This year, for the first time, Congress required stock brokers to report cost basis to both the IRS and taxpayers.  Next year, mutual funds must report.  The reporting will apply only to newly-purchased stock, so there will be a long transition to the new system.

The goal is to make things easier for taxpayers and improve compliance (that is, reduce mistakes, deliberate or not).

This is a laudable aim, but the IRS faces a number of challenges to make this initiative work. Here are five, excerpted from a new article I wrote for Tax Notes, Basis Reporting:  Lessons Learned and Direction Forward.   

1. Congress standardized the information that brokers and mutual funds must report.  It also required taxpayers to either select a basis method (e.g., first-in-first-out (FIFO), average basis, or identification of the specific securities sold) in advance or accept the default choices made by their brokers or mutual funds.  These steps improve the quality and consistency of the information, which in turn will facilitate information matching by the IRS, but they greatly confuse taxpayers, at least in the near term.
2. Taxpayers are permitted too many choices to calculate their gains and losses, which greatly complicates reporting.  So, for mutual fund shares, taxpayers must now decide whether to provide standing instructions to determine the order in which their shares should be sold (e.g., highest basis first), whether to identify specific lots of shares to be sold at the time of sale, whether to elect average basis for their shares (separately for each of their accounts), and whether to revoke or change their average basis elections.   And the mutual funds must capture, maintain, transfer, and report these basis choices.
3. By law, taxpayers are responsible for reporting their gains and losses correctly on their tax returns, regardless of the numbers they received from their brokers.  So, for example, the IRS expects taxpayers to adjust cost basis to reflect tax rules, such as wash sales, which the brokers might not have reflected.   In practice, however, most taxpayers will simply transfer the numbers reported to them by their brokers to their income tax returns, and hope for the best.
4. The IRS expects to match the new information reports to taxpayer returns to identify misreporting.  Whether the IRS can distinguish taxpayer misreporting from system errors in matching is unclear.  However, the mere threat of information matching is likely to improve taxpayer compliance.
5. Technology advances, such as information reporting and tax preparation software (like Turbo Tax), shield taxpayers from the tax determination process, which is both helpful and harmful.  It’s helpful if taxpayers can save time and effort by using the information provided, but harmful if taxpayers cannot confirm or understand the information they have received.

With all of these problems, is basis reporting worth it?  I believe the answer is yes, but the transition will be painful.

(Full disclosure:  I advise Wolters Kluwer Financial Services–the publisher of GainsKeeper tax software.  The views I express are my own and not those of Wolters Kluwer Financial Services.)

A House panel today began what could be the beginning of a remarkable exercise: It is reviewing the merits of dozens of expiring tax provisions that litter the Revenue Code. I hesitate to say so, but this could be a case of Congress doing its actual job.  

By the Joint Committee on Taxation’s count, 75 of these tax extenders have already expired this year or will do so before New Year’s Day. That doesn’t include tax breaks related to the Transportation Trust Fund or federal disaster relief.

It is quite a collection: Subsidies for both oil and gas and alternative fuels, enhanced charitable contributions for computers, the infamous NASCAR race track give-away, and special tax breaks for movie and TV producers, mining companies, railroads, rum, and investment companies to name only a few. And, of course, the Research and Experimentation Tax Credit that has taken on mythical status in Washington yet seems to do little or nothing to enhance research.    

The House Ways & Means Select Revenue Measures subcommittee began its review today by hearing from fellow Members of Congress—most of whom wanted to preserve one subsidy or another.

This effort may not only be good government, it also takes certain amount of courage on the part of Committee Chair Dave Camp (R-MI) and subcommittee chair Pat Tiberi (R-OH).  After all, eliminating any tax breaks is heresy in some precincts of the GOP. Yet Camp seems prepared to take some on.

Now, a cynic might suggest that this review, coming in the heat of the election season, is little more than a campaign finance shakedown. The temporary nature of these tax breaks serves two very valuable purposes for Members of Congress. It allows them to misrepresent the true 10-year budget cost of these subsidies.  And, when it comes to campaign contributions, they are the gifts that keep on giving.  

The mere mention that Congress is reviewing an extender is good for a fundraiser or two, to say nothing of helping fill the coffers of the lobbyists who are often themselves ex-members or former Hill staffers.

