1. Deficit Reduction and The Fiscal Cliff
Why Tax Rates Must Go Up For the Wealthy
Background
Because Congress failed to agree on a package of fiscal reforms last year, roughly $600 billion in tax
increases and spending cuts are set to take effect on January 1, 2013. The so-called “Bush tax cuts” will
expire on December 31 of this year, and that will mean huge tax increases for the middle class, about
$2,200 a year per family on average.i
Economists say that this fiscal tightening, combined with massive,
mandatory budget cuts called “sequestration,” could, if allowed to continue for the entire year, push the
economy back into recession and cause the unemployment rate to rise to 9 percent.ii
To avoid this “fiscal cliff”, Congress and the President must reach a deficit reduction agreement before the
end of this year. Though Democrats and Republicans agree on the need for new revenue, there is sharp
disagreement over how much is needed and how it should be raised.
President Obama’s Proposal
President Obama campaigned for re-election on an explicit pledge to eliminate the “Bush tax cuts” (BTC)
for the wealthiest Americans, married couples earning over $250,000 per year and single taxpayers earning
more than $200,000 annually.
Especially in light of all the misinformation surrounding the President’s position (including, for example, the
claim that it is designed to “soak-the-rich”), it is worth noting that under the Obama plan, everyone –
including the wealthy -- would continue to receive a tax cut on the first $250,000 they earn each year. The BTC
would be allowed to expire – and, therefore, taxes would rise – only on income above $250,000. In other
words, a person earning, say, $300,000 per year would pay a higher tax rate only on $50,000, not the full
$300,000.
Specifically, the President proposes that the top marginal income tax rate, currently at 35%, rise to the
Clinton-era level of 39.6%. The second highest rate would increase from 33% to 35%. In addition, the
President believes that the Bush-era estate tax reduction should be allowed to expire, and that the capital
gains and dividend tax rates (the vast majority of capital gains and dividend income is earned by the
wealthy) should be increased.iii

2.
2 Innovation Ohio Education Fund
Together, these reforms would raise roughly $1.6 trillion over the next ten years. Paired with the $400
billion the President proposes to save through reform of entitlement programs, along with the
approximately $1.7 trillion in deficit reduction agreed to last year, the President’s plan would result in
deficit reduction of nearly $4 trillion.
On the revenue side, the President’s plan would protect 98% of Americans from any tax increase
whatsoever. And it is consistent with the promises he made on the campaign trail when running for re-
election in the November election.
The Republican Proposal
On December 3, House Speaker John Boehner (R-Ohio) released an alternative plan on behalf of
Congressional Republicans.
The Republican plan provides for $800 billion in new revenue over the next ten years. Importantly,
however, the Republicans propose extending the BTC for everyone, including the wealthiest Americans.
Instead of increasing tax rates on the top 2%, the Republican plan insists that all the revenue could be
raised by limiting (unidentified) deductions and closing (unnamed) tax loopholes.iv
Indeed, in announcing the
plan, Speaker Boehner indicated that he believed tax rates should actually be reduced for the wealthiest
Americans.
In that sense, the Republican plan is virtually identical to the one proposed by former Massachusetts
Governor Mitt Romney when he ran for President this year. Independent analysis of the Romney plan,
however, cast doubt on whether a “deductions and loopholes” approach, if limited only to wealthy, could
raise anywhere close to $800 billion. In other words, middle class taxpayers would see many of their
deductions limited as well. The non-partisan Tax Policy Center in Washington, D.C. concluded that the
Romney plan would cost the average taxpayer an additional $2,300 per year in higher taxes. Similarly, the
White House estimates that the revenue portion of the Congressional Republicans’ deficit reduction plan
could end up costing 17 million American families earning less than $250,000 per year an extra $2,400 per
year in federal income tax.v
Comparing the Two Proposals
The remainder of this report will analyze the tax components of President Obama’s plan and the one from
Congressional Republicans. Innovation Ohio believes that the President’s plan is not only fairer (by
protecting 98% of Americans from any tax increase and asking the wealthiest 2% to pay slightly higher rates
only on income above $250,000), but would also obviate the need for even deeper cuts to government
programs the vast majority of Americans rely upon. These programs include not only health and
retirement programs like Social Security, Medicare and Medicaid, but also things like K-12 education,
college loans, food and drug inspection, law enforcement, air traffic safety and highway funding.
