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Bush expands tax plan

Package is bigger than even GOP allies anticipated

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WASHINGTON — In a bold bid to pursue the Republican economic agenda and spur economic growth, President Bush plans to propose a sweeping package that would eliminate the taxes individuals pay on stock dividends, accelerate income-tax-rate cuts approved two years ago and provide $400 rebate checks for middle-class parents.

The "growth and jobs" package Bush is to outline in a speech in Chicago on Tuesday will be much bigger than even his Republican congressional allies had anticipated. It's now expected to cost $600 billion over the next 10 years, administration officials say, twice what many analysts had predicted. Bush aides cautioned that details could still change.

As recently as last week, the president was thought to be ready to propose cutting the dividend tax in half, not eliminating it completely. He was also expected not to seek an acceleration of tax cuts for the richest taxpayers.

White House officials believe the expanded package will serve both their political and economic goals. By putting such an ambitious plan on the table, they give themselves plenty of bargaining chips in negotiations with Democratic lawmakers. They also believe their package will provide a dose of economic stimulus sufficiently large — between $80 billion and $100 billion in the first year — to boost economic growth and begin to push the unemployment rate below its current 6 percent level well before Bush faces the voters in November 2004. The White House believes the plan will boost stock prices by about 10 percent and increase consumer spending, though Democrats are skeptical of the impact.

To achieve those aims, the president is accepting a number of risks. One is the prospect of a growing federal budget deficit, which congressional analysts say could grow to $250 billion or more in the current fiscal year, up from $158 billion last year. A rising deficit could also drive up interest rates.

Another potential source of trouble is that Democrats, especially those seeking to run against Bush in 2004, may successfully cast the Bush tax cuts as excessively favoring the wealthy. "The president is trying to pull a fast one . . . to put money in the pockets of the richest Americans over a long period of time while providing very little help for regular people," one presidential hopeful, Sen. John Edwards of North Carolina, said Sunday on ABC's "This Week."

Bush needs help from Democrats in the Senate to win quick approval of the package by the spring, as Bush's strategists want. A continued weak economy could undermine prospects for Bush's broader agenda of revamping Medicare later this year, and then turning to Social Security later in his presidency.

To blunt Democratic arguments that Bush cares only for the wealthy, the White House is expected to push for an extension of unemployment benefits that expired on Dec. 28 because Congress left town without acting. Bush will also seek a retooling of the child tax credit to produce rebate checks for many parents and a $10 billion package of aid to financially troubled state governments — a Democratic priority. The latter could also win him important allies among the nation's governors.

House Democrats were putting final touches on their own plan to be released Monday. It would cost $100 billion to $130 billion mostly this year. Key features include a rebate for individuals; significant aid to states and local governments to help with increased homeland security and Medicaid costs; and tax breaks for small businesses to encourage more capital investment.

Democratic leadership aides were still tinkering with the particulars, but the rebate was expected to give about $500 to a typical household. Democratic aides said that while their package would be much smaller overall than Bush's, it would deliver more juice to the economy in the near term. Almost all of the package's impact would come in 2003, they said. The plan also would include Democrats' extension of expiring unemployment benefits. As the White House negotiates a deal with Congress, Democrats will try to get some of their provisions added to a final package.

The apparent loser in last-minute White House deliberations are businesses that had hoped the president would support an expansion of a temporary tax incentive for business investment that was enacted in 2002 and expires in 2004. The plan is, however, likely to include a less-expensive break aimed primarily at investment spending by small businesses. Business lobbyists on Capitol Hill, especially in the high-tech sector, are expected to push hard for additional investment incentives as Republicans and Democrats wrangle over the final package.

The centerpiece of the Bush proposal is a plan — estimated to cost the Treasury $300 billion over 10 years — to eliminate entirely the federal income taxes individual shareholders pay on corporate dividends. The president's advisers had recently considered cutting the dividend tax by half, but they decided on full elimination to provide the economy with an additional boost.

Economists have long argued that dividends are taxed twice — once at the corporate level and again when paid as dividends to shareholders. Eliminating the tax could boost stock prices by about 10 percent, the president's advisers estimate. Earlier this year, the White House had talked of a 20 percent gain in stock prices, but they have since reworked the calculation. Any significant gain would help reduce the cost to business of raising capital, spurring investment.

A stock surge would also help fatten American families' shrunken stock-market portfolios. The White House argues that could produce $30 billion to $50 billion in additional consumer spending over the next year or two.

But the dividend-tax-cut plan is certain to be controversial.

Chris Varvares, an economist at Macroeconomic Advisors in St. Louis, says the White House calculations of its economic impact are sound. But Janet Yellen, President Bill Clinton's chief economist, says she is skeptical that the dividend cut would do much to boost consumer spending. "I wouldn't rate that as an effective form of stimulus," she said.

Democrats will find it easy to argue that the biggest beneficiaries of the dividend-tax break are the best-off Americans. Despite the huge stock gains of the 1990s, only about half of all American families own stock, including shares owned in retirement savings plans, such as 401(k) plans, according to analyses of Federal Reserve Board data by James Poterba, a Massachusetts Institute of Technology economist. In 2000, the Internal Revenue Service says, 63 percent of the dividends reported on individual income-tax returns went to taxpayers with adjusted gross income, or pretax income, above $100,000. Fewer than one in 10 American taxpayers makes that much money.