Still, the only real benefit of making tax subsidies temporary is to give Congress a chance to review them. In a perfect world, lawmakers would consider the economic costs and benefits of each provision and choose whether or not to continue it (of course, in a truly perfect world, Congress  would do this before it ever passed the bill in the first place, but let’s not get carried away).

This review almost never happens. Instead, after much delay and speechifying, Congress mindless extends the subsidies en bloc.

The political pressure to do this is immense. Today, for instance, the Business Roundtable, which represents CEOs of many of the nation’s biggest companies, told Congress   it “strongly supports the immediate and seamless extension of the expired business tax provisions from last year.”

My guess is that if you asked one of these corporate execs to name just three of the dozens of tax breaks the BRT has so wholeheartedly embraced, you’d get a blank stare. Yet, this group—which regularly demands that Congress address the budget deficit–wants all the business extenders extended (it said nothing about individual tax breaks that are also expiring).

So, political cynicism aside, give Camp credit for beginning a process that may lead to a serious review of these tax code subsidies. Now, let’s see if he follows though by proposing to get rid of some of the worst.   

By now, many readers of TaxVox know how much Barack Obama and Mitt Romney pay in taxes. But true tax wonks are more interested in why the candidates paid what they paid. A new infographic from the Tax Policy Center tells that story.

The interactive display of the president’s and Romney’s (preliminary) 2011 tax returns walks readers through each return to show the sources of income, how income from each source is taxed, the components of the candidates’ income and payroll tax bills, and their effective tax rates. We also toss in Vice President Biden’s return as well as one for a typical middle-class couple with children. All four returns are joint filings by the married couples.

The results are interesting, if not surprising. The president’s 2011 income came in almost equal parts from his White House job and his book royalties. The Obamas claimed itemized deductions totaling 37 percent of their adjusted gross income (AGI)—mostly for charitable contributions—and ended up paying 19 percent of their AGI in income taxes and another 4.4 percent for combined employee-employer payroll taxes.

Mitt Romney’s taxes are another story. More than half of his 2011 income was long-term capital gains and qualified dividends that face a reduced 15 percent tax rate. His itemized deductions reduced the amount of his income subject to ordinary rates by 60 percent. Bottom line: an income tax bill equal to 15.4 percent of his AGI—a percentage point higher than his 2010 rate. And because so little of his income was from working, his payroll tax rate was just 0.6 percent of AGI.

Our typical middle-class married couple paid a slightly higher federal tax rate than the Romneys: 16.7 percent of their $70,000 AGI for income and payroll taxes (again both employer and employee shares). But the breakdown of taxes was very different for the two families: Our typical family paid just a 3.5 percent income tax rate but a 13.3 percent payroll tax rate because virtually all their income came from wages.

Vice President Biden offers yet another situation: Both he and his wife worked and paid payroll taxes. Social Security benefits and a pension boosted them into the next-to-top tax bracket and they had relatively few deductions—just 18 percent of their AGI. That left them paying 22.9 percent of their AGI in income tax and another 7.5 percent in payroll taxes—roughly the same as the Obamas but significantly higher than the Romneys.

Note that these calculations leave out other taxes that all four taxpayers might pay: corporate income tax, excise taxes, and state and local taxes. Including those levies could change the four stories substantially.

Overall the U.S. federal tax system is highly progressive. As a group, high-income households pay much larger shares of their income than those with low incomes pay. But within each group, where income comes from can yield sharply different tax rates. Check out the infographic and see how that works for the candidates.

In testimony before the Senate Committee on Finance this morning, I discussed what federal tax reform would mean for state and local governments and how Congress could help by coordinating tax law across states. Here are my opening remarks. You can find my full testimony here.

With increasing concerns about the federal deficit, fairness, and the complexity and inefficiency of our tax system, the need for fundamental federal tax reform is critical.  Often overlooked, however, is the fact that any such reforms will also affect the tax and fiscal policies of state and local governments.  Although the country’s economic condition is improving, state and local governments are still struggling to balance their budgets.  They also play an important role in our economy, running about half of all domestic public programs and with state and local spending making up about 15% of gdp.

