[Update as of July 23rd] It’s time to pay for the American dream. In various discussions around how to cut the national debt, so that we don’t have to keep raising the debt ceiling, one theme that is common in most plans is that Americans now and for generations to come are going to feel the financial pinch on their bottom line. Here are some of the changes you can expect to see over the medium to long term when the debt ceiling is resolved.
Social Security benefits may be cut or taxed at a higher rate. This could result in $173 billion plus of savings affecting over tens of millions.
Reform tax brackets and cut the AMT. Most plans, like the Senate’s Gang of six one, would also cut the reviled $1.7 trillion alternative minimum tax. Further these plans seek to cut the income tax brackets from 6 to 3, while lowering the top marginal rates.
Tax Employer Health insurance subsidies: Employer payments for health care, health insurance premiums, and long-term-care insurance premiums aren’t taxed, costing $659 billion. A tax-free limit of $7,500 for individual premiums and $15,000 for families could be instituted to help lower and/or healthier income earners.
Cut Mortgage interest tax deduction for first homes worth $500,000 or less, while disallowing deductions for second homes and home-equity loans.
Increase Capital gains and dividends tax rate to marginal tax rates.
Limit Earned-Income Tax Credit: Some 26 million low-income taxpayers a year are expected to claim $269 billion.
Donations: Charitable contributions are largely deductible, costing $241 billion for 36 million claims a year. This may be cut so that only above a certain limit or income qualification may claim this deduction
Tax 401(k) contributions for higher income earners. Contributions and earnings aren’t taxed (although payouts may be), for a total of $212 billion. If part of this could be reclaimed, it provides a growing source of revenue as people contribute to their retirement accounts.
Source : WSJ
[Update as of July 15th] The Big Deal Around Failing to Raise the Debt Ceiling and Who Stops Getting Paid First – Soldiers, Seniors or Senators?
As I write this article the national debt stands at over $14 trillion and grows by $4 billion every single day. These numbers are so mind bogglingly big that is hard to fathom. This is how 14 trillion looks in numbers : 14,000,000,000,000. You cannot put this number in most standard calculators. Paying the debt off entirely would require about $47,000 from each person in the U.S, a nation of over 300 million people.
National Debt Crisis : A Collapse in the Full Faith and Credit of the United States Government
Soon the 112th Congress will have to stop their party line posturing and really decide if they will raise the current debt ceiling of $14.29 trillion (it has been raised 16 times since 1990); so that the US government will have enough money to fund itself and meet domestic and foreign payment obligations. This will require both parties and the Obama administration agreeing on serious debt reduction plans and potential tax hikes. The good news is that there is no shortage of workable ideas to reduce the debt, in fact a bi-partisan debt reduction commission has already proposed a series of initiatives to cut the national debt to manageable levels. However the real challenge is whether our government will act in time to address the debt issues, because by 2015 the interest payments on our national debt will consume about 85% of all federal revenue, leaving virtually nothing for national programs like Medicare and Social Security. Current and future American generations will ultimately bear the brunt of our politicians ineffectiveness and posturing to manage the nation’s finances.
Impacts From a Default
If Congress fails to act, an increase in interest rates and borrowing costs are likely, leading to more joblessness and business failures…and will be unthinkably damaging to the economy – much more damaging than even what we faced in that dark period of ’08 and ’09″ (Tim Geithner – US Treasury secretary. (C) www.savingtoinvest.com)
If a deal cannot be reached before the August deadline the Treasury says it will be forced to default because its temporary funding measures will run out (technically government borrowing is already above the limit). It has not specified on what: it could choose to stop paying pensioners and soldiers before it stopped paying interest on its debt. But outright default cannot be entirely ruled out. What happens if the world’s most trustworthy borrower reneges on its debt and who gets impacted? Here’s a list of the major groups that could be impacted sooner rather than later (ultimately everyone will be impacted):
- Federal workers – About 800,000 federal workers (50% of workforce) would be furloughed because there would be insufficient funds to pay them. Current GS Pay scales may also be reduced or continue to remain frozen at current levels for an indefinite period.
- Government Departments - According to the Bipartisan Policy Center, by the end of August there will be no funding left for major departments like the Departments of Veterans Affairs, Education, and Housing and Urban Development. Only essential workers and mandatory programs will continue until additional funding is made available. Further the Internal Revenue Service will stop issuing business or personal refunds (you still have to pay taxes though!).
- Military- Military personnel payments would likely continue for at least a few more months since national defense is always a top priority. While the nation could survive by not paying some groups thereby giving the Congress more time to resolve the debt ceiling impasse, it is highly unlikely that they would let military funding ever stop.
- Social security recipients – Like military funding payments for Social Security, Medicare and Medicaid are also a top priority. Current year funding for these programs is in place so should continue for rest of the government fiscal year (till September 30th) at least. However new recipients may not be able to enroll in these entitlement programs.
- Congress (Representatives and Senators) - Many have argued that if our nations politicians cannot resolve the debt ceiling issue they should be the first to stop getting paid. However this is unlikely since Congress and the President’s administration are considered an essential, top priority function so would be amongst the last groups to stop receiving payments
- Unemployment recipients - Unemployment insurance will also stop being paid out to over 10 million Americans who are currently looking for a job. Also newly unemployed eligible Americans will not be able to file for benefits.
- Foreign Governments - More than half of Treasury debt is held abroad, principally by foreign central banks (China holds around 11%). If the treasury defaults on debt payments, foreign government banks will be impacted causing another global financial meltdown as banks stop lending.
- Money-market funds (think Vanguard, Fidelity) themselves hold another $338 billion of Treasuries. In the event of a default at least one would probably “break the buck” (i.e., fail to give the principal back to investors), threatening “a broader run on money funds” as was almost the case in the early days of the 2008 financial crisis which prompted the various government sponsored financial rescue plans (like TARP).
- America’s creditworthiness - The failure to lift the debt ceiling risks a potentially disastrous loss of confidence in the American and hence global financial system, which could make the 2008 financial crisis meek by comparison (after all who would bail-out the nation now?)
Treasury could exhaust all inflows for the month of August by paying only six major items: interest on our existing debt, Medicare, Medicaid, Social Security, unemployment insurance and defense contracts. Without cutting from these items, there would be no money to fund entire U.S. departments, such as Justice, Labor, and Commerce. There would also not be funds to pay for veterans’ benefits, IRS refunds, military active duty pay, federal salaries and benefits, special education programs, Pell Grants for college students or food and rent payments for the poor. “The choices would not be pretty,” said JayPowell of the Bipartisan Policy Center
The Treasury Department confirmed that U.S. authority to borrow under the $14.29 trillion debt limit will expire on Aug. 2 2011. If this happens, there are likely to be a ton of problems for Americans across all walks of life. I will continue to provide updates on the status of the debt ceiling debate and encourage you to subscribe (free) via Email or RSS to get the latest news.