President Bush's Tax Proposal: A Brief Overview

President Bush's Tax Proposal: A Brief Overview

Order Code RS20819
Updated June 21, 2001
CRS Report for Congress
Received through the CRS Web
President Bush’s Tax Proposal:
A Brief Overview
David L. Brumbaugh
Specialist in Public Finance
Government and Finance Division
Summary
On February 8, 2001, President Bush sent to Congress the outlines of a proposal
to cut taxes by an estimated $1.6 trillion over 10 years. Additional details of the plan
were included in budget documents the Administration released on April 9. The plan is
similar in its essentials to a proposal then-Governor Bush made during the presidential
campaign. Its principal components are: a reduction in marginal individual income tax
rates; an increased child tax credit; a tax cut for married couples; elimination of the estate
and gift tax; a permanent research and experimentation tax credit; a charitable
contribution deduction for non-itemizers; and several tax benefits for health care and
education. Tax cuts similar to the President’s have been considered by Congress over
the past several years, but were not enacted, in part because of opposition by the Clinton
Administration. In March 2001, specific tax cut legislation along the lines of the Bush
program began to move through the House as a set of stand-alone bills, and by early May
the House had passed bills containing much of the President’s proposal. On May 23, the
full Senate approved an omnibus bill including similar tax cuts. A conference committee
version of the tax cuts (H.R. 1836) was approved by the House and Senate on May 26;
it was signed into law on June 7 and became P.L. 107-16, the Economic Growth and Tax
Relief Reconciliation Act of 2001. This report will not be updated. For a detailed
comparison of the President’s proposal and P.L. 107-16, see CRS Report RL30973, Tax
cuts: A Side-by-Side Comparison of the President's Proposal and House, Senate, and
Conference Committee Bills.
The Proposal’s Overall Size and Shape
The size and shape of the President’s proposal can be inferred from the estimated
impact it would have on federal revenues. Based on the revenue estimates, the
centerpiece of President Bush’s tax proposal is its reduction of marginal individual income
tax rates. In the proposal’s tenth year – by which time each of the proposal’s provisions
would be fully phased in – the reduction in tax rates would account for 43% of the plan’s
estimated revenue reduction. Other major elements of the plan are elimination of the
estate and gift tax, which would account for 24% of the estimated revenue loss, and
Congressional Research Service ˜ The Library of Congress

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expansion of the per-child tax credit, accounting for 11% of the revenue loss.1 Thus,
these three provisions would account for over three-quarters (77%) of the proposal’s
revenue loss when the plan is fully implemented.
The size of the tax cut can also be gauged by looking at its estimated revenue loss
in several additional ways. For example, based on the Administration’s revenue estimates
and economic projections by the Congressional Budget Office, when the proposal is fully
phased in it would reduce federal receipts by about 7.5% of projected revenue – an
amount equal to 1.5% of gross domestic product (GDP). By comparison, as it was
initially enacted the Economic Recovery Tax Act of 1981 (ERTA) – the large tax cut
enacted at the beginning of the Reagan Administration – was expected to reduce tax
revenue in its fifth full year by 25% of revenue that was otherwise expected to accrue and
by 6% of projected GDP (see, however, the cautionary note below).2 Looking at the
1990s, the net tax increase enacted by the Omnibus Budget Reconciliation Act of 1993
was anticipated to increase revenue by 4% of expected receipts by its fifth year (0.1% of
GDP); the net tax cut enacted by the Taxpayer Relief Act of 1997 was expected to reduce
revenue by 1% of receipts or 0.2% of GDP by its fifth year. The vetoed Taxpayer Refund
and Relief Act of 1999 was expected to reduce revenue by 5% of anticipated revenues or
1% of GDP by the time it was fully phased in.
Based on these comparisons, the revenue effect of the President’s proposal would
be substantially smaller than that anticipated with ERTA’s landmark tax cut, but
substantially larger than the revenue impact of the significant tax legislation of the past
decade. As a cautionary note, however, ERTA’s tax cut was enacted in a somewhat
different context than now exists: the tax system was not indexed, and inflation was
pushing some taxpayers into higher tax brackets. Thus, ERTA’s tax cut preempted what
would have been inflation induced tax increases for many taxpayers.
Principal Provisions
Again, the largest component of the tax cut plan is its reduction in marginal tax
rates that the tax code applies to taxable income. Under current law, there are five tax
rates that increase as taxable income increases; the current rates are: 15%; 28%; 31%;
36%; and 39.6%. The Bush plan would replace this structure with four tax rates. In
general, the plan would separate the lowest bracket into two parts, with a 10% rate
applying to the first $12,000 for joint returns ($6,000 for singles) and retaining a 15% rate
for the rest of the bracket. The plan would consolidate the next four brackets into two,
1 The revenue estimates are the administration’s, as reported in U.S. Department of the Treasury,
General Explanations of the Administration’s Fiscal Year 2002 Tax Relief Proposals
(Washington: April, 2001), 60 p. This document also contains a detailed description of the
Administrations proposals and is posted on the Treasury Department’s website at
[http://www.ustreas.gov/taxpolicy/library/bluebk01.pdf]
2 Parts of ERTA were repealed before they went into effect; the estimates here are for ERTA’s
initial provisions. Both the revenue estimates for ERTA and the projected revenue estimates (from
the Feb., 1982, Congressional Budget Office baseline) are taken from U.S. Congressional Budget
Office, Projecting Federal Tax Revenues and the Effect of Changes in Tax Law (Washington:
Dec., 1998), p. 15. GDP figures are from U.S. Congressional Budget Office, The Budget and
Economic Outlook: Fiscal 2002-2011 (Washington: Jan., 2001).

