The Senate Republican tax plan, explained

This week Senate Republican leaders are careening toward a vote on their tax proposal, mere weeks after House Republicans passed theirs.

The plan, crafted by Senate Finance Committee Chair Orrin Hatch and Majority Leader Mitch McConnell, would slash corporate tax rates permanently, offer temporary cuts for individuals, and repeal the individual mandate in Obamacare, a $338 billion health care cut that leaves 13 million more people uninsured by 2027. The result is that, by that year, when the individual cuts expire, most Americans will be worse off due to higher taxes and lower health care coverage, while rich people who own shares in corporations will continue to benefit.

The bill differs markedly from the House proposal. Both the fact that all the cuts for individuals expire at the end of 2025, and the mandate repeal, are new to the Senate proposal. There are milder changes too. The Senate bill would retain seven individual tax brackets instead of consolidating them into four as in the House plan. It would delay the corporate tax rate cut until 2019, saving billions in 2018. It would cut but not eliminate the estate tax. It cut taxes for “pass-through” businesses in a slightly different way. It features a lower top rate for individuals, and would dramatically expand access to the child tax credit to help rich families.

All told, though, the plan is, like its House counterpart, a proposal to dramatically slash corporate tax rates, open up a big new loophole for wealthy individuals, and pay for the cuts by dramatically expanding the national debt and ending a number of tax deductions that could leave a substantial share of middle- and upper-middle-class people paying more. It just adds a big health care cut on top of that.

It does little to expand the refundable child tax credit, and so does next to nothing for the roughly 44 percent of Americans who don’t pay federal income taxes. When the health care changes are included, it becomes a net loser for the poor. For everyone else, it’s a mixed bag.

The bill’s unusual design is meant to conform to Senate rules, which ban legislation from increasing the deficit after 10 years. The Senate bill as currently written doesn’t increase the long-run deficit, as its individual tax cuts phase out, and its permanent corporate cuts are paid for by cutting health care and some mild tax increases on individuals. But Senate leaders are still wrangling votes, and the exact structure of the bill could change significantly in order to win over skeptical Republican legislators.

Who gets tax cuts, and tax hikes, under the bill

Before delving into the bill’s details, it’s worth taking a moment to consider who, all told, comes out ahead and behind.

The nonpartisan Tax Policy Center has modeled the effects of the legislation as passed by the Senate Finance Committee on November 16 and estimated how it affects each income group on average. Here’s the big picture:

Tax Policy Center

The story is very different in 2019 and 2025 compared to 2027, because at the end of 2025 all cuts for individuals expire. However, a significant tax increase — the use of a slower-growing inflation index, chained CPI, to adjust tax brackets — remains, as do corporate tax cuts. That means that rich and very rich people who own many shares of stock gain tremendously still, but middle and upper-middle class individuals who had been benefiting from individual rate cuts lose out.

The above chart is actually too generous, in some ways, to the Senate plan, because it excludes the effect of eliminating the individual mandate, which effectively reduces the amount of Medicaid and insurance subsidy money going to poor and middle-income people, and increases premiums on many upper-middle-class people too. On net, the poor would actually lose out, not modestly gain, in all years once this effect is taken into account.

With that caveat in mind, you can see the effects of the bill in more granular detail in the following table. TPC finds that the top 1 percent of taxpayers earn 61.8 percent of the benefits from the cuts by 2027, and the top 0.1 percent earning 39.8 percent of the benefits:

Tax Policy Center

But these averages obscure important differences within income groups. Some people earning $200,000 a year will pay less in taxes in 2027. But others will pay more, which can be obscured by a finding that, say, the 80-90th percentiles as a whole will get a $340 tax cut on average.

TPC modeled out for 2019, 2025, and 2027 what share of each group will see taxes go up and down. Here’s 2027:

Tax Policy Center

Overall, 50.3 percent of taxpayers see their taxes go up, with an average hike of $170; but 28 percent see their taxes go down, by $1,640 on average.

These percentages vary widely between income groups. Within the middle quintile, people earning $54,700 to $93,200 a year, 65.6 percent would see their taxes go up. But only about 1.8 percent of the very richest one thousandth of Americans would see a tax hike.

Note, again, that this doesn’t take into account the effect of cutting health care.

