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The Real Story of the Fiscal Cliff and Its Aftermath


Posted by Ryan Ellis on Thursday, February 21st, 2013, 4:30 PM PERMALINK


The fiscal cliff was one of the largest tax hikes in American history.  The tax components actually came from four different clusters of expiring tax provisions.  They were:

The "Bush tax cuts."  The 2001 and 2003 tax relief, extended many times by Congress and most recently by a unified Democrat government in 2010, expired.  This meant that tax rates rose from an old range of 10 to 35 percent up to a new range of 15 to 39.6 percent.  Additionally, the capital gains rate rose from 15 to 20 percent, the dividends tax rose from 15 to 39.6 percent, and the death tax rose from 35 to 55 percent.  A host of other tax increases also kicked in, most notably a halving of the child tax credit to $500 and a return of the marriage penalty for all taxpayers.

The end of the business and personal "extenders."  There were several dozen business and personal tax provisions which expired for good with the fiscal cliff.  Most notable here was the expiration of the AMT "patch" which prevented the AMT from growing from 4 million to 31 million families overnight.  Other notable highlights were the ethanol tax credit and small business expensing of assets.

The end of the payroll tax "holiday."  In 2011 and 2012, Congress provided for a temporary 2 percentage point reduction in the FICA tax.  For most workers, this meant that the fiscal cliff raised their FICA tax portion from 5.65 percent of wages to 7.65 percent of wages.

The inauguration of most of the Obamacare tax hikes.  There were 20 new or higher taxes in Obamacare.  Most of them went into effect with the fiscal cliff.  These included a new 3.8 percent "surtax" on investment income, a hike in the Medicare payroll tax rate, and a new tax on medical device manufacturers. 

All told, these tax hikes totaled nearly $500 billion in 2013 alone.  The most important thing to know about these tax hikes is that they all, in fact, happened.  They happened automatically at midnight on New Year's Eve/New Year's Day.  No one in Congress voted for this to happen, nor did any President sign a tax hike into law.  Temporary law was simply allowed to expire.

This happened despite the efforts of House and Senate Republicans to vote on bills to temporarily or permanently defer this fiscal cliff tax hike nightmare.  At the insistence of President Obama and Harry Reid, the nightmare happened anyway.

When these tax increases went into effect, a new and permanent revenue baseline was established.  Under this new normal, tax revenues would come in at about 21 percent of economic output, far higher than the historical average of 18 percent.  Per year, taxes would be about $500 billion higher than they would have been if the fiscal cliff had been avoided.

Because this tax increase was broadly-felt down the income scale, Congress felt the need to cut taxes from this new, higher, permanent, post-cliff level.  This tax cut was in the form of H.R. 8, the "American Taxpayer Relief Act." 

This bill cut taxes from this "new normal" by $3.7 trillion over 10 years.  The Bush tax cut expiration was rolled back for all taxpayers making less than $400,000 per year.  Most of the business and personal extenders were extended, and the AMT patch was made permanent.  Nothing was done about the Obamacare taxes or the end of the payroll tax rebate.  The death tax was permanently set at a new 40 percent rate with a $10.3 million exemption for married couples.  A new phaseout of itemized deductions and personal exemptions was put in place for those making more than $200,000 per year.

Some have said that Congressmen voting for H.R. 8 were voting for a tax increase, as if a vote for H.R. 8 was somehow an endorsement of the fiscal cliff tax hikes which happened hours earlier.  That is simply untrue.  House and Senate Republicans voting for H.R. 8 made it clear that their strong preference was for the fiscal cliff tax hikes to never have happened, but they did.  Given that new reality, their vote to cut taxes can hardly be called a bad thing.

That's not to say that H.R. 8 was an ideal bill--far from it.  It failed to fully roll back the fiscal cliff tax hikes which had already happened, and resulted in a tax policy regime worse on net than the one which preceded the fiscal cliff.  However, that does not make H.R. 8 something it is not.  H.R. 8 is a tax cut--a large one.  Those voting for it cannot be smeared as tax hikers when the facts simply don't support that analysis.

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