Senator Van Hollen’s Working Americans’ Tax Cut Act

On March 12, Senator Chris Van Hollen released legislation titled the Working Americans’ Tax Cut Act. This bill contains two provisions: a “cost of living exemption” structured as an alternative maximum tax, paid for by introducing a new surtax on high-income filers. 

In this report, we estimate the budgetary, distributional, horizontal-equity, time-burden, and incentive impacts of this proposal.

Table 1 presents estimated budget impacts of the proposal, broken down by provision.  We estimate that the alternative maximum tax provision would cost about $1.6 trillion, a cost that would be offset by the AGI surtax over the next ten years. In the longer run, the net budget impact would be positive, as revenue from the AGI surtax grows faster than the costs from the alternative maximum tax.

These numbers are "conventional" estimates, meaning that they account for tax avoidance behavior (e.g., changes in how much taxable income is reported to the IRS) but not macroeconomic feedback (e.g., changes in investment or interest rates). The Budget Lab expects that there would be two main sources of behavioral feedback in response to the AGI surtax. First, capital gains realizations would decline, as investors tend to delay or reduce asset sales when facing higher rates. Second, some business income would shift from pass-through entities to C corporations, since business owners tend to reorganize legal entity type when changes in relative tax treatment make one form more advantageous.

Figure 2 plots the proposal’s impact on after-tax income by income group, showing how each provision contributes to the total effect. It also shows “winners and losers” under the policy—the fraction of taxpayers in each group with a tax cut or a tax increase of at least $100.

• As a share of income, average tax savings from the alternative maximum tax provision would be largest for middle-income households. Lower-income households often have no tax liability to begin with and so do not benefit from this provision, and higher-income households earn above the maximum qualifying income level.
• At very high income levels, the surtax kicks in and imposes progressive increases in tax liability, with the top 0.1 percent seeing a drop in after-tax income of about 12 percent.

Figure 3 shows the same concept but for age instead of income. Younger taxpayers, who tend to have lower incomes, would see a net tax cut on average, whereas older taxpayers would see a net average increase. These figures are averages and reflect large, concentrated tax increases on a small number of filers; within each age group, one percent or fewer of taxpayers would face the AGI surtax. 

Horizontal equity is the notion that taxpayers with similar economic resources should face similar tax burdens. When the tax code offers special treatment for specific types of income or spending, taxpayers with identical incomes will pay different tax rates based solely on the source of their income or their spending patterns. In addition to any intrinsic concern about horizontal inequity, this kind of within-group dispersion in tax burdens can lead to economically inefficient tax avoidance.

We measure horizontal equity by isolating dispersion in tax rates that cannot be explained by income, marital status, or number of dependents. Figure 4 shows the interquartile range, a measure of variance, of within-group effective tax rates under current law and under the proposal.  

We find that tax rate dispersion would fall across most of the income distribution. The alternative maximum tax caps liability at a flat rate, which compresses the upper tail of the effective tax rate distribution within each group. The result is a more uniform distribution of tax rates.

One dimension for evaluating a tax policy reform is how it would affect compliance costs, including the time burden of filing taxes. Complying with the tax law and filing a return involves time-intensive activities like understanding the law, compiling documentation, and filling out a return. A more complicated code with more tax preferences for certain activities will tend to impose a greater time burden on taxpayers, particularly when the tax-minimizing choice for many taxpayers is to exploit those preferences.

Figure 5 shows our estimate of the time burden of filing taxes under current law and under the proposal. We find that average time burdens would increase slightly due to the new alternative maximum tax calculations.

Beyond its effects on average tax burdens (considered above in the “Distributional Effects” section), the proposal would also change the incentives taxpayers face at the margin. Effective marginal tax rates (EMTRs)—the share of an additional dollar of earnings lost to taxes after accounting for deductions and credits—would shift across the income distribution. Figure 6 plots the average effective marginal tax rate on wages across the income distribution for parents and non-parents separately, under both current law and the proposal. Figure 7 decomposes the change from current law into each provision.

The alternative maximum tax generates an oscillating pattern of average EMTR changes across the income distribution reflecting the interaction between the flat cap rate and the current-law progressive bracket structure:

• At low levels of income, households already do not owe tax under current law. Therefore, the proposal does not affect EMTRs.
• At slightly higher levels of income that remain below the exemption amount, the cap eliminates tax liability entirely, reducing EMTRs to near zero.
• Just above the exemption, the pattern reverses. While these filers still benefit from a lower average tax burden, the flat 25.5 percent cap rate exceeds the statutory rate of 10 or 12 percent they would otherwise face, pushing EMTRs upward.
• Near the qualification threshold, filers lose eligibility for the cap and revert to their ordinary bracket rates, and the EMTR increase disappears. 
• A second, analogous wave of EMTR changes then appears at higher income levels, driven by the shift in filing status composition: as the share of married filers rises across the income distribution, the same exemption-to-threshold dynamics repeat at the higher exemption levels for joint returns.
• At the top of the AGI distribution, surtax effects on average MTRs are muted in figures 6 and 7 because the surtax applies only to a share of even the top bin of filers.

The proposal, by imposing a binary eligibility threshold rather than a phase-out, also creates notches for some taxpayers—discrete jumps in tax liability for small changes in income. For example, consider a married couple with two children and whose income is solely wage earnings. Just below the qualification threshold of $161,000 for married filers, their tax liability would be $13,195. Just above it, their tax liability rises to $13,360—an increase of $165 from just one additional dollar of earnings. Notches are important to study because they represent large effective marginal tax rates and, if large enough, can discourage labor supply and encourage inefficient tax avoidance behavior.

In practice, most notches would be small under the proposal because the flat 25.5 percent cap rate closely approximates the normal effective tax rate for most households near the threshold. We estimate that approximately 82 million tax units have incomes below the eligibility cap in 2026 and thus would face a potential notch at the qualification threshold. But of this group, only 1.7 million have income within $5,000 of the threshold, and they save an average of just $181 from the cap.