What is the Fiscal Cliff?
In the United States, the fiscal cliff refers to the economic effects that could result from tax increases, spending cuts and a corresponding reduction in the US budget deficit beginning in 2013 if existing laws remain unchanged. The deficit—the difference between what the government takes in and what it spends—is projected to be reduced by roughly half in 2013. The Congressional Budget Office estimates that this sharp decrease in the deficit (the fiscal cliff) will likely lead to a mild recession in early 2013.
The laws leading to the fiscal cliff include the expiration of the 2010 Tax Relief Act and planned spending cuts under the Budget Control Act of 2011. Nearly all proposals to avoid the fiscal cliff involve extending certain parts of the Bush tax cuts or changing the 2011 Budget Control Act or both, thus making the deficit larger by reducing taxes or increasing spending. Because of the short-term adverse impact on the economy, the fiscal cliff has stirred intense commentary both inside and outside of Congress and has led to calls to extend some or all of the tax cuts, and to replace the spending reductions with more targeted cutbacks. The protracted negotiations over this have also generated heightened policy uncertainty over the eventual tax and spending landscape in the US.
The Budget Control Act was a compromise intended to resolve a dispute concerning the public debt ceiling. Some major programs, like Social Security, Medicaid, federal pay (including military pay and pensions), and veterans’ benefits, are exempted from the spending cuts. Spending for defense, federal agencies and cabinet departments would be reduced through broad, shallow cuts referred to as budget sequestration.
The United States public debt would continue to grow even if the fiscal cliff occurs. However, over the next ten years, the smaller deficit will lower projected increases in the debt by as much as $7.1 trillion or about 70%, resulting in a considerably lower ratio of debt to the size of the economy. For the first year (from fiscal year 2012 to 2013), federal tax revenues are projected to increase by 19.63%, while spending outlays are expected to decline by 0.25%. These changes would raise 2013 tax revenue to 18.4% GDP, above its historical average of 18.0% GDP, while reducing spending to approximately 22.4% GDP, still above the 21.0% GDP historical spending average
Projected increases in taxed earnings
Most taxpayers are wondering how it will effect them financially. According to a Tax Policy report by the Associated Press, here is how the looming tax increases would effect households at different income levels:
Annual Income: $20,000 – $30,000 ~ Average tax increase = $1,064
Annual Income: $40,000 – $50,000 ~ Average tax increase = $1,729
Annual Income: $50,000 – $75,000 ~ Average tax increase = $2,379
Annual Income: $75,000 – $100,000 ~ Average tax increase = $3,688
Annual Income: $100,000 – $200,000 ~ Average tax increase = $6,662
Annual Income: $200,000 – $500,000 ~ Average tax increase = $14,643
Annual Income: $500,000 – $1,000,000 ~ Average tax increase = $38,969
Annual Income: More than $1,000,000 ~ Average tax increase = $254,637
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