Advancing a Free Society

The Payroll Tax Cut: Effective Stimulus, Phony Accounting

Wednesday, December 8, 2010

It’s good news that President Obama and Congressional leaders have reached agreement on a deal to prevent a near-term tax increase on individuals and small businesses. As a public trustee for the Social Security Trust Funds I am, however, obliged to sound an alarm about one component of the deal: specifically, a proposed accounting maneuver to disguise the effects of the agreement’s payroll tax cut provision.

Understand, my point here is not to critique the idea of payroll tax relief itself. Economists on both sides of the aisle believe that payroll taxes are a drag on job creation. Relative to other forms of stimulus, payroll tax relief introduces a minimum of both bureaucracy and economic distortions.

The problem is not with the tax relief but with an accompanying accounting gimmick: as described by the White House, the provision would also issue $120 billion in additional debt (from general revenues) to the Social Security Trust Fund – in other words, changing the government’s accounting to make it appear as though the tax revenue had been collected even though it hadn’t.

This is more than a harmless accounting entry; because Social Security spending is statutorily limited to the amount of assets in the Trust Fund, the accounting maneuver would increase the government’s spending authority by $120 billion plus interest to be accumulated over decades to come. Decades from now, hundreds of billions in benefit payments would be authorized based on phantom tax revenues that never appeared on the federal ledger.

In recent years, compromises of the accounting integrity of the Social Security Trust Fund have been taken to a new level, first with the Making Work Pay tax credit and possibly again now with the payroll tax holiday.

Now, there is a right way to provide this payroll tax relief if we desire it. Simply provide the tax relief and omit the accounting gimmick of nevertheless issuing $120 billion in debt to the Trust Fund. This would represent the value choice actually being made – that the need for near-term stimulus is so great that it justifies the collection of less revenue.

Read more on this topic from Charles Blahous at e21