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Fiscal Cliff: Will the 2% Social Security payroll tax cut expire?

6:11 PM, Dec 18, 2012   |    comments
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(MoneyWatch) -- Americans could see smaller paychecks next year amid signs that President Barack Obama and Republican leaders negotiating a deal on the so-called "fiscal cliff" may not extend a payroll tax break scheduled to expire at year's end.

CBS News Chief White House Correspondent Major Garrett reports that Mr. Obama did not ask for an extension of the temporary 2 percent payroll tax cut in his counter-offer Monday night to a fiscal proposal put forward by Rep. John Boehner, R-Ohio.

With talks still fluid, a rise in the taxes that fund Social Security is not a done a deal. But the White House's choice not to raise the issue yesterday suggests it may be sacrificed as part of broader compromise with Republicans over proposed tax hikes on wealthy Americans. Many experts had expected the sides to allow the payroll cut to expire as planned.

Following the November presidential election, House Speaker John Boehner staked out the Republican position on a tax increase, saying that "With this vote, the American people have also made clear that there is no mandate for raising tax rates." Yet five weeks later the Ohio Republican reversed course and said he is open to raising taxes on high income-earners, but only for those with earning more than $1 million a year.

Mr. Obama countered with an offer to raise his tax rate income threshold to $400,000 a year, from $250,000, narrowing the differences between the two sides.

Payroll taxes are used to fund Social Security, with businesses and employees each contributing a portion of worker's annual compensation (up to $110,100 as of 2012). For the past two tax years, employee contributions for the government retirement program was 4.2 percent, compared with the normal 6.2 percent rate. That resulted in lower taxes for 160 million Americans, providing a tax cut of roughly $960 for a typical worker making $50,000 a year and more than $1,900 for anyone with annual income of $100,000.

The intent of the payroll tax holiday was to stimulate consumer spending. A 2011 report by Moody's Analytics estimated that every $1 decrease in revenue from reducing the payroll tax for workers expands the economy by $1.27. Reducing payroll taxes is also acknowledged by many economists as a more effective way of boosting growth than most other fiscal measures, including offering housing tax credits, an employer-side payroll tax cut, and even an across-the-board tax cut, according to the research firm.

As a result, expiration of the payroll tax cut could have major ramifications for the economy. JPMorgan estimates that the payroll tax hike "will reduce U.S. disposable income by $125 billion," which would be a drag on consumer spending and could reduce GDP growth by over half of a percent next year.

Goldman Sachs' chief economist Jan Hatzius projects that letting the tax cut expire would reduce 2013 GDP by 0.6 percent.

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