Tax reform 2.0: Solving the ‘skills gap’ with one weird trick

Congressional Republicans and President Trump made news recently by suggesting a second round of tax reforms. But they’re probably unaware of one simple change — a reform so uncontroversial and bipartisan that it might lull you to sleep — that would lead to greater individual opportunity and long-run economic growth: We should make investments in worker training tax deductible.

Under current law companies can claim tax deductions for the cost of doing business, from paper clips and computers to worker compensation. The problem is that the tax code limits how companies can invest in people.

{mosads}More specifically, companies are not allowed to treat the cost of a worker’s training as a tax-deductible business expense if it enables the worker to do a job they were previously unqualified for. This limits the ability of companies to hire eager-to-learn workers and train them from the ground up. It also inhibits workers from transitioning into different careers later in life.

As a result, workers must already have most of the skills needed just to be considered for a job. They face a harder time finding employment and employers have more trouble filling jobs. The result is less dynamism in the labor market, stifling economic growth and limiting individual opportunity.

I testified about this issue — and how it could solve the so-called “skills gap” in the job market — last year before members of the House Small Business Committee. My research suggests that the definition of the skills gap changes based on who you talk to. Some employers say that there’s a lack of “soft skills” like effective interpersonal communication and personal responsibility. Others argue that “functional skills” like critical thinking or writing proficiency are missing. And the largest complaint is that job applicants lack the specific technical knowledge needed for a particular job.

But all of these problems could be remedied by empowering companies to invest in their workers in the same way that they invest in factory machines and office computers. Leveling the playing field between different kinds of productivity-enhancing investments has three major benefits.

First, this idea has the potential to eliminate the skills gap. If an employer wants an employee with a particular set of skills, she can invest in an enthusiastic-but-unqualified candidate, rather than fruitlessly searching for the “just right” Goldilocks job applicant. This is beneficial to both the job-seeker and the employer.

Second, enabling greater investment in training is likely to benefit workers more than investments in physical assets. A worker owns his own skills and can carry them from job to job, meaning that his productivity — and therefore, his earnings — is less dependent on the tools provided by his employer.

Third, more investment in training could lead to accelerating economic growth through steady increases in worker productivity. A physical asset like a semi-truck is generally most valuable at the beginning of service before the wear and tear from ordinary usage degrades its productive capacity. A worker, on the other hand, rises in value over time by engaging in “learning-by-doing,” improving on previous skills and corresponding productivity.

A reasonable counterargument could be that the federal budget is already in disarray and that the last thing we need is lower tax revenue and thus more government debt. But that’s precisely the silver lining here: Congress could simply re-purpose the $17 billion already spent each year by the various well-intentioned but ultimately unsuccessful federally-funded training programs. In fact, the White House is already looking for proposals to use this funding more effectively.

Importantly, we should avoid creating yet another federal job training program. These programs struggle because it’s hard to connect with job-seekers and it’s difficult to tailor the training to employers’ specific needs. A tax deduction for training costs would be more effective because it removes the middleman, empowering the companies who will actually use the training to invest in the exact worker skills they need.

As opposed to most click-bait internet advertisements, there really is “one weird trick” that could fix the skills gap. It’s really just about creating equality in the tax code for different kinds of business investments. 

Doing so would benefit workers by improving their productivity (and subsequent compensation), their likelihood of being hired, their ability to change careers, and their overall autonomy. At the same time, companies would have greater access to the exact skills they need. This will lead to increased national productivity, better ability to compete in international markets, and faster economic growth.

Michael Farren is a research fellow with the Mercatus Center at George Mason University.