On Jan. 7, President George W. Bush detailed a tax cut and spending package that will be presented to Congress later this winter or spring. According to the Bush administration, the package would take approximately $674 billion out of federal government coffers over the next 10 years. The cost to the federal government would be front-loaded; in 2003 alone the package would cost the federal government approximately $100 billion.
The centerpiece of the package is the proposed abolition of the shareholder dividend tax. Currently, shareholders must pay taxes on their dividends at a rate equal to their income tax rate. The Bush administration estimates that the elimination of the shareholder dividend tax would cost approximately $350 billion over 10 years. The proposed package also includes:
Approximately $91 billion in tax credits for families with children. Qualifying parents would be able to write off $1,000 of taxable income per child beginning in 2003 under Bush’s proposal; as of now qualifying parents can only claim $600 per child.
Approximately $112 billion in income tax rate cuts. Bush’s initiative would reduce the top four marginal income tax rates, create a 10 percent marginal tax rate bracket for the lowest income taxpayers and increase the number of lower-income taxpayers that qualify for that 10 percent marginal tax rate bracket. Due to an enacted 2001 tax bill, these income tax rate changes are to be phased in over the next decade; Bush’s proposal would make all these changes effective immediately.
A $58 billion “correction” in tax laws concerning married couples. Currently, tax laws are such that two-earner married couples tend to be taxed more than similar unmarried two-earner couples; Bush’s proposal would attempt to correct this disparity. This marriage tax provision is scheduled to phased in by 2008 under the tax cuts enacted in 2001; Bush’s new proposal would make the correction fully effective beginning in 2003.
A $48 billion increase in the alternative minimum tax. The alternative minimum tax was originally enacted in 1969 to prevent the very rich from using various accounting and tax shelter schemes to avoid paying income taxes. An increase in the level of this tax bracket would decrease the number of taxpayers affected by the alternative minimum tax.
Small amounts of unemployment relief, state aid and small business write-offs.
Who would benefit if the dividend tax were to be repealed?
The big winners under the proposed economic package would be the shareholders of profitable, corporate, taxpaying companies. As mentioned above, shareholder dividends are currently taxed at the same rate as the shareholder’s regular income. Under the Bush plan, a shareholder could receive tax-free dividend income.
Somewhat confusingly, not all dividends would be tax-free under the Bush proposal. The amount of tax-free dividends a company could distribute could not exceed the company’s after tax profits. For example, under the Bush proposal, a company that retained $100 million in profits after paying corporate taxes would be able to distribute $100 million in tax-free dividends; any additional dividend disbursement would be taxed. The Bush proposal also allows profitable, taxpaying companies to distribute tax-free “deemed” dividends in lieu of or together with actual dividends. For example, if the company with $100 million in after-tax profits only distributed $50 million in actual dividends, a shareholder in this company would be able to reduce his or her taxable capital gain liability by her share of the $50 million “deemed” dividend.
Individuals invested in the stock market via 401(k) retirement plans or individual retirement accounts would not benefit directly from Bush’s proposed tax and spending package (these individuals would experience some indirect benefits if Bush’s proposal caused the aggregate value of the stock market to rise). Currently, these security packages are tax-exempt when individuals contribute to these funds and are treated as regular taxable income when they mature. The Bush administration has indicated it will not seek to change 401(k) or IRA maturation tax laws.
Who are the shareholders in this country that might benefit from Bush’s proposal? According to Citizens for Tax Justice, in 1998, 85 percent of stock and bond value was held by the top wealthiest 10 percent of taxpaying Americans. Therefore, not surprisingly, the wealthiest Americans would receive the greatest windfall from a dividend tax cut. To wit, it estimated that the wealthiest 1 percent of Americans would receive 50 percent of the windfall accruing from Bush’s proposed dividend tax cut. Most lower- to middle-class Americans would not directly benefit from Bush’s proposal. Lower- to middle-class Americans invested in the stock market hold most of their equities in tax-exempt retirement plans that, as mentioned above, are treated as normal income at the time of disbursement.
Who would benefit if the proposed income tax rate cuts were enacted?
The $112 billion in income tax rate cuts would affect many Americans. More low-income Americans would qualify for the lowest income tax bracket. Lower- to upper-middle-class families with kids would experience some tax savings due to the increased child tax credit levels. In addition, low- to middle-income married couples might see some tax breaks due to the “correction” of the tax laws that penalize some two-earner married couples. The percentage of low- to middle-income taxpayers that would qualify for these breaks could be relatively small. For example, according to Citizens for Tax Justice and the New York Times, only 11 percent of taxpayers earning between $27,000 and $44,000 would qualify for the income tax breaks mentioned above. In contrast, a majority of taxpayers making $73,000 per year or more would qualify for benefits under the proposed income tax rate cuts.
In addition, tax savings as a percentage of income would be higher for the average richer taxpayer than for the average middle- to lower-class taxpayer. In fact, several sources estimate that under the Bush plan, the wealthiest 1 percent of Americans would receive 45 percent of tax refunds due to income tax rate cuts. Overall, the wealthiest 1 percent would see their taxes decline by an average of $32,000.
In tomorrow’s paper, the theoretical merits and drawbacks of the proposed tax and spending package will be discussed.