Chapter
4
The Congressional Budget Office expects a slowdown in the growth of revenues in 2008, largely because overall economic growth will slow markedly. If current laws and policies remained unchanged, federal revenues would reach about $2.7 trillion in 2008, which is about 3.4 percent higher than in 2007. As a share of gross domestic product, revenues would decline slightly, from 18.8 percent last year to 18.7 percent in 2008 (see Figure 4-1). That decline in revenues as a percentage of GDP would follow three consecutive years of increases.
Total Revenues as a Share of Gross Domestic Product, 1968 to 2018
Source: Congressional Budget Office.
In CBO’s baseline projections, revenues rise to 19.0 percent of GDP in 2009 and then decline to 18.6 percent in 2010. The increase in 2009 stems largely from higher individual income tax receipts as the higher exemption amounts under the alternative minimum tax expire. The decline in 2010 occurs mainly because of falling corporate income tax receipts. After several years of very robust growth, taxable corporate profits declined in dollar terms in 2007, and CBO anticipates further declines from 2008 through 2010.
In the projections, revenues jump sharply in 2011 and 2012 upon the expiration of various tax provisions originally enacted in the Economic Growth and Tax Relief Reconciliation Act of 2001 and the Jobs and Growth Tax Relief Reconciliation Act of 2003. In addition, revenues continue growing faster than GDP through 2018, except in 2013, when legislated shifts in corporate payments between fiscal years decrease the growth of corporate receipts (see Figure 4-2). Because of the structure of the individual income tax system, revenues claim a higher fraction of income each year as real (inflation-adjusted) income grows. Those increases more than offset the projection of continued declines in corporate receipts as a share of GDP (itself driven by a projected decline in taxable corporate profits relative to GDP) and the downward effect on capital gains tax receipts from lower realizations relative to GDP.
Annual Growth of Federal Revenues and Gross Domestic Product, 1968 to 2018
(Percentage change from previous year)
Source: Congressional Budget Office.
Under the assumption that current laws and policies will remain the same, total revenues reach 20.3 percent of GDP in 2018, a level not reached since 2000, and prior to that, not since World War II. If the law was changed so that the expiring provisions of EGTRRA, JGTRRA, and other tax legislation were extended and the AMT was indexed for inflation, revenues would be lower—roughly 17.5 percent of GDP in 2018.
CBO has lowered its projections of revenues from those published in August 2007—by $116 billion in 2008 and between $35 billion and $44 billion each year thereafter through 2017. The largest change to the estimate for 2008 occurred because of legislation enacted in December 2007 that extended relief from the AMT for one year, leading CBO to reduce estimated revenues for 2008 by about $70 billion (and to increase its estimate for 2009 by about $19 billion). Most of the other changes to the revenue projections of five months ago reflect changes to the economic outlook. Because CBO lowered its forecast of economic growth over the 2008–2009 period, it lowered its projections of taxable incomes. In addition, a projected increase in business interest payments and a corresponding decrease in corporate profits reduced projected revenues over the 2008–2017 period because the marginal tax rates generally applied to the latter are higher than those applied to the former. (For more discussion of the changes to CBO’s revenue baseline, see Appendix A.)
Federal revenues derive from various sources: individual income taxes, social insurance (payroll) taxes, corporate income taxes, excise taxes, estate and gift taxes, customs duties, and miscellaneous receipts. Receipts from individual income taxes, which are the largest component of federal receipts, have historically accounted for much of the variation in receipts and account for most of the projected movements in receipts over the 2008–2018 period.
Between 1968 and the late 1990s, individual income taxes produced nearly half of all federal revenues andtypically claimed between 7.5 percent and 9.5 percent of GDP(see Figure 4-3). They have experienced dramatic swings recently: They reached a historical high of 10.3 percent of GDP in 2000, fell to a more-than-50-year low of 7.0 percent in 2004, and then rebounded in the past three years to reach 8.5 percent of GDP.
Revenues, by Source, as a Share of Gross Domestic Product, 1968 to 2018
Source: Congressional Budget Office.
Social insurance taxes (collected mainly for Social Security and Medicare) represent the second-largest source of revenues, accounting for about one-third of revenues. They grew as a share of GDP from 1968 to the late 1980s as a result of increases in tax rates and the tax base and since then have been relatively stable at between 6.4 percent and 6.9 percent of GDP. Corporate income taxes, the third-largest source, have averaged about 12 percent of federal revenues since 1968 and about 2.2 percent of GDP. They have fluctuated significantly over the period, however, including falling to a 20-year low in 2003, at about 1.2 percent of GDP. Strong growth since then boosted those receipts to 2.7 percent of GDP in both 2006 and 2007, the highest level since the late 1970s. Growth in those receipts over the past four years accounted for about two-thirds of the increase in total revenues as a share of GDP—from 16.5 percent in 2003 to 18.8 percent in 2007. Revenues from other taxes, duties, and miscellaneous receipts (including those from the Federal Reserve System) make up the remainder of federal revenues and recently have amounted to a little less than 1.5 percent of GDP.
In sum, over the past 40 years, social insurance taxes have grown as a share of federal revenues, while the shares for corporate income taxes and excise taxes have declined. In the late 1960s, social insurance taxes and corporate income taxes contributed similar amounts of receipts: each roughly 20 percent of total receipts, or about 4 percent of GDP. In recent years, by contrast, social insurance tax receipts have accounted for more than 30 percent of total receipts, producing at least twice as much as corporate income taxes. The contribution of excise taxes has declined from about 9 percent of revenues in 1968 to less than 3 percent today.
CBO projects that, under current law, receipts from individual income taxes will remain at 8.5 percent of GDP in 2008 and then climb to 10.9 percent in 2018, a gain of 2.4 percentage points. That increase more than accounts for the projected rise in total revenues, which are expected to climb by a smaller amount, 1.7 percentage points—from 18.7 percent of GDP in 2008 to 20.3 percent in 2018.
Of the projected increase in individual receipts relative to GDP, a little over half, or about 1.5 percentage points, results from scheduled changes in tax laws. The changes include a reduced exemption amount for the AMT beginning in 2008, followed by the expiration after 2010 of provisions originally enacted in EGTRRA and JGTRRA.