Republicans argue that 2025 is a better year to look at than 2027, as they argue that, despite writing the bill so that individual cuts expire, they hope to make them permanent in the future. While it’s somewhat disingenuous to demand that your bill be evaluated not as it’s written, but as it might be amended at some later date, here in the interest of fairness is TPC’s 2025 projection:

Tax Policy Center

74.1 percent of Americans get a tax cut, and the average American household in the middle quintile would get a $880 cut. But 12.2 percent of Americans would see taxes go up, with hikes concentrated in the upper-middle class and among the very rich. Only 22 percent of the benefit would be concentrated in the top 1 percent (far lower than in 2027), but 63.7 percent goes to the richest fifth of Americans.

The bill would good for corporations and the wealthy

Before delving into the bill’s details, it’s worth taking a moment to consider who, all told, comes out ahead and behind. Here’s who would be better off:

• Corporations, broadly, are the focus of most of the tax cuts. According to the Joint Committee on Taxation’s analysis of the bill, cutting the corporate tax rate from 35 percent to 20 percent starting in 2019 costs nearly $1.3 trillion over 10 years. Corporations also in many cases gain new, more favorable treatment of income earned abroad, which is either not taxed or taxed at an even lower rate than 20 percent.
• Wealthy, particularly ultrawealthy, people tend to earn a disproportionate share of their income from capital (like stock sales and dividends) and thus benefit from cuts to the corporate tax, which is largely a tax on capital. You see this in the TPC analysis above. If the corporate tax also reduces wages, as some conservative economists allege, then corporate cuts still disproportionately help the wealthy, as a huge share of wages go to high earners, not low- or median-wage workers. Additionally, the pass-through tax cut could enable some wealthy people who either own pass-throughs or create new ones to shelter some of their income from high rates.
• People making mid- to high six-figure incomes, who arguably should count as wealthy or rich too. Their top income tax rate is reduced from 39.6 percent to 35 percent, and they additionally benefit from other individual rate reductions for lower tax brackets. While many face lower tax deductions due to changes to how state and local taxes are treated, they will probably come out ahead overall.
• Pass-through companies, like the Trump Organization, which get a new deduction reducing their tax burden. The Senate bill takes a simpler approach than the House bill and allows people with pass-through income to deduct 17.4 percent of it from taxes. That lowers the top rate they’d pay from 38.5 percent to only 31.8 percent.
• Heirs and heiresses, as the estate tax’s exemption is doubled from $5.5 million to $11 million, meaning an even smaller share of the ultrarich will pay the tax — and even those who do pay will pay substantially less than under current law.

But the bill would hurt the poor and increase the deficit

The GOP’s tax reform proposal would leave other groups worse off:

• Poor families were rumored to be getting a tax cut due to a change in the refundability formula for the child tax credit — but that didn’t make it into either the House or Senate bill. The credit only goes to families with $3,000 in earnings or more, and phases in slowly; some in Congress were pushing to lower the threshold to $0, but the bill instead lowers it to $2,500, a pretty mild change. The credit is expanded to children up to age 18, whereas now it ends after 16.
• Medicaid and insurance subsidy beneficiaries, a group of poor and middle class people who’d lose benefits without the individual mandate pushing them into insurance. Upper-middle-class people still buying individual insurance would pay higher premiums.
• Blue-state residents would pay higher taxes, as deductions for state and local taxes, be they income, sales, or property, are entirely eliminated. That said, wealthy people benefiting from these deductions will likely see this tax hike offset by the other tax cuts in the package.
• And it would increase the deficit; the Joint Committee on Taxation has reportedly scored both the House and Senate bills as costing $1.5 trillion over 10 years, about what the House/Senate budget allocated for the bill but still a sizable increase in the public debt.

