Transcript: Sen. Chuck Schumer’s remarks on avoiding the fiscal cliff at the National Press Club

Edited by Jenny Jiang

Transcript of remarks by Sen. Chuck Schumer (D-N.Y.) on tax reform and a potential deficit reduction compromise during the lame duck Congress on Oct. 9, 2012:

There is perhaps no issue facing Congress that is more complex than tax reform. But for all the disagreement on taxes, ask most policymakers – Democrats, Republicans, Independents – what the broad outline of tax reform might look like, you get a startlingly consistent answer: Dramatically lower the rates, broaden the base by getting rid of the loopholes in the tax code. That approach has distinguished lineage. Ronald Reagan and the 1986 Democratic Congress invented it. Simpson-Bowles validated it. The Gang of Six endorsed it. But in the upcoming talks on the fiscal cliff, we ought to scrap it. The reason is simple. The old style of tax reform is obsolete in a 2012 world. It doesn’t fit the times because there are two new conditions that didn’t exist in 1986 but are staring us in the face today.

First, a much larger and much more dangerous deficit. And second, a dramatic increase in income inequality.

Old style tax reform could make both conditions worse.

Now, I don’t dismiss the old framework lightly.

Credit before the 1986 reform law belongs to Democrats, like Bill Bradley, in the Senate to get part of the House just as much as President Reagan. And as a member of the House back then, I not only voted for it, I whipped votes to make sure it passed. I was on the little committee set up by Dan Rostenkowski to get it done.

The approach made a good deal of sense at the time.

Then – as now – the code was littered with egregious loopholes that needed to be reformed.

Recall, for instance, the so-called ‘Passive Loss Rules’ which were in place back then. They allowed wealthy taxpayers to legally game the system. Someone could invest in a bowling alley and then if the bowling alley lost money, they could write off many times larger than their initial investment and wipe out their entire income tax liability.

We need to get rid of such gimmicky tax shelters.

Pruning these loopholes allowed us in turn to drop rates. And at the time, that made sense too.

While it is critically important to ensure that everyone – especially those at the top – pay their fair share.

A 50% top federal tax rate, which is what we had until 1986, was admittedly too high.

So yes, Reagan-style reform worked over 25 years ago, and as a result, it still has a great deal of appeal to some of the most serious fiscal thinkers in Washington. This includes the Gang of Six, recently expanded to a Gang of Eight, which last year published a white paper based largely on the 1986 model.

Now, let me say this about the Gang of Eight. Some of them are among my best friends in the Senate, and if you ask me how a compromise might emerge in a lame duck, I’d say their talks represent, perhaps, our best hope right now to achieve a bipartisan deal.

Leaders on both sides are actively encouraging their talks. I certainly am. But I hope that they can revisit their approach to tax reform.

Our needs today are different compared to 1986 and we cannot take the same approach as we did then.

We must reduce the deficit, which is strangling our economic growth in the long-term. And we must seek to control the rise in income inequality, which is hollowing out the middle-class.

The 1986 model would be ineffective, if not, counterproductive to solving these two challenges.

So let me explain why.

First, with regard to deficit reduction, tax reform 25 years ago was revenue-neutral. It didn’t strive to cut the debt. Today, we can’t afford for it not to. Our national debt is approximately 73% of the GDP. That’s nearly doubled what it was in 1986. It would be a huge mistake to take the dollars gained from closing loopholes and put them into reducing rates for the highest income brackets rather than into reducing the deficit…

To fix the deficit, we of course need to cut spending. The Budget Control Act [of 2011] made a down payment of $900 billion in domestic discretionary cuts. On top of that, most Democrats are committed to finding significantly more savings as part of a grand bargain, including through serious reform to entitlements.

But in addition to more cuts, we also need to bring in more money.

The President’s budget has called for around $1.5 trillion or so in revenues over the next decade. The revenue side of the federal ledger is underperforming by historical standards. For three years, we’ve had revenues coming into the federal government at a level of around 15% of GDP – that’s a 60-year low.

Since 1960, we’ve never had a balanced budget in a year when revenues are below 18% of GDP.

In 2001, the last year we had a surplus, revenues were at 19.5% of GDP.

So we have a revenue problem. We need tax reform to solve it.

Now, some on the left have suggested corporate tax reform could be a source of new revenue but here I disagree.

To preserve our international competitiveness, it is imperative we seek to reduce the corporate rate from 35% and do it on a revenue-neutral basis. This will boost growth and encourage more companies to re-invest in the United States.