The remainder of the projected increase in individual receipts relative to GDP is largely attributable to the structure of the tax code—wherein effective tax rates rise as personal income rises—and to other factors, such as growth faster than that of GDP in distributions from tax-deferred 401(k) plans and individual retirement accounts as members of the baby-boom generation reach retirement age.1 The projected rise in effective tax rates occurs in part because of the phenomenon known as "real bracket creep," in which the growth of real income causes a greater proportion of a taxpayer’s income to be taxed in higher brackets. Over the period from 2008 to 2018, that factor causes revenues as a share of GDP to rise by about 0.6 percentage points. Another factor causing increases is that, under current law, the AMT is not indexed for inflation, so an increasing number of taxpayers will have to pay it. The lack of indexation in the AMT boosts receipts from the individual income tax relative to GDP by about 0.4 percentage points over the upcoming decade. (In addition, the AMT’s exemption levels have been temporarily increased; their scheduled decline beginning in 2008 boosts receipts further.) Projected growth in retirement incomes also leads to an increase in revenues relative to GDP of about 0.4 percentage points. Those increases in individual income tax receipts relative to GDP are partially offset by projected decreases in receipts from realizations of capital gains relative to GDP, which reduce projected revenues by 0.4 percentage points of GDP.
Consistent with an anticipated decline in corporate profits as a share of the economy, receipts from corporate income taxes are projected to fall steadily as a percentage of GDP over the next decade, reaching 1.7 percent in 2017 and 2018. In the past several years, profits have risen to levels relative to GDP not seen since the mid-1960s. Profit growth slowed markedly in 2007, and CBO expects profits to decline relative to GDP in the near term as a result of the expected economic slowdown, which normally affects profits more than other incomes. Over the longer term, profits are projected to decline relative to GDP because labor compensation is expected to climb as a share of GDP to a more historical level (lowering the capital income share of GDP), and business interest payments (which reduce profits) are expected to climb from their recent historically low levels relative to GDP.
CBO expects that the revenues arising from other tax sources combined will remain relatively stable as a share of GDP. In the agency’s projections, social insurance receipts decline just slightly, from 6.4 percent of GDP in 2007 to 6.3 percent from 2015 to 2018. Those receipts follow the projection for wages and salaries, which also decline just slightly, from 46.0 percent of GDP in 2007 to 45.8 percent in 2018.2 Other receipts fluctuate between 1.1 percent and 1.4 percent of GDP between 2008 and 2018. Receipts from excise taxes drop by about 0.1 percent of GDP over the next 10 years. In the projections, receipts from estate and gift taxes are relatively stable as a share of GDP until 2012, when they jump as scheduled changes in law return the estate and gift tax to the form that existed before the enactment of EGTRRA in 2001. Miscellaneous receipts and customs duties also remain relatively stable.
CBO’s Current Revenue Projections in Detail
According to CBO’s baseline projections, under current law most of the movement in total receipts relative to GDP from 2008 to 2018 will result from changes in individual and corporate income tax receipts (see Table 4-1). In general, other sources of revenue will be much more stable relative to the size of the economy—although scheduled changes in tax law, the general design of the taxes, movements in the tax bases that are independent of GDP, and other factors do cause some sources of revenue to grow slightly differently than GDP.
Source: Congressional Budget Office.
a. The revenues of the two Social Security trust funds (the Old-Age and Survivors Insurance Trust Fund and the Disability Insurance Trust Fund) are off-budget.
Individual income tax receipts account for almost all of the projected increase in total revenues relative to GDP over the next 10 years. Historically, individual income tax receipts have been a key determinant of movements in total receipts. Between 1992 and 2000, they grew at an average annual rate of nearly 10 percent, reaching a historical peak of 10.3 percent of GDP (see Figure 4-3). After 2000, individual receipts fell as a share of GDP for four consecutive years. The downturn began as a result of the stock market decline and the 2001 recession and was reinforced by the tax legislation enacted in several stages between 2001 and 2004. Income growth picked up substantially in 2004, and tax receipts grew by an average of nearly 13 percent annually from 2005 to 2007. In that year, receipts as a share of GDP reached 8.5 percent.
CBO expects that individual income tax receipts in 2008 will grow at about the same rate as GDP (under an assumption that current laws and policies remain unchanged), keeping revenues at 8.5 percent of GDP. Then, CBO projects, revenues will climb relative to GDP in 2009 (in large part because of the expiration of temporary AMT provisions), stabilize again in 2010, and climb relative to GDP thereafter through 2018. The projected increase results from the structure of the income tax system and scheduled changes in tax law, including the expiration of most provisions of EGTRRA and JGTRRA in 2010. In CBO’s projections, individual income tax receipts reach a new peak of 10.4 percent of GDP by 2014 and 10.9 percent by 2018.
Projected Receipts in 2008 and 2009. The growth of individual income tax receipts, CBO projects, will slow substantially, to just over 4 percent in 2008 (see Table 4-2). In the projections, overall economic growth slows in 2008; the growth in taxable personal incomes does the same correspondingly. (Taxable personal income includes wages and salaries, dividends, interest, rental income, and proprietors’ income. For a description of taxable personal income and other components of the tax base, see Box 4-1.) CBO expects taxable personal income—as measured in the national income and product accounts—to grow by 4.4 percent in 2008, just slightly more than the expected growth of GDP, at 3.9 percent. Wages and salaries, the largest source of personal income, will grow by 4.2 percent in 2008, CBO projects, which is less than the 6.0 percent averaged over the past two years. As a result, withholding from paychecks (including both income and payroll tax withholding), which grew at an average annual rate of 6.9 percent over the past two years, is projected to grow by about 5.0 percent in 2008.
CBO’s Projections of Individual Income Tax Receipts and the NIPA Tax Base
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2013a
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2018a
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Source: Congressional Budget Office.
Notes: GDP = gross domestic product.
The tax base in this table (taxable personal income) reflects income as measured by the national income and product accounts rather than as reported on tax returns. An important difference, therefore, is that it excludes capital gains realizations.
a. Measures expressed in billions of dollars are the cumulative amounts over the period. Measures expressed as a percentage of GDP ortaxable personal income are averages over the period. Measures expressed as annual growth rates are the average rates compounded annually over the period, including growth in 2009.
