Update: During subsequent research into the presidential candidates’ tax plans, I found a page from the Tax Foundation which contained additional information on the Cruz Flat Tax Plan. The differences to what I had used are: the standard deduction is for each filer, not for a single return; the Earned Income Tax Credit will increase by 20%; and the only itemized deductions allowed are for charitable deductions and mortgage interest. This information has been used to update the numbers below.
Okay, I know that candidates will make a lot of promises which are nearly impossible to keep once the new president is sworn into office. That is the case with the candidates’ tax plans. On the republican side, there is universal agreement that federal taxes need to be cut in order to stimulate the economy and create jobs. The research is clear that tax cuts and tax increases which are targeted at the wealthy do not have an effect on the economy or jobs in a normal business cycle (see my last post). That, however, is not the focus of today’s efforts. I will simply look at the taxes paid by five hypothetical families at different income levels under the current system and under the flat tax plan proposed by Ted Cruz. I will evaluate other plans in a later post.
Economists and government agencies that study the economy divide the country into fifths (quintiles). Each quintile was made up of 16,346,000 households in 2014. For that year, the average income before taxes for each of the quintiles was (Tax Policy Center):
4. $105,700, and
The range for each quintile was (per the Census Bureau):
1. $0 – $29,100,
2. $29,101 – $52,697,
3. $52,698 – $82,032,
4. $82,033 – $129,006, and
5. $129,007 – billions of dollars.
The average after-tax income was (Tax Policy Center):
4. $88,100, and
Some of you may find the average income numbers for the top 1% interesting: pre-tax income of “a little over $2 million” and after tax income of $1.34 million. Remember that this is the average for the top 1%. The lowest income that puts a household into the top 1% was around $380,000 in 2011. I haven’t found recent update to that number, but considering the rich are getting richer and the poor are getting poorer, it has probably crept up. At the rate income inequality is occurring, in fact, it is more likely to have jogged up.
My Hypothetical Households with Average Income for Each Quintile
For this experiment, all families have two parents and two preschool aged children. In reality, there are so many variations including marriage and filing status, child support payments or alimony, income from federal and state agencies in the form of Social Security or income assistance programs. I couldn’t look at them all, so here’s what I decided to use.
1. $14,250 income, all from wages; both parents work; no childcare expenses, no mortgage interest paid or charitable gifts given;
2. $35,500 income, all from wages or interest; $200 given to charity; no mortgage interest or childcare expenses;
3. $62,800 from wages & $500 from capital gains distributions or qualified dividends; $6,000 in child care costs so both parents can work; $4,000 placed in a Health Savings Account (HSA); $1,200 contributed to a Roth IRA; paid $5,000 in student loan interest;
4. $100,000 in wages; $5,700 in capital gains distributions or qualified dividends; 4% saved in company sponsored 401(k)’s; $14,435 mortgage interest (based on 3rd year of 30 year mortgage for $300,000 at 5%); $4,000 to charity; $3,936 in state taxes plus $500 in personal property taxes; $5,000 in real estate taxes; paid $5,000 in student loan interest;
5. $240,000 in wages; $46,300 in partnership income (common for doctors and lawyers); $20,000 in capital gains and qualified dividends; 10% of wages to 401(k); $16,625 in mortgage interest paid (based on 13th year of 30 year loan for $500,000 at 4.5%); $15,000 to charity; $8,856 to state taxes and $800 for personal property taxes; $10,000 in real estate taxes.
I used my 2014 version of TurboTax to figure out how much tax each of these hypothetical families would pay or receive in credits. I worked quickly and didn’t do much double-checking, but I managed a tax preparation office a few years ago and still have a good feel for what forms were needed for each hypothetical family.
With the current tax code – for 2014, that is – the tax situation for each family is:
Total Federal Income Taxes: $0
Earned Income Credit: $5,460
Additional Child Tax Credit: $1,688 =
Net Federal Income Tax: -$7,148
Social Security and Medicare Taxes withheld: $1,090 =
Net Federal Income and FICA Taxes: -$6,058
Total Federal Income Taxes: $730
Child Tax Credit: $730
Earned Income Credit: $2,877
Additional Child Tax Credit: $1,267 =
Net Federal Income Tax: -$4,144
Social Security and Medicare Taxes withheld: $2,716 =
Net Federal Income and FICA Taxes: -$1,428
Total Federal Income Taxes: $3,911
Child and Dependent Care Credit: $1,200
Child Tax Credit: $2,000 =
Net Federal Income Tax: $711
Social Security and Medicare Taxes withheld: $4,804 =
Net Federal Income and FICA Taxes: $5,515
Total Federal Income Taxes: $6,566
Child and Dependent Care Credit: $1,200
Child Tax Credit: $2,000 =
Net Federal Income Tax: $3,366
Social Security and Medicare Taxes withheld: $7,650 =
Net Federal Income and FICA Taxes: $11,016
Federal Income Taxes: $44,735
plus Alternative Minimum Tax: $2,814
plus Self-Employment Tax: $1,240
plus Additional Medicare Tax: $295
plus Net Investment Income Tax for Individuals: $1,204 =
Net Federal Income Tax: $50,288
Social Security and Medicare Taxes withheld: $10,734 =
Net Federal Income and FICA Taxes: $61,022
The Simple Flat Tax Plan
Today I’ll evaluate the effect on federal revenue from these five hypothetical families based the flat tax plan proposed by Ted Cruz. I chose this plan simply because it is so easy to evaluate. There is a “Cruz Flat Tax Form 2017” on the candidate’s website and there are only 11 lines to get to “Total tax.”