Individual income tax rates are adjusted

Unlike the House bill which consolidated the tax brackets from seven to four, the Senate bill would keep seven individual income tax brackets but adjust them:

• The seven current individual income tax brackets are changed. In 2017, for a married couple the brackets are: 10 percent (taxable income up to $18,650); 15% ($18,650 to $75,900); 25% ($75,900 to $153,100); 28% ($153,100 to $233,350); 33% ($233,350 to $416,700); 35% ($416,700 to $470,700); 39.6% (taxable income over $470,700)
• Under the plan they’d be: 10% (taxable income up to $19,050); 12% ($19,050 to $77,400); 22.5% ($77,400 to $120,000); 25% ($120,000 to $290,000); 32.5% ($290,000 to $390,000); 35% ($390,000 to $1 million); 38.5% (taxable income over $1 million)
• The top rate is both cut and sharply limited, so only people with millions in earnings pay it. Most middle-class taxpayers would be in a 12 percent bracket, not 15 percent, and many affluent, upper-middle-class households would be knocked from a 25 percent bracket to 22.5 percent, or from 33 percent to 25 percent, or from 39.6 percent to 35 percent.
• The thresholds for brackets will be adjusted according to chained CPI, a slower-growing measure of inflation than normal CPI, which is used currently; this change raises revenue over time by gradually pushing more and more people into higher tax brackets.
• De facto taxes on some corporate executives would go up: Performance pay and commissions above $1 million would no longer be deductible for the purposes of corporate taxes.

The standard deduction is increased, personal exemptions are eliminated, and the child tax credit is mildly boosted

Standard benefits for families are changed significantly, with an eye toward simplifying the vast array of benefits (standard deductions, personal exemptions, child credits, etc.) currently available:

• The standard deduction will be raised to $24,000 for couples and $12,000 for individuals, a near doubling from current levels.
• The child tax credit will grow to $2,000 from $1,000.
• Sens. Marco Rubio (R-FL) and Mike Lee (R-UT) have spent months working with Ivanka Trump, and persuaded her to abandon her plan to add a tax deduction for child care in favor of an increased child tax credit. But Senate leaders have fallen short of the more refundable credit Rubio and Lee want. Slowly, the additional $1,000 would become refundable, but not initially, sharply limiting how much the expansion helps the poor.
• The child credit would be available for many more wealthy households: It would start to phase out at $500,000 million in earnings for married couples, as opposed to $110,000 under current law.
• The personal exemption (currently offering households $4,050 per person in deductions) is eliminated, replaced in theory by the higher child credit, lower rates, and higher standard deduction.

Some deductions are limited, but most remain intact

• The mortgage interest deduction is unchanged for current homeowners, unlike in the House bill. Second mortgage interest wouldn’t be deductible, however.
• The deductions for state and local income/sales taxes, and state and local property taxes, would be eliminated.
• A variety of other, much smaller deductions are repealed, but some popular provisions repealed in the House bill (the medical expense deduction, the adoption tax credit, and the student loan interest deduction) aren’t repealed in the Senate bill.
• Most major tax breaks for individuals — the charitable deduction, retirement incentives like 401(k) and IRA provisions, the tax exclusion for employer-provided health care, the earned income tax credit, and the child and dependent care tax credit — would not be cut.
• In fact, the charitable deduction is expanded, allowing people to deduct up to 60 percent of their income in contributions, a benefit mostly for very wealthy people who can give away more than half their income.

Corporate taxes are slashed dramatically

• The corporate income tax rate will be lowered from 35 percent to 20 percent.
• The corporate tax will be “territorial”: Foreign income by US companies will be, in general, tax-free.
• All untaxed income currently held overseas will immediately be taxed at a fixed rate: 10 percent for money held in liquid assets like stocks and bonds, 5 percent for intangibles like buildings and factories.
• Despite the tax being “territorial” in principle, there will be a 12.5 percent “minimum tax” imposed on profits that foreign subsidiaries of US companies earn from intangible assets like patents and copyrights, to prevent companies from moving those assets abroad to avoid taxes, which is a very easy tax evasion move under current law. There’s also a 10 percent tax on money shifted to overseas subsidiaries.
• Instead of having companies “depreciate” investments by deducting them over several years, companies could immediately expense all their investments. This benefit expires after five years, presumably to save money, which dampens any positive effect it has on economic growth.
• Companies paying the corporate income tax would face a limit on how much debt they can deduct from their taxable income, a significant change for highly leveraged companies like banks. They could only deduct interest worth up to 30 percent of “adjusted taxable income.”
• Two big existing credits for corporations — the research and development tax credit and the low-income housing credit — won’t be repealed. But a deduction for domestic manufacturing is gone.

