As a refresher, the issue in a nutshell is that the marginal tax rate actually decreases as income increases under our current schemes. From $30,000 to $50,000 per year, families face a marginal tax rate of nearly 50%. From $50,000 to $90,000, it hovers near 40%. From $90,000 to $120,000 it hovers near 30%.
Simply put, that is wrong. It is not progressive and actually helps spread the wealth gap.
How can you address this without eliminating the safety net? People need food to eat, which EBT provides. I have not included EBT in my calculations partly for this reason, it should be maintained as it provides emergency funds for sustenance.
The problems:
The EITC, as intended, would make life slightly easier for the poor with the idea that they could then raise themselves up; however, being a broad income tax credit that applies to anyone earning less than X, it provides a disincentive to people on the fence about working harder by reducing the value of a better job or overtime.
The healthcare subsidy directly supports the purchase of healthcare. In a vacuum, the subsidy is not so bad; however, when combined with the EITC, any family of 4 earning below $40,000 has an effective tax rate that is below zero. That's to say, they literally receive more money from the government than they pay in. Any dollar they earn beyond that is nearly worthless to them at a marginal tax rate of > 50%. When your return on an additional dollar earned is only .40, it's hard to improve your lot in life.
This extreme marginal rate makes investments in oneself such as college or vocational schools worth very little compared to for the middle class or the rich. The very rich face a marginal tax rate of ~38% while the poor face a marginal tax rate of ~60%.
Even with the subsidy, bronze and silver plans can still result in thousands of dollars of costs, leaving the poor and middle class effectively out to dry in the case of an emergency. With no room to 'save' and no extra cash from raises to save, breaking the dependency on the subsidy and the EITC would be a significant up-hill battle.
The solutions:
1) Adjust the tax code so that all healthcare insurance premiums can be deducted from income prior to tax up to a specified amount, such as the cost of an average silver program for a 40-YO. (So that the youth-to-elderly transfer is reduced somewhat)
2) Reduce the healthcare subsidy to exactly $200 for incomes above $75,000 but below $90,000. The new tax code should provide savings above and beyond what the subsidy did at these incomes. This is the point at which the subsidy covers ~25% of the cost of health insurance.
3) Adjust the healthcare subsidy down for incomes below $75K such that the sum of the new subsidy and the tax break from removing an average silver plan comes out to ~90% of the current subsidy with the goal being affordability of a bronze plan.
4) Overhaul social security drastically. First, define a type of bank account called "personal emergency account" that has very specific access and investment rules so that the bank can only invest the funds in safe and reliable investments. This account can only be used for health expenses and or accessed freely after the age of 65. Second, adjust the social security tax such that rather than the money going to the government for distribution, each person's social security tax amount (and the match amount) goes into this "personal emergency account" set up by the person. To pay for current outlays, add a marginal provision for a 30-year tax rate on incomes above 150K of 2.5% with an additional 2.5% on incomes over 400K. Anyone under the age of 35 will not qualify for social security and anyone above 35 but not yet at 65 will get some calculated percentage of expected benefits such that the tax and the outlays expected net present value is zero. Adjust the social security 'tax rate' such that the 6.2% does not apply to incomes under $25,000; however, the employer contribution still applies. This turns social security into a necessary retirement fund that all employers will contribute to. For incomes above $25,000, phase the 6.2% in through the $75,000 point at 1% a time. Finally, eliminate the cap at $115,000 for the personal social security outlay but cap company contributions at incomes of $115,000. For incomes above $180,000, the 6.2% is distributed to a government-handled emergency fund that is accessible by anyone in case their deductible exceeds their health savings account, regardless of income. (Ex: you earn 190,000 - 6.2% of the 10,000 beyond the 180,000 goes towards this 'tax'). This effectively limits the annual amount that the person gets automatically deducted into their own account at $18,290 (personal + company contributions) while adding a small component for emergency coverage of anyone who might have only been working a short period of time and falls on hardship.
This does a number of things:
A) It improves the marginal immediate value of work for the poor by improving their take-home pay.