On http://www.tedcruz.org/tax_plan/, Cruz states that the first $36,000 of income for a family of four would be tax-free which comes from the per filer (not per return) standard deduction of $10,000 and the personal exemption of $4,000. From this site and additional sources, I found that the only itemized deductions allowed are for mortgage interest and charitable contributions, payroll taxes will be eliminated, the Earned Income Tax Credit will be expanded by 20% and modernized with “greater anti-fraud and pro-marriage reforms,” and that the Child Tax Credit remains in effect.
One question arises from “The Child Tax Credit will remain in place….” The Child Tax Credit is a non-refundable credit and a household doesn’t receive the credit unless there are taxes due. The Additional Child Tax Credit is refundable and can generate a tax refund even if a family paid in no federal income tax, but Cruz didn’t specifically mention that credit in his plan, so I didn’t use it. Similarly, will the EITC be based on the same criteria that is used now, but the amount increases by 20%, or with the credit remain the same, but the criteria be expanded so that 20% more people are eligible? Not sure – I used the first scenerio.
For my five hypothetical families, here are the results:
Total Tax, 2014 Tax Code: -$6,058
Total Tax, Cruz Flat Tax: -$6,552
Difference: $494 additional federal tax refund
Percent Federal Tax Savings: 8.2% higher refund
Total Tax, 2014 Tax Code: -$1,428
Total Tax, Cruz Flat Tax: -$3,452
Difference: $2,024 additional federal tax refund
Percent Federal Tax Savings: 142% higher refund
Third Quintile (Assumes HSA & IRA contributions go to deductible USA’s instead)
Total Tax, 2014 Tax Code: $5,515
Total Tax, Cruz Flat Tax: $210
Difference: $5,305 less federal tax paid
Percent Federal Tax Savings: 96.2% less federal tax paid
Fourth Quintile (Assumes 401(k) contributions go to deductible USA’s instead)
Total Tax, 2014 Tax Code: $11,016
Total Tax, Cruz Flat Tax: $4,570
Difference: $6,446 less federal tax paid
Percent Federal Tax Savings: 58.5% less federal tax paid
Fifth Quintile (Assumes 401(k) contributions go to deductible USA’s instead)
Total Tax, 2014 Tax Code: $61,022
Total Tax, Cruz Flat Tax: $23,883
Difference: $37,139 less federal tax paid
Percent Federal Tax Savings: 60.9% less federal tax paid
So, for these hypothetical families with incomes at the average of the five quintiles, the federal government would collect $51,408 less in taxes, or put another way, lose 73.4% of its largest revenue source. I thought that seemed high and I may have made a mistake. To double-check, I pulled out our 2014 tax return and ran the numbers through the Cruz Flat Tax Plan. For my wife & me, our percent savings would be 68.1%. I believe these numbers are accurate.
I haven’t looked at the 16% flat business tax which is also part of the Cruz plan, but the analysis presented above is worrisome. Cruz’ statement to Megan Kelly on “The Kelly File” when he released his tax plan last fall is also troubling: “Three-fourths of the revenue needed to fund the government comes from the business side rather than the individual side.” He is off by nearly a factor of ten. According to the Congressional Budget Office, corporate income taxes in 2011 were $181 billion which was 7.9% of the total revenue of $2.3 trillion (www.cbo.gov/sites/default/files/112th-congress-2011-2012/graphic/bsrevenuesprint0.pdf). Individual income taxes and payroll taxes accounted for 83% of federal tax revenue.
Ted Cruz speaks authoritatively, but he seems to have trouble with the numbers. Individual income taxes have been the largest source of federal tax revenue for many decades and a presidential candidate should know that. The Tax Foundation estimates that the plan would cut taxes on a static basis by 9.2 percent, on average, for all taxpayers. This number is so far off from my calculations that I now suspect there is a problem with the sample return on tedcruz.org/tax-plan. It is in postcard form, has only 11 lines to determine “Total tax.” It is hard to screw up.
If my numbers are correct, I do not believe that the federal government would be able to function effectively under such financial strangulation, and the federal deficit and debt would certainly balloon. Now that I have looked at the Cruz plan closely, I suppose I should evaluate the plans of the other candidates because, at least based on Cruz, they may not be accurately portrayed by those running for president.
Next Time: Part III-D-2: Let’s Look at All the Presidential Candidates’ Tax Plans (America Great Series; Taxes, Economy & Jobs)