 Decisions about changing federal policy should take into account the potential effects on state and local government budgets in both the short and the long run.

 I will make 4 points today.

 Federal tax policy and reform can help or hurt states. Federal policy affects how attractive specific taxes are for state and local governments and, therefore, how those governments organize their tax and revenue systems.  State revenue sources—especially income taxes—often piggyback on federal rules. More specifically, statutory changes in federal law can result in significant increases or decreases in state revenue. For example, state income tax revenue increased after the 1986 tax reform expanded the federal income tax base, and allowed states to also reduce their rates. In contrast, the elimination of the state and local tax deduction could increase the cost to state and local governments of providing services.

 Unstable federal tax policy trickles down to the states and uncertainty is especially problematic for state and local governments.  State and local governments are required to pass balanced budgets every year.  This requires being able to accurately forecast revenues. Problems with state tax systems are exacerbated by uncertainty in federal tax rules. Temporary extensions of credits, deductions, and tax rates complicate state forecasting. Policy changes and uncertainty can directly affect state tax bases through changing definitions of income or indirectly due to changes in taxpayer behavior.  Especially problematic has been uncertainty about future federal estate taxes and tax rates on dividends and capital gains, sources of volatile income for states

 If fundamental tax reform is undertaken, transition relief might be important for state and local governments. Tax changes can help or hurt states, but understanding the short-run effects will be important and may require slower adoption of policies or some fiscal relief.  Understanding the state of the economy and the fiscal health of state and local governments will be important.

 Due to our federalist system, Congress has a role in helping to coordinate or protect the existing state and local tax base. State and local governments’ ability to raise revenue can be hobbled by limitations that Congress could remove. Most notably, Congress could enact legislation that could help coordinate action across states and would help enable state and local governments to collect taxes on internet and mail-order sales.

Other panelists explored the costs of current federal tax preferences—the state and local tax deduction and tax-exempt municipal debt—that affect state and local governments as well as how federal legislation could help state and local governments coordinate tax policy in the face of changing technology.  The hearing was lively and a good mix of both considering long-term reform and more practical measures that Congress is more likely to act on. 

Opening statements from Senators Baucus and Hatch and the other witnesses are here.

My Tax Policy Center colleague Eric Toder and I are mystified by how unRepublican the House GOP’s Small Business Tax Cut Act really is. Sure, cutting taxes for businesses and high-income individuals is very much part of the Republican playbook these days. But the mechanics of this one seem to fly in the face of what many in the party have been saying lately.

The bill would allow both C corporations and pass-through businesses with fewer than 500 employees to deduct 20 percent of their income from federal income tax for one year. The proposal was wrapped in rhetoric about job-creators and small businesses. But, in fact, it is exactly the sort of anti free-market, short-term industrial policy that Republicans rightly decry when Democrats try it.

To see how, let’s pull the bill apart:

It favors some businesses over others: By limiting its definition of eligible businesses to fewer than 500 workers, this bill would penalize firms that rely on labor instead of capital—quite the opposite of what you’d expect from a jobs-creating bill.

For instance, the measure would benefit hedge funds, real estate partnerships, and law firms—many of which are unlikely to hire many more workers as a result of the new tax break.

Even Mitt Romney’s former investment firm Bain Capital might be eligible for this “small business” subsidy. Although it manages an estimated $66 billion, Bain employees only 400 professionals. With a lean enough support staff, it might be one of those lucky small businesses.  

The bill would also reward established, profitable firms rather than new, fast-growing businesses that have little taxable income and would be less likely to benefit from a new deduction.  

It encourages franchises and spin-offs rather than direct hiring. While the bill includes some anti-gaming rules, these often can be successfully manipulated. As a result, firms will find ways to benefit from the tax cut merely by changing the way they organize themselves—choices that do nothing to increase employment or economic growth.     

In effect, two firms with the same amount of gross receipts would be taxed differently for reasons that seem completely arbitrary.  Of course, this happens all the time today. But why make it worse? The GOP rightly criticizes government for picking winners and losers. That’s exactly what this bill would do.