B) It creates a safety fund for everyone in the case of emergency that can be accessed for health expenses and is then available for retirement. This would help cover any deductibles encountered for the poor or middle class on a bronze plan. The poor's fund is entirely funded by their employer and money can be added, up to a certain limit, pre-tax just like any retirement fund or health savings account.
C) It provides incentives for you to stay healthy as you literally have a nest egg waiting for you if you can avoid tapping into it. Maybe that jog looks a little more appealing if you think it's worth an extra $5,000 plus interest in 20 years.
D) It reduces the marginal value for workers above $150,000 by eliminating the SS tax limit and by adding additional marginal taxes to the upper brackets to bring them more in line with middle-class tax rates without being stifling.
E) A universal safety net is developed for anyone (rich, poor, blue, black, white, purple, green) in the case of a healthcare emergency to help prevent bankruptcies due to health problems.
5) Overhaul the marginal tax brackets by extending the 10% rate to $50,000, the 15% from $50,000 to $100,000, 35% from 100K-160K, 37% from 160K-200K, 45% for 200K-300K, 50% for 300K+. These brackets do not include the additional social security tax rates included in #4. The goal is an overall balance where the incoming tax does not actually increase from current levels, it is simply adjusted across tax levels somewhat differently when taking into account the changes to the health insurance deduction and the subsidy levels. Note that, despite the large jump at 100K, since it is a marginal rate, it takes up to a salary of $200,000 under this new system for a family to actually pay more taxes under this system than they currently pay now, at which point they are paying ~$1000 more per year than they are under the current system. That $1000 does not include the additional amount of funding (~$15,000/year) that they have in their emergency account for health emergencies. When including the additional emergency amount, which translates effectively to a retirement account if never touched, it takes an income of 240K or more to reach a point where the family is worse off under the new system than under the old. @ 240K, you'd be paying 62.7K in income taxes with an annual emergency funding of +7,000 in new employer contributions - for a total real income of 181K. Under the current system, the 240K would be paying 46,100 in income taxes but would also be paying 7,049 in SS tax without any new receipts, making the net after tax income ~182K. This does increase the tax on the top 7% of American families; however, the long-term growth benefits that arise from this plan would eventually allow reductions in those rates when economic growth resumes.
6) Incorporate a school-payment program that covers the first $5,000 of tuition for all students and the next $10,000 of tuition for any student for up to 5 years if their family income is under $100,000 and scales down by 10 cents per dollar earned above $100,000. Improve the GI Bill's educational coverage.
7) Change the EITC such that it is deposited into the new personal emergency account and expires at $30,000. The personal emergency account for earners under $50,000 can be used to pay the portion of health insurance that is not covered by the subsidy. This basically turns the EITC from 'for-anything income' into 'for emergencies only, or retirement' income. Since these earners are not contributing 6.2% of their income into this account to have a little extra survival cash, the EITC helps offset this in funding the account for the absolute poorest among us as, even at 6.2% from the employer, a family earning $25,000 a year would only have $1,500 contributed annually. For someone earning $12,000, only $750 would be contributed which would take only a small chunk out of a deductible. A smaller form of the EITC would bolster this and make these people a little more stable and reduce the number of bankruptcies and defaults due to relatively minor medical problems.
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Now, all of this assumes that we can still balance the budget at this point which is basically a pipe-dream; however, it creates a framework to start from that provides stability, support, and the ability to improve one's lot in life. The tuition program works as a 10% marginal tax rate for incomes from $100K to $200K; however, it's a temporary loss over a maximum of 5 years as opposed to the healthcare subsidy being a life-time loss that actually grows with age. Furthermore, it provides assistance to anyone and everyone regardless of means to improve their ability to get an education. The adjustment to social security makes it a true source of security now and in the future, while eliminating it's pyramid pay-as-you-go system and giving every person a real, albeit low return, retirement fund.
In part 3, I'll evaluate our new system's marginal tax rates and implied standard of living across the income spectrum and determine who is better off and who is worse off and the underlying incentives built into the system.
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