In a new initiative, the Tax Policy Center is improving its modeling of five key tax expenditures: the tax treatment of pass-through entities, charitable giving, health insurance, retirement, and owner-occupied housing. Partially in response to many changes in the Tax Cuts and Jobs Act (TCJA), and with the support of the Peter G. Peterson Foundation, TPC hopes to more accurately analyze how future changes in each of these tax preferences would affect households and federal revenues.
Pass-through Entities
The TCJA created a new 20 percent deduction for qualified income of pass-through businesses such as partnerships and sole proprietorships. To accurately model this provision, TPC needs to know more about the characteristics of these businesses, including the wages they pay and the assets they hold. Both factors affect eligibility and the amount of the deduction.
As a result, we are improving our ability to track current data and business practices. We also are enhancing our ability to model income shifting by taxpayers looking to benefit from the special deduction and to model net operating losses from pass-throughs.
Health Insurance
TPC currently models the tax expenditures for employer-provided health benefits and the Affordable Care Act’s (ACA’s) Premium Tax Credit, and also models the ACA’s excise tax on high cost employer-sponsored insurance (the Cadillac Tax).
However, currently we are unable to track the full range of health insurance coverage, including the rapid expansion of Health Savings Accounts.
To make sure we are using the most current data, our improved model will include health insurance coverage information from the Urban Institute’s health model. We also will attribute contributions to Health Savings Accounts and Flexible Spending Accounts to appropriate households in each of our income classes. These improvements will help us better understand how changes in health policy and practice interact with tax policy.
Pensions and Retirement Savings
TPC uses two ways to estimate the effects of tax subsidies on retirement saving. The cash flow method attributes contributions by or for employees to the worker when made and attributes retirement income to individuals once they have retired. The present value method attributes the future benefits of those retirement savings to the current income of the individual beneficiary, based on their age and projected interest rates.
We are working to update the way we estimate both cash flow and present value of retirement saving. We also are improving tools to estimate the size and distribution of tax changes when using our present value method.
These revisions would also allow us to take into account more investment choices and include changes in tax rates that may take place in retirement.
Homeowner Subsidies
By nearly doubling the standard deduction and capping the deduction for state and local taxes, the TCJA will sharply reduce the number of itemizers. In addition, the TCJA also imposes a cap on the size of eligible mortgage debt and changes the treatment of home equity loans. Taken together, these law changes substantially reduce tax subsidies for home ownership, as well as charitable giving and other economic activity.
To better model these changes, we are considering several revisions. One important change will improve the way we model the behavior of upper-income taxpayers who have enough assets to pay down their mortgages in response to losing the tax deduction. This is important because this sort of behavior will blunt the revenue effect of proposals to further limit the mortgage interest deduction.
Charitable Giving
TPC’s tax model uses charitable contribution data that are reported as itemized deductions, and it imputes charitable gifts to households that do not itemize. However, because the TCJA will significantly reduce the number of taxpayers who itemize, and thus report charitable gifts on their returns, TPC must change the way it analyzes proposals that affect charitable giving.
To do this, TPC will standardize the way we calculate the tax price of giving and our assumptions about how people respond to changes in the after-tax cost of their donations. We also will develop data to help us analyze how changes in the law affect giving to different types of nonprofits and better model how tax incentives affect gifts of appreciated property.
This work will take us several months. But when we are finished, we hope to provide policymakers, academics, journalists, and taxpayers themselves with better information about how changes in these five important areas of tax law affect households and federal revenues.
