Big changes are afoot in Washington. After more than 10 months in the White House, tax-reform momentum is building for President Trump after House Republicans passed, by a 227-to-205 vote, the Tax Cuts and Jobs Act. Following the failure of Congress to come to an agreement on healthcare reforms earlier this year, Trump is looking for his first major legislative victory as president, and he views tax reform, a key campaign pledge, as a means to get it.
While you can read a more thorough summary of what the House GOP tax bill entails, its primary focus is on cutting taxes for middle-class families, as well as corporations. Individual taxpayers would see a notable simplification of the U.S. tax code, with fewer income-tax brackets, a beefier standard deduction, and far fewer deductions and credits.
As for corporations, the peak marginal income-tax rate would be lowered to 20% from 35%. The thinking here is that putting more money into the pockets of businesses will lead to job creation and higher wages. Since the U.S. economy relies on consumption for about 70% of GDP, both lower taxes on the middle class and corporations should help boost spending, as Republicans see it.
The GOP tax plan comes with a price
But there's a price to be paid for this massive overhaul to the U.S. tax code. According to an analysis conducted by the Congressional Budget Office (CBO), the GOP tax plan would add about $1.5 trillion to the deficit over the next decade. Yes, that figure includes the positive impacts of lower tax rates on consumers and corporations. It means that the GOP needs to find ways to boost revenue and/or cut expenses to bridge this gap. Otherwise, the results could be disastrous.
Should Republicans pass the House GOP tax bill in its current form but fail to reduce the long-term (i.e., 10-year) deficit, the paygo budget rule, which was introduced in 1990, would be triggered. Paygo, which is short for "pay as you go," is a budget rule requiring that tax cuts, as well as increases in entitlement and mandatory spending categories, be covered by tax increases and/or cuts in mandatory spending -- though it doesn't apply to discretionary spending. In other words, if the 10-year cost of a program is greater than $0 -- in the case of the GOP tax plan, it's close to $1.5 trillion -- as determined by the Office of Management and Budget (OMB), it would trigger sequestration.
What's sequestration? It's the process of applying across-the-board spending cuts to mandatory spending programs. According to estimates from the CBO, sequestration would require $136 billion worth of cuts in mandatory spending in 2018 if the GOP doesn't find a way to raise additional capital or make further cuts in spending.
President Trump might be forced to break a key promise on entitlements
Where would this $136 billion come from? Glad you asked. Most of it -- say, $85 billion to $90 billion -- would be derived from cuts to agricultural subsidies, Customs and Border Patrol operations, Student Loan Administration funding, and some of the health funds for the Affordable Care Act, according to The Hill. It's possible the OMB may not be able to scrape enough from these mandatory programs to cover the entirety of the $136 billion.
More importantly, $25 billion would need to be cut from Medicare, the healthcare program that covers about 58 million Americans, of which five out of six are senior citizens aged 65 and up. If there's a silver lining here, paygo can't cut Medicare by more than 4% in a year.
But here are the two issues at hand. First, if the deficit remains in 2019, 2020, and beyond, paygo would kick in and continue to reduce mandatory spending to counter the increase in the deficit caused by the Tax Cuts and Jobs Act. Thus, a 4% cut to Medicare spending could become the norm year after year until the deficit is resolved.
Second, it would require Trump to break perhaps his most important campaign promise: the pledge that he wouldn't cut funding to so-called "entitlement programs" like Social Security and Medicare. Seniors are the primary beneficiaries of these programs, and they'd be none too pleased if their funding was cut to pay for tax reforms.
Trump has broken a promise before
However, Americans should keep in mind that Trump's pledge to leave entitlement programs alone has technically already been broken. Back in May, the president released his outline for the fiscal 2018 federal budget, and in that proposal was a $72 billion cut over the next 10 years to the Social Security Disability program. Even though this failed to make it into the final budget, the mere fact that Trump attempted to pass along a cut to any part of Social Security goes against his pledge to leave these vital programs alone.
While I don't believe we'll see Medicare subjected to paygo-induced sequestration, the GOP tax plan and previous attempts at health reform do lay down a few clues on where Republicans are looking to save money. Within healthcare reform, the GOP had been looking to slash Medicaid funding by up to $800 billion over the next decade.
Meanwhile, the current GOP tax bill contains a provision allowing the federal government to tether tax provisions to the Chained Consumer Price Index (CPI). Unlike the standard CPI, the Chained CPI takes into account something known as substitution bias. This is the idea that consumers will trade down to cheaper goods or services as others become more expensive. Switching to the Chained CPI would result in smaller annual inflationary increases. Though it doesn't specifically mean that the Chained CPI would be used as a measure for Social Security or Medicare, it certainly opens the door for that to happen. And if it did happen, it would mean smaller cost-of-living adjustments for Social Security recipients that'd save the federal government money.
The GOP looks to expedite tax reform, but questions remain
Another factor that comes into play is that the GOP is hard-pressed to pass tax reforms, given that one of their 52 seats in the Senate is up for election in Alabama. Without any expected Democratic support, they can only afford to lose two votes at present and still have tax reform pass in the Senate. If they lose their seat in Alabama, the margin for error becomes just one GOP Senator. They couldn't pass healthcare reform with a two-seat majority in the Senate, so a one-seat majority for tax reform could be impossible if they're looking to approach things unilaterally.
What taxpayers and especially seniors should keep in mind at the moment is that tax reform often means compromise, either within a party or with the other political party. The Tax Cuts and Jobs Act probably won't look the same once it's been voted on in the Senate, which means there's a chance of no sequestration whatsoever to Medicare and other mandatory spending programs in the years that lie ahead.
Only time will give us more answers.