America’s Fiscal Armageddon And How To Avoid It, Part 4

In Part 3 we suggested that a federal tax policy targeted on generating revenue equal to 19.5% of GDP could produce receipts of about $67.0 trillion over the next decade or about $4.4 trillion more than the existing CBO baseline estimate of $62.6 trillion.

The latter, of course, reflects current tax law, which would extract about 17.8% of national income in Federal taxes over the period. So the question recurs: How can you obtain an extra 1.7% of GDP in taxes each year without causing undue hardships, unfairness and roadblocks to private sector investment, incentives and growth?

The honest answer is you probably can't because all taxes---especially from current high levels---cause hardships, inequities and disincentives. But the $140 trillion of public debt by mid-century that America is careening toward would have far worse adverse effects---so the practical challenge is to find the most economically neutral way possible to achieve that objective.

In that context, we focus on the yawning gap between what the Federal personal and corporate income taxes would generate on an economically neutral basis, and what the current loophole-ridden and interest group-corrupted tax code actually generates.  That is to say, the top rates on personal and corporate income are 43% and 21%, respectively, but in combination these two tax systems generated tax revenues equal to just 9.7% of national income in 2023.

Accordingly, on a 10-year forward basis here is the current baseline level of receipts, and the impact of reaching the 19.5% of GDP revenue target by closing loopholes and broadening the taxable income base.

Cumulative Federal Receipts, 2025 to 2034:
  • CBO estimate of individual income taxes: $33.0 trillion.
  • CBO estimate of corporate income taxes: $5.1 trillion.
  • Total Federal Income Taxes: $38.1 trillion.
  • Incremental receipts from 19.5% target: +$4.4 trillion.
  • Percent increase with target income tax collections: 11.5%.

Needless to say, an 11.5% increase in Federal income tax collections is nothing to sneeze about. Yet when you examine the result of the US Treasury's latest analysis of so-called Federal "tax expenditure", which are defined as the revenue loss from tax code deviations from economic neutrality, it is evident that there is substantial opportunity to broaden the Federal tax base while retaining the current marginal rate structure.

Specifically, the Treasury analysis for FY 2023 to 2034 identifies tax expenditures of $21.4 trillion over the period. During the same decade interval, the CBO baseline estimate for individual and corporate income tax collations was $34.7 trillion, meaning that the implied economically neutral tax base would have generated $56.1 trillion, and that, taken as a whole, current tax expenditures and loopholes reduce the Federal tax collections by 38%.
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