By contrast, Innovation Ohio Education Fund finds the revenue aspect of the Republican plan wanting. Even
in the absence of any specifics concerning what deductions the Republicans would limit or which loopholes
they would close, we believe it is reasonable to conclude that their plan either would fail to raise enough
revenue, raise taxes on millions of middle class families – or both. In any event, the Republican plan would
penalize middle class Americans in order to preserve unreasonably low tax rates for the rich.
Why the BTC Should Expire for the Wealthiest 2%
President Obama and Congressional Democrats say they will not agree to any plan that puts the primary
burden for deficit reduction on the backs of the middle class and the poor. In their view, it is a simple
matter of fairness. First, since wealthier Americans derived a disproportionate share of the tax benefits

3.
3 Innovation Ohio Education Fund
from the BTC, it is only fair that they now be asked to pay a little more for deficit reduction. But second, if
millionaires and billionaires do not pay more, it will be impossible to avoid truly draconian cuts to a host of
programs average people depend upon.
In fact, tax policy in America has favored the wealthy for the past three decades.
Since the 1950s, the top income tax rate has fallen from 90 percent when President Eisenhower was in the
White House to just 35 percent today. Likewise, tax rates on capital gains (the overwhelmingly majority of
which flow to the wealthy) have been slashed by more than half since the late 1970’s.
The end result has been an eye-popping concentration of wealth at the top not seen in America since the
Gilded Age. The top 1% now controls more wealth than the entire bottom 90 percent put together.vi
Corporate profits, dividends and executive compensation have risen so fast that all income growth in 2010
went to the wealthiest 10% of households, and 93% of it went to the richest 1%.vii
As hard as it may be to believe, a recent CIA report found that there is more income inequality in the
United States today than exists in countries like Yemen, Uganda and Mongolia.viii
A September, 2012 report from the bipartisan Congressional Research Service explains how tax policy has
contributed to these troubling realities. The report found that lowering tax rates for the wealthy in recent
years has not led to economic growth, but to an increased concentration of wealth at the top. As top tax
rates are reduced, the share of national income accruing to the wealthy increases, which, over time, results
in greater income inequality.ix
And so it has been with the Bush-era tax cuts. Since 2004, the average value of the Bush tax cuts has been
far greater for high earners than it has been for low- and middle-income earners.x
As Chart 1 clearly
shows, benefits from the BTC have not been equally shared; wealthier households have reaped a far higher
proportion of those benefits over the past nine years. Studies from the Tax Policy Center and the Center
for Budget and Policy Priorities drive the point home. Over 73 percent of all BTC value has gone to
households making over $200,000 a year, while households earning between $30,000 and $100,000 have
received just 15 percent of the value associated with those tax cuts.

4.
4 Innovation Ohio Education Fund
Continuing the BTC across the board would simply exacerbate the problem. One recent study found that
in Ohio, extending those tax cuts for the wealthiest 2% into 2013 would mean an average tax cut of
$32,840 for earners making over $250,000, while families earning less than a quarter million dollars would
receive less than $2,000 on average. It should also be noted that while a mere 1.7% of Ohio taxpayers earn
more than $250,000 per year, their average yearly income is a whopping $613,000. Meanwhile, 98% of
Ohioans earn an average annual salary of $49,000.xi
Republican Arguments Don’t Hold Water
The most common argument advanced by Republicans against raising tax rates on the wealthy is that it will
hamper job creation since the rich are the “job creators.”
In reality, economists say there is little or no link between job creation and giving rich people tax cuts. And
that analysis is borne out by recent history. After President Clinton raised the top tax rate on the
wealthiest Americans from 35 percent to 39.6 percent, the economy grew and over 22 million new jobs
were created. When President George W. Bush came to office and cut the top tax rate back to 35
percent, the economy contracted and just roughly 1 million new net jobs were created over his eight years
in office – the lowest job creation rate since the end of WW II.xii
Another oft-repeated argument is that raising taxes on the wealthiest will do special harm to small business.