Already, the size of the Bush package is prompting criticism that he is too complacent about the size of the mushrooming federal deficit. "A package of this size would drive up long-term rates and have an adverse effect on the recovery as it gets going," says Yellen. She and other Clinton administration economic advisers continue to hold that their recipe worked well: Reduce the deficit, bring down long-term interest rates and spur business investment.

Democratic politicians are, however, unwilling to argue that the deficit is so important that the government ought to avoid tax cuts altogether this year. "We have to do something — take some tax cuts, make sure that they're immediate, that they help the middle class, and they have no long-range deficit problems," Sen. Harry Reid of Nevada said on NBC's "Meet the Press" Sunday. "We should do something to take care of the people who work for corporations, not the corporations themselves, necessarily."

Yellen's counterpart in the Bush White House, economist Glenn Hubbard, argues that history shows the link between deficits and interest rates is far looser than the Clinton crowd suggests.

The White House clearly sees assuring a strong economic rebound as more important than near-term deficits, arguing that a faster-growing economy is the best way to improve the government's budget balance. "What I'm worried about is job creation. And I'm worried about those who are unemployed. I am concerned about those who are looking for work but can't find work," Bush said last week at his ranch in Crawford, Texas.

One Bush adviser described the plan as a "growth insurance" plan aimed at assuring that the economy grows at greater than the 3% expected this year. The White House is worried that the prospect of war, uncertainties in financial markets, lagging capital spending and a slowdown in consumer spending might undermine the economy without some stimulus.

Varvares estimates that unemployment won't fall until the economy, which barely grew at all in the just-ended fourth quarter, grows by about 3.3% a year.

The Bush plan is also expected to include aid to states, currently battered by budget problems, probably with a one-time $10 billion infusion of federal aid. State revenue has dropped precipitously with the sluggish economy, as has federal revenue. But unlike the federal government, most states can't run deficits, thus requiring them to raise taxes or cut government spending — and counteracting, to some degree, the expansionary effect of a Bush tax plan.

But final details on this part of his plan are not yet available. Under one scenario, the money would be required to be spent on job-training programs tied to unemployment-benefit programs. But administration officials acknowledge that the funds could well end up helping governors ease other budget needs, in part because of the flexibility many states have in moving funds around.

Separately, the Bush administration is also planning on pumping up spending on transportation and infrastructure in the budget for the coming fiscal year, which should also aide state coffers. But it isn't clear how much of that is simply relabelling spending that was already in budget blueprints and how much amounts to new initiatives.

Much of the stimulus in the Bush plan would come from moving up the effective date of individual tax-rate cuts approved in 2001, but not set to take effect until after 2003. Currently, taxpayers in the 27%, 30% and 35% marginal-income-tax brackets are scheduled for a rate cut of one percentage point in 2004 and another percentage point in 2006. The president is expected to move up some of those tax cuts. One possibility: taxpayers might receive the full two-percentage-point reduction in 2004. Another possibility: the dates for the one-percentage-point decrease would be moved to 2004 and 2003.

High earners pay 38.6% on each dollar of income over a certain amount — for 2003, it's $311,950. That rate is scheduled to drop to 37.6% in 2004 and 35% in 2006. Initially, the White House decided not to accelerate tax cuts for these high-income taxpayers as a way to reduce criticism that the plan was tilted to the wealthy. But in the past week, after stinging criticism from conservatives, the White House changed course. Under the new plan, the top rate would probably drop to 35% in 2004, rather than 2006 as currently scheduled. It's unclear whether the rate would be reduced to 37.6% in 2003.

White House economists argued that the top rate payers include many small-business owners, who would be encouraged by the rate drop to boost investment and spending. President Bush eventually found that argument persuasive, administration officials say. The president "believes people should not be denied tax relief because they are successful," says White House spokesman Ari Fleischer. "This is a classic difference between the two parties and we welcome it." Bush is also looking at ways to make sure that those who get rate cuts don't wind up actually paying more in taxes because they get caught under the so-called alternative minimum tax. That levy was created in 1986 to ensure wealthy taxpayers can't claim so many preferences that they wipe out their federal liability. But the minimum tax has never been adjusted for inflation, and is now hitting increasing numbers of middle-income Americans, sharply raising the tax bills of some.

Fixing the problem would be too costly to handle in the current plan, administration officials said. Instead, they want to make sure that new tax changes don't make the problem worse.

To undermine criticism that its plan is too focused on the wealthy, the White House is also planning rebates, primarily a $400 rebate check for parents. That would be accomplished by expanding the child credit to $1,000 next year from the current $600, a change now scheduled to occur gradually over the remainder of the decade.

The child credit is awarded to parents of children 16 and under, but couples quickly lose the benefit of the credit when their earnings exceed $110,000.

In addition, Bush is considering a separate change that would allow for some form of rebate to the lowest-income Americans by speeding up an income-tax break scheduled for 2008. In that year, the amount of income that is taxed at the lowest, 10% rate, increases to $14,000 for a married couple, from $12,000.

Republican senators on Sunday television-news shows were already beginning their defense of the Bush plan from the Democratic attacks. Sen. Don Nickles of Oklahoma accused Democrats of "class warfare," and said, "The wealthy are paying most of the taxes. You ought to have tax cuts for taxpayers." Sen. Nickles argued that eliminating the "double taxation on dividends" would improve the pace of growth in the economy and create jobs, thus benefiting lower and middle workers. " If you encourage people to invest in the stock market you're going to have an increase in stock values," he says. "That will help everybody."

Contributing: Shailagh Murray