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In CBO’s baseline projections, the expiration of the higher exemptions that mitigated the effects of the AMT on taxpayers boosts receipts sharply in 2009, and revenues grow by over 10 percent in that year as a result. The exemption amounts for the AMT were increased for 2007 in legislation enacted in December 2007 (the Tax Increase Prevention Act of 2007, P.L. 110-166). Because of that legislation, the share of taxpayers with AMT liability remained at about 3 percent in 2007 (the same share as in 2006), but the tax relief expired at the end of December 2007. Although relief from the AMT has been enacted for each of the past several years, CBO does not assume such future changes in law in its baseline. As a result, CBO projects that tax liabilities from the AMT will rise sharply in tax year 2008, by about $64 billion, and that tax receipts will rise sharply in fiscal year 2009, when almost all of those liabilities will be paid to the Internal Revenue Service.
Several factors lead CBO to assume in its projections that almost all of that additional AMT liability from 2008 will be paid in fiscal year 2009 rather than through additional payments in 2008. First, with the reduced exemption, many taxpayers may be surprised when they file their 2008 tax returns in the spring of 2009 and find that they have incurred substantial liability attributable to the AMT. Second, even if taxpayers know that they will face such liability, they may not have to increase their estimated payments or direct their employers to withhold more taxes from their paychecks in order to avoid penalties when filing their tax returns.3 Finally, because legislative action to avoid substantial increases in AMT liability has occurred on a temporary basis several times now, taxpayers aware of their higher AMT liability may anticipate such action again. As a result, they may not increase their estimated payments or tax withholding in 2008. Consequently, in CBO’s projections, many taxpayers with substantial AMT liability in 2008 are assumed to pay insufficient estimated payments and tax withholding in that year and face substantial final payments when they file tax returns in 2009.
In CBO’s baseline, receipts from the AMT jump from $32 billion in 2008 to $107 billion in 2009. Without that substantial increase, individual income tax receipts would be projected to grow at only 4.5 percent in 2009, about 6 percentage points more slowly than with the additional receipts from the AMT (see Figure 4-4). Under the baseline, not only will taxpayers make the much larger AMT payments required for tax year 2008 when they file their tax returns in 2009, but taxpayers will also respond in that year by raising their estimated payments to cover their AMT liability for 2009. A portion of the payments in 2009, therefore, represents a one-time shift of amounts that stem from tax liability for the previous year.
Effects of the Individual Alternative Minimum Tax in CBO’s Baseline
(Millions of returns) (Billions of dollars)
Source: Congressional Budget Office.
Notes: The alternative minimum tax (AMT) requires some taxpayers to calculate their taxes using a more limited set of exemptions, deductions, and credits than is applicable under the regular individual income tax.
Some taxpayers are affected by the AMT not because it imposes a liability but because it limits their credits taken under the regular tax.
Projected Receipts Beyond 2009. For 2009 and beyond, projected revenues reflect steady growth in personal income, adjusted by scheduled changes in tax law in specific years. Receipts are expected to hold roughly steady as a share of GDP and of taxable personal income in 2010. They then rise sharply in 2011 with the expiration of tax provisions enacted in EGTRRA and JGTRRA and rise in each succeeding year of the projection period. They reach 10.9 percent of GDP by 2018, 2.4 percentage points higher than the level expected in 2008 and 1.9 percentage points higher than the level expected in 2009.
The projected increases in receipts as a share of GDP result primarily from two factors: scheduled changes in tax legislation and several characteristics inherent in the tax system. The projection for capital gains realizations works in the opposite direction to restrain the growth of revenues.
Tax Law Changes. Scheduled changes in tax law—principally the expiration of provisions originally enacted in 2001 (in EGTRRA) and 2003 (in JGTRRA)—will cause receipts to increase, especially in 2011 and 2012. As a result of such changes in 2011, the tax rates applied to capital gains and dividends will increase, statutory tax rates on ordinary income will rise, the child tax credit will be reduced, and tax brackets and standard deductions for joint filers will contract in size to less than twice those for single taxpayers, among other changes. Of the projected increase in revenues relative to GDP of 2.4 percentage points from 2008 through 2018, changes in tax law account for about 1.5 percentage points, CBO estimates; about one-third of that increase results from the reduction in the AMT exemption after 2007, and the remainder from the expiration of EGTRRA and JGTRRA.
Characteristics of the Tax System. Effective tax rates will steadily rise over the next 10 years, according to CBO’s baseline projections, thereby increasing the receipts generated by the economy. That increase occurs in part because of real bracket creep, as the overall growth of real income causes more income to be taxed in higher tax brackets. In the projections, real bracket creep causes revenues relative to GDP to climb by 0.6 percentage points of GDP over the next 10 years.
In addition, because the AMT is not indexed for inflation, it will claim a growing share of rising nominal income. That trend would occur even without the reduction in the AMT exemption amount in 2008, which, if left unchanged, is expected to boost receipts sharply in 2009. In its baseline, CBO projects that receipts from the AMT will rise from 2.6 percent of total individual income tax receipts in 2008 to 5.3 percent by 2018. The rising share of income subject to the AMT, absent changes in law, will cause revenues relative to GDP to increase by 0.4 percentage points from 2008 to 2018.
Without changes in law, the number of taxpayers affected by the AMT is expected to climb from 4.2 million in 2007 to over 26 million this year and nearly 44 million in 2018 (see Figure 4-4). The number is expected to temporarily dip in 2011 because of increases in regular tax rates and other changes resulting from the expiration of provisions originally enacted in EGTRRA and JGTRRA. In dollar terms, AMT receipts are expected to climb from $32 billion in 2008 to $111 billion in 2010, fall to $55 billion by 2012, and then resume growing and reach $130 billion by 2018.
Taxable distributions from certain tax-deferred retirement accounts such as traditional individual retirement accounts (IRAs) and 401(k) plans, which are expected to increase as the population ages, also raise effective rates in CBO’s projections. Those contributions were exempt from taxation when they were initially made, which reduced taxable income reported to the IRS in earlier years. As retirees take distributions from those accounts, the money becomes taxable, thereby increasing tax receipts relative to GDP by about 0.4 percentage points over the next 10 years, CBO estimates.
