As the nation awaits a final version of its new tax legislation, the House and Senate versions share enough in common to give an idea of what will likely emerge and who will benefit most. Since the rich pay the most in tax, most breaks will naturally give the greatest dollar amounts to them. Partisans will use that fact. But on a relative basis, the likely changes will offer a lot to middle class Americans, in some ways more than the wealthy will get. Here are five major ways likely changes will impact the middle class and five major ways they will affect those toward the top of the income distribution.
The Middle Class
This group is as far down the income distribution as this bill gets. Most Americans at still lower income levels pay no income tax. Their biggest bill to the government arrives through payroll taxes, and this legislation leaves that alone. For those who do pay income tax, here are the major considerations, positive and negative:
- The biggest likely benefit will come from the enlargements of the standard deduction and the child tax credit. These will offer an unmitigated boon to the vast number of taxpayers who do not itemize.
- The middle class will also gain from the proposed adjustments in tax brackets. There are differences between the Senate and the House versions, but both not only reduce the rates at lower brackets but also raise the income level before higher brackets apply. Both changes would reduce tax burdens for middle class Americans.
- The inability to deduct state and local taxes (SALT) — any income taxes and a cap on the deductible amount of real estate tax — will detract from these benefits, especially for taxpayers who itemize in high-tax states, such as New York, New Jersey, Massachusetts, Illinois, and California. For the rest of the country, it is much less of a setback.
- A cap on the deductible amount of mortgage interest would also work against other benefits but only marginally for the middle class. If, as proposed, the interest deduction will stand except for that part of the mortgage above $500,000, most of these people will avoid any constraint. With the median price of a new home in this country slightly less than $300,000, few, if any in the middle class own houses with such large mortgages.
- To the extent that this legislation allows taxpayers to choose a simpler filing, it would spare them aggravation, time, and expense on preparation.
With this group, the likely new rules will cut in more complex ways. Tax rules always do for this group. Here are some prominent likely effects:
- The proposals do little to cut tax rates at the higher reaches of the income distribution. The only break will come from the proposal to raise the level of income before the maximum rate applies. That would reduce some burden on the wealthy but only at the margin.
- Measures to disallow the deduction of state and local income taxes and cap the real estate tax deduction could do more damage, especially since so many of the wealthiest Americans live in high-tax states. The effect is not so devastating as it might at first seem, however, since for many people in this circumstance alternative minimum tax (AMT) has long constrained their ability to use the full deduction.
- Much more than the middle class, this group will suffer from efforts to cap the interest deduction for mortgage borrowing. Only the wealthy can purchase houses expensive enough to require a mortgage of over half a million dollars. As with SALT, however, the damage should fall short of how it might seem to at first, since for most, AMT has long limited the deduction’s full use.
- The biggest benefit to this group will come from the business tax reductions. Major cuts in corporate tax rates will benefit publically traded companies, raising the value of stocks and accordingly benefitting those who have the largest positions in equities, that is wealthy Americans. Even greater benefit will emerge in the significant tax break proposed for pass-through income on limited partnerships, an area where the top 1 percent of earners dominate overwhelmingly.
- The proposed reduction or elimination of estate taxes covers only a small part of the overall tax picture, but it will disproportionately benefit the wealthy. They, after all, are the only people in the country who have the wealth to give. Actually, the change would benefit only a subset of this group, those who would transfer family farms small- or medium-sized businesses to their heirs. The mega wealthy have long transferred the benefits of wealth to their heirs tax free through foundations.
Of course, the final legislation is not yet set. It is not even certain that the nation will get tax reform/cut legislation. Still, these points capture the tax typography as it looks at the moment.