Last week we reported that the corporate income tax cut proposed in the 2013 GOP budget could create as much as an extra 11,000 private-sector jobs in Wyoming. This is of course good news for Wyoming, and for the rest of the country, but there are more tax goodies in the budget. A major proposal is to cut personal federal income taxes. Instead of today’s multi-bracket tax code the GOP budget suggests a simplification down to two brackets: 10 and 25 percent.
Tax cuts are always good, but in order to estimate what the benefits of this cut might be we first need to fill in the one missing piece in the GOP budget: the income threshold for the 25-percent bracket. Curiously, neither the budget nor any other piece of information related to its release indicated where that bracket would kick in.
In lieu of more detailed information it is reasonable to assume that the GOP has a very simple reform in mind: keep the current 10-percent and 25-percent brackets and eliminate all the other brackets. If we make this assumption, the 25-percent bracket kicks in at $68,000 for married couples filing jointly (2010 tax data).
As Figure 1 shows, middle-class families earning between $46,000 and $68,000 will pay a flat 10-percent income tax and stand to gain most of all taxpayers:
Here is how the actual tax burden would change (assuming no deductions):
The one problem with this income-tax reduction proposal has to do with the marginal tax effect of the Earned Income Tax Credit (EITC). According to eligibility rules, the EITC shrinks with rising income. At the same time, a person’s federal taxes rise with rising income. Together, the tapering-off of the refund and the increase in taxes owed create a steep marginal income tax effect in the higher bracket of EITC income eligibility.
In fact, the net result is a higher marginal tax rate than for any other taxpayers. This effect is sharpened by the GOP tax reform proposal. An already steep tax hill becomes even steeper and thus increases the discouragement toward self-sufficiency, hard work, entrepreneurship and education.
Since the EITC is an entitlement, it is neither an essential nor a constitutional government program. Any policy to expand economic freedom and reduce the size of government should include a reform to end the EITC. However, such a reform, while necessary, is a complex matter that deserves a separate analysis. For now, let us note that the GOP budget does not make any effort to tackle this problem.
Despite these shortcomings in the GOP budget’s income tax reform proposal, it is possible to estimate the positive effects of these tax cuts on the Wyoming economy. Given that:
a) There are no state and local tax increases;
b) Consumers spend 80 percent of their marginal earnings; and
c) They respond to the federal income tax cuts as if those were permanent,
the tax cuts proposed by the GOP would leave as much as $377 million more in the pockets of Wyoming taxpayers. That, in turn, would fuel activity in the state’s economy, generating up to 15,600 extra private jobs here.
If we add the potential 11,000 new jobs from the corporate tax cuts in the same budget, Wyoming stands to gain up to 26,600 permanent private-sector jobs, once these tax cuts have worked their way in to the economy.
The GOP budget is an example of a fiscal policy strategy that would benefit the Wyoming economy. There are many other ways to achieve similarly positive results, but just as with the GOP budget all such proposals depend on an assumption that our lawmakers – state and federal – do not do anything that would counter these positive effects. Needless to say, that is a risky assumption to make.