[House Hearing, 105 Congress]
[From the U.S. Government Publishing Office]



 
                        REDUCING THE TAX BURDEN

=======================================================================

                                HEARINGS

                               before the

                      COMMITTEE ON WAYS AND MEANS
                        HOUSE OF REPRESENTATIVES

                       ONE HUNDRED FIFTH CONGRESS

                             SECOND SESSION

                               __________

                  JANUARY 28, FEBRUARY 4 AND 12, 1998

                               __________

                             Serial 105-97

                               __________

         Printed for the use of the Committee on Ways and Means


                              


                    U.S. GOVERNMENT PRINTING OFFICE
60-897CC                    WASHINGTON : 2000







                      COMMITTEE ON WAYS AND MEANS

                      BILL ARCHER, Texas, Chairman

PHILIP M. CRANE, Illinois            CHARLES B. RANGEL, New York
BILL THOMAS, California              FORTNEY PETE STARK, California
E. CLAY SHAW, Jr., Florida           ROBERT T. MATSUI, California
NANCY L. JOHNSON, Connecticut        BARBARA B. KENNELLY, Connecticut
JIM BUNNING, Kentucky                WILLIAM J. COYNE, Pennsylvania
AMO HOUGHTON, New York               SANDER M. LEVIN, Michigan
WALLY HERGER, California             BENJAMIN L. CARDIN, Maryland
JIM McCRERY, Louisiana               JIM McDERMOTT, Washington
DAVE CAMP, Michigan                  GERALD D. KLECZKA, Wisconsin
JIM RAMSTAD, Minnesota               JOHN LEWIS, Georgia
JIM NUSSLE, Iowa                     RICHARD E. NEAL, Massachusetts
SAM JOHNSON, Texas                   MICHAEL R. McNULTY, New York
JENNIFER DUNN, Washington            WILLIAM J. JEFFERSON, Louisiana
MAC COLLINS, Georgia                 JOHN S. TANNER, Tennessee
ROB PORTMAN, Ohio                    XAVIER BECERRA, California
PHILIP S. ENGLISH, Pennsylvania      KAREN L. THURMAN, Florida
JOHN ENSIGN, Nevada
JON CHRISTENSEN, Nebraska
WES WATKINS, Oklahoma
J.D. HAYWORTH, Arizona
JERRY WELLER, Illinois
KENNY HULSHOF, Missouri

                     A.L. Singleton, Chief of Staff

                  Janice Mays, Minority Chief Counsel




Pursuant to clause 2(e)(4) of Rule XI of the Rules of the House, public 
hearing records of the Committee on Ways and Means are also published 
in electronic form. The printed hearing record remains the official 
version. Because electronic submissions are used to prepare both 
printed and electronic versions of the hearing record, the process of 
converting between various electronic formats may introduce 
unintentional errors or omissions. Such occurrences are inherent in the 
current publication process and should diminish as the process is 
further refined.





                            C O N T E N T S

                               __________

                                                                   Page

Advisories announcing the hearing................................     2

                               WITNESSES

Congressional Budget Office, June E. O'Neill, Director...........   202

                                 ______

American Council for Capital Formation, Mark Bloomfield..........   264
American Family Business Institute, Harold I. Apolinsky..........   112
American Farm Bureau Federation:
    Carl B. Loop, Jr.............................................   109
    Dean Kleckner................................................   305
American Forest & Paper Association, Douglas P. Stinson..........   125
American Institute of Certified Public Accountants:
    David Lifson.................................................    69
    Michael Mares................................................   170
American Tree Farm System, Douglas P. Stinson....................   125
Apolinsky, Harold I., American Family Business Institute, and 
  Small Business Council of America..............................   112
Associated General Contractors of America, Richard Forrestel, Jr.   104
Bartlett, Bruce R., National Center for Policy Analysis..........    75
Beach, William W., Heritage Foundation...........................   137
Blair, Robert A., S Corporation Association......................   237
Bloomfield, Mark, American Council for Capital Formation.........   264
CATO Institute, Stephen Moore....................................   230
Clements, Christopher and Kimberly, National Beer Wholesalers 
  Association, and Golden Eagle Distributors, Inc................    98
Cold Spring Construction Company, Richard Forrestel, Jr..........   104
Communicating for Agriculture, Wayne Nelson......................   243
Cowlitz Ridge Tree Farm, Douglas P. Stinson......................   125
Cox, Hon. Christopher, a Representative in Congress from the 
  State of California............................................    93
Entin, Stephen J., Institute for Research on the Economics of 
  Taxation.......................................................   276
Feenberg, Daniel, National Bureau of Economic Research...........    65
Florida Farm Bureau Federation, Carl B. Loop, Jr.................   109
Forest Industries Council on Taxation, Douglas P. Stinson........   125
Forrestel, Richard, Jr., Associated General Contractors of 
  America, and Cold Spring Construction Company..................   104
Foster, J.D., Tax Foundation.....................................   157
Golden Eagle Distributors, Inc., Christopher and Kimberly 
  Clements.......................................................    98
Graetz, Michael J., Yale Law School..............................    48
Hannay, Roger, National Association of Manufacturers, and Hannay 
  Reels, Inc.....................................................   134
Hartman, David A., Institute for Budget & Tax Limitation, and 
  Hartland Banks, N.A............................................   309
Herger, Hon. Wally, a Representative in Congress from the State 
  of California..................................................    15
Hulshof, Hon. Kenny C., a Representative in Congress from the 
  State of Missouri..............................................   253
Institute for Budget & Tax Limitation, David A. Hartman..........   309
Institute for Research on the Economics of Taxation, Stephen J. 
  Entin..........................................................   276
Kelly, W. Thomas, Savers & Investors League......................   326
Kies, Kenneth J., Price Waterhouse LLP...........................   187
Kleckner, Dean, American Farm Bureau Federation..................   305
Kucinich, Hon. Dennis J., a Representative in Congress from the 
  State of Ohio..................................................   256
Lifson, David, American Institute of Certified Public Accountants    69