It is a temporary tax cut. Last year, the GOP ripped Democrats for temporarily extending the payroll tax cut. Temporary tax cuts, Republicans argued, do little to boost economic growth. So why did they propose this tax cut for only one year?

Probably for the same reasons Democrats do—so it would appear to increase the deficit by far less than it likely will. The Joint Committee on Taxation estimates the bill would add $46 billion in red ink over 10 years. But in reality, it would add nearly all of it in the first two years (it would take two because of the difference between the government’s fiscal year and the tax years of most companies).

I’m willing to bet this “temporary” tax cut would become just one more in the long list of tax extenders that never die. So the real 10-year cost would not be $46 billion, but hundreds of billions more.  

If the tax cut really is temporary, many of the perverse effects I’m complaining about might not occur. For instance, most companies would not change their corporate form to take advantage of a one year tax break. Of course, a temporary  tax cut would also be less likely to create any new jobs and instead would be pure windfall to eligible firms.

On top of all of this, TPC finds the measure would overwhelmingly benefit high-income households and do almost nothing for the middle-class.   

As everyone knows, this bill will die in the Senate. Thus, it is said, House Republicans wanted to pass it to send a political message. Perhaps, but as public policy, this plan is awfully lame.              

It has sometimes been said, even by me, that the easiest way for Congress and the White House to fix the deficit is to do… nothing. Allow the 2001/2003/2010 tax cuts to expire as scheduled in eight months, let the automatic spending cuts enacted in 2011 kick in as planned and, voila, the short-term fiscal problem is pretty much resolved.

There, however, one small problem: Such policy by paralysis would likely wreck a still-fragile economy. A new analysis by my Tax Policy Center colleague Dan Baneman finds that letting the Bush/Obama tax cuts (including the payroll tax cut) fall off the cliff would increase taxes on an average American household by $3,000 in 2013 alone. That’s a steep 5 percent cut in after-tax incomes.

Eighty-three percent would see their taxes rise, and among those making about $60,000 or more, just about everyone would face a tax hike. Those making between $50,000 and $75,000 would pay about $2,200 more, while those making more than $1 million would pay $175,000 more. The top 0.1 percent, whose income averages nearly $7 million, would pay a whopping $480,000 more.

On top of massive spending cuts, this year-end train wreck would result in a deeply austere budget.  Taxes would increase by 2.5 percent of Gross Domestic Product in a single year, the Congressional Budget Office estimates. Nominal spending would fall for the first time since 1955. With interest rates already close to zero, the Federal Reserve could do little to offset this fiscal austerity.

The deficit would fall, all right. The Congressional Budget Office figures the deficit would decline from 7 percent of GDP this year to 3.7 percent in 2013 and to a very manageable 1.5 percent by 2015.  

It would, that is, if the economy didn’t collapse.

There are, of course, two solutions to this looming crisis. The first, and most sensible, would be for Congress and the president to gradually reduce spending growth and slowly raise revenues through tax reform. The second, and most likely, would be for Congress to extend the current tax rules for yet another year and delay those automatic spending cuts.

What Congress is least likely to do, however, is raise taxes by an average of $3,000 next year. You can take that to the bank.     

When the president first announced his Buffett Rule–that millionaires should pay at least 30 percent of their income in tax–in the State of the Union address in January, I had a strong sense of déjà vu.  It is another alternative minimum tax, and its provenance is very similar.  Congress created a minimum tax back in 1969 when people were up in arms about 155 high-income people who hadn’t paid tax a few years earlier.  The logical response would have been to close the loopholes that let rich people avoid tax, but that would have been politically costly, so instead we got the thing that evolved into the AMT–one reason  millions of upper middle-class Americans hate tax day.

The new AMT, called the Fair Share Tax, is anathema to tax reform (and I opined on that in Tuesday’s New York Times). It will be one more complication for people who are affected.  For example, if you’re on the cusp of paying FST, you won’t know whether your capital gains will be taxes at 15 or 30 percent. And it will generate enormous marriage penalties.

And it’s unnecessary.  If Congress is not willing to fix the underlying defects in the tax code, they don’t need a new AMT. One is really enough.  If capital gains and dividends were fully taxed under the AMT, as they used to be before the Tax Reform Act of 1986, the Buffett Rule would be satisfied without a new levy.  Moreover, I suspect that would raise enough more revenue that Congress could use  the savings to finally index the thresholds for the AMT so that it doesn’t have to be patched every year.