This claim too is contradicted by the facts. A recent study by the U.S. Treasury Department, for example,
found that in 2001, just 3 percent of small business owners earned taxable income of over $250,000 per
year.xiii
And many of those in that 3% were hedge fund operators, partners in law offices, or engaged in
other activities not generally associated with “small business” as most Americans understand the term. In
any event, the bottom line is that 97 percent of small business owners will receive a tax cut under the
President’s plan.
Moreover, multiple studies have found that lowering the tax rate for small business owners provides little
incentive for them to grow and hire more employees. The non-partisan Congressional Budget Office, for
example, concluded that while some small business owners would, indeed, benefit personally from an
extension of the Bush tax cuts, it was unlikely to create more jobs in the current economy.xiv
Job creation is usually a function of rising sales of products or services. But businesses can only sell as
much product as consumers can afford to buy. And that is why tax cuts for middle and lower income
families are far more effective at “juicing” the economy than are tax cuts for wealthier people. Companies
are only able to expand and create jobs when middle class consumers have enough money in their pockets
to buy the refrigerators, cars, washing machines and other products the companies make. Wealthy
people, by contrast, are already in a position to buy everything they need or want. They are just as likely
to park the additional dollars they would receive from another tax cut in offshore bank accounts, buy
expensive art work, or put the money into other activities that create a de minimus number of jobs. And
even if wealthy people promised to spend their additional tax cut money on products and services, there
simply aren’t enough of them to make the volume of purchases necessary to get the economy moving and
sustain a lasting recovery. How many additional automobiles, for instance, can 2% of the population buy?
Perhaps all of this is why a recent national survey of small business owners conducted for The Small Business
Majority found that 52% of those polled opposed extending the BTC to the top 2%, while an overwhelming
majority strongly favored continuing them for everyone else. Poll respondents also contradicted claims
that ending the BTC for higher income individuals would hurt small business owners. While 54% said their
business revenue does, indeed, pass through to their personal taxes, just 5% reported household income
exceeding $250,000. The small business owners also strongly supported other elements of the President’s

5.
5 Innovation Ohio Education Fund
90% favored ending tax breaks for businesses moving production overseas, and 66% supported taxing
hedge fund managers at standard wage rates, rather than at the lower capital gains rate. It is perhaps also
worth noting that a solid 47% plurality of poll respondents identified themselves as “Republican” or
“Republican-leaning”, while just 35% self-identified as “Democrats. ”xv
Protecting the Rich By Hurting Ohioans and Hammering the Middle Class
Taxes were perhaps the defining issue in the 2012 Presidential campaign. President Obama explicitly ran on
a platform of raising tax rates for the richest Americans, while Gov. Romney was just as explicit in opposing
that course of action. Exit polls taken on Election Day, along with polls taken more recently, all show that
nearly 60% of the American people side with the President on raising tax rates for the top 2%.xvi
Nevertheless, Congressional Republicans immediately rejected the President’s deficit reduction proposal
out of hand, and on December 3 responded with one of their own. Instead of raising new revenue totaling
$1.6 trillion, the Republican plan proposes just $800 billion in new revenue over the same ten year period.
Most incredibly of all, House Speaker Boehner suggested that tax rates for wealthy Americans should
actually be reduced. In a letter to the President, the Speaker said that revenue should be raised not through
increased rates on the wealthiest Americans, but rather through “pro-growth tax reform that closes
special-interest loopholes and deductions while lowering rates.” (emphasis supplied).
Although the Republican plan fails to provide any specifics concerning which deductions should be limited
or what loopholes should be closed, certain assumptions are warranted, particularly in light of the
Republican commitment to raise $800 billion in new revenue.
Moreover, some key Republicans have publicly stated that the $800 billion figure could be reached by
capping deductions for all taxpayers at $25,000 per year. They insist that this would be “fair” since most of
those claiming deductions of $25,000 or more per year are wealthy, rather than middle income, taxpayers.