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with a single 25% rate replacing current law’s 28% and 31% rates, and a single 33% rate
applying to current law’s 36% and 39.6% brackets. The chart below compares the
proposed new structure with that of current law for married couples.3 In using the table,
note that the tax rates listed under the proposal are those that would be effective when the
plan is fully phased in, which would not occur until 2006. However, the tax brackets
shown in the table are those applicable to 2001. Because current law adjusts the rate
brackets each year to reflect inflation, the actual dollar amount of the brackets will likely
be different in 2006.
Note that the tax rates in the table are marginal rates – that is, they apply to
increments of income a taxpayer earns within the corresponding income bracket.
Increments of a taxpayer’s income corresponding to lower brackets are taxed at lower
marginal rates; increments corresponding to higher brackets are taxed at higher rates. For
example, if single taxpayer earns $70,000 of taxable income under current law, $27,050
of his income would be taxed at 15%, $38,500 (i.e., $65,500 minus $27,050) would be
taxed at 28%, and $4,450 would be taxed at 31%.
Statutory Marginal Tax Rates Under Current Law and the President’s Proposal
Singles
Married Couples
Taxable Income
Taxable Income Bracket
Current
Bush
Bracket (Tax Year
Current
Bush
(Tax Year 2001)
Law
Proposal
2001)
Law
Proposal
$0 – $6,000
15%
10%
$0 – $12,000
15%
10%
$6,000 – $27,050
15%
15%
$12,000 – $45,200
15%
15%
$27,050 – $65,550
28%
25%
$45,200 – $109,250
28%
25%
$65,550 – $136,750
31%
25%
$109,250 – $166,500
31%
25%
$136,750 – $297,350
36%
33%
$166,500 – $297,350
36%
33%
$297,350 –
39.6%
33%
$297,350 –
39.6%
33%
The plan would further cut taxes for married couples by providing a “second-earner
deduction” – that is, if both members of a married couple have incomes, the couple could
deduct 10% of the lower-earner’s income, up to a maximum of $3,000. In doing so, the
proposal would reinstate a provision similar to one that was enacted by ERTA in 1981,
but that was repealed by the Tax Reform Act of 1986. The proposed deduction would
reduce (and in some cases eliminate) current law’s so-called “marriage tax penalty” that
results in some couples paying more taxes than an unmarried couple with an identical cash
income. (The deduction would also provide a tax cut to some couples that receive a
3 Information on the content of the President’s proposal is from an Administration press release on
the tax plan reprinted in BNA Daily Tax Report, Feb. 9, 2001, p. L-1.

