Discuss as:

Households could face average $3,500 tax hit if Congress can't avoid 'fiscal cliff'

Nearly 90 percent of Americans will see their taxes increase in 2013 if Congress and President Barack Obama can’t find a way to renew tax policies that are scheduled to expire at the end of this year, the nonpartisan Tax Policy Center said in a report issued Monday.

Sen. Chuck Schumer, D-N.Y., joins Morning Joe to discuss the impending fiscal cliff and sequestration and why he thinks it will be dealt with in the lame duck session of Congress.

The average tax increase will be $3,500 per household if the current tax policies expire, the report estimated.

It isn’t necessarily an all-or-nothing decision Congress confronts – it could choose to extend some of the tax provisions but terminate others – but it’s precisely the complexity of picking and choosing from the items on the menu that will make bargaining difficult as the days dwindle down to Dec. 31.

At stake are several different tax provisions enacted at different times by different Congresses and presidents, some provisions as old as the estate tax, which began in 1916, and some as new as the temporary reduction in the Social Security payroll tax. In 2010, Congress lowered the payroll tax rate from 6.2 percent to 4.2 percent but it is set to revert to the higher rate on Jan. 1.

Win Mcnamee / Getty Images

House Speaker John Boehner answers questions during a press conference September 21.

Analysts refer to the looming tax increases and spending cuts required by the Budget Control Act as “the fiscal cliff,” which the Congressional Budget Office has said would cause a recession and an increase in the unemployment rate to 9 percent (from its current 8.1 percent) by the second half of 2013.

For most households, the two biggest tax increases – assuming Congress doesn’t act by year's end – will be the expiration of the payroll tax cut and the expiration of the 2001/2003 tax law, which included some provisions which target specific groups of Americans, such as the increased child tax credit and the increased standard deduction for married couples who file joint tax returns.

Most of the imminent tax increase – more than 60 percent of it – will be paid by people in the top 20 percent of the income distribution. The average tax increase on people on the top 20 percent of the income distribution would be $14,173 next year.

Those at the bottom end of the income scale, in the lowest income quintile, will see an average tax increase of $412 next year, while those in the middle quintile will see nearly a $2,000 increase.

For those in the bottom group, “some people who are (now) paying zero tax will be paying a little bit of tax, and some people who are getting refundable credits and paying negative taxes (in effect, getting cash payments from the Treasury) will see those refundable credits shrink,” said Roberton Williams, an analyst at the Tax Policy Center.

A congressional battle brews in Massachusetts as Joe Kennedy III, the first of his generation to enter the business of politics, vies for an open seat representing suburban Boston in Congress.  NBC's Kelly O'Donnell reports.

“If you think about the history of tax policy over the last 12 years, you could characterize it as an accumulating snowball of temporary tax provisions,” said Donald Marron, director of the Tax Policy Center who served as a member of the President’s Council of Economic Advisers under President George W. Bush.

 “As we get ready for policy discussion in the latter part of this year, after the election, everyone is going to want to dig deeper into the numbers and see that we’ve got all these various things in the snowball of expiring tax provisions, plus the new taxes coming on (due to the tax increases in the Affordable Care Act). To have a debate about this, we’re going to have to draw careful distinctions” among the different tax policies, he said.

He added, “If we go over the fiscal cliff we’ll end up with a tax system which no one has designed intentionally and that I think no one will actually want. I think that means that Congress and the president, whoever that is, will strike a deal to prevent that from happening. Whether they do that before Jan. 1 is an open question.”

Congress may not act before Dec. 31 but then in 2013 retroactively undo some of the tax increases that took effect on Jan. 1. “I don’t think anyone would recommend that as intelligent way to make tax policy because it creates a certain amount of chaos and uncertainty, but that’s a possibility,” Marron said.

But for Congress to simply do nothing and let all the tax provisions expire on Dec. 31 does have one compelling argument in its favor. It would raise a huge amount of revenue: $500 billion more in revenue in 2013 – enough money to pay for most of the Medicare program for a whole year.

Partly because of the temporary tax cuts, but more importantly due to the large number of Americans who aren’t working or who are involuntarily working part-time and are paying minimal or no income tax, federal revenues have still not returned to the level they reached in fiscal year 2007, before the fiscal crisis and the recession.