Corporate tax reform under the leadership of Chairman [Max] Baucus and Sen. [Orrin] Hatch on the Finance Committee should be treated separately from our attempt to get a handle on the deficit.

But when it comes to the individual side of the code, our approach must be different. In this part of reform, the new money that we collect through broadening the tax space can’t all be applied toward reducing rates or else we won’t get enough revenues strike an agreement on deficit reduction.

Using tax reform to produce revenue departs from the 1986 model. Now, some still haven’t accepted this reality. They believe that the dollars from loophole-closing should all be used for rate reduction rather than deficit reduction.

Ed Kleinbard, former Chief of Staff at the Joint Committee on Taxation, recently had a message for these holdouts. He said, “We have to abandon our nostalgia for the Tax Reform Act of 1986. That tax reform effort was revenue-neutral because it could afford to be. The fact that we have to raise revenue today means that this tax reform effort will look different.”

Kleinbard was right on the money. I think it was a very prescient little statement from an expert.

In 1986, tax reform was an end onto itself, designed to make the code simpler and flatter. This time, it cannot ignore the most dangerous fiscal problem we face – our mounting deficit.

Okay, fine, say some well-meaning conservatives. All we have to do is broaden the base enough to both reduce rates and reduce the deficit. The 1986 model, they say, can still apply.

But hold on a minute. There’s a second factor we must consider when we approach tax reform: It’s the staggering rise in income inequality.

In 1986, there was certainly wealth agglomeration at the top but not nearly to the degree as is true now.

In the mid-1980s, we had just come off a period dating back to World War II that saw the largest expansion of the middle-class in American history.

Since then, however, middle-class wages have stagnated. In fact, the last decade was the first since World War II when median family income actually declined – a fact that continues to have grave implications for the entire future of this country, which has been founded on the basis of an expanding pie.

According to the Congressional Budget Office, 30 years ago, the top 1% of households received 7.4% of national income. Today, the share of income going to those same households has jumped more than 50% to 11.5%.

According to one study, looking at data up to 2007 just before the recession hit, the average income for the top 1% of taxpayers grew by a whopping 241% over the last 30 years. The average income for the bottom fifth grew my merely 11%.

According to a 2011 study, the net worth of the Waltons – the Walton family, not the TV folks – is equal to that of the bottom 30% of the country. One family has the same wealth as about a third of all the people in America.

The 1986 reform law actually did work to make the code somewhat more progressive by – among other steps – reducing the tax preference for investment income.

But subsequent changes to the code, in particular, the 2001 and 2003 tax cuts undid that work. The capital gains rate was reduced all the way to 15% giving a large advantage to those in the highest brackets. So high-income earners also gain the most from President Bush’s across-the-board tax rate cuts.

According to the Tax Policy Center, last year the Bush tax cuts increased after-tax incomes for people making over $1 million by an average of 6.2% – that’s about $129,000 a household. But for those with incomes between $40,000 and $50,000 the increase was just 2.2% – $830.

Our tax code has widened the nation’s wealth gap, reversing the trend that ought to be a top goal of tax reform. At a minimum, we certainly should not make the tax code any less progressive than it would be if the high-income tax cut expired.

But the 1986-style approach that promises upfront rate cuts to the wealthy is almost guaranteed to give middle-income earners the short end of the stick.

The reason is in order to raise enough money to both reduce rates and cut the deficit, you will need to slash deductions and credits on a far greater scale than we did in 1986. Middle-income earners would not be spared.

And because middle-income earners so rely on these expenditures, the cost of losing them would likely exceed the benefit they would receive from a lower rate. Multiple experts have verified this.

The Joint Economic Committee analyzed the tax reform plan contained in the House Republican budget authored by Paul Ryan. It found that in order to provide a lowered top rate of 25% for high-income taxpayers in a way that doesn’t add to the deficit, the elimination of expenditures would result in a $2,681 annual tax increase for a married couple with a joint income of $100,000. That’s unacceptable.

The non-partisan Tax Policy Center reached the same conclusion about a similar plan promising a 20% across-the-board tax cut. Under such a plan, the Center said the average household with children earning $200,000 or less would face an effective tax increase of $2,041 – very similar numbers.

There is a lesson to absorb from these studies: Beware tax reform plans that only get specific about what top rate they want to lock in. It’s also generally true that they’re specific about what top rate they want to lock in. It’s also generally true that the lower the rates that get promised, the fewer the details that get provided about the rest of their plan.