Loop, Carl B., Jr., American Farm Bureau Federation, Florida Farm 
  Bureau Federation, and Loop's Nursery and Greenhouses, Inc.....   109
Mallory, Sharon, and Darryl Pierce, Straughn, IN.................    19
Mares, Michael, American Institute of Certified Public 
  Accountants....................................................   170
McCrery, Hon. Jim, a Representative in Congress from the State of 
  Louisiana......................................................    91
McIntosh, Hon. David M., a Representative in Congress from the 
  State of Indiana...............................................    18
Mizell, Jeannine, U.S. Chamber of Commerce, and Mizell Lumber and 
  Hardware Company, Inc..........................................   128
Moore, Stephen, CATO Institute...................................   230
National Association of Manufacturers, Roger Hannay..............   134
National Beer Wholesalers Association, Christopher and Kimberly 
  Clements.......................................................    98
National Bureau of Economic Research, Daniel Feenberg............    65
National Center for Policy Analysis, Bruce R. Bartlett...........    75
National Society of Accountants, and National Tax Consultants, 
  Inc., William Stevenson........................................   281
Nelson, Wayne, Communicating for Agriculture.....................   243
Regalia, Martin A., U.S. Chamber of Commerce.....................   164
Riley, Hon. Bob, a Representative in Congress from the State of 
  Alabama........................................................    37
Salmon, Hon. Matt, a Representative in Congress from the State of 
  Arizona........................................................    35
Savers & Investors League, W. Thomas Kelly.......................   326
S Corporation Association, Robert A. Blair.......................   237
Serotta, Abram, Serotta, Maddocks, Evans & Co....................   215
Small Business Council of America, Harold I. Apolinsky...........   112
Stevenson, William, National Society of Accountants, and National 
  Tax Consultants, Inc...........................................   281
Stinson, Douglas P., American Forest & Paper Association, 
  American Tree Farm System, Forest Industries Council on 
  Taxation, Washington Farm Forestry Association, and Cowlitz 
  Ridge Tree Farm................................................   125
Tax Foundation, J.D. Foster......................................   157
Thune, Hon. John R., a Representative in Congress from the State 
  of South Dakota................................................   154
U.S. Chamber of Commerce:
    Jeannine Mizell..............................................   128
    Martin A. Regalia............................................   164
Washington Farm Forestry Association, Douglas P. Stinson.........   125
Weller, Hon. Jerry, a Representative in Congress from the State 
  of Illinois....................................................    12

                       SUBMISSIONS FOR THE RECORD

American Bar Association, Section of Taxation, statement.........   338
American Trucking Associations, Inc., Robert C. Pitcher, 
  Alexandria, VA, statement......................................   344
Bond Market Association, statement...............................   346
Distribution & LTL Carriers Association, Alexandria, VA, Kevin M. 
  Williams, statement............................................   348
Institute for Research on the Economics of Taxation, Michael 
  Schuyler, statement and attachments............................   350
Johnson, Calvin H., University of Texas at Austin, School of Law, 
  letter and attachments.........................................   365
Kennelly, Hon. Barbara B., a Representative in Congress from the 
  State of Connecticut...........................................     9
Kleczka, Hon. Gerald D., a Representative in Congress from the 
  State of Wisconsin.............................................    11
National Air Transportation Association, Alexandria, VA, 
  statement......................................................   375
National Cattlemen's Beef Association, Clark S. Willingham, 
  statement......................................................   376
North Dakota Public Service Commission, Bruce Hagen, statement...   377
White House Conference on Small Business, statement..............   378


                        REDUCING THE TAX BURDEN

                              ----------                              


                      WEDNESDAY, JANUARY 28, 1998

                          House of Representatives,
                               Committee on Ways and Means,
                                                    Washington, DC.
    The Committee met, pursuant to notice, at 11:35 a.m., in 
room 1100, Longworth House Office Building, Hon. Bill Archer 
(Chairman of the Committee) presiding.
    [The advisories announcing the hearings follow:]


ADVISORY

FROM THE 
COMMITTEE
 ON WAYS 
AND 
MEANS

                                                CONTACT: (202) 225-1721
FOR IMMEDIATE RELEASE

January 21, 1998

No. FC-10

                   Archer Announces Hearing Series on

                        Reducing the Tax Burden

    Congressman Bill Archer (R-TX), Chairman of the Committee on Ways 
and Means, today announced that the Committee will hold a hearing 
series on proposals to reduce the Federal tax burden on the American 
public. The hearing will begin on Wednesday, January 28, and be 
continued on Wednesday, February 4, and Thursday, February 12, 1998, in 
the main Committee hearing room, 1100 Longworth House Office Building, 
beginning at 10:00 a.m. each day. The first hearing day will address 
proposals intended to correct perceived unfairness in the tax code, 
focusing on the ``marriage tax penalty,'' and the estate and gift tax 
(or ``death tax'').
      
