Government Should Use Tax Policy to Fight Unemployment

By official estimates, over sixteen percent of the entire country is either unemployed or underemployed, and in some cases not even looking for work. Over sixteen percent of our creativity, productivity, ambition, hope... rotting on the vine.

This is an emergency of almost unimaginable proportions. It is time for the government to act - not only with the blunt instruments of fiscal and monetary stimulus, but with a laser-like focus targeting unemployment specifically. This can be done through a simple, temporary tax policy change. Not only will this tax policy cost the American taxpayer nothing, it will generate tax net tax revenues instantly.

The solution is a refundable tax credit for every dollar of salary paid to a newly hired employee. It works like this. Currently, employers can deduct salary expenses from their income - assuming they have any income. This tax deduction shields some, but not all, income for the employer, so on an after-tax basis, hiring people costs employers money. For instance, if a Company earns $100 of gross income, pays Alex a $50 salary, and pays tax at a marginal rate of 50%, it costs Company $25 to hire Alex (without Alex, Company would have an after tax net profit of $50, but with Alex on board, Company only earns an after tax net profit of $25).

A tax credit works differently from a tax deduction, in that it can shield a greater portion (or, indeed, all) of the economic cost of a particular expenditure. Suppose Company got a $50 tax credit from the government for hiring Alex, instead of a tax deduction. Company would have $100 reported income, owe $50 in tax on that income, and the remaining $50 would go out to Alex as salary. But, Company would get a $50 tax credit for Alex's salary, wiping out its tax liability. At the end of the hunt, Company has a net after tax profit of $50 - just like Alex wasn't even in the picture.

It's immediately clear why companies would want to start hiring people if they could get a dollar-for-dollar tax credit for doing so. They'd basically get the work of these new employees at no net salary. The new employees win in the end, too - they have paying jobs now that they otherwise might not. And how does the government prosper? Simple. The new employees pay income taxes that the government would not otherwise collect. At first blush, it looks like everyone comes out ahead.

But, you might ask, doesn't that tax credit end up costing the government money it would have otherwise gotten if salaries for new employees were deductible, rather than credited? In our example, with a tax deduction scheme, the government gets $25 from Company, and with the tax credit scheme, the government gets $0 from the Company. That math is correct, but the argument assumes Company would have hired Alex in the first place. That assumption could (and generally does) work in a normal economy, but goes onto very shaky ground when the official unemployment rate goes into the double digits.

The truth is, companies are not hiring, and the government is losing income tax revenues as a result. What that means is that the tax credit for salaries paid to new employees won't cost much at all because it's money the government wouldn't have gotten anyway. A tax credit that neutralizes all or some of the economic disincentive for a company to go out and hire will instantly cause new employment to pick up. And because every dollar of the tax credit reflects someone's salary, that money can cycle straight back to the government in the form of personal income tax payments from all those newly hired people. So on closer inspection, it really does look like a win for employers, a win for employees and a win for the government after all.

To be sure, the devil is in the details. What if companies just fire everyone, and hire them right back the next day, just to get this tax credit? Answer: restrict the credit to only those who have never gotten a W-2 from the same (or any affiliated) company at any time in the last five years. What if the companies fire everybody and hire new people, just to get the tax credit? Answer: only offer the credit for salaries paid to new employees hired by companies for net new hires after turnover. What about investment bankers, who earn millions of dollars just for destroying the economy? Answer: cap the credit at $80,000, and phase it out entirely for salaries over $150,000. At this point, I'm just making these numbers up. What happens when unemployment drops to 5%? Answer: phase out the tax credit - have it expire after two or three years. Hopefully the economy will be somewhat more self sufficient by then.

Oh there are details to iron out, sure, but the point of this article is to introduce a framework for debate that really needs to start, and start quickly.

I have only one request from my readers. If you like this idea, I ask you to spread it around. Forward it to your Congress person. Put it in your own words, tweak it, and take credit for it. Be an economic activist, and get the idea out there - and get your friends to do the same. There are millions of people without jobs, without an income, without hope, who will thank you for it.

Comments

[Dave Wrixon:]

Have you been talking to Gordon Brown? He has been over complicating the tax system in the UK for a decade now.

The problem is by definition there is no net benefit, but there is a massive increase in administrative cost. But why not put it forward to Obama? It seems to me that the current administration would be receptive to such nonsense due the perceived benefit in the upcoming mid-term elections.

Jul 05 08:31 AM

[CautiousInv...:]

Companies are not hiring because consumer are not spending and thought should have been given to this before passing the stimulus and recovery act which resembles the cantina scene in Star Wars and is disturbing to anyone who both thinks and sleeps.

