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A Project of The Annenberg Public Policy Center

Facts Falling Off the Fiscal Cliff

In press conferences on the so-called fiscal cliff, House Speaker John Boehner greatly exaggerated the negative effect on the economy of raising taxes on upper-income individuals.

  • Boehner erred when he said that “the problem with raising tax rates on the wealthiest Americans is that more than half of them are small-business owners.” That’s incorrect. Boehner’s spokesman said the speaker simply misspoke, but Boehner is a repeat offender with this bogus claim.
  • Boehner repeatedly cited an Ernst & Young analysis to claim that raising taxes on upper-income earners would “destroy nearly 700,000 jobs in our country.” But that analysis assumes revenue from the taxes would be used “to finance a higher level of government spending,” even though Obama would use the added revenue to reduce the deficit. The analysis also takes an extremely long view: Only “two-third to three-quarters of the long-run effect” is expected to occur within a decade.
  • Boehner said raising taxes on those making over $250,000 “would slow our economy.” But according to a recently released report by the nonpartisan Congressional Budget Office, the effect on the economy would be “relatively small.”

The “fiscal cliff” is shorthand for a $560 billion mix of tax hikes and deep spending cuts that are scheduled to kick in at the end of 2012. The Congressional Budget Office warned that absent intervention by federal legislators, the confluence of tax hikes and spending cuts “will lead to economic conditions in 2013 that will probably be considered a recession.” President Barack Obama and congressional Democrats have advocated that the George W. Bush tax cuts be allowed to expire for those making over $250,000. In a press conference on Nov. 9, Boehner said he believes a tax hike on the wealthy would harm an already fragile economy.

Boehner has got a point — some small-business owners will see taxes go up, and the CBO projects some restraint on economic growth as a result. But he and other Republicans exaggerate this greatly, even to the point of making statements that are downright false sometimes.

Half of wealthy people are small-business owners?

In his news conference on Nov. 9, Boehner repeated an incorrect talking point about the percentage of wealthy Americans who are small-business owners.

Boehner, Nov. 9: The problem with raising tax rates on wealthy Americans is that more than half of them are small-business owners. Raising tax rates will slow down our ability to create the jobs that everyone says they want.

It’s not true that more than half of the people who earn more than $250,000 are small-business owners. Boehner’s spokesman, Michael Steel, said Boehner misspoke, that he meant to say half of small-business income, not half of small-business owners. If it’s an honest mistake, it’s one Boehner has made before.

Steel pointed to a July 14, 2010, report from the Joint Committee on Taxation that found 53 percent of the $1.3 trillion of business income would be reported on tax returns in the top two tax brackets that Obama proposes to raise taxes on. However, the JCT study makes clear that not all of this income might be considered “small”; that in 2005, “12,862 S corporations and 6,658 partnerships had receipts on more than $50 million.”

In 2011, the Treasury Department’s Office of Tax Analysis took a more in-depth look at the issue using a more realistic definition of “small business” and it shows that more than 90 percent of small-business owners wouldn’t be affected by Obama’s proposal to raise taxes on individuals making over $200,000 and couples making over $250,000. Moreover, about 80 percent of those who would be affected by the tax increase are not small-business owners.

Using the Treasury report’s “narrow” definition of small business — one with $10 million maximum in income (or deductions) — and defining “owner” as anyone who gets at least one-fourth of all his or her income from a “small business,” then:

  • Only 8 percent of small-business owners have income of $200,000 or more. So 92 percent of small-business owners wouldn’t be affected by Obama’s proposal. (Table 14, Small Business Owners, Narrow Definition) They account for 57 percent of the income of small-business owners, so Boehner would have been on more solid ground had he said — as his spokesman says he meant to say — “small-business income” instead of “small-business owner.”
  • Of the 1,191,000 taxpayers who fall into the top two tax brackets that would see increases under Obama’s plan, only 239,000 (20 percent) qualify as small-business owners. (Table 17)
  • Furthermore, despite Boehner repeatedly referring to small businesses and “job creators” interchangeably, the notion that small businesses are necessarily “job creators” is also a big exaggeration. “Slightly more than one-fifth of small businesses” qualify as an “employer,” the report states. (Page 1)

The Ernst & Young Study

In making his case for the Bush tax cuts to be extended for everyone, Boehner has repeatedly cited a study done by the accounting firm Ernst & Young.

