The Big Bill: Growth Gains, Political Pains

The tax package preserves key pro-growth reforms but layers on costly carveouts and distortionary phaseouts

On Wednesday, the House Ways and Means Committee advanced tax legislation as part of the One, Big, Beautiful Bill. Big is right. According to the Joint Committee on Taxation (JCT), the tax provisions would increase non-interest deficits by $3.8 trillion over the next decade.

Depending on which page you turn to, the bill reads like a model of optimal tax policy—lower rates, the shrinking of some deductions and credits, and pro-growth incentives. But flip the page, and you’ll find a growing list of new deductions and credits that serve different special interests compared to the old ones, along with phaseouts and cliffs that raise marginal tax rates for some filers.

In short, the bill contains some victories for pro-growth tax policy—but it also repeats old mistakes, layering new complexity into an already unwieldy code, while almost certainly increasing future deficits.

Pro-Growth Elements of the Bill

The central purpose of tax reform is to reduce distortions among work, investment, and consumption, allowing economic decisions to be guided more by productivity than by tax considerations. The gold standard of pro-growth tax policy has two elements. The first is low marginal tax rates, which are the rates that appear in the IRS tax tables to be applied to each additional dollar of income. Low marginal tax rates reduce distortions, because individuals choose whether to engage in a specific activity based on how much of its fruits they get to keep. The second element is a broad base, meaning that the system should have relatively few deductions, credits, and exclusions. A system with many of these tax preferences invites politicians to use the tax code to placate special interests or specific parts of the electorate. A broad base therefore not only promotes growth but also advances fairness by limiting government favoritism through deductions and credits.¹

Pro-growth rate reductions and base-broadening measures such as the SALT cap and international reforms that repatriated American corporations’ overseas cash were hallmarks of the 2017 Tax Cuts and Jobs Act (TCJA). Congress lowered marginal tax rates for families and businesses and enabled full expensing of capital investment. The result was increased investment. Recent research by Jonathan Hartley, Kevin Hassett, and Joshua Rauh finds that corporate rate reductions significantly increased corporate investment.

The major pro-growth components of the new Ways and Means bill include the extension of lower tax rates, full expensing for capital investments, and the extension of the Qualified Business Income (QBI) deduction for certain business income that is taxed under the individual tax code. The bill makes permanent the TCJA’s individual rate reductions, despite speculation that top tax rates might increase. It also revives full expensing for capital investments for four years—the same duration as under the original TCJA. Similarly, it revives the deduction for research and development (R&D) expenses. The QBI deduction is not only extended but modestly expanded, from 20 percent to 22 percent.

The bill also makes targeted improvements to international corporate tax provisions, such as deductions for foreign-derived intangible income (FDII) and adjustments to the base erosion and anti-abuse tax (BEAT) rate.

In short, the proposal would preserve lower marginal tax rates on work and investment relative to current law.

These growth-promoting measures come at a cost of roughly $2.2 trillion for individual rate extensions, $0.7 trillion for the QBI deduction, $0.2 trillion for expensing and R&D, and another $0.2 trillion for international reforms. Their total cost is therefore about $3.7 trillion, which is essentially the full cost of the bill. If taxpayer behavioral responses to lower rates are greater than the JCT currently models, the cost of the bill could be meaningfully lower. A higher elasticity of taxable income (ETI), a measure of how much reported income changes in response to tax rates and which some academic literature suggests may be higher than JCT’s assumptions, would result in additional dynamic revenue feedback over the budget window. If long-run GDP growth were to accelerate to 2.6 percent annually, compared to the Congressional Budget Office (CBO) baseline projection of 1.8 percent, it could generate approximately $2.6 trillion more in economic activity over the budget window.

So how is it that the bill contains so many more provisions, but somehow still winds up at the same scored cost? The answer is that the rest of the provisions fall into two categories: those that are base-broadening revenue raisers that take away special deductions and credits, and those that are base-narrowing giveaways to others. In a sense Congress is swapping out one set of giveaways to taxpayers for another.

Paying for Growth: Base Reforms and Revenue Raisers

As discussed above, an efficient tax code maintains low rates applied to a broad base of income. A thicket of deductions and credits distorts economic decisions, favors politically connected sectors at the expense of others, and forces higher rates to make up the difference. The architects of the TCJA understood this lesson well. They broadened the base by eliminating or curtailing numerous deductions, including limiting the mortgage interest deduction to the first $750,000 of principal, eliminating the moving expense deduction, and capping the state and local tax (SALT) deduction at $10,000 per filer.

