President Bush and congressional leaders have agreed that any new budget package must contain incentives for investment and capital formation. The overriding reason for the budget summit is to reduce the federal deficit, however. This backgrounder addresses ways of achieving both goals.
Last year the House passed a capital gains tax cut which subsequently died in the Senate. The Joint Committee on Taxation (JCT) prediceted the bill would reduce federal revenues by about $60 billion over the next decade. The National Center for Policy Analysis predicted the bill would increase federal revenue by $60 billion. Congressional opponents of a capital gains tax cut agreed with the JCT. Congressional supporters agreed with the NCPA.
Lower personal income tax rates are Ronald Reagan's most significant legacy. The highest rate was 70 percent in 1980. Tax reform in 1981 reduced it to 50 percent and in 1986 to 28 percent that prevails today. Although tax rates are much lower, the federal government now collects more revenue (as a percent of GNP) than it did in 1980.
The elderly pay income taxes on up to one-half of their Social Security benefits if their total income exceeds $25,000 (individual) or $32,000 (couples). They pay taxes on 50 cents of benefits for each $1 of income above these income thresholds.
In order to correct the unfairness in the present tax code and encourage a higher national saving rate, we should index capital gains and other investment income for the effects of inflation, exempt capital gains and other investment income from the Social Security benefit tax, and lower the tax rate for capital gains on the sale of income-producing assets.