    Oral testimony for January 28th will be from invited witnesses 
only. Both invited and public witnesses will have the opportunity to 
testify on Feb 4th and 12th. Any individual or organization not 
scheduled for an oral appearance may submit a written statement for 
consideration by the Committee or for inclusion in the printed record 
of the hearing.
      

BACKGROUND:

      
    The Federal tax burden, as a percentage of Gross Domestic Product, 
has been rising in recent years. It is currently 19.9 percent, a height 
not reached since World War II. The annual Federal budget deficit has 
declined greatly over the past several years, and current projections 
show years of budget surpluses. The rising tax burden and improved 
fiscal outlook have elicited various tax reduction proposals. This 
hearing series is designed to explore some of these proposals.
      
    In announcing the hearing, Chairman Archer stated: ``If the 
politicians in Washington exercise restraint, we soon may find 
ourselves in a post-deficit era, where our greatest challenges will be 
social and moral, not economic. I believe the era we're entering will 
test how big a government the people want, or whether they want a 
smaller, less taxing government that enhances individual power, 
freedom, and opportunity, strengthening our moral fabric, freeing 
families to provide more for themselves, their neighbors and their 
communities. We must care for each other more, and tax each other 
less.''
      

FOCUS OF THE HEARING:

      
    The first hearing day will address proposals intended to rectify 
perceived unfair provisions in the tax code. It will focus on the 
``marriage tax penalty'' and the estate and gift tax (or ``death 
tax''). The second day (February 4th) will consider tax rates: What are 
they and what should they be? That session also will address 
alternative minimum tax relief for individuals, proposals to reduce 
Federal income or payroll taxes, and provisions in the tax code that 
operate as ``hidden rates'' and which cause effective tax rates to 
exceed statutory rates. The third day (February 12th) will review new 
savings incentives and likely will address modifications to the new 
capital gains law, such as eliminating the 18-month holding period for 
the new 10 and 20 percent capital gain rates, and proposals to provide 
an exclusion for interest and dividend income. The hearing may be 
continued on additional days on other tax reduction topics.
      

DETAILS FOR SUBMISSIONS OF REQUESTS TO BE HEARD:

      
    Requests to be heard on February 4th and February 12th must be made 
by telephone to Traci Altman or Bradley Schreiber at (202) 225-1721 no 
later than the close of business, Thursday, January 29, 1998. The 
telephone request should be followed by a formal written request to 
A.L. Singleton, Chief of Staff, Committee on Ways and Means, U.S. House 
of Representatives, 1102 Longworth House Office Building, Washington, 
D.C. 20515. The staff of the Committee will notify by telephone those 
scheduled to appear as soon as possible after the filing deadline. Any 
questions concerning a scheduled appearance should be directed to the 
Committee staff at (202) 225-1721.
      
    In view of the limited time available to hear witnesses, the 
Committee may not be able to accommodate all requests to be heard. 
Those persons and organizations not scheduled for an oral appearance 
are encouraged to submit written statements for the record of the 
hearing. All persons requesting to be heard, whether or not they are 
scheduled for oral testimony, will be notified as soon as possible 
after the filing deadline.
      
    Witnesses scheduled to present oral testimony are required to 
summarize briefly their written statements in no more than five 
minutes. THE FIVE-MINUTE RULE WILL BE STRICTLY ENFORCED. The full 
written statement of each witness will be included in the printed 
record, in accordance with House Rules.
      
    In order to assure the most productive use of the limited amount of 
time available to question witnesses, all witnesses scheduled to appear 
before the Committee are required to submit 300 copies of their 
prepared statement and an IBM compatible 3.5-inch diskette in ASCII DOS 
Text or WordPerfect 5.1 format, for review by Members prior to the 
hearing. Testimony should arrive at the Committee office, room 1102 
Longworth House Office Building, 48 hours prior to each hearing day (no 
later than 10:00 a.m.).
      

WRITTEN STATEMENTS IN LIEU OF PERSONAL APPEARANCE:

      
    Any person or organization wishing to submit a written statement 
for the printed record of the hearing should submit at least six (6) 
single-space legal-size copies of their statement, along with an IBM 
compatible 3.5-inch diskette in ASCII DOS Text or WordPerfect 5.1 
format only, with their name, address, and hearing date noted on a 
label, by the close of business, Wednesday, March 11, 1998, to A.L. 
Singleton, Chief of Staff, Committee on Ways and Means, U.S. House of 
Representatives, 1102 Longworth House Office Building, Washington, D.C. 
20515. If those filing written statements wish to have their statements 
distributed to the press and interested public at the hearing, they may 
deliver 200 additional copies for this purpose to the Committee office, 
room 1102 Longworth House Office Building, at least one hour before the 
hearing begins.
      

