Before describing tax cut proposals, some highlights of the current system prior to H.R. 1836 are in order. The current individual income tax systemallows personal exemptions (of $2,800 in 2000) and a standard deduction, along with $500 child tax credits thatcurrently exempt the equivalent of $25,217 fromincome tax for a married couple with two children. Individuals may itemize deductions for mortgage interest, moststate and local taxes, charitable contributionsand some other items. Only 30% of returns itemized deductions according to preliminary data for 1998. (1) Wages and salaries, interest, dividends, capital gains,rents and profits from businesses are taxed. There are a variety of special tax benefits such as deductions or exemptions for individual retirement accountsand credits for child care and college tuition. Animportant benefit for lower income individuals is a refundable earned income tax credit (which raises the exemptlevel for a family of four to about $31,000). Individuals are also subject to an alternative minimum tax (AMT). Many tax benefits are phased out as incomerises. There are separate rate schedules for singles, married couples (joint returns), heads-of-households, and married couples filing separate returns. About 44% of taxreturns are joint, and about 43% are single, with most of the remainder (11%) head- of-household. (There is rarelyan advantage to filing a married separatereturn). Standard deductions also vary: they are $7,350 for joint returns, $4,300 for single returns, and $6,350 forhead-of-household returns. About a quarter of all returns had no tax liability in 1998. However, these shares varied across filing types. In 1997, the latest year that disaggregated data areavailable, 76% of returns had tax liability, representing 86% of joint returns, 77% of single returns and 42% ofhead-of-household returns. Some of the roughly25% of returns with no tax liability would be eligible for tax cuts because their lack of tax liability is due to theearned income tax credit which is refundable andshould not be taken into account for considering eligibility for rate reductions. Overall, 81% of all returns had taxliability before credits including 88% of jointreturns, 79% of single returns, and 65% of head of household. The share eligible for tax cuts would fall betweenthose numbers because some credits are notrefundable (e.g. child care credit, dependent care credit). Tax rates apply to taxable income at 15%, 28%, 31%, 36% and 39.6 %. Capital gains rates are lower than ordinary rates. As shown in Table 1, tax brackets arewidest for married couples and most narrow for single returns, with head of household returns falling in between. Table 1. Tax Bracket Widths, 2000 As shown in Table 2, about 70% of taxpayers with some tax liability before credits fall into the lowest taxbracket, and about 90% fall into the 28% bracket orlower. (About 5% ultimately had no tax liability after credits). Despite the wider brackets and larger standarddeductions for joint returns, the higher incomes ofmarried couples place them in slightly higher average brackets: about 60% fall into the 15% bracket and about 85%in the 28% bracket. Unmarried heads ofhousehold returns are most concentrated in lower brackets with 89% falling in the 15% bracket and 98% in the 28%or less bracket. The singles distribution fallsin between these. Some income is taxed at capital gains rates, but in general, very few returns (about 5%) fall intothe higher rate brackets of 31%, 36% or 39.6%. Table 2. Distribution of Tax Returns By Highest Marginal Tax Rate Source: Internal Revenue Service Statistics of Income, Individual Income Taxes and Shares, 1997, SOI Bulletin , Spring 2000. The distribution of income and income taxes paid is, however, quite different. Returns taxed at rates no higher than 15% account for 70% of tax returns, but only19% of tax liability, and the 90% of returns that fall in the 15% or 28% bracket account for 45% of tax liability. The 5% of returns falling into the three highestbrackets account for 46% of tax liability. This pattern of the concentration of the population in the lower brackets and the concentration of income tax liability and, to a lesser extent, income in the higherbrackets is the crucial underlying reason for the distributional characteristics of alternative tax cut proposals. Thesepatterns are also shown in Table 3. Income inthe United States has become increasingly concentrated in higher income brackets, so that the top fifth of thepopulation received 57% of the income. (Between1977 and 1995, according to figures