The Inflation Reduction Proposal: Can Congress Reduce Inflation?
Can the Inflation Reduction Act combat inflation?
If you're anything like me, you've been staying indoors as much as possible this summer to avoid the record-breaking heat wave. Unfortunately, if this applies to you, it also means you may be unable to avoid a news channel or two. Likely, you may have heard about the latest game of political football being played: the new Inflation Reduction Act that Congress is trying to pass to address the current financial situation.
While you may be aware that inflation has been running amuck, you may not be fully up to date on the details of this bill or how it may impact your daily life and financial planning. Even if you do not follow the news, this is one piece of legislation you'll want to follow.
Understanding the Inflation Reduction Act and Its Tax Planning Implications
Seemingly unassuming, the Inflation Reduction Act is a landmark bill that proposes to spend $260 billion on investments in climate and healthcare. The main goal of the proposal is to lower inflation by doing two things: increasing taxes and lowering costs, which essentially involves strategic tax planning. The rationale is that if you raise taxes on corporations and high-earning individuals, you will reduce the deficit.
In theory, large budget deficits decrease private borrowing, decrease net exports, increase interest rates, and ultimately result in higher taxes and inflation. Therefore, reducing deficits, in the shorter-term, should result in a smaller accumulated debt and less risk to long-term economic growth.
Increasing Taxes and Tax Planning
The Increasing Taxes portion of the legislation aims to impose a minimum tax rate on corporations with over $1 billion in income at 15%. The additional tax income is predicted to decrease the deficit by $313 billion, showcasing the importance of tax planning in the legislative process. It would also close an interest tax loophole for private equity and hedge fund managers that currently allows them to pay lower taxes on some compensation. The predicted additional tax income is $13 billion.
It would also allocate $80 million to the IRS over the next 10 years to make them more efficient at paying taxes. The real question is, will this legislation actually reduce the deficit?
Economic Experts Weigh In
Prominent economists like Joseph Stiglitz and Nobel Prize winner, Robert Solow, agree that the amount of money saved through this bill will be impactful. The bi-partisan Congressional Budget Office (CBO) has analyzed the data and concluded that the legislation is likely to reduce the deficit by over $100 billion over a span of 10 years. But who's to say?
Since the bill is still being hammered out, the number could be closer to $300 billion if the proposal's final taxation rules are adjusted. Also, it would increase the supply of oil reserves and national energy resources, thus reducing the demand drag causing inflation.
Naturally, there is huge debate around whether this bill will live up to its name. Conservatives are more inclined to say that it is nothing more than a huge tax increase and a further expansion of government. And that makes sense - why should they give Biden and Democrats kudos during midterm election season?
Also, many ask a fair question: isn't it the job of the Federal Reserve to moderate inflation, not Congress'? There are certainly limitations to what the House and Senate can do to enact fiscal policy. Legislating the economy by passing laws can work, but past attempts have had a limited effect.
A Step Towards Tax Planning for Inflation Reduction
To be objective, $100 billion, while not fantastically impactful, may provide some sort of short-term relief. A $100 billion net reduction would reduce the national deficit by about 4%. It's a start, but will the deficit be decreased enough to lower inflation? When analyzing the meticulously examined, well-supported arguments (both pro and con), the fairest judgment to render at this point is that the bill "could or might lower inflation... in some kind of way..."
Will it make as big a dent as it claims? There are simply too many factors at play in today's economic landscape to give a more definitive answer at this point. Also, there is the possibility that the bill will be tweaked further before it is passed. It is a step in the right direction, but its ultimate consequence remains to be seen.
The following diagram summarizes the components of the proposal:
Tax Planning and Your Financial Future
So, what does this mean to you? Should this affect your financial planning? This is where the Lowering Costs part of the bill fits in. The rationale is that if the costs of everyday goods and services for most Americans are lowered, families will have more money to save, emphasizing the importance of effective tax planning. To learn more about how to optimize your tax planning in retirement, read Tax Smart Retirement.
Here is how the Reduction Act could directly affect you:
Tax Planning Impacts on Your Daily Life
Medicare Negotiating Drug Costs: It gives Medicare power to negotiate the cost of drugs offered. Perhaps the most direct impact of the bill is the provision lowering the prices of medication to consumers which can alleviate the spiraling costs of needed medication. According to an analysis done at Wharton, that would achieve an estimated $266 billion in savings for consumers.
Affordable Care Act (ACA) Subsidy Extension: At present, the government subsidizes medical insurance premiums for many in the Medicare program in lower tax brackets, but this feature is set to lapse at the end of this year. The bill would extend the feature until 2025. According to the U.S. Department of Health and Human Services, if it is not extended, approximately 3 million Americans could lose their health insurance.
Clean Energy Alternatives: It proposes rebates and tax credits for clean energy alternatives. The bill would allow households to offset energy costs and invest in energy solutions that help reduce carbon emissions (think electric cars and solar panels). These tax deductions help you and the environment.
These three points can significantly impact your daily life as they can add additional tax credits to your bottom line. It will make healthcare more easily accessible for several individuals and lower costs that are funded for by individuals like us, thus allowing us to save wealth for financial planning purposes. We may have to pay for it in the short term, but ultimately, it will be a win in the long term.
I have found that congressional legislation has a way of doing that sometimes. Though, I do hope this legislation was able to spark your interest enough for you to follow it. After all, these bills are what ultimately affect your financial planning and wealth.
Tax Planning and the Inflation Reduction Act
In conclusion, the Inflation Reduction Act represents a significant step toward addressing inflation through tax planning and cost reduction. While its ultimate impact on inflation remains uncertain, it has the potential to positively influence your financial planning and everyday life. Stay informed and engaged with legislative developments, as they can shape your financial future. Learn more about our Robust Tax Strategies.
To learn more about the details of the Inflation Reduction Act, as it was passed in August 2022, see https://en.wikipedia.org/wiki/Inflation_Reduction_Act.