The new legislation preserves many of these TCJA reforms, including the cap on mortgage interest and the elimination of moving expense deductions. It also introduces new base-broadening measures. Notably, it phases out many of the energy tax credits enacted in the Inflation Reduction Act (IRA), which have proven far more costly than originally projected. Phasing out these credits is expected to save more than $550 billion over ten years.²

Less encouraging—but still preferable to their expiration—the bill retains a cap on the state and local tax (SALT) deduction. While the cap would rise from $10,000 in 2025 to $30,000 in 2026, it avoids a complete rollback. JCT estimates the revised cap would reduce the bill’s cost by $900 billion over the decade relative to current policy. The bill’s limitation on the alternative minimum tax (at a cost of $1.4 trillion over the decade) narrows the tax base by allowing upper-middle-income taxpayers to claim deductions and credits, but it does simplify the tax code.

Paying for Members of the Coalition: Base Narrowers

Turning the page reveals that the base-broadening measures are being offset by new base-narrowing provisions. Included in the bill are President Trump’s campaign promises to eliminate taxes on tips, allow filers to deduct car loan interest, and reduce taxes—indirectly—on Social Security recipients by increasing the standard deduction for seniors. Each of these provisions is set to expire after 2028. According to JCT, their combined deficit effect over the budget window is $292 billion. If made permanent, the Committee for a Responsible Federal Budget (CRFB) estimates deficits would rise by $860 billion over the next decade.

Supporters will likely argue that these provisions are politically popular. But the trade-off is significant. As noted above, the bill sunsets full expensing after four years—a policy widely regarded as highly pro-growth. CRFB estimates that extending full expensing for the full budget window would cost an additional $330 billion (before accounting for potential dynamic effects). In other words, Congress could afford to make full expensing permanent for roughly the same cost as just three years of the new carveouts.

Phaseouts and Increases in Effective Marginal Tax Rates

To prevent the new base-narrowing provisions from blowing up the deficit, the bill's architects included income-based phase-outs that limit the value of certain deductions for higher earners. The expanded SALT cap begins phasing out at $400,000 of adjusted gross income (AGI), car loan interest deductions at $100,000 ($200,000 for joint filers), and the senior deduction at $75,000 ($150,000 for joint filers).

These phase-outs sharply raise marginal tax rates just above the thresholds. Higher effective marginal tax rates reduce incentives to earn additional income through work and investment.³ For example, a joint filer with $450,000 in AGI, $30,000 in state and local tax deductions, and $10,000 in other deductions (such as mortgage interest, charitable contributions) would face an effective marginal tax rate of 38.4 percent, despite being in the 32 percent bracket.

When factoring in state income taxes, the phase-out of the child tax credit, and Medicare surtaxes, marginal rates can exceed 50 percent. For a taxpayer with two children, the all-in marginal rate could reach 55.1 percent in California and 56.4 percent in New York City. Marginal rates this high are likely to discourage additional work, particularly for second earners deciding whether to remain in the workforce.

The bill also introduces new tax cliffs, where one additional dollar in income could cost a taxpayer thousands of dollars in extra taxes. For example, the exemptions for tips and overtime income do not apply to workers classified as highly compensated employees (those earning over $160,000 in 2025). While relatively few workers would face these cliffs, the penalties for crossing them create strong disincentives to earn more.

It’s Not Too Late for a Pro-Growth Bill

Given early press reports, the estimated $3.8 trillion in deficits could have been much worse. As written, the bill preserves several key base-broadening reforms from the TCJA. It also maintains some of the TCJA’s simplifying features, including the expanded standard deduction and higher AMT thresholds.

Nevertheless, the bill’s pro-growth elements are undermined by a new wave of carveouts that narrow the tax base and significantly increase its budget effects. To their credit, lawmakers have made many of these politically motivated provisions temporary (as we’ve suggested before). But even as temporary measures, their cost remains substantial. And their inclusion has crowded out more effective pro-growth reforms, which are either left out entirely or sunset too soon.

An efficient tax code maintains low rates applied to a broad base of income. A thicket of deductions and credits distorts economic decisions, favors politically connected sectors at the expense of others, and forces higher rates to make up the difference. At this stage, the bill reflects political tradeoffs more than efficient tax policy. Its current structure reshuffles benefits by granting credits and base-narrowing measures, rather than lower marginal rates and a broader base. Lawmakers still have an opportunity to secure greater economic growth at lower budgetary cost by making the core pro-growth provisions permanent and limiting new carveouts to short-term political necessities.

1. See Martin Feldstein’s 2006 NBER essay, “The Effect of Taxes on Efficiency and Growth.”

2. Based on the JCT estimate, the Committee for a Responsible Federal Budget (CFRB) finds that repealing the electric vehicle tax credits would save $191 billion, phasing out energy production and manufacturing credits would save $237 billion, and repealing or reforming other Inflation Reduction Act credits would save $131 billion.

3. See Martin Feldstein, "The Effect of Marginal Tax Rates on Taxable Income: A Panel Study of the 1986 Tax Reform Act", Journal of Political Economy 103, no. 3 (June 1995): 551–572.