FORMATTING REQUIREMENTS:

      
    Each statement presented for printing to the Committee by a 
witness, any written statement or exhibit submitted for the printed 
record or any written comments in response to a request for written 
comments must conform to the guidelines listed below. Any statement or 
exhibit not in compliance with these guidelines will not be printed, 
but will be maintained in the Committee files for review and use by the 
Committee.
      
    1. All statements and any accompanying exhibits for printing must 
be typed in single space on legal-size paper and may not exceed a total 
of 10 pages including attachments. At the same time written statements 
are submitted to the Committee, witnesses are now requested to submit 
their statements on an IBM compatible 3.5-inch diskette in ASCII DOS 
Text or WordPerfect 5.1 format. Witnesses are advised that the 
Committee will rely on electronic submissions for printing the official 
hearing record.
      
    2. Copies of whole documents submitted as exhibit material will not 
be accepted for printing. Instead, exhibit material should be 
referenced and quoted or paraphrased. All exhibit material not meeting 
these specifications will be maintained in the Committee files for 
review and use by the Committee.
      
    3. A witness appearing at a public hearing, or submitting a 
statement for the record of a public hearing, or submitting written 
comments in response to a published request for comments by the 
Committee, must include on his statement or submission a list of all 
clients, persons, or organizations on whose behalf the witness appears.
      
    4. A supplemental sheet must accompany each statement listing the 
name, full address, a telephone number where the witness or the 
designated representative may be reached and a topical outline or 
summary of the comments and recommendations in the full statement. This 
supplemental sheet will not be included in the printed record.
      
    The above restrictions and limitations apply only to material being 
submitted for printing. Statements and exhibits or supplementary 
material submitted solely for distribution to the Members, the press 
and the public during the course of a public hearing may be submitted 
in other forms.
      

    Note: All Committee advisories and news releases are available on 
the World Wide Web at `HTTP://WWW.HOUSE.GOV/WAYS__MEANS/'.
      

    The Committee seeks to make its facilities accessible to persons 
with disabilities. If you are in need of special accommodations, please 
call 202-225-1721 or 202-226-3411 TTD/TTY in advance of the event (four 
business days notice is requested). Questions with regard to special 
accommodation needs in general (including availability of Committee 
materials in alternative formats) may be directed to the Committee as 
noted above.
      

                                


                      ***NOTICE--CHANGE IN TIME***

ADVISORY

FROM THE 
COMMITTEE
 ON WAYS 
AND 
MEANS

                                                CONTACT: (202) 225-1721
FOR IMMEDIATE RELEASE

January 23, 1998

No. FC-10-Revised

               Time Change for Full Committee Hearing on

                      Wednesday, January 28, 1998,

                       on Reducing the Tax Burden

    Congressman Bill Archer (R-TX), Chairman of the Committee on Ways 
and Means, today announced that the full Committee hearing on reducing 
the tax burden, previously scheduled for Wednesday, January 28, 1998, 
at 10:00 a.m., in the main Committee hearing room, 1100 Longworth House 
Office Building, will begin instead at 11:30 a.m.
      
    All other details for the hearing remain the same. (See full 
Committee press release No. FC-10, dated January 21, 1998.)
      

                                