Capital Gains Realizations. In CBO’s projections, realizations of capital gains generally grow more slowly than GDP after 2007. Although capital gains plunged between 2000 and 2002, they rebounded strongly from 2003 to 2006. On the basis of recent economic growth and activity in the stock and housing markets, CBO estimates that capital gains realizations increased by 8 percent in calendar year 2007, a bit faster than GDP growth (see Table 4-3).
Actual and Projected Capital Gains Realizations and Taxes
Source: Congressional Budget Office.
Note: * = between zero and 0.5 percent.
Capital gains realizations are the sum of net capital gains from tax returns reporting a net gain. Data for realizations and liabilities after 2004 and data for tax receipts in all years are estimated or projected by CBO. Data on realizations and liabilities before 2005 are estimated by the Treasury Department.
b. Fiscal year basis. This measure is CBO’s estimate of when tax liabilities are paid to the Treasury.
The strong upturn in capital gains realizations since 2002 has raised them to a level that, relative to the size of the economy, is well above that implied by their past historical relationship to GDP, with the rate at which they are taxed taken into account (see Figure 4-5). In the past, the ratio of gains realizations to GDP has tended to return to its average level relative to the size of the economy (adjusted for the tax rate on gains), although the speed of the reversion has been irregular. At times, it has been very fast, as in 2001, and at other times, it has been more delayed. The decline in stock prices so far in January 2008 suggests some reversion this year, although it is too early to draw any conclusions about the extent of such reversion for the whole year.
Capital Gains Realizations as a Share of Gross Domestic Product, Calendar Years 1954 to 2018
Source: Congressional Budget Office.
a. Estimated average realizations are the average ratio of realizations to gross domestic product adjusted for differences between each year’s tax rate and the average tax rate over the period. The spike in realizations in 1986, caused by the pending tax increase in 1987, has been removed from the estimated average ratio.
Consequently, CBO anticipates that capital gains will gradually return to their long-run average level (adjusted for tax rates) relative to the economy beyond 2007. Gains are also affected by the changes in tax rates scheduled to take effect in 2011 following the expiration of the lower rates originally enacted in JGTRRA. Higher tax rates reduce the long-run average amount of gains relative to the size of the economy because taxpayers tend to realize fewer gains at higher tax rates; however, CBO estimates that the effect of higher rates on realizations only partially offsets the increase in revenues from those higher rates. In other words, the estimated net effect of an increase in capital gains tax rates is an increase in revenues from that source despite a somewhat lower level of realizations.
Compared with the 4.6 percent average rate of growth expected for GDP between 2007 and 2018, capital gains realizations are projected to decline at an average annual rate of 0.7 percent. The declines in gains are concentrated in the early years of the 10-year projection period; gains rise during the last six years of the period, albeit more slowly than GDP.
The scheduled return to higher capital gains tax rates in 2011 also will alter the timing of realizations by encouraging taxpayers to speed up, from that year to late 2010, the sale of assets that will generate gains. Therefore, realizations are projected to rise by 12 percent in tax year 2010, decline by 32 percent in 2011, and rise by 17 percent in 2012 (when they rebound after the one-time speedup). After 2012, realizations are projected to rise by 1 percent to 3 percent annually through 2018.
Receipts from capital gains taxes are expected to grow in step with realizations, except when the tax rates changein 2011. Over the 2008–2018 period, receipts from capital gains taxes are projected to climb at an annual rate of 1.4 percent—even though realizations are projected to decline as a result of the increased tax rate after 2010. Receipts from capital gains taxes are projected to contribute a declining share of overall individual income tax receipts over the projection period, falling from 10.5 percent of receipts in 2007 to 5.8 percent by 2018. CBO estimates that, without the changes in law scheduled to take effect in 2011, a decline in capital gains realizations and revenues relative to the economy would reduce individual income tax receipts by 0.4 percentage points of GDP over the next 10 years. That effect would offset a projected increase in those receipts relative to GDP of 2.9 percentage points resulting from scheduled changes in tax law and other factors that boost effective tax rates.
In CBO’s baseline, revenues from social insurance taxes decline slightly as a share of GDP, from 6.4 percent in 2008 to 6.3 percent in 2015 and thereafter (see Table 4-4). Such revenues are also projected to decline slightly in relation to wages and salaries—the approximate tax base for those payroll taxes—from 13.9 percent in 2008 to 13.8 percent in 2013 and thereafter. That pattern for social insurance taxes stems from modest declines in the share of earnings below the taxable maximum amount for Social Security and slower growth in the receipts from unemployment taxes and from federal retirement programs.
CBO’s Projections of Social Insurance Tax Receipts and the Social Insurance Tax Base
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2013a |
2018a |
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Source: Congressional Budget Office.
Notes: GDP = gross domestic product.
The tax base in this table (wages and salaries) reflects income as measured by the national income and product accounts rather than as reported on tax returns.
a. Measures expressed in billions of dollars are the cumulative amounts over the period. Measures expressed as a percentage of GDP or wages and salaries are averages over the period. Measures expressed as annual growth rates are the average rates compounded annually over the period, including growth in 2009.
The largest sources of payroll tax receipts are taxes for Social Security (called Old-Age, Survivors, and Disability Insurance, or OASDI) and Medicare’s Hospital Insurance (HI). A small share of social insurance tax revenues comes from unemployment insurance taxes and contributions to federal retirement programs (see Table 4-5). The premiums for Medicare Part B (the Supplementary Medical Insurance program) and Part D (the prescription drug program) are considered offsets to spending and do not appear on the revenue side of the budget.
CBO’s Projections of Social Insurance Tax Receipts, by Source
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Total, |
Total, |
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Source: Congressional Budget Office.
Social Security and Medicare taxes are calculated as a percentage of covered wages—15.3 percent for the two taxes combined. Unlike the Medicare tax, which applies to all wages, the Social Security tax of 12.4 percent applies only up to a taxable maximum, which is indexed to the growth of the average wages over time. (The taxable maximum is set at $102,000 for 2008.) Consequently, receipts from OASDI taxes tend to remain fairly stable as a proportion of wages as long as covered wages are a stable percentage of GDP and the distribution of wages remains relatively unchanged. The share of wages earned above the taxable maximum has risen significantly over the past two decades, however, which has reduced the share of wages that is subject to the OASDI tax.
