Tax Discussion Definitions: Revenue Neutral

A popular phrase that comes up when talking about taxes is that “____ policy is revenue neutral.” What does that mean? Revenue neutrality is when tax reforms are made and the end result doesn’t lead to an increase or decrease in revenue for the government.  The ending balance is neutral when compared to what was in place before.  This phrase is really popular, especially if you’re advocating for change without raising taxes.

However, it’s important to know that even with revenue neutrality, there are winners and losers.  If you reform a tax structure by reducing a tax, you’ll have to raise another tax to claim revenue neutrality.  Someone will be better off and another won’t be based on these changes. The Tax Foundation described this balancing act as robbing Peter to pay Paul and discusses a few examples of when states would lower certain income tax rates, but raise excise taxes to cover the difference.

For this term, neutrality portrays a sense of equality and fairness that might fly when looking at the big picture of a budget, but doesn’t pass muster when looking at the changes made to get there.   Even though the overall tax burdens haven’t changed, the variables to keep the neutrality have. 

Also, neutrality doesn’t account for another important aspect of taxation--values. Jason Furman from the Brookings Institute mentioned this when testifying before U.S. Senate Committee on Finance: “In other cases, deviations from a neutral tax system reflect the goals of policymakers. The tax system is designed to encourage home ownership, contributions to charity, health insurance, and higher education and to discourage smoking and drinking alcohol.”  By focusing on the fiscal goal of revenue neutrality, lawmakers might have to change their interpretation of citizens’ values when it comes to increasing or decreasing taxes for certain activities (link to elasticity brief).

That’s a quick synopsis of revenue neutrality. Just remember that neutrality just refers to the total amount of money that government collects, not how it collects it or who’s impacted by potential tax reforms. I’d like to close with a quote from Christopher Bergin’s entry on this issue on tax.com:

“My point is that if we go down the road to tax reform now, we need to chuck the principle of revenue neutrality and replace it with a new principle; call it loser equality. Because if ‘winners’ in tax reform are those who don’t see their taxes go up or actually see their taxes go down, and ‘losers’ are the ones who see a tax increase, and we do the next round of tax reform responsibly, we are all going to need to be losers. We are all going to need to pay more taxes.

Besides, nothing is neutral.”