The Entrepreneurial View #486                                                               

Are Tax Increases Really Needed?

by Raymond J. Keating

What is Congress thinking these days on the federal budget and the economy?

Let's look at where we are right now.

The economy is, at best, barely inching ahead in terms of real GDP growth, or is in a recession.

Meanwhile, federal government spending has been racing ahead in recent years. From 2002 through 2008 (estimated), the average annual growth in outlays will register just below seven percent. Expenditures are projected to break the $3 trillion barrier in fiscal year 2009 - in fact, topping $3.1 trillion. The projected spending increase for 2009 will be at least six percent.

As for revenues, it is interesting to point out that since the 2003 tax cuts were passed, federal revenues have grown robustly.  From 2003 through 2007, total federal receipts jumped by 44 percent.

So, what is Congress doing under these circumstances? Well, the exact opposite of what it should be doing. It's looking to keep spending growth high and jack up taxes.

A May 21 Associated Press report noted: "The Democratic-controlled Congress began debate Wednesday on a stand-pat, election-year fiscal blueprint that relies on automatic tax increases to claim a balanced budget while boosting spending on defense, education and many other programs." 

Key, pro-growth aspects of the 2001/2003 tax cuts would be allowed to expire under these budget assumptions. That means a massive tax increase - featuring higher personal income, capital gains, dividend and death taxes - looms at the end of 2010. This serves to depress the prospects for solid economic growth.

For good measure, on March 15, the House of Representatives passed a measure that would place a surtax of 0.47 percent on individuals earning more than $500,000 and couples with earnings above $1 million. This is being billed as a way to expand education benefits for veterans enlisting after 9/11.

Some might ask: What's the big deal? Shouldn't the wealthy sacrifice for veterans? And that, of course, is what the advocates for higher taxes are saying. But this is a politically manufactured choice. It has nothing to do with sound budget practices, and everything to do with the advancement of class warfare politics.

After all, sucking more resources away from the private sector - where it would be spent or invested far more efficiently to support and create jobs - would be another negative for the economy. In fact, this tax increase combined with the expiration of the 2001-2003 tax cuts would mean that the top U.S. personal income tax rate would exceed 40 percent after 2010. Remember, most businesses - as sole proprietorships, partnership, and S-Corps, for example - do not pay the corporate income tax, but instead the personal income tax. So higher personal income taxes hit the bottom lines of small businesses, and discourage investing and entrepreneurship.

If the veterans program the House has proposed makes sense (and I have not evaluated it), then the funding should be found through belt tightening and cutbacks in a federal budget in which spending has been careening out of control for many years now.

The right policy mix clearly is reducing, or at least reining in the growth of federal spending, and at a minimum, avoiding all tax increases, including the looming expiration of the 2001/2003 tax relief measures and the House's class warfare surtax.

Is anyone in Congress offering sound ideas? As a matter of fact, yes.  Consider the budget agenda offered by Congressman Paul Ryan. AP reported: "Rep. Paul Ryan of Wisconsin, the top Republican on the Budget panel unveiled a sweeping plan to tackle the nation's looming budget crisis. The plan combines offers market-based solutions to curb out-of-control entitlement programs such as Medicare. Ryan proposed offering private accounts within Social Security and wants to eventually convert Medicare to a grant program in which seniors would buy private health insurance. The conservative GOP plan also would eliminate the AMT, taxes on capital gains and dividends, and corporate income taxes, while offering a much simplified parallel income tax system with a 25 percent maximum rate."

That's the kind of sound policymaking we really need from Congress.

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Raymond J. Keating is chief economist for the Small Business & Entrepreneurship Council.