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Candidates' Tax Plans May Sound Good, but They're Unsound

Proposals by Obama and Romney may offer the middle class some candy, but who will pay for it?
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Cash-strapped consumers are tapped out and hurting. Attempting to ride to their rescue are presidential candidates Barack Obama and Mitt Romney.

The candidates introduced ambitious tax-cutting plans in the last week aimed at easing the burden on the consumer.

The plans differ radically. Obama, a Democrat, presents a tax cut, while Romney, a Republican, takes it even further -- no taxes at all in some cases. Their plans offer some relief, but they don't make fiscal sense at a time of budget deficits and an increasing national debt.

Obama has announced a tax cut of about $85 billion. The Illinois senator's plan favors working Americans, homeowners and low-income seniors. He offers a tax cut of $500 per working person and a new mortgage credit aimed at low- and middle-income homeowners. Seniors with yearly incomes of less than $50,000 would pay no taxes.

Obama also wants to reduce tax filing time. He aims to simplify forms so that they can be completed in five minutes or less. It all sounds great.But how will Obama pay for it? He makes several sweeping statements at the

end of his plan but doesn't give specific numbers:

"In addition to closing the corporate loopholes and cracking down on international tax havens, he will pay for middle class tax relief by ... increasing the highest bracket for capital gains and dividends and closing the carried interest loophole."

The plan doesn't elaborate on which corporate taxes Obama plans to raise by eliminating loopholes and how much money he expects the raise to generate.

The bigger issue is that Obama plans to use taxes he has already promised for other policies. In May, he announced a

"universal" health care plan. He intends to pay for his health care plan by "restoring the top two personal income tax brackets and rates on dividends and capital gains to Clinton-era levels, and retaining the estate tax with a $7 million exemption rather than repealing it."

Not only would Obama return capital gains taxes to pre-Bush levels, but he also plans to raise them well beyond 20%. I think the question is whether they'll go to 25%, 30% or higher. Who knows. Perhaps they will go high enough that Warren Buffett will no longer pay less in taxes than his secretary.

Obama has significant support on Wall Street, but I'm not certain Wall Street will be too happy to hear about additional taxes on capital gains and carried interest.

The Obama campaign didn't return calls or emails for comment.

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Romney's Take

Former Massachusetts Gov. Mitt Romney takes an entirely different approach to taxes. He wants to encourage the middle class to save by eliminating taxes on savings, dividends and capital gains on those who earn less than $200,000 per year. Yes, he said eliminating -- as in paying zero taxes.

Like Obama's plan, it sounds really great. But how does he plan to pay for it, since it will clearly reduce tax receipts? His

policy briefing doesn't mention the policy's fiscal ramifications, but it does suggest -- and supply-side economist Arthur Laffer would be proud -- that tax cuts would result in higher government revenues from great growth.

Romney points to Bush's tax cut on capital gains. He suggests that after this cut, revenue from capital gains taxes increased from $58 billion in 2003 to $103 billion in 2006. I think former

Fed

Chairman Alan Greenspan's interest rate cuts had more to do with spurring growth than the reduction in the capital gains rate: lower interest rates resulted in higher corporate profits and a higher stock market.

I see another problem with this plan. Americans already have tax-free savings accounts. They're called 401(k)s. Recent studies by mutual-fund giants

Fidelity Investments

and

Vanguard

suggest that 401(k) use has stagnated and that close to 40% of people who are eligible for the accounts do not actually fund them.

I think this leads us back an obvious problem. The middle class has been under great pressure in the last few years. Recent statistics indicate that the average American's wages stagnated and the average American faced additional pressures such as rising health care costs --

reports had them rising 6.1% this year, or more than double the rate of inflation. As a result, the national savings rate remains near zero.

Both Obama's and Romney's plans offer political candy, but neither of their plans proves sound fiscal policy. Voters and taxpayers alike should be wary of politicians making promises without sound economic policy behind them.