from the Congressional Budget Office, real income in the highest quintileincreased by 27% while real income in the lowestquintile decreased by 21%.) It is the concentration of income in these higher levels that is most responsible for theconcentration of taxes, although the individualincome tax, and to a lesser extent, total federal taxes, are progressive. This progressivity has increased in the lowerbrackets because of legislation, as well, namelythe child credit enacted in 1997 and the expansion in the earned income credit in 1993. Table 3. Distribution of Incomes and Taxes by Population Shares, 2000 Source: U.S. Treasury Distributional Analysis Methodology, by Julie-Anne Cronin, U.S. Department of Treasury, OTA Paper 85, September 1999. Note that the top of the first four quintiles corresponds to incomes of $17,988, $34,844, $59,019, and $100,7676. The top 10% has incomes between $140,581and $189,835; the top 5% income between $189,835 and $462,053. The income concept is an expanded one thatincludes accrued as well as cash income, but theshare distribution is very close to the distribution for cash income. The dollar limits differ, particularly at highincome levels. For the cash income measures, thetop of the first four quintiles correspond to incomes of $16,426, $30,964, $49,862, and $81,967. The top 10% hasincomes between $115,239 and $154,900; thetop 5% income between $154,900 and $346,555. There are 115.2 million families. Proposals that are targeted at tax cuts in the lower brackets can benefit a large number of people at a lower cost, while tax cuts that benefit the higher brackets cancost a great deal to benefit relatively few individuals. These effects are the result of the existing distribution ofincome and of the tax burden. Initial tax cut proposals made in the House in 1999 included a flat 10% across-the-board tax rate cut. That is,the 15% rate would be cut by 1.5 percentage points,the 28% rate by 2.8 percentage points, and so forth. The Senate proposed a quite different form of tax reduction:a reduction of the 15% rate to 14% and anexpansion (albeit small) in the 14% bracket. The Conference Committee plan ultimately decided to reduce all taxrates by one percentage point; it also agreed toincrease the standard deduction and increase the width of the first rate bracket slightly. Senate Democrats offereda proposal to expand the standard deduction. Theproposals also included separate marriage penalty relief provisions that provided general tax cuts for joint returns. The general rate reductions in the House bill cost more than in the Senate bill and by the year 2009 the annual cost was estimated at that time to be twice as largeas that in the Senate bill ($112 billion versus $47 billion) if the expansion of the 14% rate for joint returns isincluded and $112 billion versus $27 billion if theexpansion of the bracket is excluded; the Senate version targeted a larger share of its benefits to married couples. Combined with all marriage penalty reliefwhich also affects the rate structure, the House bill's provisions would have cost $117 billion in 2009 while theSenate bill would have cost $96 billion. Revenueestimates do not allow these distinctions for the Conference agreement which was, for procedural reasons, sunsetted, but in 2008, before the sunset, there was anestimated $57 billion revenue loss from the percentage point rate reduction plus an increase in the 14% bracketby for non-joint returns, that appears to accountfor about $13 billion of the total. Increases in the standard deduction and the size of the first bracket joint returnsto make them twice the size of singles wouldhave added a total of $28 billion, for a total of $85 billion. These bills also modified the Alternative Minimum (AMT) Tax to allow the use of personal credits to offset AMT tax liability. President Bush's tax proposal has been estimated to cost $1.6 billion over the first ten years (from FY2002-FY2011). He proposed to replace the current structureof taxes with new rate brackets and a 10%, 15%, 25% and 33% rate structure. (Thus current 28% and 31% bracketswould be combined into the 25% bracket) The child tax credit would be doubled to $1000 and the phase-out of the credit will be increased from $110,000 to$200,000 for married couples and from $75,000to $200,000 for single parents. The marriage penalty would be reduced by allowing a 10% deduction for the secondearner (up to $3000). In addition, theproposal (and others announced subsequently) would eliminate estate and gift taxes, and make a number of otherchanges in the tax structure.