By: Jeb Hensarling – wsj.com – December 17, 2024

How to avert disaster? First, do no harm. Then take a serious look at costly tax expenditures.

Republicans’ election celebrations will have to give way next year to dealing with what Washington calls the “fiscal cliff.” Key provisions of the historic 2017 Trump-Pence Tax Cuts and Jobs Act will expire then and the debt ceiling, currently capping a record gross national debt of $36.1 trillion, will be breached. Also next year, the Pay-As-You-Go Act—which prohibits new legislation from increasing projected deficits—will require $190 billion of mandatory spending cuts, and enforceable discretionary spending caps will expire. According to an analysis by the Economic Policy Innovation Center, if Congress continues current policies next year, another $5 trillion will be added to the national debt.

Besides giving us a robust economy and higher living standards, the Tax Cuts and Jobs Act showed that favorable tax policy also produces more tax revenue. As Congress revisits the TCJA, it can make the tax code even “growthier,” to borrow a word coined by former Trump adviser Larry Kudlow. That doesn’t necessarily mean making the entire TCJA permanent, but it does mean making permanent provisions like the 20% deduction for pass-through income and full and immediate expensing for capital investments. Other growth provisions proposed by Mr. Trump should be considered, such as lowering the corporate tax rate even further.

Unfortunately, even under the most promising growth models, the resulting tax revenue won’t be enough to fill a $5 trillion hole that congressional budget rules require and that bond markets will likely demand. After all other possibilities are explored and exhausted, Congress will need to reduce tax expenditures significantly.

One possible offset that shouldn’t be embraced is Mr. Trump’s universal tariff plan. Yes, if levied at 10%, universal tariffs could theoretically raise $2 trillionover 10 years, according to the Tax Foundation. But the actual number would be much smaller, since the estimate doesn’t account for retaliatory tariffs, inflationary effects, the harm to gross domestic product, or the inevitable litigation that could prevent Mr. Trump from imposing the tariff in the first place. Given the likely collateral damage, Congress would have to think long and hard before codifying these tariffs.

Other ideas floated during the presidential campaign will cost tax revenue. Should Congress restore full deductibility of state and local taxes, that’s a new $1 trillion revenue hole that will likely make state and local governments grow. Eliminating taxes on Social Security benefits would open a $1.2 trillion revenue gap that, if not coupled with other needed reforms, would hasten the program’s insolvency and statutory benefit cuts. Again, when it comes to the national debt Congress’s priority should be to do no harm.

The real fiscal challenge remains on the spending side of the ledger, and it’s only getting worse. Assuming the TCJA is made permanent, the Congressional Budget Office projects over the next 30 years that revenue as a percentage of GDP will remain essentially flat at the 30-year average of 17.3%, but spending will skyrocket, from 21.8% to 27.3%.

Enter the new Department of Government Efficiency, which holds great promise in reining in the power and abuses of the administrative state. Mr. Trump deserves credit for its creation. But even if Elon Musk and Vivek Ramaswamyprove to be the smartest men on the planet, DOGE holds considerably less promise in reining in spending.

Why? Because federal spending is driven by growing entitlements like Medicare and Social Security, which Mr. Trump pledged not to touch, and ballooning interest payments on the national debt, which must be paid. These constitute 77% of expected spending growth over the next 10 years. Since Congress is unlikely to cut defense spending, DOGE isn’t left with much to work with on the spending front. Proposals like shedding empty office space and reducing the number of remote workers, worthy as they are, aren’t up to the fiscal challenge.

That leads us to the too-often-ignored option of reducing tax expenditures, which consist of various exclusions, deductions, credits and preferences. These are usually referred to as tax loopholes by those who don’t benefit from them or would prefer lower marginal tax rates. According to the Joint Committee on Taxation, these expenditures annually cost $1.8 trillion in lost revenue and have grown in number from 53 in 1970 to more than 200 today.

Two places to start reducing tax expenditures concern Joe Biden’s American Rescue Plan and Inflation Reduction Act, the latter of which included such expenditures as a $7,500 tax credit for electric-vehicle purchases. According to the CBO, the Inflation Reduction Act’s energy tax provisions alone will cost $622 billion over the next seven years.

Other large tax expenditures include employer-provided health insurance, weighing in at $3.4 trillion over 10 years. The partial exclusion of capital gains on home sales and tax exemptions on municipal bonds also cost billions. Throw in the advanced semiconductor manufacturing credit, the deductibility of student loan interest, and the low-income housing tax credit, and you begin to unearth a target-rich environment for curbing tax expenditures.

Life is full of lousy options and tough decisions. To keep and improve a tax code built for economic growth, Congress will not only have to cut the federal budget but also meaningfully reduce tax expenditures. Adding to the national debt, historically the path of least resistance, is becoming less viable by the day.

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Source: https://www.wsj.com/opinion/gop-takes-control-headed-for-a-fiscal-cliff-policy-economy-550653a5