    Chairman Archer. The Committee will come to order. I would 
like our guests and staff to take seats as quickly as possible 
so that we can commence.
    Today is the first in a series of hearings to examine 
proposals to reduce the tax burden on individuals while 
correcting perceived unfairness in the Tax Code. This will 
probably be a neverending task as long as we have the income 
tax, but we must proceed to do the best that we can.
    The tax burden on the American people is the highest in our 
Nation's peacetime history. The social and moral consequences 
of high taxation on America's families are devastating. 
Families are struggling today because the government is taking 
their money before they have a chance to invest it in 
themselves, their children, and their communities. It's money 
that is denied to workers, diminishing their ability to pay for 
their own childcare needs, healthcare needs, or to prepare for 
their retirement years in comfort and security. American 
workers are caught in a tax trap. The harder they work, the 
longer they work, the more they pay.
    Can the people in the back of the room hear me? This is 
very important. I want everyone to be able to hear.
    Mr. McDermott. There's nothing wrong with the speakers down 
here.
    Chairman Archer. I can hear you very well.
    Be sure that the PA system works the same for Charlie 
Rangel when it's his turn. [Laughter.]
    American workers are truly caught in a tax trap today in 
the United States because the longer they work, the harder they 
work, the more they pay. That is wrong. It shouldn't be that 
way. I personally believe that we must care for each other more 
and tax each other less. That is why, to strengthen families 
and children while protecting against big government, we must 
reduce the debt and the record high tax burden on the American 
people. We must remember that when we pay down the debt, that 
helps preserve Social Security without forcing Americans to pay 
record high taxes.
    There is room both to save Social Security and to protect 
Americans from high taxes. Yes, Congress must shore up Social 
Security, and we will do so. But we must also look at the ways 
our existing Tax Code unfairly prevents individuals from saving 
more of their income to reach their retirement goals. If we 
agree to the President's request to maintain the high tax 
status quo, we will perpetuate a marriage penalty on 21 million 
couples. We will force more than 25 million Americans, many of 
whom make as little as $26,000 a year, into higher tax 
brackets.
    The first focus of this morning's hearing will be the 
marriage tax penalty. Based on a recent CBO study, matrimony 
translates into an average of $1,400 in additional taxes for 
some 42 percent of American couples. The marriage tax penalty 
is a well-known topic on Capitol Hill. As many will recall, the 
Contract With America and the Balanced Budget Act of 1995 
contained provisions to lessen the tax bite on working married 
couples. This relief suffered under the veto pen of the 
President, so it is important that we turn our attention once 
again to what 21 million married couples perceive as unfair. I 
am pleased that we are joined this morning by Sharon Mallory 
and Darryl Pierce of Indiana, who will share with the Committee 
their personal experience with the marriage penalty.
    Today's hearing will also focus on the death tax, which 
with its estate, gift, and generation-skipping components, can 
cause the tax collector to compound the tragedy of a family 
death by taking over half of the deceased person's lifetime 
savings. I must add, that's only the beginning. As you get into 
the later years of your life, if you continue to produce and to 
earn more, you will have up to 44 percent in income tax taken 
out of your earnings. The remaining amount will be taxed at 55 
percent, so that your heirs, your children, will receive only 
25 percent of what you have worked very hard in your later 
years to be able to accomplish. The death tax forces the sale 
or reorganization of family-owned businesses and it costs jobs. 
It creates development pressure on farm and ranch land, and 
contributes to the loss of open space.
    Last year we were able to take a first step to providing 
relief from the death tax. We convinced the Clinton 
administration to support death tax relief after they initially 
accused those who sought such reductions as being ``selfish.''
    As I said earlier, taxes are at a record high level. I hope 
no one will defend the high tax status quo. The purpose of 
these hearings is to listen to various tax relief proposals so 
the Committee can determine which taxes should be reduced. I 
intend to be conservative in my approach. I will resist the 
temptation to over promise. We are still within the constraints 
of reducing the deficit and keeping a balanced budget. Yes, 
there is room to pay down the debt and to cut taxes. But no, we 
must never let the budget be tipped out of balance again.
    Before we begin, I would like to recognize Mr. Rangel for 
any comments that he might like to make.
    Mr. Rangel. That's very kind of you, Mr. Chairman. Welcome 
back. As the Committee starts to work, I think the better we 
can understand the agenda, the more closely we can work 
together as Democrats and Republicans. I gather from what I 
have heard over the airwaves and read in the paper that your 
top priority is going to be rooting up or pulling out the IRS 
and bringing a flat tax, consumption tax or some kind of tax 
that would be even-handed across the board. If that is your 
priority, since I have been waiting for it for 3 years, do you 
have any idea whether we might get a chance to vote for that in 
this Committee? I hate to be against something when I haven't 
the slightest idea what it's going to be. Will we have a chance 
to vote on any of these simplified taxes this year?
    Chairman Archer. We would be happy to have the outward 
expressed support, Mr. Rangel, of you and the Minority on the 
Committee. I am sure we could move the bill rather rapidly when 
that occurs. The President has not seen fit to make any 
proposal for structural tax reform. So perhaps it will be left 
up totally to the Congress. It needs to be bipartisan. It can 
not be driven just by one party. It's too important to the 
lives of all the people in this country.
    Mr. Rangel. But it's hard to know which idea we're 
supporting. There are so many different ideas. You have some 
and Mr. Armey has some. They were all in the closet. So if 
someone could get organized and bring something to us, then we 
can see whether or not the bill with its simplification and its 
cost would warrant us joining together to pass it. So would 
that be done this year or are we just going to just air it out 
and let people be educated about the possibility of changing 
the system?
    Chairman Archer. I think it's very hard to predict what we 
will do in that regard this year. I do know that we will 
continue to have hearings on this issue, where all Members will 
be able to become better versed on the various reform plans and 
be able to crystallize their own opinion as to what vehicle 
they believe is the best. But at this point, I cannot 
anticipate whether we will have a markup of a bill. But I can 
anticipate this: we will have a tax relief bill within the 
current income tax of some kind this year.
    Mr. Rangel. I think then my Democratic colleagues on the 
Committee won't have to worry about the flat tax this year. We 
can concentrate on some of the ideas that the President has. 
You might have noticed, Mr. Chairman, that the President had 
any number of ideas that fell within the jurisdiction of this 
Committee. Certainly Social Security, low-income housing 
credits, expansion of Medicare, educational zones, childcare, 
school construction, and the African trade bill. My God, it 
looked like a program just designed for us.
    Now I share your concern about the marriage tax penalty and 
the death taxes and the other reduction in taxes that you have, 
but so that we might be able to plan and work more closely 
together, could you give me any idea of when you intend to see 
whether or not the President's agenda would be able to get on 
the Ways and Means calendar?
    Chairman Archer. As we move through the various items that 
are before the Committee, particularly with each individual 
Subcommittee, there will be plenty of opportunity to flush out 
all proposals and consider all options this year.
    Mr. Rangel. Welcome back, Mr. Chairman. I'm glad I won't 
have much time to deal with the flat tax, but there's so many 
other things that we could work on, I look forward to working 
with you.
    Chairman Archer. You are most welcome, Mr. Rangel. Should 
you wish to submit any proposal on your own as to what is the 
appropriate way to restructure the income tax, we would be 
pleased to have that in the hopper too.
    Mr. McDermott. Mr. Chairman.
    Chairman Archer. Yes.
    Mr. McDermott.
    Mr. McDermott. Mr. Chairman, I would like to ask unanimous 
consent to enter my statement in the record. I offered to 
eliminate the marriage tax penalty last year. I want the record 
to show that all the Republicans voted against my repeal 
proposal last year which was the same as your 1995 tax 
proposal. So it will be interesting to hear the rhetoric today 
about this whole issue as we come back to it.
    Chairman Archer. Without objection, all Members will be 
able to insert any written statement into the record at this 
point.
    [The opening statements follow:]

