In a presidential election year, the chief executive and members of Congress typically are too preoccupied with campaigning to bother much with tax changes. But over the past half-century, major new revenue laws have often come a year or two after the election is held.
Of the dozen or so major tax changes that have come through Congress since 1954, only two occurred in an election year. In contrast, all but one of the remainder were promulgated in the year or two after an election–there was one three-year outlier. The quick lesson is that investment advisors should not expect anything at all meaningful to happen in Washington on taxes for the rest of this year. But whoever wins in November, there is a good chance of a major change in the next 12 to 24 months. To try to discern–predict is far too exacting a word–what might happen in the Revenue Act of 2005 or the Taxpayer Relief Act of 2006, it is useful to look back on five decades of post-election tax lawmaking.
As anyone who has tried to complete any form beyond a 1040-EZ knows, taxes are anything but neat. However, 2004 marks the exact half-century since the first major piece of postwar tax legislation, the 1954 Revenue Act. Dwight Eisenhower had been elected in 1952, setting the pattern for election year-plus- two tax laws (E+2). He also had a solidly Republican Congress behind him.
"The most important change in our income tax structure over the last 25 years is the reduction in tax rates," wrote William C. Penick in his authoritative 1983 paper, The Evolution of the Federal Tax System: 1954-1983. Penick writes that "this started on a modest scale in 1964, was continued when the maximum tax on earned income was adopted in 1969, and reached fruition in 1981 with the reduction in the top individual rates and the top estate tax rate to 50%." The top bracket during World War II was a stunning 94%. A fair portion of the taxpaying population may know or at least have heard of such confiscatory tax levels, but it will surprise even many tax professionals to realize that those stiff levies lived on until the Revenue Act of 1964, the first in an election year.
JFK's Tax Cuts
In between those two, the Revenue Act of 1962 came two years into John Kennedy's presidency–E+2 again–and with the backing of a Democratic Senate and House. The goal was to stimulate domestic growth and international competitiveness, but in truth there were only minor additions and restrictions.
The '64 Act, under Lyndon Johnson and again with a Democratic Congress, lowered individual brackets from the range of 20% to 91% to the range of 16% to 77%. So not only did this law break the E+2 pattern, it also gave the tax-cutting mantle to the Democrats.
Richard Nixon, working with a Democratic Congress, made a serious effort at further bracket reductions in the Tax Relief Act of 1969, E+1. Although overall brackets only fell to the range of 14% to 70%, an important provision capped taxes on earned income at 50%. Today that sounds like no big deal. But remember that at the time only a tiny fraction of the population owned stock, and mutual funds were in their infancy. Most people, even high-level company executives, received most if not all their income from salary and bonuses. So that earned-income rate cap was much more significant at the time than any such provision would be today.
Nixon was also the first president to push through two tax bills in his tenure, a feat not repeated until Ronald Reagan's tax revolution. The Revenue Act of 1971, E+3 (or three years after Nixon's election in 1968), left brackets alone. But it increased exemptions, as well as the personal deduction. Nixon's successor, Gerald Ford, also had to contend with a Democratic Congress, and his Tax Relief Act in the 1976 election year streamlined the tax code and eliminated some of the more egregious tax shelters.
Ten years of tweaking had set the stage for a period of major changes. That period did not begin with Ronald Reagan but with the Revenue Act of 1978, E+2, under Jimmy Carter. His original goal was to increase capital gains taxes from the prevailing 50%. But his Democratic Congress rebelled and cut capital gains taxes almost in half, to 28%.
Reagan then got the ball rolling, and watched a Republican Senate and a Democratic House vie with each other in a tax-cut derby. The Economic Recovery Tax Act of 1981, E+1, is widely regarded as the best recent piece of tax legislation. It reduced the top bracket to 50%, established indexing for brackets starting in 1985, and made major reductions in the estate and gift taxes.
