Tax bite: question is how big

A major tax increase may be politically distasteful, but it seems to be mathematically inevitable. Spending can be trimmed back only so far, says Stanley Collender, director of federal budget policy with the accounting firm of Touche Ross & Co. ``There's not more than $50 billion to cut,'' he says. ``Even in Washington, you can't erase a $148 billion deficit with $50 billion.''

The wild ride in the stock market, combined with growing pressure from foreign trading partners, has finally brought the message home: To reduce the budget deficit, the United States has to raise taxes. Now President Reagan, who earlier this month said that Congress would pass a tax increase ``over my dead body,'' is sitting down with legislators to do just that.

Initially, Congress and the Reagan administration will look at nickel-and-dime ways to raise revenues: a user fee here, an accounting change there, an extension of an excise tax somewhere else. The Gramm Rudman deadline for cutting $23 billion out of the deficit is less than a month away, so most tax-watchers expect the government to shave spending by a minimum. That would mean about $12 billion in new taxes.

With 1988 an election year, Congress is unlikely to pass a major tax increase next year. But in 1989, it will have to begin considering a number of far-reaching options, economists and congressional tax writers say.

These include some kind of tax on consumption, such as a national sales tax or a value-added tax; an increase in the top tax rate for the wealthiest individuals; a smaller but across-the-board tax rate increase for every individual and business; and expanding the number of rates from the current two brackets to, say, four. How deficits vanished in the past

Today's deficit-erasers face a daunting task, says John Witte, author of ``The Politics and Development of the Federal Income Tax.'' They cannot raise revenues in the same easy ways their predecessors did. In years past - especially the big deficit years after the two world wars and the Korean War - the government had basically four ways to make the red ink go away. First, Dr. Witte says, ``They kept the rates the same and let the economy grow.''

Second, payroll-tax revenues swelled as more people came into the work force. When the ranks of employees leveled off, the government raised the social security tax rate and the cap, or maximum amount, that an employer and employee could pay. Today, however, the government is reaching its limits in how much more it can raise the social security tax. Two increases are scheduled over the next four years.

The third tool was inflation. The Internal Revenue Service got more money as inflation pushed people into higher tax brackets. As part of the huge tax cut in 1981, Congress indexed about 70 percent of the tax code to inflation, which cut out inflation-induced tax increases.

Finally, the system was flexible because there were so many brackets. ``You could fiddle with the rates'' and raise a big chunk of revenue without affecting any one set of taxpayers too much, Witte says. But last year, Congress shaved the number of tax brackets from 15 to two: 15 percent and 28 percent. That eliminated much of the flexibility that legislators relied on to boost revenues.

So of the four levers, only one remains: letting the present tax code bring in more revenue in a growing economy.

Some economists, such as Alan Reynolds, chief economist at Polyconomics, a Morristown, N.J., consulting firm, say that is enough. He points out that the 1986 tax reform law increased federal tax revenue by $90 billion this year, giving the Internal Revenue Service $20 billion more than it expected. The same will happen this year, he predicts.

``If they can hold the economy together, they will get $40 billion to $50 billion more than they've estimated in fiscal year 1988,'' he says.

This would track well with the President's supply-side theories, which hold that tax cuts spur the economy and thus bring in more tax revenues. If tax writers begin tinkering with the new tax law by increasing taxes, Mr. Reynolds says, ``we run a grave risk of legislating a recession or depression.'' A recession would only deepen the deficit, since the government would have to spend more on unemployment insurance and welfare payments, while getting less in tax receipts.

Most economists say that recession is the lesser of two evils. ``There are a lot of risks in trying to move from a high deficit to a low deficit,'' says Harvey Galper, a tax economist and former director of the Office of Tax Analysis at the Treasury Department. ``But the bigger risk is not dealing with the deficit.''

Inching up rates

Economists, who have been crying in the wind for years, are finally getting a hearing. These are some of the ways they would lower the deficit:

``I'd raise rates one to two points for everyone,'' says Joseph Pechman, a senior fellow at the Brookings Institution and author of ``Federal Tax Policy.''

By edging the individual rates to 16 percent and 29 percent, and the maximum corporate rate to 36 percent, the government would bring in an extra $30 billion a year, he estimates.

Raising the top individual rate to, say, 35 percent, and leaving the lower rate alone is more appealing to the Democratically controlled House and Senate, says David Wyss, senior financial economist at Data Resources Inc.

``They could sell it as a trade-off by cutting the capital gains rate,'' which benefits the higher-income taxpayers, who have more investments than the average taxpayer, he says. Dr. Wyss says the government would net an extra $15 billion to $20 billion a year with this trade-off.

Congress may also decide to restore some of the tax brackets slashed in 1985. Witte at the University of Wisconsin says Congress needs to restore some of the code's flexibility by putting in a couple of more brackets.

``Reagan has proved that the politically popular move is to lower tax rates, not increase them,'' says Gerald Brannon, editorial page editor of Tax Notes. Legislators are ``scared witless'' about touching the rates, he adds.

A more feasible option, he and others say, is some kind of consumption tax, like a national sales tax or a value-added tax, which taxes a product at each stage of production. The Congressional Budget Office estimates that a 5 percent tax on everything - goods and services - would nab the government $110 billion a year by 1992. A more limited and realistic tax - exempting, say, food, housing, and medical expenses - would bring in $65 billion a year by 1992.

$10 to see a tree

There are other ways to raise revenues, such as excise taxes. One option that is currently out of favor on Capitol Hill - but which many tax writers and economists say will eventually come to pass - is raising the so-called ``sin tax'' on products like alcohol and tobacco. That could bring in an additional $10 billion a year, Wyss calculates. Currently, the only excise tax that both the House and Senate can agree on is extending the 3 percent telephone tax.

Then there are user fees. The IRS could start charging a few hundred dollars to give an opinion to taxpayers, which the Senate figures would bring in $200 million over three years. The President wants to charge for Coast Guard services, and to expand the entrance fees to national parks to $10. In the spirit of the times, Congress wants to charge foreign countries for escorting their oil tankers through the Persian Gulf, which could net $95 million over a year's time.

The President, ever a big privatizer, wants to sell off government assets: petroleum reserves, government loans, and the like. These couldn't go toward shrinking the $23 billion mandated by Gramm-Rudman, but they could be counted once that target was met.

There's one revenue raiser that, more than any other, would strike fear in the heart of the average taxpayer: audits. The government appears bent on enforcement, which is expected to pry an extra $2.4 billion from reluctant fingers.