Some people, however, see the Fair Share Tax as a good start on tax reform.  The Times also had a nice article about two economic rock stars, Emanuel Saez and Thomas Picketty, who have been extremely effective at putting together data and analysis on rising economic inequality. The article is titled, “For Two Economists, the Buffett Rule Is Just a Start,” so the question is whether the Buffett Rule is a first step towards tax reform and a fairer, more progressive tax system, or a dead end.

The president has said that the Buffett Rule is not a specific proposal, but a principle for tax reform. The actual specific proposal, the Fair Share Tax, which the president supports, includes language saying that tax reform is the goal (thanks David desJardins for reminding me of this):

It is the sense of the Senate that–

(1) Congress should enact tax reform that repeals unfair and unnecessary tax loopholes and expenditures, simplifies the system for millions of taxpayers and businesses (including by eliminating the alternative minimum tax for middle-class Americans), and makes sure that the wealthiest taxpayers pay a fair share; and

(2) this Act is an interim step that can be done quickly and serve as a floor on taxes for the highest-income taxpayers, cut the deficit by billions of dollars a year, and help encourage more fundamental reform of the tax system.

The question is whether the Fair Share Tax is a complement to tax reform, or a substitute.  The president has been talking about individual income tax reform for several years. The president commissioned Paul Volcker to put together a tax reform plan. The Volcker Commission  issued a report, but the plan went nowhere. The president said that his Bowles-Simpson commission, which would have simplified taxes (although not made them markedly more progressive), had a lot of good ideas, but none of those ideas actually made it into his budget. President Bush actually did commission a credible tax reform plan, but once completed, he acted like it was never his idea.

If the president and Congressional leaders really want tax reform, they should propose tax reform and throw their weight behind it.  I understand this might not be a winning strategy in an election year, but we could lay the groundwork by putting together a serious proposal. President Reagan commissioned his Treasury to quietly put together a tax reform plan behind closed doors during the 1984 election year and then he pushed it to passage in 1986.

I don’t, however, think it’s in Democrats’ long-term interest to further undermine an already dysfunctional tax system. The Fair Share Tax might be good politics, but it’s bad policy.

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For previous coverage of the Buffett Rule on TaxVox, click here.

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Like many of you, I just finished my 2011 tax return. Counting worksheets, it was 59 pages long.

It occurs to me that our current insanely complex tax rules are made possible by technology. Yes, computer software makes filing easier (both for professionals and civilians). But that may be the problem.

The relative ease of filing, made possible by programs such as Intuit’s Turbo Tax, also makes it easier for Congress to write incomprehensible tax law.

Have you ever read, for example, Form 6251, the paperwork millions of middle-class households must complete just to figure out whether or not they owe the dreaded Alternative Minimum Tax? The IRS instructions for the form are 12 pages long.

Here, in part, are the instructions for Line 11:

Your ATNOL for a loss year is the excess of the deductions allowed for figuring the AMTI (excluding the ATNOLD) over the income included in the AMTI. Figure this excess with the modifications in section 172(d), taking into account your AMT adjustments and preferences (that is, the section 172(d) modifications must be separately figured for the ATNOL).

Seriously.  

In truth, if voters actually had to navigate this gibberish, we’d have a revolution that would make the tea party look like the League of Women Voters. But we don’t. In 2009, 92 percent of us got help, either from a third-party preparer or tax software, the IRS estimates.

We spend $59.95 for software, mindlessly answer questions that often seem entirely disconnected from the specifics of the law, and assume the answer that comes out the other end is correct.

Or we just bundle up of our W2s and 1099s and send them to a professional preparer, who does even more opaque stuff and presents us with a return to sign. Sure, the record keeping is annoying, but we miss the real fun.

In this way, technology both inoculates us from much of the complexity of tax filing and reduces compliance costs. But, more importantly, it immunizes the politicians from the consequences of their decisions that lead to this madness.

Tax complexity isn’t just about the number of forms and their incomprehensible instructions (btw, no criticism intended towards the folks at the IRS who write them. They do the best they can, given the loony law Congress hands them).

