How Much A Debt Deal Will Cost You With Higher Taxes, Fewer Deductions, Lower Benefits and Working Longer

[Update as of July 23rd] It’s time to pay for the American dream. In various discussions around how to cut the national debt, so that we don’t have to keep raising the debt ceiling, one theme that is common in most plans is that Americans now and for generations to come are going to feel the financial pinch on their bottom line. Here are some of the changes you can expect to see over the medium to long term when the debt ceiling is resolved.

Social Security benefits may be cut or taxed at a higher rate. This could result in $173 billion plus of savings affecting over tens of millions.

Reform tax brackets and cut the AMT. Most plans, like the Senate’s Gang of six one, would also cut the reviled $1.7 trillion alternative minimum tax. Further these plans seek to cut the income tax brackets from 6 to 3, while lowering the top marginal rates.

Tax Employer Health insurance subsidies: Employer payments for health care, health insurance premiums, and long-term-care insurance premiums aren’t taxed, costing $659 billion. A tax-free limit of $7,500 for individual premiums and $15,000 for families could be instituted to help lower and/or healthier income earners.

Cut Mortgage interest tax deduction for first homes worth $500,000 or less, while disallowing deductions for second homes and home-equity loans.

Increase Capital gains and dividends tax rate to marginal tax rates.

Limit Earned-Income Tax Credit: Some 26 million low-income taxpayers a year are expected to claim $269 billion.

Donations: Charitable contributions are largely deductible, costing $241 billion for 36 million claims a year. This may be cut so that only above a certain limit or income qualification may claim this deduction

Tax 401(k) contributions for higher income earners. Contributions and earnings aren’t taxed (although payouts may be), for a total of $212 billion. If part of this could be reclaimed, it provides a growing source of revenue as people contribute to their retirement accounts.

Source : WSJ

[Update as of July 15th] The Big Deal Around Failing to Raise the Debt Ceiling and Who Stops Getting Paid First – Soldiers, Seniors or Senators?

As I write this article the national debt stands at over $14 trillion and grows by $4 billion every single day. These numbers are so mind bogglingly big that is hard to fathom. This is how 14 trillion looks in numbers : 14,000,000,000,000.  You cannot put this number in most standard calculators. Paying the debt off entirely would require about $47,000 from each person in the U.S, a nation of over 300 million people.

National Debt Crisis : A Collapse in the Full Faith and Credit of the United States Government

Soon the 112th Congress will have to stop their party line posturing and really decide if they will raise the current debt ceiling of $14.29 trillion (it has been raised 16 times since 1990); so that the US government will have enough money to fund itself and meet domestic and foreign payment obligations. This will require both parties and the Obama administration agreeing on serious debt reduction plans and potential tax hikes. The good news is that there is no shortage of workable ideas to reduce the debt, in fact a bi-partisan debt reduction commission has already proposed a series of initiatives to cut the national debt to manageable levels. However the real challenge is whether our government will act in time to address the debt issues, because by 2015 the interest payments on our national debt will consume about 85% of all federal revenue, leaving virtually nothing for national programs like Medicare and Social Security. Current and future American generations will ultimately bear the brunt of our politicians ineffectiveness and posturing to manage the nation’s finances.

Impacts From a Default

If Congress fails to act, an increase in interest rates and borrowing costs are likely, leading to more joblessness and business failures…and will be unthinkably damaging to the economy – much more damaging than even what we faced in that dark period of ’08 and ’09” (Tim Geithner – US Treasury secretary. (C)

If a deal cannot be reached before the August deadline the Treasury says it will be forced to default because its temporary funding measures will run out (technically government borrowing is already above the limit). It has not specified on what: it could choose to stop paying pensioners and soldiers before it stopped paying interest on its debt. But outright default cannot be entirely ruled out. What happens if the world’s most trustworthy borrower reneges on its debt and who gets impacted? Here’s a list of the major groups that could be impacted sooner rather than later (ultimately everyone will be impacted):

  • Federal workers – About 800,000 federal workers (50% of workforce) would be furloughed because there would be insufficient funds to pay them. Current GS Pay scales may also be reduced or continue to remain frozen at current levels for an indefinite period.
  • Government Departments –  According to the Bipartisan Policy Center, by the end of August there will be no funding left for major departments like the Departments of Veterans Affairs, Education, and Housing and Urban Development. Only essential workers and mandatory programs will continue until additional funding is made available. Further the Internal Revenue Service will stop issuing business or personal refunds (you still have to pay taxes though!).
  • Military– Military personnel payments would likely continue for at least a few more months since national defense is always a top priority. While the nation could survive by not paying some groups thereby giving the Congress more time to resolve the debt ceiling impasse, it is highly unlikely that they would let military funding ever stop.
  • Social security recipients – Like military funding payments for Social Security, Medicare and Medicaid are also a top priority. Current year funding for these programs is in place so should continue for rest of the government fiscal year (till September 30th) at least. However new recipients may not be able to enroll in these entitlement programs.
  • Congress (Representatives and Senators) – Many have argued that if our nations politicians cannot resolve the debt ceiling issue they should be the first to stop getting paid. However this is unlikely since Congress and the President’s administration are considered an essential, top priority function so would be amongst the last groups to stop receiving payments
  • Unemployment recipients – Unemployment insurance will also stop being paid out to over 10 million Americans who are currently looking for a job. Also newly unemployed eligible Americans will not be able to file for benefits.

