Opinion

It's time for Republicans to attack payroll taxes

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Beltway Confidential,Opinion,Philip Klein,Taxes,Magazine,Tax Reform

When Republican presidential candidate Mitt Romney infamously wrote off much of the electorate at a 2012 fundraising event, he argued that, “47 percent of Americans pay no income tax. So our message of low taxes doesn't connect.”

Given that attitude, it isn't surprising that President Obama trounced Romney by 22 points among the 41 percent of voters with household incomes of under $50,000.

But those results should not discourage Republicans from attempting to craft economically sensible tax policies that are consistent with small government principles. Instead, it's a good reason to consider tax policies that meet those standards while also appealing to a broader electorate.

Among the many problems with Romney's comments were that his narrow description of taxes discounted the burden that payroll taxes place on low and middle-income Americans. This de-emphasis of payroll tax reform was also reflected in House Ways and Means Committee Chairman David Camp's otherwise ambitious proposal to overhaul the tax code.

To appeal to a wider base of voters, Republicans will have to rethink their myopic focus on personal and corporate income taxes and look at ways to attack payroll taxes.

In a 2013 study, the Tax Policy Center estimated that 43 percent of Americans paid no income taxes (which was down from the 47 percent in a prior study that fueled Romney's remarks). But the same study found that just 14 percent of households paid neither payroll nor income taxes, and two-thirds of those were elderly.

When combined, the payroll tax rate paid by workers is 15.3 percent. Though the tax is theoretically split among workers and their employers, TPC has noted that, “most economists believe that the employer's share is fully offset by reduced wages and thus the entire economic burden of the tax ultimately falls on workers.”

|n 2012, combined payroll taxes cost more than income taxes for nearly 80 percent of middle-income Americans, according to TPC analysis, and 63 percent of all taxpayers. And this was in a year in which the rate was temporarily reduced by 2 percent as part of a short-term stimulus agreement.

Payroll taxes distort economic activity. Not only do they reduce Americans' paychecks, but they also increase the cost to businesses of hiring and maintaining workers, thus increasing unemployment. Because traditional payroll taxes apply to only the first $113,700 of earnings, they eat up a larger percentage of the paychecks for middle-income Americans.

There are two major objections to reducing or eliminating payroll taxes. The first is that they raise a ton of money - $950 billion in fiscal year 2013, or more than a third of that year's federal revenue. The second is that payroll taxes are theoretically supposed to be a dedicated revenue source for Social Security and Medicare.

As to the first objection, most tax reform is already premised on the idea of getting rid of loopholes, deductions and credits and replacing them with a simpler tax code with lower rates and a broader base. An alternate reform proposal could use revenue raised through tax simplification to go after payroll taxes. Camp's proposal does this in a limited sense by replacing the Earned Income Tax Credit with a deduction against payroll tax payments.

The technical financing aspects of targeting payroll taxes may prove less of a barrier to change than the psychological one. Any changes would represent a break with the idea that individuals pay into a Social Security and Medicare system when they’re younger and receive money back when they retire.

But this common perception is a myth. Social Security and Medicare are both subsidized out of general federal revenue, with current workers paying for benefits of current retirees.

Obama and his fellow Democrats already went a long way toward breaking down the psychological barrier when they aggressively pushed for a temporary payroll tax holiday for 2011 and 2012.

There’s no reason why Republicans should play the tax policy game between the hash marks when there’s an entire field open to them.

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