Social insurance tax receipts between 2008 and 2018 are expected to decline slightly as a share of GDP and wages for three reasons. First, receipts from payroll taxes for unemployment insurance—most of which are imposed by the states but yield amounts that are considered to be federal revenues—are projected to decline as a share of wages and GDP after 2012. At the close of fiscal year 2007, all states had replenished their unemployment trust funds, which were depleted by the 2001 recession and natural disasters that occurred after that. The economic slowdown in CBO’s projection for 2008 puts some pressure on those trust funds, which in CBO’s projection delays for a few years the reduction in those receipts relative to GDP. Second, revenues associated with federal retirement programs are projected to decline over time as a share of GDP and wages because the number of workers covered by the Railroad Retirement system and the Civil Service Retirement System is expected to decline. Third, the share of wages subject to the Social Security tax is projected to decrease as a slightly higher fraction of total wage and salary income occurs above the taxable maximum. (That final effect of higher income concentration on social insurance tax receipts is more than offset for receipts as a whole, because individual income taxes rise when a greater share of income is in higher income tax brackets.)
Receipts from corporate income taxes in 2007 grew by almost 5 percent, which is relatively slow compared with growth in the three prior years. Between 2005 and 2006, for instance, corporate income tax receipts grew by 27 percent. As a share of GDP in 2007, receipts from corporate income taxes remained at 2.7 percent, a level last seen in the 1970s. CBO projects that corporate tax revenues will decline slightly in dollar terms in 2008, falling to $364 billion (see Table 4-6). Because profits are expected to grow more slowly than GDP after 2008, receipts as a share of GDP are expected to decline from the high levels of the past two years. Receipts will remain within about 10 percent of the 2008 amount through 2018 in dollar terms, CBO projects, but will fall to 1.7 percent of GDP by 2018, levels similar to those in the early 1990s.
CBO’s Projections of Corporate Income Tax Receipts and Tax Bases
Source: Congressional Budget Office.
Notes: GDP = gross domestic product.
The tax bases in this table (corporate economic profits and taxable corporate profits) reflect income as measured in the national income and product accounts rather than as reported on tax returns.
a. Measures expressed in billions of dollars are the cumulative amounts over the period. Measures expressed as a percentage of GDP or taxable profits are averages over the period. Measures expressed as annual growth rates are the average rates compounded annually over the period, including growth in 2009.
b. Taxable corporate profits are defined as economic profits plus economic depreciation minus book depreciation; minus profits earned by the Federal Reserve System, transnational corporations, and S corporations; and minus deductible payments of state and local corporate taxes. They include capital gains realized by corporations and profits from inventory revaluation.
Receipts in Recent Years. Receipts from corporate income taxes—like those from individual income taxes—rose relative to the size of the economy in the 1990s, fell sharply between 2000 and 2003, and rebounded strongly in recent years (see Figure 4-3). Relative to economic profits, a measure of profits that is not affected by changes in law regarding depreciation and other accounting methods, corporate receipts also fell sharply over the 2002–2003 period before rebounding in the past four years. (See Box 4-2 for a discussion of movements in the average tax rate over time.)
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Several factors have contributed to the movements in corporate receipts since 2000. The recession in 2001 reduced profits and tax revenues substantially. Business tax incentives enacted in the Job Creation and Worker Assistance Act of 2002 and JGTRRA further reduced revenues. Those incentives allowed firms to expense (immediately deduct from their taxable income) a portion of any investment made in equipment between September 11, 2001, and December 31, 2004. Before they expired, those partial-expensing provisions, combined with economic conditions, reduced corporate tax receipts. Corporate receipts as a share of GDP fell to 1.2 percent by 2003, their lowest share since 1983. Especially strong profit growth since 2003, combined with the expiration of the tax incentives and increases in average tax rates, caused corporate receipts to rise to 2.7 percent of GDP in 2006 and 2007, their highest share since 1978.
Projected Receipts. CBO’s projection of corporate tax receipts largely follows its estimates of taxable profits. CBO uses economic profits as measured in the national income and product accounts as the most accurate measure over recent history.4 Making several adjustments, the agency estimates taxable corporate profits, which more closely approximate the tax base (see Box 4-1). Those adjustments include substituting CBO’s estimates of past and future tax depreciation for economic depreciation; subtracting profits of S corporations, which are not taxed at the corporate level; subtracting "rest-of-world" profits earned by U.S. corporations; and adding realizations of capital gains.
In CBO’s projections, taxable profits decline through 2010 and then begin to grow, albeit more slowly than GDP. The growth in taxable profits differs from that of economic profits, which grow in every year; many of the differences between the two grow at rates than are different from the rate for economic profits. CBO projects that tax depreciation, profits of S corporations, and rest-of-world profits will all grow more quickly than economic profits. Subtracting those relatively rapidly growing components from economic profits reduces the growth rate of taxable profits, in some years causing it to be negative.
CBO projects that corporate income tax receipts will fall by less than taxable profits in 2008. Taxable profits are expected to decline by more in 2008 than they did in 2007, but some of the additional weakness in taxable profits will not affect receipts in 2008. (A portion will affect tax receipts in 2009, when firms file their income tax returns for the 2008 tax year and make the necessary final payments.) In addition, collections were relatively high in December 2007 (which is a part of fiscal year 2008). CBO expects payments to be slightly below the level of the comparable payments in 2007, on average, for the remaining three quarters of 2008, which is consistent with the agency’s forecast of profits for those quarters. Finally, expirations of tax provisions such as the research and experimentation tax credit under current law contribute to a slight increase in the average tax rate in 2008.
CBO expects that corporate tax receipts will decline in 2009 and 2010 largely because of the assumption that the recent strength in collections that is not explained by available data on profits and other measures used in forecasting receipts will steadily diminish through 2010. That assumption causes receipts to grow more slowly than profits in those years. That effect is reinforced by CBO’s projected decline in corporate profits.
In CBO’s projections, taxable profits start to increase in dollar terms in 2011, although receipts remain low in that year in part because of the normal lag in the payment of taxes on profits. Legislated shifts in the timing of corporate estimated tax payments that will move about $3 billion out of 2011 and into other years also contribute to the low receipts in 2011.
