At this point, most people who pay attention to taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. policy are familiar with how Hillary Clinton’s and Donald Trump’s plans would work and their implications. However, I think it would be useful to take a step back and review the plans and what we at the Tax Foundation think their impacts on federal revenues, taxpayers, and the economy will be. Further, it is also helpful to discuss a few other issues such as where the plans remain vague, why I think both plans are not really tax reform, and how they may interact with other policies that the candidates are proposing.
Donald Trump Would Cut Taxes Significantly
Donald Trump’s tax plan would significantly cut taxes, while mostly steering clear of the more difficult task of broadening the tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. . His plan would cut the individual income taxAn individual income tax (or personal income tax) is levied on the wages, salaries, investments, or other forms of income an individual or household earns. The U.S. imposes a progressive income tax where rates increase with income. The Federal Income Tax was established in 1913 with the ratification of the 16th Amendment. Though barely 100 years old, individual income taxes are the largest source of tax revenue in the U.S. for most taxpayers by cutting marginal rates and expanding the standard deductionThe standard deduction reduces a taxpayer’s taxable income by a set amount determined by the government. It was nearly doubled for all classes of filers by the 2017 Tax Cuts and Jobs Act as an incentive for taxpayers not to itemize deductions when filing their federal income taxes. . He would cut corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax. es by reducing the corporate income tax rate from 35 percent to 15 percent and allowing businesses to choose between a deduction for net interest expense and the full expensingFull expensing allows businesses to immediately deduct the full cost of certain investments in new or improved technology, equipment, or buildings. It alleviates a bias in the tax code and incentivizes companies to invest more, which, in the long run, raises worker productivity, boosts wages, and creates more jobs. of capital investments. His plan would also introduce a number of new childcare expense-related credits and deductions while eliminating both the personal exemption and head of household filing.
Trump’s plan would significantly reduce federal revenues. We estimated that his plan would cut tax revenue by between $5.9 trillion and $4.4 trillion over the next decade, depending on how his plan treats “pass-through” businesses. Most of the revenue loss from his plan comes from his significant individual and corporate rate cuts.
Trump’s plan would also significantly reduce marginal tax rateThe marginal tax rate is the amount of additional tax paid for every additional dollar earned as income. The average tax rate is the total tax paid divided by total income earned. A 10 percent marginal tax rate means that 10 cents of every next dollar earned would be taken as tax. s on work, saving, and investment. As a result, his plan would boost the long-run size of GDP by between 6.9 percent and 8.2 percent. The larger economy would mean higher wages (between 5.4 and 6.3 percent) and an increased level of employment (around 2 million full-time equivalent jobs). The biggest boost to the economy under his plan comes from the much lower corporate income tax rate. The larger economy would end up broadening the tax base and reduce the ultimate cost of his plan. We estimate that his plan would reduce revenues by between $3.9 trillion and $2.6 trillion on a dynamic basis.
Trump’s plan would also make the tax code less progressive than it is today. His tax plan would cut taxes across the board. On average, taxpayers would see an increase in after-tax incomeAfter-tax income is the net amount of income available to invest, save, or consume after federal, state, and withholding taxes have been applied—your disposable income. Companies and, to a lesser extent, individuals, make economic decisions in light of how they can best maximize after-tax income. of between 3.1 percent and 4.3 percent. However, the plan would cut taxes most for those at the top. The top 20 percent of taxpayers would see an increase in after-tax income of between 4.4 percent and 6.5 percent and those in the top 1 percent would see up to a 16 percent increase in their after-tax income. Ultimately, taxpayers in all income groups would see an increase in their after-tax income once the economy adjusts to its high equilibrium.
Trump’s tax plan would eliminate many complex features of the tax system, such as the AMT, and many business credits. The elimination of these features of the tax code would make filing simpler for both individuals and businesses. However, his plan to change how pass-through businessA pass-through business is a sole proprietorship, partnership, or S corporation that is not subject to the corporate income tax; instead, this business reports its income on the individual income tax returns of the owners and is taxed at individual income tax rates. es are taxed could add significant complexity to the tax code, depending on the final details of that proposal.
