The Return of the Inflation Tax

[classicman]

Interesting OPINION piece

All of those twentysomethings who voted for Barack Obama last year are about to experience the change they haven't been waiting for: the return of income tax bracket creep. Buried in Nancy Pelosi's health-care bill is a provision that will partially repeal tax indexing for inflation, meaning that as their earnings rise over a lifetime these youngsters can look forward to paying higher rates even if their income gains aren't real.
In order to raise enough money to make their plan look like it won't add to the deficit, House Democrats have deliberately not indexed two main tax features of their plan: the $500,000 threshold for the 5.4-percentage-point income tax surcharge; and the payroll level at which small businesses must pay a new 8% tax penalty for not offering health insurance.

This is a sneaky way for politicians to pry more money out of workers every year without having to legislate tax increases. The negative effects of failing to index compound over time, yielding a revenue windfall for government as the years go on. The House tax surcharge is estimated to raise $460.5 billion over 10 years, but only $30.9 billion in 2011, rising to $68.4 billion in 2019, according to the Joint Tax Committee.

We also know what has happened with the Alternative Minimum Tax. Passed to hit only 1% of all Americans in 1969, the AMT wasn't indexed for inflation at the time and neither was Bill Clinton's AMT rate increase in 1993. The number of families hit by this shadow tax more than tripled over the next decade. Today, families with incomes as low as $75,000 a year can be hit by the AMT unless Congress passes an annual "patch."

The Pelosi-Obama health tax surcharge will have a similar effect. The tax would begin in 2011 on income above $500,000 for singles and $1 million for joint filers. Assuming a 4% annual inflation rate over the next decade, that $500,000 for an individual tax filer would hit families with the inflation-adjusted equivalent of an income of about $335,000 by 2020. After 20 years without indexing, the surcharge threshold would be roughly $250,000.

And by the way, this surcharge has also been sneakily written to apply to modified adjusted gross income, which means it applies to both capital gains and dividends that are taxed at lower rates. So the capital gains tax rate that is now 15% would increase in 2011 to 25.4% with the surcharge and repeal of the Bush tax rates. The tax rate on dividends would rise to 45% from 15% (5.4% plus the pre-Bush rate of 39.6%).

Certainly a partisan piece, but it does raise some interesting points


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