CBO expects receipts in 2012 to increase because of multiple pieces of legislation that shift $22 billion in corporate tax payments into 2012 from payments that otherwise would have been made both before and after 2012. Some of that shifting can be seen in 2013 receipts, which are reduced by almost $11 billion for that reason. CBO expects that after 2013, corporate tax receipts will move roughly in tandem with taxable corporate profits.
As a result of a projected decline in taxable profits as a share of the economy, corporate receipts relative to GDP weaken steadily in CBO’s baseline, reaching 1.7 percent of the economy in 2017 and 2018. That expected share at the end of the projection period is more in line with the receipts recorded in the early 1990s than with the higher amounts recorded in the late 1990s and from 2005 through 2007.
Receipts from excise taxes are expected to continue their long-term decline as a share of GDP, falling from 0.5 percent in 2007 to 0.4 percent toward the end of the 10-year projection period. Most excise taxes—those generating about 80 percent of total excise revenues—are levied per unit of good or per transaction rather than as a percentage of value. Thus, excise receipts grow with real GDP, but they do not rise with inflation and therefore do not grow as fast as nominal GDP does.
Nearly all excise taxes fall into four major categories: highway, airport, alcohol, and tobacco (see Table 4-7). More than half of all excise receipts come from taxes dedicated to the Highway Trust Fund—primarily taxes on gasoline and diesel fuel, including blends of those fuels with ethanol. Receipts from highway taxes are projected to decline by between 2 percent and 3 percent in both 2008 and 2009 and to remain roughly stable in 2010. CBO projects that aggregate consumption of motor fuel—gasoline, ethanol, and diesel—will increase by about 0.6 percent annually over the next three years. That rate of growth is substantially diminished by the recent increases in fuel prices, which are expected to largelypersist and cause people to drive less and to purchase more-fuel-efficient vehicles. In the projections, receipts fall while fuel use rises because the increase in fuel use is largely of ethanol-blended fuels, which face lower effective tax rates. Those lower rates expire at the end of 2010, after which projected receipts from highway taxes jump to a higher level and then gradually rise, reflecting further expected increases in the use of motor fuel. The amount of revenues transferred to the Highway Trust Fund per gallon of fuel used is not affected by the change in tax rates on ethanol-blended fuels.
CBO’s Projections of Excise Tax Receipts, by Category
Source: Congressional Budget Office.
The main components of the aviation excise taxes are levied as a percentage of dollar value, so aviation tax receipts grow at a faster rate than the other categories do. According to CBO’s projections, those revenues will increase at an average annual rate of 5.2 percent from 2007 to 2018. Under current law, most of those taxes are scheduled to expire on February 29, but as specified in the Balanced Budget and Emergency Deficit Control Act of 1985, CBO’s baseline assumes the expiring excise taxes are extended.5
Receipts from alcohol taxes are projected to rise by about 2.6 percent per year through 2018, which is about the rate of growth of real GDP over the period. Receipts from tobacco taxes are expected to decline by a little more than 1 percent per year as per capita consumption continues to trend downward.
Other excise taxes include a variety of charges. Until recently, telecommunications taxes were also one of the major sources of excise tax revenues. However, in May 2006, after several successful court cases challenging the tax’s validity, the IRS ceased collecting a variety of telephone excise taxes. Furthermore, the IRS refunded, with interest, revenues collected under those taxes since March 2003. Taxpayers claimed less in refunds on their tax returns than CBO and the IRS expected, but the amounts still totaled about $4 billion in 2007. As a result, net receipts from telecommunications taxes were negative in 2007, and the cessation of those refunds explains much of the strong growth of 5 percent expected for all excise tax receipts in 2008.
Under an assumption that provisions of current law remain in place, CBO projects that receipts from estate and gift taxes will fall from 0.2 percent of GDP in 2007 to 0.1 percent in 2010 and 2011 and then jump to 0.3 percent of GDP in 2012 and about 0.4 percent by 2014. That pattern reflects the phaseout of the estate tax through 2010, as provided by EGTRRA, and the subsequent reinstatement of the tax in 2011 as well as changes in the gift tax over that period. Recent declines in housing wealth, which CBO expects to continue to some degree over the near term, have only a small downward effect on projected estate and gift tax revenues.
In the past, revenues from estate and gift taxes tended to grow more rapidly than income because the unified credit for the two taxes, which effectively exempted some assets from taxation, was not indexed for inflation. However, EGTRRA gradually increased the credit before eliminating the estate tax (albeit temporarily) in 2010. The gift tax remains in the tax code but in a modified form. EGTRRA effectively exempted $2.0 million of an estate from taxation in 2007. That amount is scheduled to increase to $3.5 million in 2009. Under EGTRRA, the highest tax rate on estates was reduced incrementally from 50 percent in 2002 to 45 percent in 2007; the tax itself is scheduled to be eliminated in 2010. That year, the gift tax rate is slated to be 35 percent, its lowest rate over the projection period. The law is currently set to reinstate the estate and gift tax at pre-EGTRRA levels in 2011, which include an effective exemption of $1 million and a top marginal tax rate of 55 percent.
Because estate tax liabilities are typically paid after a lag of almost a year and because the gift tax remains in the tax code, estate and gift tax receipts are projected to reach a trough in 2010 and 2011 but do not completely disappear from the projections (see Table 4-8). The expected receipts in 2011 result largely from taxable gifts that people bestow in 2010 because of the relatively low rate as well as the legislated reinstatement of the estate tax in 2011. CBO assumes that those gifts would otherwise have been given in years before and after 2011 and therefore affect the pattern of receipts over the 2008–2018 period. CBO estimates that after 2011, estate and gift tax receipts will return to roughly the same share of GDP as that seen in the early 1970s. Projected receipts as a share of GDP exceed the levels seen immediately before the enactment of EGTRRA mostly because the exemption levels are not indexed for inflation and individuals’ wealth has been growing faster than GDP on average in recent years.
CBO’s Projections of Other Sources of Revenue
Source: Congressional Budget Office.
a. Fees on certain telecommunications services finance the Universal Service Fund.
Customs duties and miscellaneous receipts yielded only about 3 percent of total revenues in 2007, or about 0.5 percent of GDP. CBO estimates that receipts from those smaller sources will rise to about 0.6 percent of GDP in 2010 and remain fairly steady throughout the rest of the projection window.
