Hostage to the Child Tax Credit

The Rubio-Lee plan prioritizes "pro-family" policies over growth.

By Amity Shlaes & Matthew Denhart

Thirty-five.

It's that number that stops you: 35 percent, the top rate on the tax plan put forward by two Republican senators, presidential hopeful Marco Rubio of Florida and Mike Lee of Utah.

Why would Senator Rubio head for Iowa and New Hampshire with such a high tax rate? Why would Senator Lee back him up?

The primaries are the period when Republicans usually run right. When it comes to taxes, that means running low – the candidates suggest low rates in their tax proposals. If Rubio suggested a top marginal rate of 20 percent, that would leave him room for compromise after the primary or once elected president. The top marginal rate that Mitt Romney proposed in February 2012 was 28 percent. If Rubio starts with a top rate of 35 percent, he may well find himself at the current top statutory rate, nearly 40 percent, by the time he's done negotiating.

The Rubio-Lee mystery isn't easy to solve because the full tax plan isn't available yet. And the mystery only deepens when you scrutinize the numbers in a previous version of the plan, the one Senator Lee put forward as legislation in 2014 ("The Family Fairness and Opportunity Tax Reform Act"). That plan would have the troublingly high rate of 35 percent kick in at $87,850 in taxable income for singles and $175,700 for married couples. Currently the 35 percent threshold is crossed only when a couple has taxable income of $405,100. In other words, Lee and Rubio may be thinking of putting a successful single nurse in the top income-tax bracket.

Rubio offers a clue in a new book, American Dreams: "In all our justified talk of tax reform, conservatives have emphasized pro-growth policies but somehow overlooked pro-family policies. We need to do both." Indeed, when you unpack the Rubio-Lee plan, you see why the pair set their initial rate so high, and their threshold so low: Their entire proposal is hostage to a child credit.

The pair would introduce a new child credit worth $2,500, coming on top of other child credits and available even to higher earners. A scoring of Lee's 2014 act by the Tax Policy Center finds that the new child credit would cost $94 billion the first year and rise until it reached $155 billion in 2018. Over ten years, the child credit would cause the Treasury to forgo $1.58 trillion in revenue.

To please working women, another pro-family move, Lee's legislation would restructure filing statuses and definitions so that there was no "marriage penalty," no extra tax for married couples who both work. Such restructuring costs another $501 billion in the ten-year window, according to the Tax Policy Center. So the two pro-family moves look like they will cost about $2 trillion.

To compensate for trillions lost to the family cause, Lee and Rubio have to make many other moves, even beyond the dread 35 percent. Their plan also sharply curtails the deductibility of state and local taxes. The pair would shrink America's greatest tax break, the home-mortgage-interest deduction, so that deductibility applied only to the interest paid on the first $300,000 of a mortgage. It's hard to imagine a Republican plan punishing professionals in expensive cities more. Professionals (even Democratic professionals) are aspirants and hard workers, people who poured years of human capital, the kind social conservatives so value, into becoming, say, a dentist. Sometimes the best hospitals are in expensive places, as are the media centers politicians flock to in election years. It's hard to see why Utah and Florida need to trash these people.

Politically, Rubio might be correct that we need to promote both growth and family through the tax code, although we kind of doubt it. While Republicans can offer gifts such as pro-family tax measures, they can never offer as many as Democrats can. Therefore, as Dan Mitchell has pointed out in the Wall Street Journal, they will shortly find themselves outflanked.

But it is economically that this dual mandate fails dramatically. The reality is that a dual-mandate tax system is a problematic tax system. Tax policy achieves its goal best with only one target: growth, the unpoetic kind. A pro-family outcome can result from a pro-growth policy, but not the other way around.

To be fair, Lee and Rubio do call for valuable pro-growth reforms of the corporate tax code, including lowering the corporate tax rate, moving to a territorial tax system. and allowing for immediate deduction of expenses and capital investments. Growth friends would hawk this plan like crazy, but they'd like to know the planned rates.

Still, it's useful to think of what else a politician might "buy" for his tax plan with the roughly $2 trillion this plan spends on pro-family initiatives. The Lee-Rubio plan could spend $2 trillion to reduce the deficits their plan widens. This would ensure their plan would not add to the federal deficit and would please those who emphasize debt as the main constraint on future growth. Better yet, though, they could spend $2 trillion to lift thresholds for tax rates, so that more entrepreneurs could keep more of their money. And of course yet better, they could lower tax rates themselves. That would also reduce the marriage penalty. In the old days, Steve Forbes had a flat-tax plan that took the rate down to 17 percent.

It's fashionable right now to dismiss an emphasis on the top marginal rate as old-fashioned. Lee and Rubio will note that many families, even rich ones, will pay less than they do under the current system. It's the effective, average tax rate that matters, they will say. How much, they'll also ask, can the top rate matter?

"A lot" is the answer. For a tax code, like a career, is about aspiration. The top marginal rate is a signal rate, like a flag. If the signal rate is set too high, it tells families: Don't try; be safe and collect your credits. If the signal rate is set low, people perk up.

Truly low tax rates would yield an explosion in economic growth. Lower the capital-gains rate to 2 percent, for example, and you would produce enough jobs for even the largest of families. That's because businesses and individuals do a better job of allocating capital to job-producing projects than governments do. Rubio and Lee should try to replicate their corporate-tax plan on the personal side: They'd like the result.

Our own hero, Calvin Coolidge, understood this: He called extra taxes "legalized larceny." Coolidge also lowered the top marginal rate to 25 percent. Finally, the 30th president commented that "a government that lays taxes on the people not required by urgent public necessity and sound public policy is not a protector of liberty but an instrument of tyranny." Before Coolidge, Britain's Prime Minister William Gladstone advised that money should be allowed to "fructify in the pockets of the people."

Rubio and Lee are thoughtful men. Recently Rubio made a wonderful statement in National Journal: "This campaign, I hope will be a competition of ideas. What is politics supposed to be about? Policy and the implementation of policy. I mean, we're not just here to give speeches."

Those engaging Rubio or Lee in coming months should take the senators up on that offer of debate. And they might try opening the conversation with the following question: "How low can you get that top marginal rate?"

Amity Shlaes chairs the board of the Calvin Coolidge Presidential Foundation, where Matthew Denhart serves as executive director.

© Copyright 2015 National Review

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