Boehner, Nov. 7 press conference: The independent accounting firm Ernst and Young says going over part of the fiscal cliff and raising tax rates on the top two brackets will cost our economy more than 700,000 jobs.

Boehner, Nov. 9 news conference: On Wednesday I outlined a responsible path forward to avert the fiscal cliff without raising tax rates. About 24 hours after I spoke, the Congressional Budget Office released a report showing that the most harmful consequences of the fiscal cliff come from increasing tax rates. According to Ernst & Young, raising the top rates would destroy nearly 700,000 jobs in our country.

Boehner, Nov. 10 weekly radio address: Raising those rates on January 1 would, according to the independent firm Ernst & Young, destroy 700,000 American jobs.

Boehner is referring to a study prepared by two economists at Ernst & Young on behalf of pro-business groups: the Independent Community Bankers of America, the National Federation of Independent Business, the S Corporation Association, and the United States Chamber of Commerce — all of which lean strongly Republican. One of the study’s authors, Robert Carroll, once worked in the Treasury Department under President George W. Bush.

Boehner accurately cited the figures in the report, but left out some important caveats.

Ernst & Young, July 2012: This report finds that the increase in the top tax rates would reduce long-run output by 1.3% when the resulting revenue is used to finance additional government spending. Employment is found to fall by 0.5%. In today’s economy, these results would translate into a reduction of gross domestic product (GDP) of $200 billion and employment by 710,000 jobs.

There’s an important caveat in there that some may miss; the projection assumes the revenue generated by raising taxes on those making over $250,000 would be “used to finance additional government spending.” The report did not examine what would happen if the additional revenue were used to reduce future federal deficits. As we noted when the report was raised during the vice presidential debate, Moody’s chief economist, Mark Zandi, called that omission “odd” and said, “It seems to me that is the more relevant scenario. And my sense is that if they did, the results would be very different.”

In its analysis of fiscal cliff alternatives, the nonpartisan Congressional Budget Office assumed that “a significant part of the decrease in taxes (relative to those under current law) would be saved rather than spent.”

We asked Boehner spokesman Michael Steel about that Ernst & Young report’s assumption, and he responded by email: “How would additional revenue reduce government spending? Given that President Obama’s budget includes a trillion-dollar deficit, isn’t it obvious that new revenue would go to spending?”

But the Ernst & Young report assumed the revenue would be used for “additional government spending.” According to the 2013 budget proposed by Obama, spending would go down. As part of the Budget Control Act agreed to by both parties, discretionary spending will be reduced by $1 trillion over 10 years. The projected deficit for the 2012 fiscal year, $1.33 trillion, is expected to drop to $901 billion in FY 2013.

There’s another small-print caveat to the Ernst & Young report, the definition of “long run.” A footnote at the bottom of the report explains that “roughly two-third to three-quarters of the long-run effect is reached within a decade.” In other words, when the report cites the loss of 700,000 jobs, a quarter to a third of those job losses would happen more than a decade from now.

Slow the economy?

In addition to costing Americans jobs, Boehner contended in his Nov. 9 press conference that “we also know that it would slow down our economy.” If it does, it won’t be by much, according to the Congressional Budget Office.

In a November report looking at the impact of the fiscal cliff and several alternative scenarios, the CBO concluded that raising taxes just on those earning above $250,000 would have a “relatively small effect” on the economy. (Page 2)

According to the report, if instead of allowing the Bush tax cuts to expire, they were extended for everyone, it would result in a 1.4 percent inflation-adjusted increase in the GDP (and 1.8 million jobs). Conversely, if the Bush tax cuts were extended only for those who earn less than $250,000, then the GDP would rise 1.3 percent (and add 1.6 million jobs). In other words, as the House Ways and Means Committee Democrats noted in a Nov. 8 press release,  0.1 percent of GDP and 200,000 jobs are attributable to the upper-income Bush tax cuts.

— Robert Farley

Correction, Nov. 30: An earlier version of this story cited an incorrect figure from a 2011 report by the Treasury Department’s Office of Tax Analysis regarding the number and percentage of upper-income taxpayers who would qualify as small-business owners under its narrow definition. We have updated the story to include the correct figure: 239,000 or 20 percent.