CBO projects that customs duties will grow over time in tandem with imports. The value of imports on a census basis is projected to grow faster than GDP, from 14.0 percent of GDP in 2007 to 17.0 percent by 2018. The value of imports besides petroleum—a better measure of the tax base because duties on petroleum are small and levied per unit—is also projected to rise relative to GDP. As a result, for all years of the projection period, customs duties rise slightly relative to GDP but still measure 0.2 percent.
Profits of the Federal Reserve System—the largest component of miscellaneous receipts—are counted as revenues when they are remitted to the Treasury. The Federal Reserve prices services performed for financial institutions to recover the costs of them, and it earns interest on its holdings of U.S. Treasury securities, which it uses to implement monetary policy. Therefore, profits of the Federal Reserve depend primarily on interest earned on the portfolio of securities, adjusted for any gains and losses from holdings of foreign-denominated assets, whose value changes as exchange rates change.
Largely as a result of the outlook for interest rates, CBO expects receipts from the Federal Reserve System to be flat in 2008 relative to 2007, with a resumption of growth in 2009. CBO expects that, on average, Treasury yields will be about 1 percentage point lower in the first two quarters of calendar year 2008 than they were in the third calendar quarter of 2007, with the decline being more pronounced for short-term rates and somewhat less for long-term rates. CBO projects interest rates to rise gradually from that point through 2009 and to remain relatively stable thereafter. In CBO’s projections, the interest rate increases cause Federal Reserve earnings to rise for some period beyond 2009 as the Federal Reserve replaces maturing securities. Consequently, CBO expects receipts from the Federal Reserve System to grow at a slightly higher rate than GDP from 2009 to 2014 and at about the same rate as GDP thereafter. The size of the Federal Reserve’s portfolio of securities largely grows with GDP over the projection period.
Other forms of miscellaneous receipts consist of certain fees and fines, most significantly fees on telecommunications services dedicated to the Universal Service Fund. CBO projects that those sources combined will remain relatively stable from 2008 to 2018, at about 0.1 percent of GDP.
The Effects of Expiring Tax Provisions
CBO’s revenue projections are based on the assumption that current tax laws will remain unaltered. Thus, the projections assume that provisions currently scheduled to expire will do so. The one exception applies to the expiration of excise taxes that are dedicated to trust funds; under the rules governing the baseline, those taxes are assumed to continue regardless of whether they are scheduled to expire.
The expiration of tax provisions has a substantial impact on CBO’s projections, especially beyond 2010, when a number of revenue-reducing tax provisions enacted in the early part of this decade are slated to expire. Some of the provisions were enacted many years ago and have been routinely extended. Almost all of the expiring provisions reduce revenues. If the expiring provisions were extended rather than allowed to expire, future revenues would be significantly lower than they are under the baseline projections. This section provides a list of the various tax provisions whose expiration is reflected in CBO’s baseline, along with estimates of the revenue effects of extending those provisions (see Table 4-9). Most of the revenue effects are based on estimates supplied by the Joint Committee on Taxation (JCT).6 This section also identifies a number of expiring provisions that, under rules for the baseline, are assumed to be extended.
Effects of Extending Tax Provisions Scheduled to Expire Before 2018
Sources: Congressional Budget Office; Joint Committee on Taxation (JCT).
Notes: * = between -$50 million and zero; ** = between zero and $50 million; n.a.= not applicable; AMT = alternative minimum tax;= Economic Growth and Tax Relief Reconciliation Act of 2001. These estimates assume that the expiring provisions are extended immediately rather than when they are about to expire. The provisions are assumed to be extended at the rates or levels existing at the time of expiration. The estimates include some effects on outlays for refundable tax credits. These estimates do not include debt-service costs.
When this report went to press, JCT’s estimates based on the new economic projections were unavailable for certain provisions, including extending various individual income tax provisions of EGTRRA and the Jobs and Growth Tax Relief Reconciliation Act of 2003 that are scheduled to expire at the end of 2010 and changes to the exemption amount under the alternative minimum tax that expired at the end of 2007. CBO has adjusted JCT’s estimates (which are based on CBO’s baseline projections from a year ago) to take into account the effects of CBO’s updated economic projection. Those adjustments by CBO increased the estimated loss in revenues from the extending the EGTRRA provisions by about 0.2 percent and from extending the AMT exemption by about 5 percent over the projection period. CBO will make JCT’s updated estimates available when they are completed.
a. Disaster relief provisions expire at various times between 2007 and 2011.
The revenue estimates associated with the extensions cited in this section do not include the provisions’ potential effects on the economy. In many instances, macroeconomic feedback would be too small to have a substantial effect on the estimates. However, some expiring provisions influence the supply of labor and economic growth in CBO’s baseline economic projections. The full "dynamic" effect on revenues from extending various tax provisions would differ from the estimates presented here.
Provisions That Expire in CBO’s Baseline Projections
From a budgetary perspective, the most significant expiring provisions are the tax provisions originally enacted in EGTRRA and JGTRRA, as amended by several laws enacted since 2003. In particular, an increased exemption level designed to mitigate the effect of the AMT expired at the end of 2007. The deduction for tuition and other higher-education expenses also expired at the end of 2007. At the end of 2010, several provisions that collectively have the most significant budgetary effects are set to expire: reduced tax rates on dividends, capital gains, and ordinary income; a higher child tax credit; the elimination of the estate tax; and an expanded standard deduction and size of the 15 percent tax bracket for married couples. Assuming that those expiring provisions originally enacted in EGTRRA and JGTRRA are extended, CBO and JCT estimate that the baseline budget deficits would be increased or surpluses would be reduced by about $3.4 trillion from 2008 through 2018 (excluding the effects on debt service). (That amount includes about $3.3 trillion in lower revenues and more than $100 billion in higher outlays).7 About 95 percent of that reduction would occur between 2011 and 2018.