Simpson-Bowles promised a top rate between 23% and 29%. But take a hard look at how this might be accomplished. They presented an illustrative plan with a top rate of 28% paid for by deep cuts in deductions. The plan did raise significant revenues so would genuinely help our deficits but it raised taxes on middle-class families with households making around $100,000 getting a tax increase of over $1,000. And under the Simpson-Bowles plan, high-income households would face a smaller tax increase than they would if tax cuts simply expired.

Then Sen. [Pat] Toomey [R-Penn.] went a little further. He offered a plan that claimed a 28% top rate with few details on what would happen to expenditures.

And the House Republican budget authored by Congressman Ryan proposes the lowest top rate of all – 25% – and left huge holes in the rest of the plan to better disguise its impact on the deficit and the middle-class.

The promises of lower rates amount to little more than happy talk when the math behind them doesn’t add up.

And the risk for serious policymakers is if upfront rate cuts are the starting point for negotiation on tax reform, it will box us in on what else we can achieve.

Certain lawmakers will pocket the rate reductions and never follow through on finding enough revenues elsewhere in the code to reduce the deficit. Or if they do, they will almost certainly come out of the pockets of middle-class earners. This is the trap of traditional tax reform and we must not fall for it.

It’s an alluring prospect to cut taxes on the wealthiest people, reduce the deficit and hold the middle-class harmless. But the math dictates you can’t have it all. Arithmetic, as President Clinton said.

The reality is any path forward on tax reform that promises to cut rates will either end up failing to reduce the deficit or failing to protect the middle-class from a net tax increase.

You can at most achieve two – two – of these goals. Anyone pushing a plan purporting to accomplish all three isn’t telling the truth. The sooner we are honest with ourselves about this, the easier it will be to negotiate an actual compromise on taxes and on deficit reduction.

In 1986, we chose to cut the top rate and protect the middle-class; we didn’t seek to reduce the deficit.

Simpson-Bowles seeks to cut the top rate and reduce the deficit but doesn’t seek to shield the middle-class from a net tax increase.

We need a third approach that prioritizes reducing the deficit and protecting the middle-class and is willing to forgo a reduction in the top rate – and that is what I’m proposing today.

What should this proposal look like? It would have three principles:

First, as in 1986, it still makes sense to reduce the number of expenditures in the code to the extent possible.

But in figuring out which credits and deductions to eliminate, we must draw a line when it comes to protecting the middle-class.

We must understand that many of the expenditures in the tax code are not loopholes at all. Tax preferences for things like a college education and retirement savings belong in the tax code even after reform happens. They were put in the code on purpose to make a middle-class lifestyle accessible and sustainable for American families.

Tax reform recognize this in 1986 even as we cleared out an underbrush of loopholes we preserved versions of mortgage interest deductions, charitable deductions, state and local property tax deductions. We realized that as much as we wanted to make the code more efficient, these provisions were too essential to middle-class households. We have to abide by the same principle today.

So if we seek to protect the expenditures that are most essential to the middle-class and we still hope to reduce the deficit, we’ll need to find alternative revenue sources.

This leads to the second principle of this new model for tax reform.

The tax rate for the highest earners should probably return to Clinton-era levels and stay somewhere around there.

This will come as heresy to some of those on the other side, who not only wish to extend the current rate to the upcoming lame duck but also hope to cut rates even further in tax reform. These folks believe cutting the top rate as low as 25% is a necessary ingredient to spur an economic recovery.

But a Congressional Research Service analysis released last month suggests otherwise and they’re impartial. In a survey of the last 65 years of fiscal policy in America, the report concluded that tax cuts “do not appear correlated with economic growth.”

Recent experience, of course, suggest that we have nothing at all to fear in a return to the Clinton year rates on the wealthiest Americans. The 1993 balanced budget agreement, which was signed by President Clinton and set up a higher top rate, produced 5 years of GDP growth and the greatest peacetime expansion of our economy in the nation’s history.

By contrast, as we all know, the decade shaped by Bush tax breaks squandered our budget surpluses, produced net negative jobs, and culminated in a Great Recession.

The lesson here is that contrary to the view of the supply siders, the level of the top rate does not by itself dictate what happens to the GDP. But a balanced budget aided by increased revenues just might restore confidence to investors and jumpstart our economy.

For the third and final element of this tax reform model, we turn to investment income. It’s time to reduce the sizable differential in the tax treatment of earned and unearned income.

