A Brief History of Tax Expenditures

August 29, 2013

The concept of "tax expenditures" began in the 1960s when Assistant Secretary of the Treasury Stanley Surrey noted that many tax preferences resemble spending. Congress mandated in 1974 that these tax expenditures be recorded annually as part of the federal budget. Since the birth of the concept, tax expenditures have been defined as the deductions, credits, exclusions, exemptions and other tax preferences that represent departures from a "normal" tax code, says William McBride, chief economist at the Tax Foundation.

Attempts to reduce tax expenditures have not been met with great success.

  • The Tax Reform Act of 1986 did not significantly reduce the number of tax expenditures, though it did reduce their real dollar value by about one-third.
  • However, beginning in the mid- to late-1990s, numerous tax expenditures were added, expanded, or otherwise allowed to grow.
  • Today, the tax expenditure budget is $1.2 trillion, which represents real dollar growth of 44 percent since 1986 and 96 percent growth since 1991 when tax expenditures were at their lowest.

All of the growth has been in the individual tax code, with about two-thirds of real dollar growth coming from just three provisions: the earned income tax credit, the child credit and the exclusion for employer-provided health care. Corporate tax expenditures have actually declined since 1986 in real dollar terms such that their share of the tax expenditure budget is now about 9 percent, half of what it was in 1986.

As noted, tax expenditures represent departures from a "normal" tax code. Of course, therein lies the rub, since people disagree on what is normal. According to Treasury and the Joint Committee on Taxation, which are tasked with tracking tax expenditures each year, "normal" means the Haig-Simons comprehensive income tax, which taxes consumption plus changes in net wealth in a given time period.

In effect, the "normal" tax code is largely the tax code that existed in 1974, when the tax expenditure estimates were first mandated by Congress, but with an inconsistently broader tax base. While this is hardly a principled basis, these tax expenditure estimates have become the most widely accepted catalogue of "loopholes," mainly because the methodology has remained roughly the same since 1974 and it does capture many questionable items.

Source: William McBride, "A Brief History of Tax Expenditures," Tax Foundation, August 22, 2013.

 

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