Don’t Add More Temporary Tax Policies in Budget Reconciliation

August 30, 2021

Clifton Painter
Erica York
Garrett Watson

Clifton Painter, Erica York, Garrett Watson

As policymakers consider using the budget reconciliation process to make tax changes and enact new spending programs, they may be inclined to add to an already growing list of temporary tax provisions. New temporary tax policy should be avoided in reconciliation. Temporary policy creates uncertainty for taxpayers and scheduling more expirations will add to the already-expiring provisions under the Tax Cuts and Jobs Act (TCJA) of 2017.

The TCJA featured various changes to the individual income tax system, which reduced taxes for households across all income levels on average. Because lawmakers used budget reconciliation to pass these tax cuts, Congress was limited in their ability to increase the deficit over the long-term and therefore relied on temporary tax policy.

The TCJA’s individual income tax provisions included tax rate reductions and changes to deductions, and credits. Almost all individual provisions are slated to expire after 2025, which will increase individual income tax rates for many households beginning in 2026.

Individual TCJA Tax Provisions Expiring After 2025
The reduction of individual income tax rates will expire After the end of 2025
The increase in the standard deduction, elimination of the personal exemption, and doubling of the child tax credit will expire After the end of 2025
Limits on the state and local tax deduction and the mortgage interest deduction will expire After the end of 2025
The reduction of the alternative minimum tax will expire After the end of 2025
The newly created pass-through deduction (§199A) will expire After the end of 2025
The reduction of the estate tax will expire After the end of 2025

Source: Public Law 115-97, known as the Tax Cuts and Jobs Act of 2017.

Congressional lawmakers have again begun the budget reconciliation process to enact much of President Biden’s Build Back Better agenda. Once again, they face similar constraints that incentivize temporary extensions of policies.

For example, their proposal would extend many of the generous tax credits provided under the American Recue Plan Act (ARPA) through 2025. That includes the enhanced child tax credit (CTC), which provides $3,600 for children under age 6 and $3,000 for children age 6 to 17, as well as expansions of the Child and Dependent Care Tax Credit (CDCTC), Earned Income Tax Credit (EITC), and Premium Tax Credits (PTC).

If the policies are temporarily extended to match the TCJA expirations after the end of 2025, and if all the expirations are allowed to occur as scheduled, households would experience a dramatic increase in their annual tax bill come 2026. However, Congress often acts to prevent expirations from actually taking place.

As a result, there is a considerable amount of uncertainty about what the federal tax code will actually look like in just a few years from now. This situation—in which the federal tax code is fundamentally unstable in the medium term—is far from ideal. Using temporary policies produces economic uncertainty for taxpayers, including low-income households the policies are designed to help.

Policymakers should deliberate the tradeoffs of tax policy changes and work toward stabilizing the temporary tax code instead of further relying on temporary policies to conceal long-run costs and escape debates about future fiscal impact. At the very minimum, they should refrain from contributing more to the policy uncertainty surrounding 2025 by creating additional expiring provisions in that year.

 

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A 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.

The mortgage interest deduction is an itemized deduction for interest paid on home mortgages. It reduces households’ taxable incomes and, consequently, their total taxes paid. The Tax Cuts and Jobs Act reduced the amount of principal and limited the types of loans that qualify for the deduction.

The 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.

The Tax Cuts and Jobs Act in 2017 overhauled the federal tax code by reforming individual and business taxes. It was pro-growth reform, significantly lowering marginal tax rates and cost of capital. We estimated it reduced federal revenue by $1.47 trillion over 10 years before accounting for economic growth.

An 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.

An 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.

The federal child tax credit (CTC) is a partially refundable credit that allows low- and moderate-income families to reduce their tax liability dollar-for-dollar by up to $2,000 for each qualifying child. The credit phases out depending on the modified adjusted gross income amounts for single filers or joint filers.

A 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.

The Earned Income Tax Credit (EITC) is a refundable tax credit targeted at low-income working families. The credit offsets tax liability, the total amount of tax debt owed by an individual, corporation, or other entity to a taxing authority like the Internal Revenue Service (IRS), and can even generate a refund, with earned income credit amounts calculated on the basis of income and number of children.