The impending “fiscal cliff,” a combination of tax increases and spending cuts that will go into effect in January unless Congress passes a budget deal, will affect everyone who pays income tax (and even some who don’t). But are you unsure about exactly what it is? What does it entail? What are the potential consequences? Well, we’ve compiled everything you need to know.
Here’s what we know that you need to know.
First, the name.
While speaking before the House Financial Services Committee in February, Chairman of the U.S. Federal Reserve Ben Bernanke warned that Congress must agree on a budget deal by January 1, 2013, or the U.S. will face a “massive fiscal cliff of large spending cuts and tax increases.” And thus the term “fiscal cliff” was born.
Next, the issues.
At the center of the “fiscal cliff” is the expiration of the Bush-era tax cuts.
You may recall that these tax cuts were originally set to expire at the end of 2010 but were extended through 2012 as part of a deal reached between President Obama and the Republican-controlled House. The deal involved an extension of both the Bush tax cuts and long-term unemployment benefits for out-of-work Americans as well as a one-year reduction in the Social Security employee payroll tax (which Congress ended up extending through 2012).
Then in 2011 there was the infamous debt ceiling crisis. Democrats wanted to raise the ceiling and Republicans refused. As a result of this fight, Congress passed the Budget Control Act of 2011 which called for the formation of the Joint Select Committee on Deficit Reduction (i.e. the “super committee”) to come up with a plan to deal with the deficit.
Here’s where it gets tricky.
The 2011 Budget Control Act calls for across-the-board spending cuts (also known as “sequestrations”) to defense and domestic programs — which the CBO puts at about $85 billion — should the “super committee” fail to come up with a deficit-reduction plan. Someone thought that spending cuts of this magnitude would help force an agreement.
Obviously, that didn’t happen.
We’re staring down these massive spending cuts and tax increases because Congress couldn’t agree on a deficit-reduction plan and someone had the bright idea of imposing automatic spending cuts if they failed to do so.