  • Foreign Governments – More than half of Treasury debt is held abroad, principally by foreign central banks (China holds around 11%).  If the treasury defaults on debt payments, foreign government banks will be impacted causing another global financial meltdown as banks stop lending.

  • Money-market funds (think Vanguard, Fidelity) themselves hold another $338 billion of Treasuries. In the event of a default at least one would probably “break the buck” (i.e., fail to give the principal back to investors), threatening “a broader run on money funds” as was almost the case in the early days of the 2008 financial crisis which prompted the various government sponsored financial rescue plans (like TARP).

  • America’s creditworthiness – The failure to lift the debt ceiling risks a potentially disastrous loss of confidence in the American and hence global financial system, which could make the 2008 financial crisis meek by comparison (after all who would bail-out the nation now?)

Treasury could exhaust all inflows for the month of August by paying only six major items: interest on our existing debt, Medicare, Medicaid, Social Security, unemployment insurance and defense contracts. Without cutting from these items, there would be no money to fund entire U.S. departments, such as Justice, Labor, and Commerce. There would also not be funds to pay for veterans’ benefits, IRS refunds, military active duty pay, federal salaries and benefits, special education programs, Pell Grants for college students or food and rent payments for the poor. “The choices would not be pretty,” said JayPowell of the Bipartisan Policy Center

The Treasury Department confirmed that U.S. authority to borrow under the $14.29 trillion debt limit will expire on Aug. 2 2011. If this happens, there are likely to be a ton of problems for Americans across all walks of life. I will continue to provide updates on the status of the debt ceiling debate and encourage you to subscribe (free) via Email or RSS to get the latest news.

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9 thoughts on “How Much A Debt Deal Will Cost You With Higher Taxes, Fewer Deductions, Lower Benefits and Working Longer”

  1. Whats next? Voluntary or a forced life ENDING process for anyone on Social Security or about to collect Social Security? Cutting money from an account WE put into is obscene. WE paid into this all our working lives. It IS NOT an entitlement. Millions of Americans are not even getting the basic needs met to live, that are on Social Security. Many cannot afford health care, or food…just to pay rent and WE are in jeapordy of NOT getting what we paid into, all the while Congress and the President will receive their $170,000.00 to $250,000.00 per year salaries and health care?

    CUTTING SOCIAL SECURITY MONEY TO THOSE ALREADY RETIRED, FOR ANY AMOUNT, IS A DEATH SENTENCE FOR MILLIONS OF SENIORS, AND THE GOVERNMENT SHOULD KNOW THAT. Would that be considered a way to keep their hands clean and not taking responsibility for literally killing millions of senior Americans, without using a bullet or poison?

    I am sick to think of how the world is laughing at this country, which used to be great. Imagine ….. WE are giving ANYONE that wants to destroy this country an OPEN DOOR. We are already being viewed as weak, because of the disgraceful behavior of BOTH parties, the name calling, the finger pointing, the skirting around giving specific answers to the Americans that voted THEM into their protected office, and our strength is dwindling by the minute in the view of those that would destroy us. My God…we are on the path to destroy ourselves.

    The United States is a joke around the world right now….even if the problem is resolved, is anyone even thinking about the damage already done, the reputation we have already lost, the faith of the American people already lost, the DANGER this whole circus in Congress has put us in, not to mention the STRESS and WORRY Congress has kept Seniors in? WE are living day by day wondering if we will be on the street, kicked out of nursing homes, die for lack of medical care and the list goes on.

    MY generation did NOT cause this problem and PAID MONEY into an account to be protected and now that is in danger as our lives are, by a generation that has NO CLUE and is NOT relating to what cutting ANYTHING will do to us, and a Congress that receives over 15 times the money per month and health care we do not get, and they will receive good money until they are in their graves. THEY have nothing to lose by letting this continue.

    I wonder how Congress would be acting if any of THEM, had to live on $1200 a month instead of the over $15,000 per month they are guaranteed to keep receiving?

    So again the question is posed….is it just a matter of time until anyone, that is not wealthy and able to take care of themselves and pay their own healthcare costs, will just be killed to lower expenditures? THE RICH ARE PROTECTED AND GET RICHER, THE POOR AND SENIORS GET MORE NON PROTECTION AND GET POORER.

