A major problem in constructing tax legislation is the “No deficit after 10 years” problem.
It takes a 60 vote majority in the Senate to pass permanent legislation. A key exception is what is known as “budget reconciliation”, whereby financial budget items, including tax changes, can pass with a simple majority vote. But this requires that any proposed legislation cannot produce a deficit after 10 years. To satisfy this requirement, legislation often contains a provision that it will terminate at the end of the tenth year.
The Bush tax cuts of 2001 (and 2003) was the poster child for that problem. Tax rates were reduced in 2001 and 2003 using budget reconciliation This required that the lower rates would automatically expire (sunset) in 2011 so as to comply with the “no deficit after 10 years” issue. Everyone ignored the cuts which then became a big headache and political battle when the time came to renew them – or let them expire. After ten years, the lower rates suddenly terminated for those most important for growing the economy, creating one of the largest tax increases and worst economic recoveries in history. This disaster has made Congress hesitant of passing badly needed tax cuts and reform in fear of the 10 year spring back. But this does not to be so.
The best way to deal with sunset clauses within the tax code is to extend them annually during the budget process so that we don’t enact a tax change and then forget about it over time. This is something to consider as Congress embarks on potential major reforms to the tax code in the coming months.
Trump’s tax reform proposal includes a major pro-growth change to depreciation rules. The change would allow for claiming an immediate deduction for the cost of new equipment, without having to spread the write–off over many years. This would be a boon to the economy. But due to budget constraints this change would likely be scheduled to terminate after 10 years. That should not be allowed to happen. Instead Congress should examine the policy yearly, and extend it out an additional year from that date. This way the tenth year will never come and there will be no unnecessary tax battle. This process could continue until there are the votes to make the provision permanent.