President Obama and leaders from Congress are struggling to develop a plan to avoid the “Fiscal Cliff”. It is important to know the terminology of the debate in order to understand the discussion. Here are a few tips and working definitions.
Deficit—the deficit refers to the amount of money that the Federal Government spends over and above what it receives in revenues. This amount must be borrowed from investors or other governments. The deficit is calculated annually. For instance, the deficit for last fiscal year was $1.1 trillion dollars.
Debt—the national debt is the total of past deficits plus the obligations of the Federal Government for various programs and entitlements. For instance, Social Security obligations and projected Medicare costs are figured into the national debt as these are promises which the government is responsible to keep.
Tax Rates—marginal tax rates apply to taxable income. After all deductions and exemptions are taken from gross income a taxpayer will be left with taxable income. The rates are progressive. This means that the larger the taxable income, the higher the tax rate. A higher tax rate does not necessarily mean greater tax collections. Many strategies and techniques exist to reduce the amount of taxable income thereby reducing the tax due.
Revenue—this is the amount of money generated to the government by taxes collected. When the negotiators from Congress say they don’t want higher rates but are open to higher revenue, they are saying by changing the rules for manipulating the amount of taxable income, revenue can be generated with the current rates. History indicates that rates and revenue are not necessarily correlated. Presidents Kennedy and Reagan reduced rates and increased revenue.
Entitlement Reform—the basic structure of Social Security was established in 1937 when average life expectancy was 57. At that time the retirement age was set at 65. Average life expectancy has increased by 40% but the retirement age has only gone to 66-67. Longevity is putting enormous strain on the system. Medicare was established in 1965 and projections for cost have been dwarfed by actual expenditures. These programs make up the bulk of the national debt and contribute to the deficit. Changing the system to better correlate with the current demographic and longevity realities is the challenge faced by our leaders.
Listen closely to the language of the debate and you will understand better how the decisions made will impact your life. If you have questions or comments on this topic or want to join the conversation, contact [email protected]
Submitted By David M. Wheat, CFS, ChFC