Reagan's Second Round of Tax Cuts Became Law On This Date

On October 22, 1986, President Ronald Reagan signed the Tax Reform Act of 1986 into law, lowering income tax rates and consolidating tax brackets while also eliminating deductions. The legislation dramatically changed America’s tax code and was the most significant overhaul the tax code had undergone for decades prior to the Trump administration's tax reform in 2017.

Why did it come up?

When Ronald Reagan ran for president in 1980, he defeated Jimmy Carter in an election that was heavily focused on economic issues. The U.S. was experiencing what’s known as “stagflation” — meaning that unemployment and inflation were both rising — and the economy wasn’t showing signs of improving.

Reagan advanced a platform that called for cutting income tax rates across-the-board while simplifying the tax code by reducing the number tax brackets. Shortly after taking office as president, he enacted his first round of tax cuts in 1981, which reduced the number of income tax brackets from 25 to 14 and lowered the top income tax rate from 70 percent to 50 percent.

By the time he ran for reelection, the American economy began to rebound and Reagan campaigned for further tax cuts, ultimately riding that momentum to a landslide victory over Walter Mondale in 1984.

What did it do?

Much of 1985 was spent drafting the tax cut package, which was introduced by (now retired) Rep. Dan Rostenkowski (D-IL). The House passed it by voice vote in December before the Senate passed an amended version in June by a 97-3 margin. After the conference committee ironed out the differences in September 1986, Congress passed the revised bill with bipartisan support in both chambers as the House approving 292-136 and the Senate following suit on a 74-23 vote.

The 1986 legislation further simplified the tax code, shrinking the number of tax brackets from 14 down to two over the course of two years. The top income tax rate fell from 50 percent to 28 percent. The rate for the lowest-income Americans rose slightly from 12 percent to 15 percent, just above the level it had been prior to Reagan’s first tax plan, but lower than the rate had been between World War II and 1964.

The bill also made significant changes to the deductions available to taxpayers. The Home Mortgage Interest Deduction was increased, allowing people to deduct interest they repay on their home mortgage loan. Meanwhile deductions for consumer loans (like credit card debt) were eliminated. There were also new restrictions placed on deductions available for business depreciation and contributions to an Individual Retirement Account (IRA).

What has its impact been?

The Reagan tax cuts remain controversial to this day. Proponents note the strength of America’s economic recovery during Reagan’s administration, when the unemployment rate fell from a high of 10.8 percent to 5.4 percent and over 16 million jobs were created. On the other hand, detractors point to a marked increase in budget deficits during Reagan’s administration and argue that the tax cuts helped fuel income inequality, as the richest Americans saw their incomes grow faster than those who earned less.

Reagan’s successor in the White House, President George H.W. Bush famously broke his “read my lips, no new taxes” pledge by raising income tax rates slightly and adding a third bracket in 1991. That started a trend back toward higher rates and more brackets. President Clinton added two more brackets and raised the top rate to 39.6 percent from 31 percent. President George W. Bush added a single bracket but reduced the top rate to 35 percent, which was then raised back to the Clinton-era level by President Obama (who added a seventh bracket).

President Donald Trump worked in 2017 with a Republican Congress to enact the Tax Cuts and Jobs Act, which retained the seven bracket structure but lowered tax rates for individuals and businesses. It doubled the standard deduction to $12,000 for individuals and $24,000 for married joint filers, and doubled child tax credit to $2,000. Additionally, it capped the deduction for new mortgages at $750,000 and the state and local tax (SALT) deduction at $10,000.

Like Reagan's tax cuts, Trump's have spurred economic growth — the unemployment rate fell to 3.7 percent in September 2018, the lowest level recorded since December 1969. Also like Reagan's tax cuts, Trump's have been criticized for coinciding with increased spending and a higher deficit — which grew from $665 billion in FY2017 to $779 billion in FY2018, a trend that's expected to continue.

— Eric Revell

(Photo Credit: National Archives / Public Domain)