The real price of complexity is the very opaqueness of the Tax Code itself. Because we don’t understand the law, we are convinced we are paying more than we owe and that everyone else is paying less.

Yet, tax software allows politicians to add ever more complexity, which we accept with little complaint. Think about the Buffett Rule endorsed by President Obama. The version debated in the Senate this week would create yet another minimum tax that would result in even more complex forms. But, of course, the households making $1 million or more who’d owe this tax would likely never see the forms. They’d just pay the accountant.

Often, critics of tax complexity say the pols themselves should have to fill out their own returns. I disagree. It would be much more effective if the rest of us had to do it. If we did, I predict tax simplification would be more popular than Dancing with the Stars.

So I’m starting a new movement: Ban tax software and professional preparers for just one year. And see what happens.         

Happy tax day.

This afternoon, I moderated an interesting Tax Policy Center panel on taxing the rich. With the Senate about to debate a Buffett tax on millionaires, the timing couldn’t be better. Unfortunately for the White House, about the only thing the panelists agreed upon was that the Buffett tax is a terrible idea.  

My fellow panelists were Doug  Holtz-Eakin, president of the American Action Forum and former advisor to President Bush and the McCain for president campaign; David A. Levine, former chief economist at the Wall Street firm of Sanford C. Bernstein & Co. and a supporter of  Responsible Wealth, a group of millionaires who believe high-income Americans can and should pay more taxes;  Donald Marron, my boss at TPC and a former acting director of the Congressional Budget Office; and Diane Lim Rogers, chief economist at Concord Coalition.

The group agreed that some new tax revenues will be needed as part of a prudent fiscal plan and mostly agreed that broad-based tax reform should be a sensible part of such an initiative. But there were no fans of the Buffett rule.   

After that, we disagreed about as much as everyone else in Washington (though far more respectfully).

The panel couldn’t even agree about what rich means. Is it $1 million-a-year in income? Is it $200,000, a definition proposed—in quite different contexts– by both President Obama and Mitt Romney? Is it those in the top 1% of income, who make more than $500,000 and an average of about $1.5 million? Take your choice.

Donald made the important point that all rich people are not alike. The problem–if you think it is a problem–of rich people paying less tax than their secretaries is largely limited to those with lots of tax preferences or wealthy investors who pay much of their tax at the low 15 percent rate on capital gains and dividends.

People who are paid salaries—even big ones (think professional athletes or  doctors) tend to pay effective rates pretty close to the 30 percent minimum rate the White House wants.     

Whoever the rich are, Doug thought the whole concept of special taxes aimed at one income group is silly. There is nothing wrong with a progressive tax system, he said. But when you consider who benefits most from spending, government as a whole is quite progressive already.

The other panelists disagreed, though by varying degrees. David took the most aggressive position: The low taxes paid by high-income households are nothing less than shameful, he argued.

How would they reform the tax code? Diane would reduce or restructure credits, deductions and exclusions. To help reduce the deficit she’d reluctantly raise rates on high income households as well. Doug called for replacing the current revenue system with a broad-based consumption tax—an idea many economists love but which turns out to be very hard to do.

David had a very different perspective. Bucking the conventional wisdom of nearly all economists, he called for significantly higher rates for top-bracket taxpayers while preserving most current tax subsidies. For instance, he’d keep the current generous tax treatment of owner-occupied housing and charitable giving.

About that Buffett tax: We pretty much agreed that imposing a minimum tax of any kind is an admission of policy failure. If the president thinks the rich don’t pay enough, he ought to restructure the tax code so they do, not stick on yet another Band-Aid.

See, people in Washington can cross ideological lines.

In a new study, Chuck Blahous, who is a public trustee for Medicare and Social Security, concludes that the 2010 health law will add at least $340 billion to the federal deficit from 2012-2021. This is contrary to the official estimates by the Congressional Budget Office, which initially figured the Affordable Care Act would reduce the deficit by about $132 billion from 2012-2019.

Who’s right? Who knows? In truth, unknowable and unpredictable changes in overall health costs will dwarf the variation between Chuck’s estimate and CBOs.

