Capping tax deductions
As the fiscal cliff looms, leaders in Washington draw red lines. President Barack Obama is "asking the wealthiest to pay a little more in taxes," as he repeated Friday. House Speaker John Boehner is "open" to more revenue but only in exchange for significant spending cuts and raising existing tax rates is "unacceptable," the Ohio Republican insisted.
So, more gridlock? Not necessarily. There are politically feasible ways to get more revenue, mostly from the wealthy without raising tax rates. One is to limit the value of itemized deductions, 80 percent of which accrued to the top 20 percent of taxpayers in 2011, according to the Tax Policy Center. More than 25 percent of the benefits flowed to the top 1 percent.
There are a number of ways this could be done. You could eliminate or cap particular deductions, such as the mortgage interest deduction to the tune of $80 billion per year. You could reduce the maximum marginal rate at which taxpayers can claim deductions, as Obama proposed in his first-term budgets.
Or, as Mitt Romney suggested during the campaign, you could limit the total dollar amount of deductions any taxpayer could claim. This idea failed to achieve Romney's ostensible purpose: offsetting the trillions of dollars in new tax cuts, mostly for the well-to-do, that he proposed elsewhere. But considered separately, as a potential revenue raiser in a broader budget deal, the notion has promise.
If, for example, Congress kept existing tax rates, including the top rate of 35 percent, while capping itemized deductions at $50,000, the result would be $749 billion in additional revenue over 10 years, according to the Tax Policy Center.
That is consistent with Boehner's no-rate-increase red line and delivers a total tax increase similar to the $800 billion one he entertained in the failed negotiations of 2011. (More revenue from other sources would also be necessary.)
Meanwhile, nearly 80 percent of the extra revenue generated by the $50,000 cap would come from the top 1 percent of the income structure enabling the president and his fellow Democrats to strike their promised blow for tax fairness.
An added benefit would be that economic decisions would be based more on market forces than on tax considerations. Raising revenue through a high deductions cap also might minimize political resistance, since it leaves most tax breaks in place for most people.
There would be pushback from charities that depend on donations from the wealthy, and from high-tax states that rely on state and local tax deductions. But assuming legitimate issues can be addressed, capping deductions could be part of a red-blue compromise.