If we are going to use the tax code it should be tooled to encourage consumption with the proviso that no new debt be incurred; once consumption is stirred the code very easily be used to assist companies of all sizes in deciding to take on new workers.

If this tack is taken, though, there should be an element of internal consistency and all of the other payroll taxes should be reviewed with an eye towards reducing the total cost of keeping an employee on the payroll. As proposed, healthcare reform is working against this principle.

From all appearances the administration is less interested in revitalzing the market economy through the tax code and other alternatives......and increasing the economic pie..... than it is in imposing its view of economic justice and resdistributing the economic pie.

Jul 05 10:14 AM

[Alphameister:]

Agree with CautiousInvestor. Keynesians contend that there is no meaningful advantage gained by giving consumers a tax break under current circumstances because most of it will go into savings and re-building balance sheets. Which is obviously true for the piddling tax "refunds" doled out last year and this year. But massive tax breaks for companies and for consumers, on a scale comparable to the huge (and hugely inefficient) "stimulus" spending package would have enabled quick improvement of balance sheets at all levels with a lot of spending power left over through which to indulge a natural propensity to consume (with favorable implications as well for a company's willingness to invest).

Jul 05 11:36 AM

[the rabble:]

About the one thing I agree with is your statement "the devil is in the details."
As a employer I start out reading this article and ask myself a question. Half way through I ask the same question. At the end and while reading other comments I ask the same question. "...how am I going to put/keep these people to work..." Unless your plan enables me to compete with the overseas supplier who just took a order from my customer with a price at about one third of what I can do to just breakeven this is all meaningless/useless. Is this going to produce a working class society that earns even a minimum wage of $7.00hr that can compete with one that earns .50hr. All the blabber and banter in the finiacial/economic circles skate the issue that given the type and scope of the current economic situation the notion of a job unrelated "recovery" is brain unrelated. People can not pay mortgages, buy cars, etc. without income. "Where has our personal income gone. (Jobs)" "How do we get them back." Until the current regime of economic and finacial pundits ask those two question in that idiot fashion, and take it all from there everything else will become a fortune telling contest of the ramifications of the US adjusting to third world poverty for a significant portion of it's population.

Jul 05 03:09 PM

[nova:]

User 376970 wrote:
<People cannot pay mortgages, buy cars, etc., without income.
Where has our personal income gone? (Jobs)
How do we get them back?>

The real answers are really simple. The "devil" is in details also known as the implementation. After all, it is all about pain, blood, sweat, and suffering that eventually make the difference between success and failure. This is the beauty of life.

Jul 05 04:41 PM

[Pat C:]

Not sure about the assumption on revenue but it is good thinking that is objective and middle of the road that should not create a bunch of political nonsense and push back. We have to start thinking about US employment as a driver to economic well being and not just a passive input or lagging indicator. I believe it would be a good stimulus for small businesses that are on the edge about growing in this economy. I will pass it on to my folks.

Jul 05 04:47 PM

[waf76:]

Certain measures taken by the gov't should've occurred quicker and others obviously never at all. Financial stimulus should've gone to the consumer in the first place but we blew the budget on repaying the Goldman Sach's of the world 100 cents on the dollar while everyone else got left holding the bag, with high mortgages and decreasing home property values (the main source of equity for most Americans).

Jul 05 10:32 PM

[oriocookie:]

it would seem to me that there's a limit to what we can consume. Exceeding that limit leads to the rpesent situation. we can't all be wealthy we can't all have 3 cars and live in two houses and fly a private jet .... so no matter how much stimulus there is out there unless we understand that there is such a thing as sustainable growth (as ooposed to cancerous growth) and that there is a check and balance in the golbal economic system all we will do is postpone the inevitable - sustainable growth - with possibly dire economic consequences ....

