The Wall Street Journal today explains the Obama tax plan. We have all been saying it is not a tax cut if the recipient has no income tax obligation. Obama has also talked about lifting the income maximum on FICA deductions. Social Security was enacted by Roosevelt as a self funded retirement plan. He specifically insisted that workers contribute to the program in order to receive a pension after age 65. Wikipedia has a pretty good summary of the history. Congress kept expanding the pool of beneficiaries since the trust fund had surpluses in the early years. Nobody ever accused Congress of being concerned with the future beyond the next election.
The income subject to FICA tax was capped, just as benefits were capped. I collect Social Security and the amount I receive is about 10% of my after tax income when I was working. The amount of tax I paid was also much smaller than the income tax I paid so I have no complaint. Now that will all change.
Barack Obama proposes a Social Security payroll tax cut for low earners. Workers earning up to $8,000 per year would receive back the full 6.2% employee share of the 12.4% total payroll tax, up to $500 per year. Workers earning over $8,000 would receive $500 each, with this credit phasing out for individuals earning between $75,000 and $85,000.
Low wage earners would pay no FICA if they earn less than $8,000 per year. They would have to file a tax return. At about $80,000 per year, the full FICA would be paid by each person. The employer’s share would be paid for all, even those who do not pay the employee contribution. When Obama advisors try to explain this plan, they have trouble because it doesn’t add up.
Austan Goolsbee, the University of Chicago economic professor who serves as one of Sen. Obama’s top advisers, discussed these issues during a recent appearance on Fox News. There he stated that the answer to the first question is that these Americans are getting an income tax rebate. And the answer to the second is that the money would not actually come out of Social Security.
“You can’t just cut the payroll tax because that’s what funds Social Security,” Mr. Goolsbee told Fox’s Shepard Smith. “So if you tried to do that, you would undermine the Social Security Trust Fund.”
Now, if you have been following this so far, you have learned that people who pay no income tax will get an income tax refund. You have also learned that this check will represent relief for the payroll taxes these people do pay. And you have been assured that this rebate check won’t actually come out of payroll taxes, lest we harm Social Security.
You have to admire the audacity
Well, audacity is what he is selling.
This tax cut would make an already progressive Social Security program even more redistributive. Under current law, a very low earner receives an inflation-adjusted return on his Social Security taxes of around 4%. That’s a good return, given that government bonds are projected to return less than 3% above inflation. A high-earning worker, on the other hand, receives only around a 1.5% rate of return. Under Sen. Obama’s proposal, returns for very low earners would rise to around 6% above inflation — about the same return as on stocks, except with none of the risk. Compounded over a lifetime’s contributions, the difference in the “deal” offered to workers of different earnings levels would be extreme.
This would change Social Security from self-funding to a welfare program funded by high income earners. It would also add to the deficit that is looming for the program due to the Baby Boom Generation retirement.
Moreover, this payroll tax cut plan would reduce Social Security’s tax revenues by around $710 billion over the next 10 years. If made permanent, the Obama tax cut would increase Social Security’s long-term deficit by almost 60% and push the program into insolvency in 2034, versus 2041 under current projections.
To fill the hole in Social Security’s finances, Mr. Obama would increase income taxes on high earners and pour that money into Social Security. This would be the first time that income tax revenues have been used to finance Social Security, which has always relied on its own dedicated payroll tax to differentiate itself from other government programs. Filling the gap with higher taxes on high earners would further increase Social Security’s progressivity, pushing it closer toward a welfare-program approach.
This means high taxes for anyone over the $85,000 income level. It also means that FICA, which is charged to pre-income tax income, will become a much greater burden for the self-employed, who pay both halves. Joe the plumber again.
This will be a job killer and discourage a lot of people who might otherwise start small businesses. I wonder if he plans to lift the cap on benefits, as well. Don’t bet on it.
Tags: FICA, income tax., Obama, taxes
I keep trying to warn people that Obama’s tax plan will end up taxing the middle class but they only point me to charts showing it will tax only those earning $250K or more. As if that wasn’t bad enough. Only when it affects some simple minds directly do they care.