Hillary Clinton Would Raise Taxes, but Only on Top Earners
Hillary Clinton’s plan would raise taxes overall in order to fund new programs. Her plan would significantly raise taxes on high-income taxpayers by enacting a 30 percent minimum tax called the “Buffett Rule,” a cap on itemized deductionItemized deductions allow individuals to subtract designated expenses from their taxable income and can be claimed in lieu of the standard deduction. Itemized deductions include those for state and local taxes, charitable contributions, and mortgage interest. An estimated 13.7 percent of filers itemized in 2019, most being high-income taxpayers. s, and a 4 percent “surtaxA surtax is an additional tax levied on top of an already existing business or individual tax and can have a flat or progressive rate structure. Surtaxes are typically enacted to fund a specific program or initiative, whereas revenue from broader-based taxes, like the individual income tax, typically cover a multitude of programs and services. ” on incomes above $5 million. Her plan would also significantly increase the estate taxAn estate tax is imposed on the net value of an individual’s taxable estate, after any exclusions or credits, at the time of death. The tax is paid by the estate itself before assets are distributed to heirs. , especially on very large estates. Her plan would cut taxes for middle-income taxpayers and small businesses. She would expand tax creditA tax credit is a provision that reduces a taxpayer’s final tax bill, dollar-for-dollar. A tax credit differs from deductions and exemptions, which reduce taxable income, rather than the taxpayer’s tax bill directly. s for middle- and low-income taxpayers, expand expensing for small businesses, and simplify their taxes.
Clinton’s plan would have the opposite impact on federal collections, but they would be more modest. We estimated that her plan would increase federal revenues by $1.4 trillion over the next decade. All of the next revenue from her plan would come from tax increases on high-income taxpayers.
And while Trump’s plan would reduce marginal tax rates, Clinton’s would modestly increase them. Under Clinton’s plan long-run GDP would be slightly smaller than it otherwise would have been (2.6 percent). This would reduce long-run wages by 2 percent and employment by 700,000 full-time equivalent jobs. The smaller economy would somewhat narrow the tax base. As a result, the plan would not raise as much revenue on a dynamic basis. We found that it would end up raising $663 billion over the next decade.
Clinton’s tax proposals would make the U.S. tax code more progressive. Clinton would increase taxes by 1.2 percent on average, but all of the tax increases would fall on the top. The top 20 percent of all taxpayers would see their after-tax incomes fall by 2.1 percent and the top 1 percent of taxpayers would see their after-tax incomes fall by 6.6 percent. At the same time, Clinton would cut taxes for the bottom 80 percent of taxpayers mainly by expanding the Child Tax Credit. However, we expect that taxpayers in all income groups would see a decline in their after-tax incomes once the economy has adjusted to its new equilibrium.
In contrast to Trump’s plan, Clinton’s tax plan would make the tax code notably more complex. Her plan would add a new minimum tax, a complex cap on itemized deductions, and a new surtax. Some high-income taxpayers may need to calculate their tax burden multiple times under her plan. She would also introduce a number of new credits for businesses to a system that is already littered with extraneous credits and deductions that benefit narrow groups of taxpayers. Although these additions will most burden high-income taxpayers, they do increase the cost of complying with the tax code.
No plan put forth by a candidate is going to contain all the details. However, it is reasonable to expect that campaigns will think through how their policies will work and clearly communicate these details to the public. For the most part, both candidates have put forth pretty detailed plans. Yet both candidates’ plans contain some ambiguity that could meaningfully change their ultimate impact.
There is still significant amount of uncertainty surrounding the Trump plan, specifically how it would treat “pass-through” businesses. “Pass-through” businesses are businesses that report their income and pay taxes on their owner’s tax return. As such they face ordinary income tax rates. In Trump’s original tax plan that he introduced in September 2015, he taxed this type of income a special 15 percent rate. Other income would be subject to ordinary rates up to 25 percent.
In his most recent plan, released in September 2016, it is much less clear how Trump would treat this type of income. Originally, many thought that he would tax it as ordinary income (as under current law) while others thought he would tax this income at the special 15 percent rate. The campaign attempted to clarify by introducing an option for businesses to retain earnings, but did not specify how distributed earnings would be treated.
This ambiguity matters. The question of whether Trump’s plan would give a special rate for pass-through businesses has a $1.5 trillion impact on our revenue score and is why we decided to model it two ways.
Clinton’s plan also leaves open some questions, but they are not as large as those in Trump’s plan. Instead of releasing a full plan all at once, the Clinton campaign decided to release bits and pieces of how it would change the tax code. Some of these pieces were very detailed, while others were vague.
Some of her vaguer policies would probably have a small impact on taxpayers, the economy, and federal revenue, but others could have a significant impact. For example, she has put forth a tax credit for apprenticeships. It is unlikely this policy would be that large.
