'Bracket creep' could nibble away at Reagan tax menu
Q. When is a tax cut not a tax cut? A. When it gets eaten up by "bracket creep." President Reagan's new proposed tax menu lists a reduction in the top marginal rate on investment income as an appetizer. It includes an accelerated cost recovery system as a first course, and various savings incentives for dessert.
But the main dish is still a 25 percent across-the-board personal income tax cut, to be phased in over 33 months.
However, if inflation-induced "bracket creep" continues at its present rate, many taxpayers may find their tax burden reduced very little, in real terms. And low-income taxpayers may find themselves paying more of their income to the government by 1983 -- even it Reagan's tax package passes Congress intact.
"We look at it as preventing a tax increase,m " says Bill Shaker, executive vice- president of the conservative National Tax Limitation Committee.
If current tax law were allowed to hum along unchecked until 1983, according to the Joint Committee on Taxation, inflation and scheduled social security tax hikes would increase federal income tax revenue $60.3 billion. That assumes an inflation rate of about 10 percent per year.
Under Reagan's income tax cut. Washington would lose $66.8 billion in taxes during the same period. So, according to the Joint Committee figures, 90 percent of the cut would simply offset inevitable increases.
The major cause is "bracket creep," a villain that prods the government to chomp off more of your income even though your purchasing power hasn't increased.
Consider the case of Mr. and Mrs. Deduction, a childless couple who made $5, 000 in 1980 selling hot dogs at the beach.Their low income exempted them from paying income tax. But in 1981, to keep up with 10 percent inflation, they raised the cost of their wares a similar amount. Their income crept up to $5, 500. Suddenly, MR. and Mrs. Deduction find they have popped up over the tax threshold, and owe the government an astonishing $14. Their real income is the same, because it has only kept up with the cost of living. But since they now have to pay taxes, their purchasing power and standard of living will actually go down.
And, like the cost of public buses and tuna fish, "bracket creep" hits hardest those who can least afford it.
"It affects lower incomes more than higher," says Joseph Pechman, a Brookings Institution economist.
For taxpayers making between $5,000 and $10,000, over a quarter of their 1981 taxes (under current law) would be a creep-and social security-caused increase. For those making between $30,000 and $50,000, 8 percent of their taxes would represent such a hike.
Income tax brackets above that suffer even less. For those in the $50,000 to moot issue for the very rich.
"If you're already in the highest bracket, creep doesn't affect you," says Jay Angoff, an attorney with the Ralph Nader-associated Tax Reform Reasearch Group.
Even if Reagan's proposed cuts are enacted, lower-income taxpayers may find themselves shelling out a larger percentage of their income to the government in 1983.
Under current law, creep and social security increases would hit those with incomes under $20,000 for $16 billion more in taxes. Reagan's rate reduction would save those same taxpayers only $11.6 billion.
Thus, up to the $20,000 bracket, the "reduction" might actually become an increase. For those who make more money, it will mean a real savings.
"There are more equitable ways than an across-the-board [slash] to cut taxes, " says Joseph Pechman.
The Tax Reform Research Group has proposed a plan hiking the standard deduction and a personal exemption, for lower-income people -- the "only things that reduce taxable income," according to Jay Angoff.
The Democrat's tax-cut alterfnative, already politically wilting, takes a similar tack by proposing to increase the tax threshold, or "zero bracket amount", to $2,300 for single taxpayers and $3,400 for couples.
If you don't make much money, says mr. Angoff, that would only "make you come out even."
The debate over what Reagan's personal rate reductions would do to the economy has raged like guerrilla warfare in the halls of Capitol Hill. Opponents say that it's inflationary and won't stimulate business as the administration claims.
But if inflation continues, these arguments could be lost in the din of taxpayers clamoring fo relief.
"Is this the time to increase people's taxes as a proportion of their incomes?" says Bill Shaker of the National Tax L imitation committee.