The Bush Tax Cuts and the Economy

A recent Congressional Research Service (CRS) Report examines the Bush tax cuts in the context of the current and long-term economic and budgetary environment. Various policymakers have submitted proposals which essentially call for the tax cuts to be made permanent, extended temporarily, or allowed to expire, in whole or in part. The CRS report ultimately favors allowing the tax cuts targeting high-income taxpayers to expire while temporarily extending those which pertain to the middle class.

Background - A series of tax cuts were enacted early in the George W. Bush Administration by the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) and the Jobs and Growth Tax Relief Reconciliation Act of 2003 (JGTRRA) and are set to expire at the end of 2010. These “Bush tax cuts” include reduced tax rates, reduction of the marriage penalty, repeal of the personal exemption phaseout and limitation on itemized deductions, reduced tax rates on long-term capital gains and qualified dividends, and expanded tax credits. Beginning in 2011, absent Congressional action, many of the individual income tax rules will revert back to where they were in 2000.

The U.S. economy entered into a recession in December 2007, and the economic outlook remains weak and plagued by high unemployment. Prior to the enactment of the Bush tax cuts, the Congressional Budget Office (CBO) projected gradually rising federal budget surpluses for years 2001 through 2011. However, the CBO ultimately projected deficits due to the Bush tax cuts, which came at a cost of approximately $1 trillion over ten years, as well as other contributing factors such as the wars in Iraq and Afghanistan and the Medicare prescription drug benefit. Also, later efforts to promote economic recovery, including the Economic Stimulus Act of 2008 and the American Recovery and Reinvestment Act of 2009, dramatically increased the federal deficit.

Proposals - One proposal is to permanently extend the Bush tax cuts. However, such a permanent extension would cause an estimated $2,805 billion in revenue loss over ten years, approximately 50% of which would result from keeping individual tax rates where they are today, and would also result in significant associated costs relating to alternative minimum tax and associated debt service. The CRS also examined the distributional effects of the Bush tax cuts and determined that the majority of the tax cuts were either regressive or had only a nominal effect. However, extending the expanded tax credits would benefit taxpayers below the 80th percentile in income distribution and reduce income inequality.

The Obama Administration's proposal is to allow the Bush tax cuts to expire for high-income taxpayers (defined as individuals with an annual income over $200,000 or married taxpayers with income exceeding $250,000 per year) and to permanently extend the tax cuts for other taxpayers. In contrast to a permanent extension of the Bush tax cuts, this proposal is projected to raise tax revenues by $678 billion over 10 years. Controversy surrounding this proposal focuses prominently around what constitutes “high income,” with suggested thresholds ranging from $350,000 to $1 million for both single and joint taxpayers.

The CRS Report concludes with an examination of a temporary extension of some or all of the Bush tax cuts. Proponents of a temporary extension of all of the Bush tax cuts argue that raising taxes during the economic recovery could reduce growth and possibly push the economy back into recession. However, the CRS notes that temporarily extending the middle class tax cuts, while allowing those targeting high-income taxpayers to expire, would provide time for Congress to meaningfully consider tax reform and would also help to reduce the short-term budget deficit without stifling the economic recovery.