Those estimates of the effects of extending expiring provisions incorporate the assumption that the temporarily higher exemption levels for the AMT are extended at their 2007 levels. Therefore, the exemption levels would not rise with inflation, so a growing number of taxpayers would still become subject to the AMT over time—albeit fewer than if the higher exemption levels were not extended. (See Table 1-5 for the budgetary effects of selected policy alternatives not included in CBO’s baseline, including the effects of reforming the AMT by indexing its higher exemptions and its tax brackets for inflation. That policy change would reduce the number of taxpayers that might become subject to the AMT over time by more than extending the AMT’s exemptions at their 2007 levels would.)
Another 87 provisions not initially enacted in EGTRRA or JGTRRA are also scheduled to expire between 2008 and 2018. Of those, all but three would reduce revenues if extended. Extending the 84 revenue-reducing provisions would decrease receipts by about $430 billion between 2008 and 2018. The provision with the largest effect is the research and experimentation tax credit, which was enacted in 1981 and extended (for the 11th time) through the end of 2007 in the Tax Relief and Health Care Act of 2006. Continuing the credit would reduce revenues by about $115 billion over the 2009–2018 period, JCT estimates. Income and excise tax credits for alcohol fuels expire at the end of 2010; JCT estimates that extending those credits would reduce revenues by about $58 billion from 2008 through 2018. The exemption of certain active financing income from the Subpart F rules of the tax law expires at the end of 2008; extending that provision would reduce revenues by an estimated $56 billion through 2018. According to JCT, continuing the deduction for state and local general sales taxes, which expired at the end of 2007, would reduce revenues by over $37 billion through 2018.
Conversely, three expiring provisions would increase revenues (or decrease outlays) if they were extended. The provision with the largest effect is the Federal Unemployment Tax Act surcharge, which was recently extended by the Tax Increase Prevention Act of 2007 through December 31, 2008. Extending it further would increase revenues by about $8.5 billion over the next 10 years, CBO estimates. The other provisions include allowing the disclosure of tax return information for the administration of veterans’ programs (which CBO estimates would reduce outlays) and allowing employers to transfer excess assets in defined-benefit pension plans to a special account for retirees’ health benefits. Each of those provisions, if extended, would reduce projected deficits or increase surpluses by about $180 million through 2018.
Expiring Provisions That Are Extended in CBO’s Baseline
Rules in the Balanced Budget and Emergency Deficit Control Act of 1985, as amended, require CBO to include in its projections excise tax receipts earmarked for trust funds, even if those taxes are scheduled to expire. In 2018, those expiring provisions account for about two-thirds of that year’s total excise taxes. The largest such taxes that are scheduled to expire over the next 10 years finance the Highway Trust Fund. Some of the taxes for that fund are permanent, but most of them end on September 30, 2011. Extending those taxes contributes about $38 billion to CBO’s revenue projections in 2018, or almost 45 percent of that year’s total excise taxes.
Extending other expiring taxes dedicated to trust funds contributes smaller amounts of revenue to CBO’s baseline projections in 2018. Taxes dedicated to the Airport and Airway Trust Fund, which are scheduled to expire at the end of February 2008, contribute about $19 billion to CBO’s baseline revenue projection in 2018. Taxes for the Leaking Underground Storage Tank Trust Fund, set to end in 2011, add about $240 million to revenues in 2018. The assessment on tobacco manufacturers enacted in the American Jobs Creation Act of 2004 expires on September 30, 2014. Because the receipts from that assessment are dedicated to the Tobacco Trust Fund, rules for the baseline require CBO to assume that the assessment is extended, which adds almost $1 billion to revenues in 2018. The tax on domestic and imported petroleum that is dedicated to the Oil Spill Liability Trust Fund, which was suspended in the early 1990s and then reinstated in the Energy Policy Act of 2005, is set to expire on December 31, 2014. Extending the tax increases baseline revenues by about $375 million in 2018. Finally, a temporary tax on coal production that is dedicated to the Black Lung Disability Trust Fund is set to expire on January 1, 2014, and, if extended, would increase revenues by about $360 million in 2018. No other expiring tax provisions are automatically extended in CBO’s baseline.
Potential Effect of Extending All Expiring Provisions on the CBO Baseline
If all of the tax provisions that are scheduled to expire were extended, projected revenues would be lower than in the baseline by about $12 billion in 2008 and $91 billion in 2009. That loss would grow to $100 billion in 2010, before jumping to $385 billion in 2012 and then reaching $575 billion in 2018. For the entire period from 2009 to 2018, revenues would be reduced by about $3.8 trillion. That estimate includes interactions between extending the higher exemption levels for the AMT and the provisions of EGTRRA and JGTRRA that affect individual income taxes. (All of those amounts include the effects that refundable tax credits have on outlays.)
Effective tax rates are the ratio of tax liability to income.
Relative to GDP, wages and salaries decline slightly and overall labor compensation increases because, according to CBO’s projections, nontaxable fringe benefits, such as employer-paid health insurance, will rise over time relative to GDP.
For example, taxpayers with income below $150,000 can avoid penalties by making estimated payments and withholding amounts equal to their prior year’s tax liability. Taxpayers with income in excess of $150,000 must pay 110 percent of their prior year’s liability to avoid penalties automatically.
In these projections, CBO has deemphasized the use of book profits, an alternative measure of profits in the NIPAs that is theoretically closer to the corporate tax base, because of difficulties in accurately estimating tax depreciation for recent years.
Some taxes on aviation fuel continue after February 29, 2008. Although the provisions of the Balanced Budget and Emergency Deficit Control Act of 1985 that pertain to the baseline expired on September 30, 2006, CBO continues to follow that law’s specifications in constructing its baseline.
When this report went to press, JCT’s estimates based on the new economic projections were unavailable for certain provisions, including extending various individual income tax provisions of EGTRRA and JGTRRA that are scheduled to expire at the end of 2010 and changes to the exemption amount under the AMT that expired at the end of 2007. CBO has adjusted JCT’s estimates (which are based on CBO’s baseline projections from a year ago) to take into account the effects of CBO’s updated economic projections. Those adjustments by CBO increased the estimated loss in revenues from extending the EGTRRA provisions by about 0.2 percent and from extending the AMT exemption by about 5 percent over the projection period. CBO will make JCT’s updated estimates available when they are completed.
The effects on outlays result from refundable tax credits. Such credits reduce a taxpayer’s overall tax liability; if the credit exceeds that liability, the excess may be refunded, in which case it is classified as an outlay in the federal budget.
