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Tax-Cut Truths You Won't Hear from the Prez


Imagine you are a waitress, married, with two children and a family income of $26,000 per year. Should you be enthusiastic about the tax cuts proposed by President Bush? He certainly wants you to think so. He uses an example of a family like yours to illustrate the benefits of his plan for working Americans. He boasts that struggling low-income families will enjoy the largest percentage reduction in their taxes. The income taxes paid by a family like yours will fall by 100% or more in some cases. This is true--but highly misleading.

President Bush fails to mention that your family pays only about $20 a year in income taxes, so even a 100% reduction does not amount to much. Like three-quarters of working Americans, you pay much more in payroll taxes--about $3,000 a year--than in income taxes. Yet not a penny of the $1.6 trillion package of Bush tax cuts (in reality, closer to $2 trillion over 10 years) is used to reduce payroll taxes. Moreover, should your income from waitressing fall below $26,000 as the economy slows, your family could be among the 75% of families in the lowest 20% of the income distribution that stand to get absolutely zero from the Bush plan.

The President claims that the "typical American family of four" will be able to keep $1,600 more of their money each year under his plan. Since you won't be getting anything like that, you might be tempted to conclude that your family must be an exception. Not really. The reality is that the President's claim is disingenuous. Eighty-nine percent of all tax filers, including 95% of those in the bottom 80% of the income distribution, will receive far less than $1,600.

TRICKLE DOWN? So where will the largest tax cuts go? To the richest 1% of the population, those with annual average pretax incomes of $915,000. They will receive more generous cuts than the bottom 80% combined. Perhaps some of the effects of tax cuts for the rich will "trickle down" to your family if wealthy individuals decide to spend some of their extra aftertax income, an average of about $40,000 per year--dining out, buying things, or building new houses.

But don't count on it. Even President Bush can't bring himself to use trickle-down logic to defend his plan. Of course, it is true that the top 1% of income earners currently pay the largest share of all federal taxes, about 20% of the total. But they will receive about 40% of the total tax relief provided by the Bush tax cuts.

One reason the rich do so well under the Bush plan is the proposed repeal of the estate tax. Since you might someday want to start your own restaurant or organic farm, shouldn't you support this? Otherwise, when you die, won't your children be forced to liquidate the business you worked so hard to build simply to pay the estate tax? Highly unlikely. Nearly all of this tax is paid by the richest 5% of filers, and one-half is paid by about 4,000 estates with values exceeding $5 million.

Farms and small businesses already receive special treatment. Your heirs will be entitled to calculate the taxable value of your estate on its current use value, not its highest market value, and they will be allowed to pay any estate tax they owe on a 14-year installment plan. Moreover, in the hands of your heirs, the value of your assets, like the value of all assets in estates, will be calculated at the time of your death, not at the time you acquired them. As a result of this so-called step-up in basis provision, neither you nor your heirs will owe capital-gains tax on the value of the assets you bequeath them. About $25 billion in capital-gains income escapes taxation each year as a result of this provision.

Since neither you nor most Americans will ever have to pay the estate tax, why fret about President Bush's desire to reward the very rich who will? After all, along with the gift tax, the estate tax accounts for only 1.5% of total federal tax revenues. Yes, but repeal of the estate tax would reduce government revenues by more than $25 billion a year over the next 10 years--rising to $50 billion a year by 2010. This is more than enough to finance health insurance for the millions of low-income Americans who work for small businesses like yours or a drug benefit.

REFORM IDEAS. There's more. Most studies find that charitable contributions are increased by the deduction for them in the estate tax. According to the U.S. Treasury, repeal of the tax could cut charitable giving by more than $6 billion a year. Since educational and medical institutions are favorite charities, repeal of the estate tax could mean a reduction in scholarships or medical care for children of families like yours. Instead of repealing the estate tax, why not reform it by excluding small farms and businesses, raising the exemption levels, eliminating the step-up provision for publicly traded securities, cutting the rate, and indexing both the effective exemption and tax brackets for inflation?

Time to end all the fantasy. You, dear BusinessWeek reader, are not a waitress supporting a family on $26,000. And President Bush's tax plan is not fair for most working Americans. By Laura D'Andrea Tyson


Silicon Valley State of Mind
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