TaxProf Blog

Editor: Paul L. Caron, Dean
Pepperdine University School of Law

Thursday, May 30, 2013

CBO: The Distribution of Major Tax Expenditures

CBOCongressional Budget Office, The Distribution of Major Tax Expenditures in the Individual Income Tax System:

A number of exclusions, deductions, preferential rates, and credits in the federal tax system cause revenues to be much lower than they would be otherwise for any given structure of tax rates. Some of those provisions—in both the individual and corporate income tax systems—are termed “tax expenditures” because they resemble federal spending by providing financial assistance to specific activities, entities, or groups of people. Tax expenditures, like traditional forms of federal spending, contribute to the federal budget deficit; influence how people work, save, and invest; and affect the distribution of income.

This report examines how 10 of the largest tax expenditures in the individual income tax system in 2013 are distributed among households with different amounts of income. Those expenditures are grouped into four categories:

  • Exclusions from taxable income—
    • Employer-sponsored health insurance,
    • Net pension contributions and earnings,
    • Capital gains on assets transferred at death, and
    • A portion of Social Security and Railroad Retirement 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.
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"...termed 'tax expenditures' because they resemble federal spending by providing financial assistance to specific activities, entities, or groups of people."

That's right, because ALL money belongs to the government rather than the people who earn it, and the government just allows you to keep some of it -- if you spend it "correctly."

"Tax expenditures, like traditional forms of federal spending, contribute to the federal budget deficit...."

Nonsense, I've read enough. The CBO can't even get definitions and cause and effect correct.

Posted by: Woody | May 30, 2013 11:29:38 AM

I contend that the more widely used a tax break, the more it resembles a rate reduction and the less it resembles direct federal spending. The most extreme case is a deduction available to everyone, like the personal exemption. Calling the personal exemption a tax expenditure would be absurd. Calling the mortgage interest deduction or the charitable deduction a tax expenditure, as if it were fully equivalent to federal spending, is a half-truth at best.

During our entire lifetimes tax rates have been set based on the fact that these deductions exist. Tax rates would have been set lower had those deductions been absent all these many decades.

Posted by: AMTbuff | May 30, 2013 9:32:53 PM

This reminds me of the famous economics parable attributed to Prof. D. R. Kamerschen, U. of Georgia:

Suppose that every day, ten men go out for dinner and the bill for all ten comes to $100.

If they paid their bill the way we pay our taxes, it would go something like this:

The first four men (the poorest) would pay nothing.
The fifth would pay $1.
The sixth would pay $3.
The seventh would pay $7.
The eighth would pay $12.
The ninth would pay $18.
The tenth man (the richest) would pay $59.

So, that's what they decided to do.

The ten men ate dinner in the restaurant every day and seemed quite happy with the arrangement, until one day, the owner threw them a curve. "Since you are all such good customers," he said, "I'm going to reduce the cost of your daily meal by $20." Dinner for the ten now cost just $80. The group still wanted to pay their bill the way we pay our taxes so the first four men were unaffected. They would still eat for free. But what about the other six men - the paying customers? How could they divide the $20 windfall so that everyone would get his “fair share?”

They realized that $20 divided by six is $3.33. But if they subtracted that from everybody's share, then the fifth man and the sixth man would each end up being paid to eat their meal. So, the restaurant owner suggested that it would be fair to reduce each man's bill by roughly the same amount, and he proceeded to work out the amounts each should pay.

And so:

The fifth man, like the first four, now paid nothing (100% savings).
The sixth now paid $2 instead of $3 (33% savings).
The seventh now paid $5 instead of $7 (28% savings).
The eighth now paid $9 instead of $12 (25% savings).
The ninth now paid $14 instead of $18 (22% savings).
The tenth now paid $49 instead of $59 (16% savings).

Each of the six was better off than before. And the first four continued to eat for free. But once outside the restaurant, the men began to compare their savings.

"I only got a dollar out of the $20," declared the sixth man. He pointed to the tenth man, "But he got $10!" "Yeah, that's right," exclaimed the fifth man. "I only saved a dollar, too. It's unfair that he got ten times more than me!"

"That's true!!" shouted the seventh man. "Why should he get $10 back when I got only two? The wealthy get all the breaks!"

"Wait a minute," yelled the first four men in unison. "We didn't get anything at all. The system exploits the poor!"

The nine men surrounded the tenth and beat him up.

The next night the tenth man didn't show up for dinner, so the nine sat down and ate without him. But when it came time to pay the bill, they discovered something important. They didn't have enough money between all of them for even half of the bill!

And that, boys and girls, journalists and college professors, is how our tax system works. The people who pay the highest taxes get the most benefit from a tax reduction. Tax them too much, attack them for being wealthy, and they just may not show up anymore.

Posted by: TexEcon | May 31, 2013 6:39:43 AM

The biggest "tax expenditure" - which our tax literature pretty much ignores in its analysis of tax expenditures - is one which benefits those at the lowest end of the income scale. It arises from the progressive structure of the income tax according to which incomes less than those taxed at the very highest rates are taxed at progressively lower "preferential" rates as incomes fall, with the very lowest incomes being taxed either at a zero or even negative rates.

Posted by: Joseph W. Mooney | May 31, 2013 8:02:51 AM

Doesn't make for good headlines I guess but tax breaks go to those who pay the taxes:

Posted by: Will McBride | May 31, 2013 11:44:08 AM