The 1986 Tax Reform Act

December 1, 2011

The circumstances that led to the 1986 Tax Reform Act (TRA86), and the eventual impacts of that reform, should hold great weight in contemporary discussions of federal revenues.  TRA86 serves as a point of comparison with the contemporary tax code because it is generally considered the most successful U.S. effort to lower standard marginal tax rates and broaden the base through elimination of tax expenditures.  However, many of the goals of TRA86 were not achieved, and even the few successes quickly unraveled.  Specifically, TRA86's stated goal of improving simplicity is greatly undermined by the fact that it failed to eliminate or reduce many of the most prevalent tax expenditures in the tax code at the time, say Jason Fichtner and Jacob Feldman of the Mercatus Center.

  • In contrast to the 25 expiring expenditures in the 1985 tax code, 2010 had over 141 provisions that would expire within the next two years.
  • University of Southern California economist Edward D. Kleinbard calculates that 2008 tax expenditures reached 8.6 percent of gross domestic product (GDP) -- very close to the situation in 1985, just before the Tax Reform Act of 1986, when tax expenditures amounted to 8.7 percent of GDP.
  • The continuing prevalence of the tax expenditure system, and the fact that its use has since multiplied since the implementation of TRA86, can be assigned to the federal income tax system, which remains vulnerable to special interest and lobbying interventions.

One aspect of tax expenditures that allows them to continue unabated and form such a significant portion of the U.S. tax code is that the public does not entirely understand their importance.  Because they are not a tax, but the absence of a tax, they are largely ignored by American citizens and receive little coverage by national media.  This lack of popular interest furthers the tendency of tax expenditure decisions to be made by relatively small numbers of lawmakers with little oversight.

TRA86 failed to address the fundamental problems of the tax expenditure because it left the tax code immediately available for their return.  The complicatedness of the modern tax code is self-reinforcing -- by leaving so many complexities and loopholes within the system, it eases the process to introduce still more policies and targeted benefits.  This should prove enlightening for the modern tax code national dialogue: taxes must become simplified and efficient if they are to be insulated from special interest influence and tax expenditures.

Source: Jason Fichtner and Jacob Feldman, "When Are Tax Expenditures Really Spending: A Look at Tax Expenditures and Lessons from the Tax Reform Act of 1986," Mercatus Center, November 2011.

For text:

http://mercatus.org/sites/default/files/publication/Tax_expenditures_FichtnerFeldman_WP1145.pdf

 

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