Tax Reform: Why Trump and the Republicans Will Fail

Now that the health care effort appears dead, everyone in Washington is hot for tax reform. " It is time to unleash the full potential of the American economy by creating a tax code that actually works for the middle class," said House Speaker Paul Ryan on Monday. Treasury Secretary Steve Mnuchin echoed the call: "This is about creating a fair tax system that's good for the average, middle class person," he said, pledging that once the administration and Congress are done, nearly every taxpayer would be able to fill out tax forms the size of a postcard. For their part, 45 Democratic senators signed a letter offering to work with the GOP on tax reform, provided it didn't hurt the middle class.

In July, "the big six"—the chairs of the Senate and House finance and budget committees along with Mnuchin and Gary Cohn, the director of the National Economic Council at the White House—signed a statement of joint principles for moving ahead with tax reform, but it didn't list a single deduction to be scrapped. It was akin to a call for losing weight without a diet.

Sweeping tax reform is unlikely to pass. Why? It's among the most difficult tasks that Congress can do, because it requires taking on myriad special interests at once and in a way that's immediately recognizable to their bottom lines. It's as complicated as health care and more threatening to business and family finances, which is why the last time it happened was 1986—and there have been several attempts since then.

As always, the gauzy idea of lower rates and fewer deductions crashes on the shoals of reality. For instance, the administration has said that it's determined to repeal the deduction for state and local income taxes, which is an especially big benefit for those in states with high taxes such as New York. It's the sixth largest tax expenditure, according to the Tax Foundation, costing the federal government nearly $100 billion annually. It mostly accrues to higher earners, since lower-income folks either don't pay federal income taxes or don't itemize their deductions. Still, legislators from those states, not to mention many citizens, are going to fight that, and already 70 House members have signed a letter urging the deduction be left alone.

That's small change compared to any efforts to trim the deductibility of contributions to retirement plans like 401Ks and Keoughs. Those run close to $200 billion.

The tax code has countless special breaks for everything from small insurance companies to parsonages to the coal industry to Indian tribal bonds to teacher expenses. You can read all about them here. Pretty much everything must be scrutinized if the administration is going to be able to slash rates. For instance, the president is hoping to get the corporate income tax rate down to 15 percent from its current 35 percent, a rate that's among the highest in the world. Even his allies in Congress have questioned whether it can be brought down to even 25 percent without dramatically expanding the deficit.

Democrats are insisting that no middle-class voters get squeezed and that any tax reform be revenue-neutral. But that's going to be difficult given how many benefits really are enjoyed by the middle class. One of the largest is the exemption of employer contributions to health insurance. You don't get taxed on your boss's part of the bill, even though it's essentially income by any other name. Plus, your health insurance costs can be paid in pre-tax dollars.

Making Congress's job that much harder, one potential revenue raiser has already been scuttled. Congress was considering a border adjustment tax on goods manufactured abroad, regardless of whether they were made by an American company, but congressional Republicans and the Trump administration couldn't agree to terms. It's a win for the Koch brothers, some of whose funded entities fought the tax as a burden on consumers. It's also a blow to Trump's campaign promise to slap tariffs on goods made abroad.

Americans for Prosperity, the Koch-backed group, has an elaborate and expensive plan for drumming up support for tax reform, including ad buys and grassroots canvassing in the home states and districts of wavering Senate and House members. They'll kick off their work at an event at the Newseum in Washington on Wednesday. The American Action Network, a Republican-leaning group, is talking about spending $20 million this year on advocating tax reform. But to get tax reform before the House and Senate this fall, Congress will first have to sort through a contentious budget fight.

So far, that massive battle is looming in the distance. There is a much more ominous and closer deadline for raising the debt ceiling. The federal government will need to raise the debt ceiling by September 29 in order to avoid a potentially catastrophic blow to financial markets when the full faith and credit of the U.S. to pay its debts will be called into question. Like administrations before it, the Trump administration wants a "clean" debt limit hike—one with no preconditions. But Republicans and Democrats have plenty of them in mind, especially the Republicans, who want to use the pressure of a debt hike to cut spending and ensure funding for a border wall. The more issues like this clog up the congressional calendar, the less likely it is that tax reform will even be considered.

Of course, the biggest obstacle here is history. No president has signed sweeping tax reform since 1986, when Ronald Reagan did so with the help of two Democratic allies, Senator Bill Bradley of New Jersey and Representative Richard Gephardt of Missouri, who helped drive the process. Congress was a much less divided place then, and party leaders had far more control over their unruly members. And even then the historic reform was nearly done in by a slew of lobbyists. The fight was labeled The Showdown at Gucci Gulch. It's going to be much, much harder this time, and Donald Trump is no Ronald Reagan. In all likelihood, the best that can be expected is a reduction in the corporate rate, something that's widely supported in both parties because it's among the highest in the world. Getting beyond that is pretty much impossible.