So How Does the Obama Tax Plan Really Affect Joe the Plumber?

October 17, 2008

For the last two days, Americans have talked of nothing else but Joe the Plumber and his tax bill. (He even has his own Wikipedia page!) It turns out that Joe might actually be named Samuel, that the business he wants to buy probably has profits well below $250,000, and that he may already owe some back taxes to Ohio. But even if Joe the Plumber turns out not to be all that we thought he was, Joe the Illustrative Example of the Candidates' Tax Plans' Impact on Small Businesses is constant and undying.

As you may have seen yesterday, my colleague Gerald Prante ran the numbers and found that Theoretical Joe, with $280,000 in net income from a small business and $50,000 in itemized deductions, would see his tax bill rise by between $544 and $2,125. Where the increase falls would depend on Obama's changes to the so-called PEP and Pease phaseouts, which reduce high income taxpayers' benefit from personal exemptions and itemized deductions.

Joe, who is unmarried and has a dependent child, files his income tax as a Head of Household. If Obama treats heads of households as he has proposed to treat singles for PEP/Pease, Joe's tax would rise by $2,125 under our assumptions. If he treats them like married couples, his income tax would rise by just $544.

Ryan Ellis of Americans for Tax Reform started with the same $280,000 figure, but arrived at the significantly different conclusion that the Obama plan would raise Joe's taxes by $4,183. So, which figure is right, and why the difference?

Ellis' analysis differs from ours in three key ways:

  • We assume no change to Social Security and Medicare taxes under Obama. Ellis assumes that Obama imposes a 12.4% Social Security tax on income above $250,000, equal to the current rate on income below the tax cap ($106,800 for 2009). The 2.9% Medicare tax is already applicable to all income. In total, Ellis assumes that Joe's Social Security taxes rise by $3,720, and we assume that they rise by $0. While Obama has discussed imposing additional Social Security tax on earners above $250,000, his campaign has specifically said that he would impose a lower rate than 12.4%, and that they are "considering" rates between 2% and 4%. Further, his economic advisors have written on the op-ed page of the Wall Street Journal that "this change to Social Security would start a decade or more from now."
  • Because half of Social Security tax is deductible from income tax when it is paid by self-employed people, Ellis' assumption of increased Social Security tax reduces Joe's taxable income. This saves Joe about $700 in income tax under Ellis' model as compared to ours.
  • Finally, Ellis assumes no changes to current law on the PEP/Pease phaseouts discussed above. As noted in the WSJ article linked above, Obama would make changes from current law to these phaseouts, impacting Joe's taxable income; the exact amount depends on Obama's specific treatment of heads of household.

So, the most significant difference between the calculations is the Social Security tax treatment. Any new Social Security tax on high earners, as described by the Obama campaign, (1) would not be effective until 2018 at the earliest and (2) would be at a rate lower than 12.4%, most likely between 2% and 4%. Given the long delay in effectiveness, we think zero change is the right assumption for modeling Joe's 2009 taxes, and that 12.4% is an incorrect choice.


Topics


Tags


Related Articles