Opening Statement of Hon. Jim McDermott, a Representative in Congress 
from the State of Washington

    I applaud the Chairman for choosing to hold a hearing on 
the problem of the marriage penalty. This is an issue which I 
tried to address during last year's Balanced Budget debate.
    The proposal I offered last year, which I would like to 
mention today, would have eliminated the marriage penalty for 
many taxpayers by adjusting the standard deduction. It was not 
a new idea. The proposal I advocate was included in the 1995 
Budget Conference report passed by Congress. To be fair, you 
could characterize this as a bipartisan fix to the marriage 
penalty.
    The marriage penalty fix I support simply would increase 
the standard deduction for joint filers so that it equals twice 
that of single filers. The standard deduction in tax year 1997 
is $6,900 for joint returns and $4,150 for single returns. Two 
singles get a combined standard deduction of $8,300 compared to 
$6,900 for a couple--thus penalizing the couple for getting 
married. In my view, increasing the standard deduction for 
joint filers is the simplest, fairest, easiest, and most 
fiscally responsible way in which to address the structural 
marriage tax penalties within the code.
    As you can see from the attached charts to be inserted into 
the record, the fix I proposed last Congress would have 
eliminated virtually all marriage penalties, and, it even 
provides a modest bonus for one-earner families.
    The McDermott plan is progressive: Since most high-income 
taxpayers do not use the standard deduction, the Congressional 
Budget Office (CBO) has found that only 36% of the benefits 
from this type of change goes to taxpayers earning $50,000 or 
more--meaning--64% of the benefits go to couples earning less 
than $50,000/year. CBO found that other leading repeal 
proposals direct at least 65% of the benefits to those 
taxpayers earning more than $50,000/year.
    The McDermott plan is comparatively affordable: CBO 
estimates that increasing the standard deduction for joint 
filers costs roughly $4 billion/year. Estimates prepared by the 
Joint Committee on Taxation verify this finding. Meanwhile, CBO 
found other leading repeal proposals cost as much as $29 
billion/year.
    The McDermott plan is family friendly: In addition to 
eliminating the marriage penalty, the standard deduction fix 
slightly increases the marriage bonus (see charts)--making it 
more affordable for the spouses of single earners who prefer to 
have a parent stay at home to care for their child or children. 
This bonus provides a small incentive without creating a new 
program and is not excessive so that it overly penalizes 
individuals for being unmarried.
    The McDermott plan is simple compared to the problems 
raised by other repeal proposals which will force taxpayers to 
do their taxes twice in order to figure out which is the best 
choice for their family.
    In 1997, repeal of the marriage penalty was pushed aside by 
the Republican Majority. Inexplicably, in the W&M Committee, 
where roughly 20 members signed the Contract with America, my 
amendment failed. Most likely, the Majority preferred cutting 
taxes for corporations (not mentioned in their contract). In my 
view, a tactical decision was made that it was more important 
to provide tax cuts preferred by the business community (such 
as reducing the corporate AMT and corporate capital gains tax 
cuts) than it was to address the marriage penalty.
    In fact, no legislation was introduced during the 105th 
Congress to repeal the marriage penalty until after the budget 
agreement passed Congress last August.
    Now that repeal of the marriage penalty is finally being 
addressed and if it sincerely is a priority of this Congress, I 
would urge my colleagues to take a second look at my proposal 
before they rush to advocate an alternative.

  Structural Marriage Tax Penalties and Bonuses in 1997 Dollar and Percentage Amounts by which Joint Income Tax
                Liabilities Exceed those of Two Singles (Marriage Tax Bonus Shown in Parenthesis)
----------------------------------------------------------------------------------------------------------------
Income Levels   Joint Income
   ($000s)      Tax Liability         50/50              60/40               70/30                 100/0
----------------------------------------------------------------------------------------------------------------
        $20          $1,170            $210 22%            $345 42%             $378 48%           ($810) (41%)
        $25          $1,920            $210 12%            $210 12%             $384 25%           ($810) (30%)
        $30          $2,670             $210 9%             $210 9%             $269 11%           ($810) (23%)
        $35          $3,420             $210 7%             $210 7%              $210 7%         ($1,272) (27%)
        $40          $4,170             $210 5%             $210 5%              $210 5%         ($1,922) (32%)
        $50          $5,670             $210 4%             $210 4%           (252) (4%)         ($3,222) (36%)
        $60          $8,028          $1,068 15%           $1,476 6%           (304) (4%)         ($3,664) (31%)
        $75         $12,228          $1,444 13%          $1,256 11%              $281 2%         ($3,918) (24%)
       $100         $19,228           $1,444 8%           $1,444 8%            $1,152 6%         ($4,668) (19%)
----------------------------------------------------------------------------------------------------------------
Source: CRS