The biggest unspecific policy is her plan to reform business taxation in the United States. For months she has promised to raise more than $200 billion through business tax reform. However, no one seems to know exactly how she would do it. It could be borrowed from President Obama’s budget, which would tax multinationals’ overseas profits at 14 percent in order to pay for infrastructure spending. It could also be a more significant reform that lowers the corporate income tax rate and broadens the tax base. Both of these policies could raise revenue, but could have drastically different impacts on the economy.
Neither One of the Plans is Really Tax Reform
When we think of tax reform, we think of a proposal that changes how the government raises revenue, not necessarily how much revenue the government raises. These plans typically improve the tax system by reducing economic distortions by reducing marginal rates, broadening the tax base, and simplifying the tax code. Both candidates’ proposals are detailed, impact most taxpayers, and significantly alter certain aspects of the tax system. But, neither of the plans is truly a tax reform plan.
It is clear why Clinton’s tax plan should not be considered tax reform. Rather than fundamentally changing how the government raises revenue, she doubles down on a lot of elements of the current code. As stated before, she doesn’t try to simplify the tax system. Instead, she adds more complexity to it with more credits, surtaxes, and minimum taxes. On the business side of her plan, she attempts to patch our currently broken international tax regime instead of completely rethinking it. The only nod to reform in Clinton’s proposals to reform is her “business tax reform” proposal and her cap on itemized deductions. Assuming her business tax reform is actually reform, both of these proposals could be part of a broader tax reform package.
Trump’s tax plan is comprehensive. It changes taxes for both individuals and businesses. It also drastically reduces marginal tax rates, which should be a goal of any tax reform. However, the plan stops halfway to a full tax reform. It does not meaningfully attempt to broaden the tax base. Most tax reform plans pair lower marginal tax rates with a broader tax base to increase their economic efficiency and to make sure that the plan does not significantly reduce revenue. Trump’s plan lowers marginal rates, but does not broaden the tax base meaningfully and this is why the plan ends up being pro-growth, but significantly reduces federal revenue.
Both candidates have proposed a number of non-tax policies that they hope will help low-income individuals, expand investment in infrastructure, and boost economic growth. Tax policy is obviously our primary concern, but some of the non-tax policies the candidates are proposing could interact with their tax policies or impact the broader economy. From our perspective this is important to understand because it gives important context to our model results.
We estimate that Trump’s tax plan would increase the size of the economy, but the growth that we estimate relies on a relatively open U.S. economy. This is because Trump’s tax plan would increase investment opportunities in the United States and drive up the budget deficit. Both of these factors would drive foreign savers to invest more in the United States. In order for foreigners to get the cash to invest, they would need to sell us more stuff. All else being equal, this means that our trade deficit would increase. However, Trump has expressed the desire to reduce the U.S. trade deficit through renegotiated trade deals. If he were successful in doing so, he would limit the amount of capital freely available to the U.S. and the growth we project may not materialize.
On the other hand, we project that Clinton’s tax plan in isolation would reduce the long-run size of the economy. However, Clinton also plans to take all of the new revenue (and then some) and spend it on new government programs. For example, she wants to spend about $200 billion over the next decade on infrastructure. Of course, her plans on spending are not nearly as detailed as her tax policies, but it is possible that if her new revenue is spent wisely, she could somewhat offset the negative impacts of her tax policies.
Both candidates have put forth plans to change the U.S. tax code. Donald Trump’s tax plan would cut taxes on both business and individuals, which would both grow the long-run size of the economy, significantly reduce federal revenue collections, and make the tax code slightly less complex. Hillary Clinton’s plan would increase the progressivity of the tax code, raise revenue for new spending programs, make the tax code more complex, and would reduce the long-run size of the U.S. economy.
Both candidates’ plans were detailed enough to analyze, but both plans leave significant questions. With Trump’s plan there is significant ambiguity in how he would treat pass-through businesses. With Clinton’s tax plan, we still do not know how a lot of her smaller policies would work or what she means by “business tax reform.”
Neither plan is really a full tax reform. Clinton’s proposals would double-down on our current system, making it slightly more complicated and a little less efficient. Trump stopped short of full tax reform by cutting marginal tax rates and eliminating some credits and deductions, but he would not significantly broaden the U.S. tax base.
It is also important to look at both candidates’ tax plans in the context of their entire economic and fiscal plans. While Trump’s tax plan would tend to increase the long-run size of the economy, it relies on an open U.S. economy. His other policies would move use away from that. Clinton’s tax plan would tend to reduce the size of the economy in the long run, but she would use all the revenue for new spending. She may offset some of the negative impacts if the money is spent wisely.Share