How the Bush Plan Will Affect You

Forget the pundits for a moment. Here's how you'll benefit from the Bush Tax Cut, Part II.

Even before President Bush officially unveiled his new tax plan, the usual suspects were already reciting their "tax cuts only for the rich" mantra. If you, dear reader, are against Bush Tax Cut II, that's fine with me. All I ask is that your stance be based on facts, rather than emotional class warfare.

Herewith, an examination of the plan, fact by fact.

First Things First
Before you can even begin to assess whether you favor or oppose any specific tax-reduction proposal, you first must accept one essential fact: You can only cut income taxes for people who actually pay income taxes. The simple truth is, lots of people don't. As things currently stand, a married couple with two young children must earn more than $32,150 to owe the IRS. A single parent with one young child must earn over $19,100.

In fact, many low-income individuals are actually entitled to receive government money in the form of tax refunds. Why? Because they can still collect child credits and earned-income credits even after their federal income-tax bills have been completely zeroed out. So they don't merely owe nothing -- the government actually owes them. The point is, you simply cannot cut income taxes for individuals who owe nothing or less than nothing.

Even so, the Bush plan would deliver additional cash assistance to many low-income parents by immediately increasing the child tax credit to $1,000 from $600 (more on that later). So qualifying individuals could actually receive substantially more money from the government than they do now. The bigger child credit would also excuse many more parents with higher, but still modest, incomes from paying any federal income tax whatsoever. For instance, a married couple with two young children would have to earn more than $38,150 to owe the IRS (up from $32,150 under current rules). A single parent with a young child would have to earn at least $22,100 (up from $19,100). Naturally, some anti-tax-cut partisans would never admit to any of this, because it contradicts their myth of "tax cuts only for the rich."

OK. So much for the basics. Next, let's check out all the Bush Tax Cut II changes one by one. You may like some of them, all of them or none of them. You decide. Let the facts be your guide.

Eliminate Double Taxation of Corporate Dividends
Corporate dividends are generally subject to double taxation. First, the company pays corporate income tax on its earnings. Then, when the company pays out what's left as dividends, the shareholders get taxed again. So the same earnings get taxed twice: once at the corporate level and again at the shareholder level. The new Bush tax plan would make qualifying dividends free of any federal income tax, meaning no more double taxation. This change would especially benefit the many senior citizens who earn a good chunk of their income from dividend-paying stocks held in taxable accounts. Of course, high-income investors would benefit as well.

Media stories often describe Bush's tax-free dividend proposal as controversial. It's anything but. The great majority of reputable tax experts and economists have long believed the double taxation of dividends should be repealed. Here's why. First, it encourages companies to finance with debt rather than equity, because interest is deductible while dividends are taxed twice. Second, it motivates companies to funnel excess cash into ill-advised "growth" ventures rather than returning it to shareholders. Bottom line: Taxing dividends twice actually encourages corporate executives to punish shareholders by taking on too much debt and throwing away cash on excessively risky ventures. Finally, the double taxation of dividends is bad tax policy because it's just fundamentally unfair.

(For an analysis of the plan's particular dividend-tax-relief benefits to stock investors, see Igor Greenwald's Thursday story "The Bush Plan's Fine Print.")

Accelerate Rate Cuts and Marriage-Penalty Relief
The president's plan would accelerate previously enacted income-tax rate cuts and marriage-penalty relief. The lower rates would kick in Jan. 1 of this year, instead of being reduced in two later stages (in 2004 and 2006). So this year's rates would be 10%, 15%, 25%, 28%, 33% and 35% (versus 10%, 15%, 27%, 30%, 35% and 38.6% under current law). The 10% bracket would also be widened a bit, by $1,000 for singles and $2,000 for joint filers, so more income would be taxed at the lowest rate.

To prevent people from having to pay more to the IRS just because they happen to be married, Bush Tax Cut II would also immediately widen the 15% bracket for joint filers and grant them a larger standard deduction. Under current law, these changes would be phased in between 2005 and 2009. (We should live so long!)

Who'd benefit? Anyone who pays federal income tax, with extra savings going to married couples. It's also true that "rich" taxpayers who now pay the maximum 38.6% rate would cash in disproportionately. They'd receive an immediate 3.6 percentage-point reduction off their top rate, which is more than lower-bracket taxpayers would get. (This is the only thing in the Bush plan that I find objectionable. I'd like to see the top rate fixed at 37% or 38%. But the president may very well have to agree to something like that in order to get the rest of his package through Congress. Stay tuned.)

Accelerate Bigger Child Tax Credit
The tax credit for dependent under-age-17 children is currently set at $600 per child. Bush Tax Cut II would immediately jack the credit up to an even $1,000. The government would then issue rebate checks to qualifying taxpayers to provide the economy with a quick shot in the arm. Under current law, the child credit won't reach the $1,000 level until way out in 2009.

Who'd benefit? Lower- to middle-income folks with dependent kids under 17 years old. I'm pretty sure most couples with three young children wouldn't mind receiving a $1,200 tax-rebate check later this year. On the other hand, the rich would get absolutely nothing out of this deal. Why? Because the child credit is totally phased out for high-income folks.

Other Changes
The Bush proposal also includes three less-publicized tax breaks.

• Higher instant-depreciation write-offs for small-business equipment purchases.
• New government-funded "personal re-employment accounts" to pay for job training, child care, transportation and other unemployment-related expenses.
• Adjustments in the alternative-minimum-tax rules to prevent the AMT from eating up all the savings from the other changes.

The Last Word
Politics aside, the Bush proposal is simply "tax cuts for taxpayers," as I've demonstrated. Here are some examples of how it will work.

Sample 2003 Scenarios
Under Bush Tax Cut II and Current Law
The following examples show the impact on various 2003 taxpayer scenarios, assuming Bush Tax Cut II passes Congress without any alterations. Taxpayers in the most comfortable financial circumstances (Scenarios 4, 6 and 7) would receive the smallest percentage reductions in their tax bills. However, taxpayers in Scenarios 5, 6 and 7 would receive larger tax savings in absolute dollar terms, because they pay much higher taxes to start with.