However, Chuck makes some important points in his analysis. One, which TaxVox has written about recently as well, is the potential double-counting of increased Medicare payroll taxes.  The 2010 law raises the Medicare levy by 0.9 percent for high-income workers. But, due to CBO scoring conventions, the money it generates appears to both make the Medicare Hospital Insurance (HI) Trust Fund appear more solvent and reduce the general fund deficit.

It can’t simultaneously do both, as Chuck correctly notes. In reality, if the extra tax goes to the general fund to “pay for” health reform, Medicare would be required to reduce its hospital benefits, absent some other new funding source. Chuck argues Medicare would cut benefits. CBO assumes it would not.

Btw, Chuck and TaxVox are hardly the only ones to have raised this issue. Medicare actuary Rick Foster, who is well-known in Washington for calling ‘em as he sees ‘em, has been making exactly the same point since even before the law passed.  My Tax Policy Center colleague Donald Marron, a former CBO director, blogged about it all back in 2009. And CBO itself has been upfront about the oddities of this scoring issue.

For a different take on this, check out Paul Van de Water’s blog at the Center on Budget and Policy Priorities. 

Some of Chuck’s other assumptions are more controversial. For instance, he projects more people will participate in subsidized health exchanges than CBO estimates, and that Congress will hike those subsidies more than CBO projects in future years. He also discounts anticipated revenues from the “Cadillac tax” on high-value health insurance plans by assuming Congress will roll back this levy before it is ever imposed.

He may be right, of course. But he is merely guessing.  CBO at least has the anchor of the actual law to rely on. Chuck is basically expressing an opinion.

And keep in mind that while the spread between the two projections represents real money, it is margin-of-error stuff when it comes to the size of the federal budget and total health spending.  

Is Chuck’s analysis valuable? It is, if only to highlight the uncertainty in these estimates (that CBO has already acknowledged) and to remind us all about the dangers of double-counting.

Predictably, the politicians are ranting about the sign: “The law will lower the deficit…No, it won’t. Yes, it will….” But, as usual, they are missing the real message.

Last week, I blogged about a plan to use tax-exempt bonds to finance the demolition of vacant homes in distressed Midwestern neighborhoods.  Rolf Pendall, director of the Urban Institute’s  Metropolitan Housing and Communities Policy Center, has a different perspective:

I agree entirely that a piecemeal approach to the current crisis isn’t appropriate and that the logic of using revenue bonds for demolition is a stretch.

However, I disagree about the larger message. Subsidies to housing demolition may be warranted on a strict cost-benefit basis even for the federal government alone—not to mention for state and local governments. More broadly, I find such subsidies justifiable for Detroit and Cleveland in the context of national policies that have sparked prosperity in New York, Washington, Houston, and Dallas.

The Midwest’s housing crisis has been prompted by such a welter of private and public actions it’s not possible to assign ultimate responsibility. Our tax deductions and subsidies encourage overconsumption and excess construction of housing—including some in Ohio’s and Michigan’s exurbs (and vacation spots, like northern Michigan). Federal policy–including but not limited to the tax code– has spurred economic growth on the coasts and Sunbelt, and has probably hastened the Midwest’s decline.

Land-use laws in Michigan and Ohio are highly permissive. Slow growth and generally downward trends in farm prices have depressed land values, enabling moderate-income families to move ever farther outward to ever-larger lots. Attitude surveys also show persistently high rates of anti-black sentiment among white residents of the Detroit area.

All this has been a recipe for “sprawl without growth” and the accelerated depreciation of central-city and inner-suburban housing stock—an asset base held disproportionately by low-income and African American families.

Even more ominously, most of the Midwest is at the brink of a wave of outmigration and mortality of the Baby Boom, but relatively few Echo Boomers live there. This is already leading to some of the slowest housing-price appreciation rates in the U.S. and some of the highest vacancy rates, especially in central cities.

Wayne County (MI) lost 65,000 households between 2000 and 2010—twenty thousand more than Orleans Parish (LA) lost after Katrina. These households aren’t coming back anytime soon; artists are not going to make a big enough difference. Although it may be true that “local markets will sort this out,” such a sorting process will probably have serious costs that will be borne by many vulnerable people as well as local, state, and federal taxpayers.