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marriage bonus under current law.)4 Note that the new 10% bracket contains an element
of tax relief for married couples: unlike other brackets, its width is twice that of singles.
The President’s plan proposes to eliminate the estate and gift tax. Under current
law, a graduated rate structure of 37% to 60% applies to estates after an exemption of
$675,000. (The exemption is scheduled to increase to $1 million by 2006.)
The President’s proposal would double the existing per-child tax credit, increasing
it to $1,000 from current law’s $500. At the same time, the plan would increase current
law’s phase-out threshold for the credit to $200,000 for both married couples and singles
from current law’s $110,000 ($75,000 for singles). Additionally, the plan would make the
credit applicable against the individual alternative minimum tax.
The plan would permit taxpayers who claim the standard deduction rather than
itemized deductions to deduct donations to charity. The campaign version of the Bush
proposal contains two added provisions: it would increase to 15% of taxable income
current law’s 10% limitation on corporate charitable-donation deductions; it would also
permit charitable contributions to be made from individual retirement accounts (IRAs)
without incurring the penalty for early withdrawal. The Administration’s press release on
the February 8 plan made no mention of these last two provisions, although it does state
that along with the “above-the-line” deduction that President Bush “supports other
proposals to increase charitable giving.”5
The President’s plan would make current law’s research and experimentation tax
credit permanent. Under current law the credit is equal to 20% of a firm’s research
spending above a base amount. The provision was first enacted in 1981, but has always
been temporary, and has been scheduled to expire but extended on numerous occasions.
Most recently, legislation in 1999 extended the credit through June, 2004. The plan also
proposes to extend for one year a number of tax benefits due to expire in 2001. The most
prominent of these are: the work opportunity tax credit, the welfare-to-work tax credit,
the exclusion for employer-provided education assistance, minimum tax relief for
individuals, and the exception from subpart F for the active financing income of
multinational firms.
The proposal would provide several tax benefits for education. The proposals
included increasing the annual contribution limit for education individual retirement
accounts to $5,000 from $500 and expanding the accounts to include expenses for primary
and secondary education; an expansion of tax-exempt private-activity bonds to include
school construction; and a $400 tax deduction for teachers’ school-supply and training
expenses.
The President’s plan also contains a number of tax benefits related to health care.
One proposal would provide a refundable tax credit for the purchase of health insurance
by persons under 65 who do not participate in public or employer-provided plans. The
4 For a discussion of the tax consequences of marriage, see: U.S. Library of Congress,
Congressional Research Service, The Federal Income Tax and the Treatment of Married Couples:
Background and Analysis, by Gregg A. Esenwein, CRS Report RL30800 (Washington: Jan. 11,
2001). 16 p.
5 BNA Daily Tax Report, Feb. 9, 2001, p. L-1.

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credit would equal 90% of health insurance premiums up to a maximum of $1,000 per
individual covered by a policy, up to a total of $2,000. Other health proposals would
provide an above-the-line deduction for long-term care insurance, permit up to $500 in
unused benefits from flexible spending arrangements to be carried forward to the next
year, and permanently extend and modify current law’s medical savings accounts.
Previous legislation passed by the 106th Congress in 1999 and 2000 included
provisions similar to many of the President’s proposals. The legislation was vetoed,
however, by President Clinton, who generally argued that the tax cuts were too costly and
favored upper-income individuals. The Taxpayer Refund and Relief Act (TRRA; H.R.
2488) included a one percentage-point reduction in all tax rates and a tax cut for married
couples as part of a broad range of tax cuts. In 2000, H.R. 8 would have repealed the
estate and gift tax; H.R. 4810 would have cut taxes for married couples.
Policy Issues
During the 2000 presidential campaign, then-Governor Bush advanced several
arguments supporting his tax cut proposal. The arguments were based on both
philosophical and economic grounds. Philosophically, Governor Bush stated his belief
that high taxes are linked with large government. Economically, he argued that reduced
taxes are linked with long-term economic growth because they stimulate work effort,
saving, and entrepreneurship – a belief reflected in the plan’s emphasis on cutting marginal
tax rates.6
In December, 2000, during the period between the election and his inauguration,
President-elect Bush advanced an additional justification for a tax cut – to provide an
economic stimulus to an economy that had begun to show signs of slowing down. In
testimony before the Senate Finance Committee, Federal Reserve Chairman Greenspan
offered qualified support for a tax cut – a support based on his negative view of extensive
government holding of private liabilities that large surpluses would bring.7 Many
economists, however, are skeptical of the effectiveness of a tax cut as a short-run,
counter-cyclical economic stimulus compared to monetary policy. There are several
reasons. First, there are considerable time lags between the time the need for a stimulus
is recognized and the time a tax cut has its stimulative effect. Thus, economic conditions
may have changed by the time a tax cut’s effects begin to take hold. Second, some
economists believe that adjustments occur in private markets that counter and offset the
effects of government taxing and spending policy.8 And finally, the increasing openness
6 These views are presented in the official Bush campaign website, as constituted on December 22,
2000. [http://www.georgewbush.com]
7 The testimony is posted on the Federal Reserve Board’s website, at
[http://www.federalreserve.gov/boarddocs/testimony/2001/20010125.htm]
8 For a discussion of the tax cut as an economic stimulus, see: U.S. Congressional Research
Service, Income Tax Cuts, the Business Cycle, and Economic Growth: A Macroeconomic
Analysis, Report No. RL30839, by Marc Labonte and Gail Makinen (Washington: Feb. 8, 2001),
15 pp. For a recent economic analysis that emphasizes the role of time lags, see John B. Taylor,
“Reassessing Discretionary Fiscal Policy,” Journal of Economic Perspectives, vol. 14, Summer
2000, pp. 21-36. For a textbook discussion of time lags and the “new classical” view that markets
offset government actions, see: Joseph E. Stiglitz, Economics of the Public Sector, 2nd Ed. (New
(continued...)

