A Steady-State Analysis of Proposals to Reduce the Tax on Saving: Working Paper 2006-04

Working Paper
February 10, 2006

Paul Burnham

This paper sets forth a stylized model for estimating the “steady-state” revenue effects of tax proposals designed to affect saving. A steady state occurs when the system of contributions and withdrawals has completed a full life cycle. The model estimates steady-state revenue yields per dollar contributed under four different systems of taxing saving: fully taxing it, allowing a deduction for contributions, allowing tax-free withdrawals, and allowing temporary deferral of investment income. The model then applies those revenue yields to estimates of how savings would be shifted among systems under a given proposal. The paper uses the President’s 2006 propos al to allow $5,000 annual contributions to lifetime savings accounts (LSAs) to illustrate the application of the model. It concludes that the annual cost of the LSA proposal (including several other smaller proposals) in the steady state will be $17.0 billion ($19.9 billion, if the Economic Growth and Tax Relief Reconciliation Act of 2001 were to expire).