 McDermott Amendment Changes the Structural Marriage Tax Penalties and Bonuses: Dollar and Percentage Amounts by
    which Joint Income Tax Liabilities Exceed those of Two Singles (Marriage Tax Bonus Shown in Parenthesis)
----------------------------------------------------------------------------------------------------------------
Income Levels   Joint Income
   ($000s)      Tax Liability         50/50              60/40               70/30                 100/0
----------------------------------------------------------------------------------------------------------------
        $20            $960               $0 --            $135 16%             $108 13%         ($1,020) (52%)
        $25          $1,710               $0 --               $0 --             $174 11%         ($1,020) (37%)
        $30          $2,460               $0 --               $0 --               $59 2%         ($1,020) (29%)
        $35          $3,210               $0 --               $0 --                $0 --         ($1,482) (32%)
        $40          $3,960               $0 --               $0 --                $0 --         ($2,132) (35%)
        $50          $5,460               $0 --               $0 --          ($462) (8%)         ($3,432) (39%)
        $60          $7,636            $676 10%              $84 1%          ($696) (8%)         ($4,058) (35%)
        $75         $11,836          $1,052 10%             $864 8%          ($111) (1%)         ($4,310) (27%)
       $100         $18,836           $1,052 6%           $1,052 6%              $760 4%         ($5,060) (21%)
----------------------------------------------------------------------------------------------------------------
Source: CRS


      

                                


Statement of Hon. Barbara B. Kennelly, a Representative in Congress 
from the State of Connecticut

    Thank you, Mr. Chairman, for the opportunity to testify 
here today. As you well know, I have worked on the marriage 
penalty for many years. In fact, CBO recently completed an 
excellent report on the topic for me. For those of you who may 
not have seen it, it is entitled ``For Better or for Worse: 
Marriage and the Federal Income Tax.'' I commend it to your 
attention. Copies are available by calling CBO or my office.
    First, let me briefly summarize the problem. According to 
CBO, based on sheer numbers of returns, an estimated 42% of 
couples incurred marriage penalties in 1996, 51% received 
bonuses, and 6% paid taxes unaffected by their marital status. 
That distribution varies markedly across the income 
distribution. Only 12% of couples with incomes below $20,000 
sustained penalties and 63% received bonuses. Couples with 
incomes between $20,000 and $50,000 were somewhat more likely 
to receive bonuses than to incur penalties, whereas couples 
with incomes above $50,000 were somewhat more likely to incur 
penalties than to receive bonuses. Couples with just one earner 
never incur a marriage penalty and receive a bonus at all but 
the lowest income levels.
    Three factors have the greatest influence on whether a 
couple bears a marriage penalty or receives a marriage bonus: 
the couple's total income, the division of the income between 
husband and wife, and the presence and number of children that 
determine the filing status of unmarried individuals and 
qualify taxpayers for the EITC and personal exemption.
    The largest bonuses, measured as a percentage of income, 
occur in two cases. First, two-earner couples with one child 
and very low incomes split equally between spouses receive a 
larger EITC as the credit phases in and thus receive a bonus of 
up to 13% of their income. Second, low-income single-earner 
couples in which each spouse has one child, and for whom 
combining children into one tax unit increases the size of the 
EITC, receive bonuses of up to 11% of income. The largest 
bonuses in dollar terms--more than $5,600--go to childless one-
earner couples with incomes between $180,000 and $190,000.
    The largest penalties, measured as a percentage of income, 
are greatest for low-income couples who have several children 
and an equal division of income between spouses; the loss of 
EITC on joint returns can cost such families up to 18% of 
income. In dollar terms, the penalty resulting from difference 
in tax brackets, limitations on itemized deductions, and the 
phaseout of personal exemptions combine to impose the maximum 
penalty--more than $21, 599--on couples whose income is equally 
divided between spouses and whose taxable income exceeds 
$527,500.
    Although the prevalence of marriage penalties and bonuses 
indicates that the tax code fails to provide marriage 
neutrality, it more successful in achieving equal treatment of 
married couples with similar incomes. If couples were required 
to file individual tax returns, those with one earner would 
face substantially higher tax rates than those with two earners 
who have roughly equal incomes. Because the tax code generally 
requires couples to file jointly, those with different 
divisions of earnings between spouses incur more nearly equal 
tax rates. Marriage penalties and bonuses arise from this 
equalization of tax rates for couples with different divisions 
of earnings.
    Marriage penalties and bonuses are not deliberately 
intended to reward or punish marriage. Rather, they are the 
result of a delicate balance of disparate goals of the federal 
income tax system. The principal goals are equal treatment of 
married couples, marriage neutrality and progressive taxation 
and they are in fundamental conflict.
    Nonetheless, as two-earner couples become more prevalent, 
more and more Americans will incur marriage penalties. For this 
reason, I think it is important that we move to provide more 
equitable treatment for these working couples, consistent of 
course, with our other goals.
    Therefore, I am pleased to be here today with my friend and 
colleague, Representative Herger and support H.R. 2593. This 
bill would simply restore the pre-1986 law--the two-earner 
deduction. It would allow couples a 10% deduction for up to 
$30,000 of the lower-earning spouse's income. I offered a 
version of this as an amendment in Committee during the markup 
of the Republican Contract with America. I think it is a 
reasonable solution to a very difficult problem and would urge 
my colleagues to support H.R. 2593.
    Thank you.
      