But the White House recently explained in detail why capping deductions and loopholes alone would not
raise enough revenue – and certainly not enough to avoid making devastating cuts to popular programs
absent increased tax rates on the top 2%.:xvii
• A realistic phase-in of a cap would reduce revenue (from the claimed $800 billion) to $650 billion. If a cap
on deductions was put in place that limited deductions to $25,000 for households making over
$250,000 a year these taxpayers could face a huge “cliff” as soon as they earned $251,000. These
taxpayers would be liable for thousands of dollars of taxes because they had reached the cap.
Realistically phasing in a cap on deductions would reduce the pool of new revenue by about 20%.
• Without exempting charitable giving, the cap on deductions could devastate charitable giving across the
country. With a $25,000 cap on deductions, over 97 percent of households in the top 1 percent
would lose any tax incentive for additional charitable giving. It is estimated that a cap on deductions
could cause wealthy households to reduce their charitable giving by $10 billion per year. This would
have a dramatic impact on services and programs that charities provide to millions of Americans
who turn to them for help. An exemption for charitable giving would further reduce the
pool of new revenue to just $450 billion over ten years.
In other words, reaching the Republican goal of raising $800 billion over ten years through “deduction
limiting” or “loophole closing” means that the wealthy would not be the only targets. Many popular tax
benefits now enjoyed by millions of middle and low income Americans also would have to be on the
chopping block. And that would be especially true if Republicans are intent on lowering the tax rates paid

6.
6 Innovation Ohio Education Fund
by wealthy people since that would generate even less revenue for the Treasury.
How the Republican Plan Would Impact Ohioans
In September of this year, Innovation Ohio partnered with the Center for American Progress Action Fund
in Washington, D.C. to examine the likely effect on Ohio taxpayers if Governor Romney’s (very similar)
plan to raise revenue through deductions and loopholes were enacted.
These two groups identified the tax deductions, credits and preferences most widely used by middle class
and low income families, and then calculated how many Ohioans would be affected if they were eliminated
or pared back in order to raise new revenue.
The numbers are instructive and show what is at stake for middle class Ohio families in the deficit
reduction debate.xviii
• 6 million. The number of families in Ohio that receive their health insurance from their employer,
which is currently tax exempt.
• 1.3 million. The number of families in Ohio that file for the mortgage interest deduction. In 2010,
the average middle class family claimed $7,105 in mortgage interest deductions.xix
• 1.6 million. The number of families in Ohio that deduct state and local taxes from their federal
income taxes. In 2010, the average middle-class family deducted $1,237 in state and local taxes from
their federal income taxes.
• 887,000. The number of Ohio families that benefit from the child tax credit. In 2010, the average
child tax credit recipient in Ohio received $1,277.
• 158,000. The number of Ohio families that claim the child care tax credit. In 2010, the average
recipient of the child care tax credit reduced their taxes by $485.
• 1.6 million. The number of Ohio families that qualify for the earned income tax credit and the
refundable portion of the child tax credit. In 2010, families that received the earned income tax
credit or the refundable portion of the earned income tax credit received a tax benefit of $2,147.
• 349,000. The number of Ohioans that use the American Opportunity Tax Credit to help pay for
college. The average benefit that these students received was $2,100.
Finally, it should be pointed out that losing or having these deductions and credits reduced isn’t the only
“contribution” middle and lower income Ohioans would make to deficit reduction under the Republican
plan. Republicans also propose cutting over $1 trillion from retirement, earned benefit and myriad other
government programs ($600 billion from Medicare and Medicaid, $200 billion from Social Security and
$300 billion from discretionary programs) as part of their deficit reduction package. Middle and lower
income Americans are far more dependent on these programs than are the richest 2% of Americans.
In that sense, the Republican plan would hit the middle class with a double-whammy: raising their taxes on
the one hand, and deeply cutting many of the government programs on which they rely on the other.
Conclusion
With respect to revenue (spending cuts are not the focus of this report), the Congressional Republican
proposal is deeply flawed. Not only is $800 billion not enough revenue to produce a balanced deficit
reduction program, but it is not arithmetically possible to raise even this amount solely through limiting
deductions and eliminating loopholes for the wealthy. Unless tax rates are raised for the richest 2%, middle
and low-income taxpayers cannot be spared.

7.