Jul 05 11:17 PM

[oriocookie:]

very reasonable and astute question .... seems to me the labor force needs to change as opposed to changing the rules (ie higher import taxs, duties etc) to keep it the same ... seen the "buy local by prohibiting imports" in some way movie in EU .. doesnt really change much in the loong run.... just makes you uncompeititve


On Jul 05 03:09 PM User 376970 wrote:

> About the one thing I agree with is your statement "the devil is
> in the details."
> As a employer I start out reading this article and ask myself a question.
> Half way through I ask the same question. At the end and while reading
> other comments I ask the same question. "...how am I going to put/keep
> these people to work..." Unless your plan enables me to compete with
> the overseas supplier who just took a order from my customer with
> a price at about one third of what I can do to just breakeven this
> is all meaningless/useless. Is this going to produce a working class
> society that earns even a minimum wage of $7.00hr that can compete
> with one that earns .50hr. All the blabber and banter in the finiacial/economic
> circles skate the issue that given the type and scope of the current
> economic situation the notion of a job unrelated "recovery" is brain
> unrelated. People can not pay mortgages, buy cars, etc. without income.
> "Where has our personal income gone. (Jobs)" "How do we get them
> back." Until the current regime of economic and finacial pundits
> ask those two question in that idiot fashion, and take it all from
> there everything else will become a fortune telling contest of the
> ramifications of the US adjusting to third world poverty for a significant
> portion of it's population.

Jul 05 11:22 PM

[Mr. Ed, Jr.:]

If I hire new people, what are they going to do ? I have no real work for them. I am carrying some employees now, because they will be in desperate situations if I let them go.

What about my costs of FICA, state taxes and fees ? What about health care ? There is no cushion here to pay that for people I don't need. If I need real employees, I will hire them.

I also don't really understand why you would want to go through the ruse of hiring someone to get a tax credit so they can pay taxes back to the government.

If you want to just "hire" people, even if there is no work for them, why not cut out the middleman (businesses) and just let the government hire them directly ? That way, when they just sit around all day and do nothing, they will fit right in.

Jul 06 12:04 AM

[Alex Trias:]

I agree that the administration seems more focused on areas besides increasing the economic pie. All the more reason why those outside the administration need to press for reform from the outside in. Thanks for your comment.


On Jul 05 10:14 AM CautiousInvestor wrote:

> Companies are not hiring because consumer are not spending and thought
> should have been given to this before passing the stimulus and recovery
> act which resembles the cantina scene in Star Wars and is disturbing
> to anyone who both thinks and sleeps.
>
> If we are going to use the tax code it should be tooled to encourage
> consumption with the proviso that no new debt be incurred; once consumption
> is stirred the code very easily be used to assist companies of all
> sizes in deciding to take on new workers.
>
> If this tack is taken, though, there should be an element of internal
> consistency and all of the other payroll taxes should be reviewed
> with an eye towards reducing the total cost of keeping an employee
> on the payroll. As proposed, healthcare reform is working against
> this principle.
>
> From all appearances the administration is less interested in revitalzing
> the market economy through the tax code and other alternatives......and
> increasing the economic pie..... than it is in imposing its view
> of economic justice and resdistributing the economic pie.

Jul 07 09:51 AM

[Alex Trias:]

You're making an excellent point - simply hiring people does not create work for them to do. And any smart business person isn't about to hire someone just because of some tax credit or other incentives - not if the new hire is going to just sit around chewing gum and surfing the internet.

But there are plenty of businesses out there with enough work to keep everyone busy - maybe too much work, in fact. But they are reluctant to hire because of the cost of doing so. Those are the places that benefit from a tax credit for new hires. My guess is that most business people, such as yourself, would not hire anyone unless there was enough work to keep them busy - and I would not advocate any tax policy that would encourage a business to do otherwise. What I'm focused on really are those borderline cases, where you could certainly use a newly hired employee, but the costs, as currently configured, don't warrant hiring anyone. I'm talking about tipping the scales, slightly.

And by the way, hats off to you for keeping employees on due to your concern over their personal circumstances. When the economy comes back (and it will), people like you are going to have a real leg up on retaining and recruiting top quality employees. Companies that look out for their people when times are rough are far, far more attractive places to work than companies that treat employees as fungible mercenaries. What you're doing is morally correct, and you're probably making a shrewd business move.

On Jul 06 12:04 AM Mr. Ed, Jr. wrote:

> If I hire new people, what are they going to do ? I have no real
> work for them. I am carrying some employees now, because they will
> be in desperate situations if I let them go.
>
> What about my costs of FICA, state taxes and fees ? What about health
> care ? There is no cushion here to pay that for people I don't need.
> If I need real employees, I will hire them.
>
> I also don't really understand why you would want to go through the
> ruse of hiring someone to get a tax credit so they can pay taxes
> back to the government.
>
> If you want to just "hire" people, even if there is no work for them,
> why not cut out the middleman (businesses) and just let the government
> hire them directly ? That way, when they just sit around all day
> and do nothing, they will fit right in.

Jul 07 10:01 AM

[ak47:]

I seem to recall that something like this tax credit was reied about 30 years ago and thought to be unsuccessful.

Jul 08 08:19 PM