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of the U.S. economy means that international adjustments may well reduce the stimulative
effect of fiscal policy.
As well as short-run effects that may (or may not) impinge on the business cycle, tax
cuts can affect long-run economic growth and economic efficiency, and Mr. Bush has
argued for his plan partly on these grounds. The centerpiece of the tax cut – the reduction
in marginal tax rates – is indeed likely to improve economic efficiency, on balance.
According to economic theory, taxes are more economically efficient the less they distort
economic decisions and behavior. And the lower are marginal tax rates, the less distorting
taxes are, other factors remaining constant.
The plan’s impact on long-run growth is less certain. It depends heavily on the tax-
rate cut’s impact on labor supply and saving. By itself, economic theory provides no clear
answer on whether either labor supply or saving respond to tax cuts – in general, people
may save or work less in response to a tax cut because their aftertax income has increased
and they need to work (or save) less to purchase desired items, or they may save or work
more because the aftertax return to saving (or working) has increased. It therefore falls
to empirical evidence to indicate the impact of taxes; while results of studies vary, most
suggest the impact of taxes on work and saving is small. Further, a tax cut that reduces
the federal budget surplus would reduce government saving and – as a result – aggregate
national saving, which may reduce economic growth.9
Another prominent issue in the current debate concerns the tax cut proposal’s equity.
The plan’s critics (including many Democrats) have argued that the specific form of the
President’s tax cut is unfair, and favors high-income individuals.10
Another issue in the tax-cut debate has been its impact on the budget. President
Bush has stated that his tax cut plan will not endanger the fiscal soundness of the Social
Security and Medicare programs. Indeed, the anticipated revenue loss from the tax plan
absorbs less than the expected off-budget surplus (i.e., the surplus in the Social Security
trust fund). At the same time, however, critics have argued that the surpluses are
uncertain, and even if they materialize the proposed tax cut would absorb much of the on-
budget surplus, leading to cuts in government programs.11 They further state that a tax
cut that reduces the projected budget surpluses would likely advance the future point in
time at which Social Security and Medicare payments to retiring “baby boomers” pull the
federal budget back into deficit.
8 (...continued)
York: W.W. Norton, 1988), p. 679-83.
9 For discussions of the impact of taxes on labor supply and saving, respectively, see: James P.
Zeliak, “Labor Supply and Taxes,” and Douglas Berheim and John Karl Scholz, “Savings and
Taxes” in The Encyclopedia of Taxation and Tax Policy, ed. Joseph J. Cordes, Robert D. Ebel,
and Jane G. Gravelle (Washington: The Urban Institute, 1999).
10 For a discussion of the plan’s equity issue, see: U.S. Library of Congress, Congressional
Research Service, Across-the-Board Tax Cuts: Economic Issues, by Jane G. Gravelle, CRS Report
RL30779 (Washington: Dec. 22, 2000), and also Martin A. Sullivan, “ ‘Dubya’s’, Tax Plan:
Realistic, Yes; Progressive, No,” Tax Notes, Dec. 20, 1999, p. 1491.
11 William Gale, “All Tax Cuts Are Not Created Equal,” Los Angeles Times, Jan. 29, 2001. This
article is posted at the Brookings website, at
[http://www.brook.edu/views/op%2Ded/gale/20010129%5Fresponse.htm].