The reduction of the capital gains rate to 15% under President Bush was a major contributor the growth in wealth disparity we see here today.

Today, the top 1% on average receives 20% of its income from capital gains – 10 times as much as the rest of the country. Capital gains make up 60% of the income reported by the Forbes 400.

The extremely low 15% rate in effect today is an outlier. It’s the lowest rate on investment income since the Great Depression.

Republicans have understood the need to raise it before. As part of the 1986 reform, Reagan raised it to 28%. Simpson-Bowles, which was supported by good Republicans like Tom Coburn, endorsed raising it too all the way to the same level as ordinary income.

Now, if you are returning the top income rate to Clinton-era levels, as I am proposing, I do think it’s too much to treat capital gains the same as ordinary income. We don’t need a 39.6% rate on capital gains.

But without question, we need a narrower differential between earned and unearned income than we have today. That will bring more fairness to the code. Warren Buffett will have a harder time paying a lower effective rate than his secretary. And we’ll also deliver more revenue to reduce the deficit.

So these three principles – curtailing tax expenditures, returning to a Clinton-era top rate, and reducing but not eliminating the tax preference for investment income – provide a foundation for a tax reform plan that would reduce the deficit without hurting the middle-class.

Now, you may ask, “Hey, what’s in this for Republicans? Why would they come to the table around a proposal that doesn’t cut rates?”

Well, for one thing, they get serious rate reductions, which will matter to the true budget hawks left within the Republican Party. That is no small achievement. Could be the most important achievement we have.

What else besides deficit reduction would Republicans “get” out of tax reform? Well, in my opinion that’s the wrong way to think about it. The lure for the Republicans to come to the table around a grand bargain should be the potential for serious entitlement reform – not the promise of a lower tax rate in tax reform.

Democrats will never sign on to a shredding of the safety net because it isn’t necessary to change the fundamental way Medicare works. But we can find ways to reduce Medicare costs by hundreds of billions of dollars – that is tough medicine – but still preserves it by hundreds of billions of dollars. That is tough medicine but still preserves the safety net.

So that’s how a grand bargain can be had. Republicans get entitlement reforms, Democrats get revenues from the higher-income people.

One last note on the prospects for a deal of this kind. Republicans may not be as far as you think from accepting the need for revenues out of tax reforms.

There are two reasons for optimism. For one thing, the public is indicating it favors our side’s approach on taxes. Washington Post poll last week shows voters trust the President’s handling on taxes more than Mitt Romney’s, and an NBC Wall Street Journal poll also gave the President the edge on that issue.

This is the first time – the first time – that Democrats have had the upper hand on taxes in 30 years and this represents a sea change.

This is causing Republicans to re-think their approach. Just look at Gov. Romney. In recent weeks, he’s gone to great lengths to moderate his tax proposals to appeal to a broader audience, going so far as to promise in last week’s debate that he would not reduce the net tax burden on the wealthy at all.

The second reason for optimism about Republicans coming to the table is simple: As hard as it may be for Republicans to compromise on taxes, they may find the result of not compromising to be worse. The scheduled expiration of all the tax breaks at the year’s end gives Republicans an incentive to act. President Obama has stated without equivocation that he will veto an extension of the tax cuts for the upper-most brackets. They may soon realize that it’s far better to extend 98% of the tax cuts than none at all.

A story in today’s Financial Times…”Republicans shift tone on taxing the rich”. And it suggests many of Republicans are reaching that exact conclusion. Now, that would be the breakthrough tax reform needs, and Democrats should seize on it.

You know, it’s interesting. For years, many of my colleagues have fought to end the reduced rate on the wealthiest Americans in the context of the Bush tax cut debate. Yet, suddenly when the idea of cutting tax rates for the wealthy is peddled under the guise of tax reform, too many people forget their opposition to it. That makes no sense. The contradiction just goes to show how deep the nostalgia for the 1986 tax reform agreement is and for the bipartisan cooperation that made it possible. But in the face of today’s deficits, that framework is past its prime. In an earlier era, Reagan’s approach was the gold standard of tax reform but it’s long past time we move off the gold standard.

Thanks and I’m ready for any questions.



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One Comment on “Transcript: Sen. Chuck Schumer’s remarks on avoiding the fiscal cliff at the National Press Club

  1. Pingback: N.Y. Sen. Chuck Schumer outlines Democrat's deal to avoid 'fiscal cliff' | What The Folly?!

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