Pass-throughs like the Trump Organization win big

“Pass-through” companies like LLCs, partnerships, sole proprietorships, and S corporations, which are overwhelmingly owned by rich individuals like Donald Trump and currently pay normal income tax rates after their earnings are returned to the companies’ owners, would get a number of tax cuts too:

• Most taxpayers with pass-through income would be able to deduct 17.4 percent of that income, effectively lowering the top rate they pay.
• To limit the deduction, wealthy people with “service industry” income (think accountants or lawyers) would see the deduction phased out. But people earning under $200,000 (for married couples) would still benefit from the deduction if they work in those companies.
• The deduction creates a huge loophole for rich people, who could incorporate as sole proprietorships and “contract” with their employers so their income is pass-through income rather than wages.

Two other significant tax provisions are changed or abolished:

• The alternative minimum tax, which increases taxes for certain affluent or upper-middle-class households, is repealed.
• The exemption for the estate and gift tax, the most progressive component of the federal tax code, only paid by extremely rich estates, is doubled.

And a brand new 1.4 percent tax on university endowment income is added, just as in the House bill.

The case for the bill

For the public at large, the case for a massive corporate tax cut is sort of hard to grasp. Seventy-three percent of Americans, and 53 percent of Republicans, say they want corporate taxes either kept the same or raised, according to Pew Research Center polling. That the cuts are paired with some tax increases on individuals, like the elimination of the deduction for state and local income taxes and the Social Security number requirement which kicks some 3 million kids off the child tax credit, makes the choice even more confounding.

But the GOP has a specific economic theory that it claims supports the bill and makes the changes it envisions worthwhile.

The basic idea is that while most economists believe corporate taxes are primarily paid by owners of capital (that is, people who own stock in corporations) in the form of lower profits, a sizable minority, including White House chief economist Kevin Hassett, think that a lower tax rate would spark so much additional investment in the United States that it would bid up wages and leave the middle class better off through its indirect effects.

Other, smaller provisions of the reform package also have reasonable cases for them. Opponents of the state and local tax deduction, which the bill would largely eliminate, argue it’s regressive and concentrates benefits on rich states rather than poor ones that actually need the money. The current mix of standard deductions, personal exemptions, and child credit is needlessly duplicative, and the bill simplifies it a bit, while creating new winners and losers.

Others are a bit harder to defend. Many economists oppose wealth taxes like the estate tax on the grounds that they penalize savings, but intergenerational transmission of wealth also has huge negative externalities (heirs less willing to work, less equal politics, etc.) that cutting the estate tax dramatically would worsen.

Cutting taxes on pass-through income is particularly hard to defend. Pass-throughs already get a sizable tax advantage relative to other companies. While corporate profits are taxed in two stages — first by the corporate income tax, and then through dividend or capital gains taxes — pass-through income is only taxed once, at the individual level. This change would worsen that advantage.

Pass-throughs will counter that in many cases, people who own stock through 401(k)s and IRAs don’t have to pay capital gains or dividend taxes, and so their profits are only taxed at the corporate rate, which is lower than the top individual rate (and would be much lower under this plan), putting pass-throughs at a potential disadvantage. But analysts who’ve looked at this comparison generally conclude that pass-throughs are taxed less overall, and certainly don’t need another break.

Where the bill goes from here

The Joint Committee on Taxation has scored the bill as costing $1.495.7 trillion, just under the $1.5 trillion the GOP budget set aside for tax reform.

But due to the phase-out of most individual provisions, it will likely stop increasing the deficit after 10 years. Indeed, JCT finds that it raises revenue by the tenth year.

The legislation will face a lot of pressure to expand or protect certain cuts, and to abandon certain pay-fors. Blue-state Republicans like Susan Collins are fighting the limit on property tax deductions, Collins and Kansas Sen. Jerry Moran have expressed worries about including the individual mandate repeal, and just about every business will fight for as much as it can get in corporate tax cuts and pass-through cuts, with Sen. Ron Johnson from Wisconsin championing pass-throughs in particular. (The fact that lobbying firms are organized as pass-throughs might mean trouble for the rule eliminating pass-through privileges for law firms.)

All of that makes the bill more expensive, and harder to pass.

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