Switch to chained consumer-price index would shift burden after several years as people move into higher bracket
Tucked into Republicans’ tax overhaul bill is a technical tweak to how inflation is measured. The change is designed to hold down the deficit, but over time it becomes a significant tax increase that hits many of the same middle-class households who start out as the plan’s beneficiaries.
.. This makes economic sense because economists consider the chained CPI a more accurate gauge of the cost of living. But because it also yields a lower measure of inflation, it pushes people more rapidly into higher tax brackets. For some income groups, this could eventually wipe out the entire initial tax cut
.. many taxpayers with no real gain in income would still be pushed into higher brackets merely because of inflation.
.. But economists have long known the CPI overstates the cost of living. When prices for a particular commodity rise faster, consumers shift to cheaper alternatives. The CPI adjusts for this by updating the weights of various items in the index every two years.
.. Since 2001, inflation has averaged a quarter percentage point less under the chained CPI than the regular CPI.
.. This raises about $130 billion more revenue over 10 years in the latest versions of both the House and Senate bills
.. After-tax incomes drop by 0.2% to 0.3% for households earning between $40,000 and $1 million and 0.4% for those earning between $20,000 and $40,000. The impact is largest for the lowest-income taxpayers because they depend more on the standard deduction, child tax credit and a new family flexibility credit, all of which will be indexed to the chained CPI.
.. This is also why some income groups start with a tax cut and end up with a tax increase.
.. Once the new index becomes law, don’t count on it being reversed, for two reasons: First, because the effect is so subtle in any single year, most taxpayers won’t even notice so there is little political price to keeping it. Second, as deficits widen, the revenue the new index raises becomes ever more irreplaceable.
.. Lawmakers decided to let most of the personal tax cuts expire in 2025 to keep the total cost within Senate guidelines. But the chained CPI will stay.
.. when lawmakers finally get around to tackling the deficit, they may apply the chained CPI to government benefits such as Social Security to save even more money.