It is beginning to look like President Obama and House Speaker Boehner may not be able to negotiate an acceptable deal by December 31st to avoid going over the Fiscal Cliff. The President wants tax rates to rise for incomes above $400,000. The Speaker has offered to raise tax rates for incomes over $1,000,000 but it is not clear if House Republicans will go along with this, even if accepted by the President.
What is the effect of such increases in tax rates? According to the Wall Street Journal, raising taxes for incomes over $500,000 would affect 750,000 small business owners, while an income cutoff of $1,000,000 would affect 311,000 small business owners.
What will be the economic impact of restoring Clinton era tax rates on small business owners? A recent study by Ernst & Young predicts that employment would fall by 710,000 jobs and that economic output (GDP) would decrease by 1.3% on an annual basis.
Conclusion: although more tax revenue is needed, as well as significant spending cuts, to get our fiscal house in order, it matters where this new revenue comes from. What we really need is pro-growth tax reform. This means lowering marginal tax rates and curtailing deductions and loopholes.
Yes, it is preferable to avoid going over the fiscal cliff. But a deal needs to be structured which puts us on a sound fiscal and economic track for the long term. Principle matters. No deal is better than a bad deal.