Governor Lincoln Chafee’s Modest Tax Proposal

A few weeks ago, former Governor Lincoln Chafee (D-RI) released a tax plan. The governor’s plan would do three things:

• Add a new 45 percent tax bracket that applies to income over $750,000.
• Add a new 25 percent capital gains and dividend tax bracket that applies to taxpayers earning more than $750,000.
• Increase the personal exemption by $1,000 from the current $4,000 to $5,000, or as much as necessary to make the plan revenue neutral.

The plan is certainly not a major overhaul to the tax code like we are used to from the Republican candidates, but I believe it is a plan worth noting for its simplicity. In fact, its simplicity makes it very clear what Governor Chafee is trying to accomplish: increase the progressivity of the current tax code without raising the overall level of taxes.

Using the Tax Foundation’s Taxes and Growth model, I modeled the three components of the governor’s plan. I found that, indeed, the governor’s plan does precisely what it aims to do.

According to our model, the plan would be nearly revenue-neutral if he paired his new top tax rate with a $1,300 increase in the personal exemption to $5,300. Over the next decade, the plan would raise $6 billion on a static basis. The plan does increase taxes on capital gains and dividend income, which increases the cost of capital slightly. As a result, our model finds that GDP would decline modestly, by 0.6 percent, over the long term. If we account for the slightly lower GDP, revenues would decline by about $165 billion.

Distributionally, the plan does precisely what one would expect on a static basis. The new top marginal tax rate of 45 percent on incomes over $750,000 increases taxes on the top 10 percent and 1 percent of income earners, whose after-tax incomes decline by 1.7 percent and 3.3 percent, respectively. Meanwhile, the bottom 90 percent of taxpayers all receive a modest tax cut as their taxable incomes all shrink by $1,300 due to the larger personal exemption.

When the economic effects of the plan are taken into account, the distribution looks similar, except that the lower GDP, driven by the capital gains tax increase, reduces pre-tax wages. As a result, most middle-income taxpayers see a much smaller increase in after-tax income. Taxpayers in the bottom three deciles actually see a decline in their after-tax income.

Lincoln Chafee’s plan is not as large or comprehensive as plans we have seen from other candidates. Instead of focusing on a major overhaul, or a large net tax cut, it sets out to accomplish two things: revenue neutrality and increased progressivity. We find that the plan does just that. It should be commended for accomplishing its goal in a very straightforward way.

Modeling Notes:

According to the campaign, the new 45 percent tax bracket would apply to incomes of $750,000 for married taxpayers filing jointly, $667,000 for singles, and $708,000 for heads of household. The campaign also stated that it was open to tightening the phase-out of the personal exemption. It is unclear how they would do this. We omitted this from the model run.