- The Washington Times - Saturday, November 5, 2005

The President’s Advisory Panel on Federal Tax Reform released its report this week, and Treasury Secretary John Snow plans to use it as a starting point for recommendations to President Bush. We hope a far-reaching proposal is crafted by early next year. In the interim, we will review serious options that the panel declined to include in either of its two proposals, which it has labeled the Simplified Income Plan (SIP) and the Growth and Investment Plan (GIP). For now, we itemize some of the panel’s recommended changes and compare them with current tax policy.

m SIP would reduce the current number of tax brackets for individual income taxes from six (10 percent, 15, 25, 28, 33, 35) to four (15, 25, 30, 33); GIP would have three tax brackets (15, 25, 30). While eliminating the 10 percent bracket would raise the tax rate by 50 percent (to 15 percent) for the first $14,600 in income, the 15- and 25-percent brackets in both SIP and GIP would apply to significantly larger levels of income than both brackets currently embrace. Under SIP and GIP, for example, the upper limits of the 15-percent and 25-percent brackets for married couples would be $78,000 and $150,000, respectively, compared to $59,400 and $119,950 today. The top tax rate would be reduced from 35 percent today to 33 percent under SIP and 30 percent under GIP. Perhaps even more importantly, the SIP and GIP tax rates would be permanent. Under current law, today’s individual tax rates (and all of the other provisions of the 2001 tax cut, including the increase in the child credit from $500 to $1,000) will expire at the end of 2010. In 2011, the Clinton-era tax rates and credits would return, including the two top rates of 36 and 39.6 percent.

m SIP and GIP would replace (a) the standard deduction applicable to non-itemizers (currently $10,000 for married couples and $5,000 for singles); (b) the personal exemption (currently $3,200 per person, including taxpayer, spouse and children); and (c) the child tax credit, which is currently $1,000 per child. Note: The standard deduction (or itemized deductions, such as mortgage interest and medical expenses) and personal exemptions are deducted from adjusted gross income to determine taxable income, while the child tax credit (and other tax credits) are deducted directly from federal income taxes owed. In place of the standard deduction, personal exemptions and child tax credits, SIP and GIP would both establish a family credit ($3,300 for married couples, $1,650 for singles) available to all taxpayers and an additional $1,500 credit for each child.

m Both SIP and GIP would replace the earned-income tax credit with a work credit. The maximum work credit for a working family with one child would be $3,570, and the maximum for a family with two or more children would be $5,800.

m SIP would maintain the current policy of taxing interest income at regular individual income-tax rates. SIP’s top rate is 33 percent. The current top rate is 35 percent, which is scheduled to increase to 39.6 percent in 2011. GIP would tax interest income at 15 percent.

m Regarding defined-contribution pension plans, such as 401(k)s, SIP and GIP would consolidate them into Save at Work plans. Both plans would also simplify the large array of retirement-savings accounts, such as Roth IRAs and standard IRAs, which would be replaced by Save for Retirement accounts. Annual savings in these accounts could total $20,000 for married couples and $10,000 for individuals.

m Both SIP and GIP capture revenue by restricting the deduction for mortgage interest. Current law allows tax-filing itemizers to deduct interest expenses applicable to a maximum of $1.1 million of mortgage debt. SIP and GIP would replace the mortgage-interest deduction with a home credit equal to 15 percent of interest paid on mortgage debt limited to a range of $227,000 to $412,000, depending on the average regional price of houses. The credit would be available to all taxpayers paying off a mortgage, whether they itemized or not. Consider an itemizing married couple with taxable income of $80,000 (before deducting mortgage interest) and a $250,000 mortgage at 6 percent. Currently, the mortgage-interest deduction would reduce their federal tax bill by $3,750. Their home credit would reduce their federal tax bill by $2,250, increasing their taxes from $16,250 to $17,750.

m Both SIP and GIP would require employees to pay tax on employer-paid health-insurance premiums above $11,500 per family per year or $5,000 per individual. Current tax law grants tax-free status for unlimited health premiums paid by employers.

In the weeks ahead we will provide real-life examples of how different taxpayers would be affected by various proposals.

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