by Joseph Lawler · May 14, 2017
Republicans keep saying that replacing Obamacare with their own legislation would make it easier to pass tax reform. Here is why they think that.
Tax reform, the way Republicans talk about it, involves two parts.
The first part is lowering tax rates, which would reduce tax revenue. The second part is raising a corresponding amount of revenue by eliminating tax deductions, credits, loopholes and other breaks, so that in the end tax reform leaves the amount of revenue flowing to the government unchanged.
The problem is that each of those deductions, credits and loopholes is a benefit to some group, which wants to keep it. The fewer of those breaks you have to eliminate, the easier tax reform is.
The Republican theory is that by lowering tax revenue before embarking on tax reform, the less revenue has to be raised in tax reform, making it politically much easier.
It’s a disputed idea, one that some outside budget experts think doesn’t make sense. But it’s worth looking at the logic.
This chart shows how much revenue the government collects now and how much it is projected to take in through 2026 — the revenue “baseline,” calculated by the Congressional Budget Office. The Treasury took in about $3.3 trillion in 2016 and is expected to take in $4.9 trillion by 2026.
Imagine a simple tax reform, one that implements one tax cut, a reduction in the top income-tax rate to 33 percent, and offsets it by eliminating one break, the exclusion of municipal bond interest from taxable income.
Ending the break for municipal bonds, according to the Treasury, would raise about $450 billion cumulatively through 2026.
Cutting the top income tax rate from 39.6 percent to 33 percent, while maintaining the current tax brackets, would lose about the same about of revenue, $430 billion over 10 years, according to the Open Source Policy Center. If the government eliminated the municipal bond tax break and then implemented the rate cut, the revenue would end up right near the CBO revenue baseline.
What Republicans are proposing to do, though, is not just to exchange one tax break for one rate cut. In theory, they want to replace the tax code entirely, eliminating almost all the breaks to lower rates as much as possible.
If they first pass the American Health Care Act, the House Republican Obamacare replacement, before moving to tax reform, they will be starting with a lower baseline. The bill would reduce revenue by nearly $900 billion by 2026, according to the CBO.
With a baseline that includes lower revenue because of the House Obamacare repeal, Republicans overhauling the entire tax code would have less revenue to raise, and thus fewer breaks to eliminate.
The tax reform plan introduced by House Republicans last summer, the “Better Way” tax plan, would lose about $3 trillion over 10 years on net, according to an analysis from the Tax Policy Center, a think tank.
That’s a lot of ground left to make up by eliminating deductions. But if the American Health Care Act were implemented first, the new tax plan would have to raise less total revenue (the black arrow) to get back to the new baseline on which Congress was working than it would to reach the original CBO baseline (the yellow arrow).
Note that the underlying facts about government taxing and spending wouldn’t change based on the timing of the Obamacare repeal plan. The debt would still rise just as much. The practical effect would just be that Congress would have to eliminate fewer tax breaks.
That is the logic behind passing the American Health Care Act to facilitate tax cuts.
It’s not necessarily convincing: Marc Goldwein, the senior policy director for the Committee for a Responsible Federal Budget, called it “pretty silly” in a recent interview with the Washington Examiner. He noted that, considered in isolation, the specific Obamacare taxes, such as the medical device tax, are not related to tax rates on individual or corporate income. Nevertheless, it’s the Republican logic.