It might help if Michigan and Ohio limited housing development in their rural and exurban areas, but I don’t expect that to happen anytime soon. Thus, subsidies for residential demolition and clearance of  obsolete and often uninhabitable housing stock are probably the only way to reduce the current and developing urban housing surplus. And reductions of that surplus are the only way to prevent further declines in housing values—the key asset of the American middle class—in some of the nation’s largest metropolitan areas.

The tax code is chock full of credits, deductions, deferrals, exclusions, exemptions, and preferential rates. Taken together, such tax preferences will total almost $1.3 trillion this year.

That’s a lot of money. But it doesn’t necessarily mean that $1.3 trillion is there for the picking in any upcoming deficit reduction or tax reform.  In fact, even if Congress miraculously repealed all of these tax preferences, it would likely generate much less than $1.3 trillion in new resources. 

Where did I come up with that number? For a short piece in Tax Notes, I simply added together all the specific tax expenditures identified by the Department of Treasury; these were reported in the Analytical Perspectives volume of the president’s recent budget.

Treasury doesn’t report this total for a good, technical reason: some provisions interact with one another to make their combined effect either larger or smaller than the sum of their individual effects. As a result, simple addition won’t give an exact answer. That’s an important issue. In the absence of a fully integrated figure, however, I think it’s useful to ballpark the overall magnitude using basic addition.

In your travels, you may find other estimates that do the same thing but come up with a figure of “only” $1.1 trillion. Why is mine higher? Because it includes some important information that Treasury reveals only in footnotes. Treasury’s main table estimates how tax expenditures reduce individual and corporate income tax receipts; those effects total $1.1 trillion. But they also have other effects. Refundable credits like the earned income tax credit increase outlays, for example, and some preferences, like those for employer-provided health insurance and alcohol fuels, lower payroll and excise taxes. I include those impacts in my $1.3 trillion figure.

Budget hawks and tax reformers have done a great job of highlighting tax expenditures in recent years. I fear, however, that we have lifted expectations too high. Just because the tax code includes $1.3 trillion in tax preferences doesn’t mean it will be easy to reduce the budget deficit or pay for lower tax rates by rolling them back. Politics is one reason. It’s easy to be against tax preferences when they are described as loopholes and special interest provisions. It’s another thing entirely when people realize that these include the mortgage interest deduction, the charitable deduction, and 401(k)s.

Basic fiscal math is another challenge. Tax expenditure estimates do not translate directly into potential revenues. Indeed, there are several reasons to believe that the potential revenue gains from rolling back tax preferences are less than the headline estimates. One reason is that the estimates are static—they measure the taxes people save today but do not account for the various ways that people might react if a preference were reduced or eliminated; those reactions may reduce potential revenues. Second, most reforms would phase out such preferences rather than eliminate them immediately. That too reduces potential revenues, at least over the next decade or so.

Finally, the value of tax preferences depends on other aspects of the tax code, most notably tax rates. If a tax reform would lower marginal tax rates, the value of deductions, exclusions, and exemptions would fall as well. Suppose you are in the 35 percent tax bracket. Today, each dollar you give to charity results in 35 cents of tax savings—a 35-cent tax expenditure. If the top rate were reduced to 28 percent, as some propose, your savings from charitable donations would be only 28 cents. The 20 percent reduction in tax rates would thus slice the value of your tax expenditure by 20 percent. That means that the revenue gain from eliminating the deduction—or any other similar tax expenditures—would also shrink by 20 percent, thus making it harder for tax expenditure reform to fill in the revenue gap left by reducing tax rates.

My message is thus a mixed one. Tax expenditures are very large—$1.3 trillion this year alone if you add up all the individual provisions – and deserve close scrutiny. But we need to temper our aspirations of just how much revenue we can generate by rolling them back. It isn’t as though there’s an easy $1.3 trillion sitting around. In coming months, the Tax Policy Center will explore how to translate tax expenditure figures into more reasonable estimates of the potential revenues that tax reformers and budget hawks can bargain over.

P.S. For an interesting analysis of how individual tax preferences interact with each other, see this piece by TPC’s Dan Baneman and Eric Toder.