    God help you in Congress because only his intervention can save this country from becoming something I shutter to even think about.

  2. “So are we really going to start paying interest to Chinese who hold Treasuries and we’re not going to pay folks their Social Security checks?”

    However it is not 100% clear when and if SS checks will be stopped…we become suspicious when politicians begin to use “may,” rather than speak in definitive sentences. If Treasury has the ability to keep paying Social Security benefits, even if the debt limit is reached, the Obama administration should make that clear. The Treasury Department’s new statement begins to add some clarity. We will keep watching how the president speaks about this issue

  3. Just because Democrats weren’t fast enough to say “Not it!” and put their finger on their nose before the Republicans did is no reason to get mad at the Republicans. It is an established fact that Republicans are far superior to Democrats in all the tactics that come with “acting like adults,” like wet-willies, sticking “Kick me” notes on someone’s back, and copying whatever the last person said.

    Now, in our household, when one of the kids doesn’t want to do his or her chores, like taking out the trash, or ensuring that the United States doesn’t destroy its credit rating, the solution is simple: no T.V. until they do it. So we propose that we take all the television sets out of the Capitol so Republicans can’t watch SpongeBob or Sean Hannity until they agree to do their job.

    • I think all the politicians are acting a bit childish. They are essentially putting their interests and the 2012 re-election ahead of what’s needed for the American economy and people. It’s not as simple as equating to a household budget…the implications on credit and the availability of it are far more dire than most realize.

  4. Anything that is a financial instrument starts in the house. President can’t do anything without it first starting in the house and then the senate. Obama can have a hundred plans and awesome ideas but without it starting in the house it’s just cage lining. This is one time Obama can’t be blamed. House members are the beginning and end when it comes to the debt. When august 2nd comes and goes and the shit hits the fan. The republicans will be the ones that should and will shoulder the blame for allowing it to happen. Typical republicans. Not one problem solved in 30+ years. So pathetic.

  5. (Great comment from the NYT)

    Under Clinton we had higher tax rates, no deficit, low unemployment, and arguably one of the best economies of the last fifty years. Granted, he repealed Glass Steigal which was one of key blocks leading towards the financial crisis of 2007 (the other being Alan Greenspan), but my point is, no sane person can argue that restoring taxes to levels under Clinton will “kill jobs” or produce a worse economy than we have now. As even Bill Mahar has said, tax cuts are just another form of spending – special interest tax cuts for millionaires and big oil companies does NOTHING to improve the economy for the majority of Americans, it just contributes to the deficit. (In fact, the tax increases Obama is talking about should be paired with other tax cuts – such as payroll tax cuts – for most Americans. This combination would be guaranteed to stimulate the economy).

    Social security should not have inflation retargeted – this will erode incomes for most Americans in retirement or planning for retirement, and they won’t be able to make this up. Instead, the retirement age should be raised to reflect the increased life span. When SS was implemented 65 was chosen as that was the average age of death for men. Now that age is in the 70’s and the program pays out much longer than intended. To be solvent the age should be raised to 67 and this will give us years more.

    Medicaide/medicare is the real issue to be dealt with. If Republicans were actually a governing party rather than a bunch of demagogues they would be supporting the health care bill which is the only credible legislation yet to tackle these costs. Much more needs to be done but all the good ideas are lost in this fog of demagoguery.

    It’s become increasingly clear that the Republicans are out to do whatever they can to sabotague the economy to improve their election chances in 2012. They would like nothing more than to blow off the debt ceiling and see the economy crater. Obama is finally calling them on it.

    • I agree with you on all points except Social Security. From all reports I’ve read, the key is getting the retirement age lifted to 70, not 67. Then it would theoretically be solvent for years to come.

      Everything else is right on, but I am afraid that our illustrious “leaders”, of both parties, don’t care a whit about what is going to happen. My husband is a 100% disabled veteran who will not get his paycheck – at least as it appears now. Amazing. What is even worse is that 100% disabled (by reason of unemployability – which he is) veterans are NOT ALLOWED by the government to have any form of meaningful work. So the same government that says you can’t work, also can’t pay.

      Not one of these slimy, spineless cowards in Washington (and I do mean both sides) have the courage it takes to make a few unpalatable changes now even though it will save us from SOOOOOO many painful, horrible changes when we are forced to it like Greece down the road. I have no respect for them at all.

      Thanks for your realistic piece though. I only wish more Americans were as smart as you. Unfortunately, I fear they are not.

  6. It’s sad that it has come to this….Congress is immobilized on party line principles and the President has no political capital left to enact a decision. Consequences will be dire, but maybe it will also provide a much needed reality check.

  7. Very good analysis. “The problem with Socialism is that eventually it will run out of other people’s money.” “Other people” still have money so I guess Socialism will continue for a while.


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