7 Innovation Ohio Education Fund
While everyone wants to avoid the uncertainty and danger inherent in going over the “fiscal cliff”, President
Obama clearly believes that no deal is better than a bad deal. Although he has expressed his willingness to
compromise on many things – including budget cuts – in order to reach an agreement, he has repeatedly
said the one thing he will not compromise on is fairness. Progress does not seem possible unless and until
Republicans drop their opposition to a tax rate increase for the wealthy.
Ironically, if the Republicans do not relent on the issue of rate increases for the top 2%, all the Bush tax
cuts, including those for the wealthy, will automatically expire anyway on December 31. For that reason
alone, at least a partial agreement on taxes and revenue seems within reach. Since Democrats and
Republicans alike agree that the BTC should be extended for the 98% of American taxpayers who earn less
than $250,000 per year, why not start there? Once that agreement is in place, negotiations can continue
over the size and scope of spending reductions and all other issues necessary to get America’s fiscal house
in order.
Instead, Republicans appear intent on holding middle class tax cuts hostage. Their position seems to be
that unless the wealthiest Americans get a tax cut on everything they earn above $250,000, they will fall on
their swords to keep anyone from getting a tax cut.
But that is a risky strategy. The Republican position is at odds with the election results, at odds with public
opinion, and at odds with the best interests of the middle class. Surveys say that a solid majority of
Americans will hold Republicans responsible, not the President, if the fiscal cliff is not averted. If the worst
happens, it is entirely possible Americans will conclude that they no longer wish to empower hostage-
takers.

8.
8 Innovation Ohio Education Fund
Endnotes
i
The National Economic Council & the Council of Economic Advisers. “The Middle-Class Tax Cuts’ Impact On Consumer
Spending & Retailers.” November 2012.
ii
“An Update to the Budget and Economic Outlook: Fiscal Years 2012 to 2022.” Congressional Budget Office. August 2012.
iii
Khimm, Suzy. “The White House’s fiscal cliff proposal.” The Washington Post. 11/29/12.
iv
Letter from Speaker John Boehner to President Obama dated December 3, 2012.
v
Sperling, Gene and Jason Furman. “Limiting Tax Deductions: The Reality of the Math.” The White House Blog. 11/29/12.
vi
Kristof, Nicholas. “A failed experiment.” The New York Times. 11/21/12.
vii
Saez, Emmanuel. “Striking it Richer: The Evolution of Top Incomes in the United States (Updated with 2009 and 2010
estimates).” 3/2/12.
viii
Central Intelligence Agency. The World Fact Book: Distribution of Family Income – GINI Index.
ix
Hungerford, Thomas L. “Taxes and the Economy: An Economic Analysis of the Top Tax Rates Since 1945.” Congressional
Research Service. 9/14/12.
x
Frentz, Nathaniel and Chye-Ching Huang. “Bush Tax Cuts Have Provided Extremely Large Benefits To Wealthiest Americans
Over Last Nine Years.” Center on Budget and Policy Priorities. 7/30/12.
xi
“Time To Pay Their Faire Share: Ohio Can’t Accord to Extend the Bush-era Tax Cuts for the Wealthy Few.” Citizens for Tax
Justice, American for Tax Fairness, and the National Women’s Law Center. July 2012.
xii
“Bush On Jobs: The Worst Track Record On Record.” The Wall Street Journal. 1/9/09.
xiii
“Methodology to Identify Small Businesses and their Owners.” Department of the Treasury, Office of Tax Analysis. August
2011.
xiv
Elmendors, Douglas. “Policies for Increasing Economic Growth and Employment in 2012 and 2013,” testimony to the Senate
Budget Committee. Congressional Budget Office. 11/15/11.
xv
Small Business Majority. “Small Business Views on Taxes and the Role of Government.” Opinion poll. 10/25/12.
xvi
Blake, Aaron, Jim Cohen and Peyton M. Craighill. “Taxing the rich remains popular.” The Washington Post. 11/28/12.
xvii
Sperling, Gene and Jason Furman. 11/29/12.
xviii
Center for American Progress Action Fund and Innovation Ohio. “The Real Cost of the Romney-Ryan Plan to Ohioans.”
9/11/12.
xix
Innovation Ohio analysis. Averages calculated from the Internal Revenue Service, “Statistics of Income” (Ohio state table, tax
year 2010).