                                


[GRAPHIC] [TIFF OMITTED] T0897.001

      

                                


    Chairman Archer. We are fortunate to have with us today 
Members of our own body, Mr. Weller, Mr. McIntosh, and Mr. 
Herger. We are happy to have you here. We would be pleased to 
hear your testimony. I have already spoken about Sharon Mallory 
and Darryl Pierce, who are coming with Congressman McIntosh.
    You might wish to further introduce them. We'll be pleased 
to receive their testimony.
    But first, Mr. Weller, we would be happy to have your 
testimony.

 STATEMENT OF HON. JERRY WELLER, A REPRESENTATIVE IN CONGRESS 
                   FROM THE STATE OF ILLINOIS

    Mr. Weller. Thank you, Mr. Chairman. First, I want to 
commend you and this Committee for conducting these hearings on 
inequities in the Tax Code, and thank you for inviting our 
colleagues to testify on clearly what is arguably our Tax 
Code's most unfair provision, the marriage tax penalty. I know 
from my conversations with you, Mr. Chairman, this has been an 
area of great concern to you over the years. I really 
appreciate your leadership in working on this issue.
    Last night, President Clinton gave his State of the Union 
address outlining many of the things he wants to do with the 
budget surplus. The surplus provided by the bipartisan budget 
agreement which cut waste, put America's fiscal house in order, 
and held Washington's feet to the fire to balance the budget 
for the first time in 28 years. While President Clinton paraded 
a long list of new spending items totalling at least $46 to $48 
billion in 30 new programs and proposals, we believe that a top 
priority should be returning the budget surplus to America's 
families as additional middle-class tax relief. This Congress 
has given more tax relief to the middle class and the working 
poor than any Congress in the last half century.
    I think the issue of the marriage tax penalty can best be 
framed by asking these questions. Do Americans feel it's fair 
that our Tax Code imposes a higher tax penalty on marriage? Do 
Americans feel it's fair that the average married working 
couple pays almost $1,400 more in taxes than a couple with 
almost identical income living together outside of marriage? Is 
it right that our Tax Code provides an incentive to get 
divorced? In fact, today the only form one can file to avoid 
the marriage tax penalty is paperwork for divorce. That's just 
wrong.
    Since 1969, our tax laws have punished married couples when 
both spouses work. For no other reason than the decision to be 
joined in holy matrimony, more than 21 million couples a year 
are penalized. They pay more in taxes than they would if they 
were single. Not only is the marriage tax penalty unfair, it's 
wrong that our Tax Code punishes society's most basic 
institution. The marriage tax penalty exacts a disproportionate 
toll on working women and low-income couples with children. In 
many cases, it's a working woman's issue.
    Let me give you an example, and there's a chart to my 
right, an example of how the marriage tax penalty unfairly 
affects middle-class, married, working couples. For example, in 
my district, I'll use an example of a machinist at the local 
Caterpillar manufacturing plant in Joliet, who makes $30,500 a 
year in salary. His wife is a tenured elementary schoolteacher, 
also bringing home an identical income of $30,500 a year in 
salary. If they both filed their taxes as singles, after 
standard deductions and exemptions, as individuals they would 
pay in the 15 percent tax bracket. But if they choose to live 
their lives in holy matrimony and now file jointly, their 
combined income is $61,000, and pushes them into a higher tax 
bracket of 28 percent, producing a marriage tax penalty of 
$1,400 in higher taxes.
    On average, America's married working couples pay $1,400 
more a year in taxes than individuals with the same incomes. 
That's serious money. Every day we get closer to April 15, more 
married, working couples will be realizing that they are 
suffering the marriage tax penalty, and will be looking to us 
to do something about it. Why? Because if you think of it in 
terms that mean something to the folks back home, $1,400 is a 
downpayment on a house, several months worth of car payments, 1 
year's tuition at a local community college, or several months 
worth of quality childcare at a local daycare center.
    To that end, Congressman David McIntosh and I have authored 
the Marriage Tax Elimination Act. It would allow married 
couples a choice in filing their income taxes, either jointly 
or as individuals, whichever way lets them keep more of their 
money. Our bill already has the bipartisan cosponsorship of 232 
Members of the House, and a similar bill in the Senate also 
enjoys widespread support.
    It isn't enough for President Clinton to suggest tax breaks 
for childcare. The President's childcare proposal would help a 
working couple afford on average 3 weeks of daycare. 
Elimination of the marriage tax penalty would give the same 
couple the choice of paying for 3 months of childcare or 
addressing other family priorities. After all, parents know 
best, in fact better than Washington what their family needs.
    We fondly remember the 1996 State of the Union address when 
the President declared emphatically that ``the era of big 
government is over.'' We must stick to our guns and stay the 
course. There never was an American appetite for big 
government, but there certainly is for reforming the way the 
existing way government does business. What better way to show 
the American people that our government will continue along the 
path to reform prosperity than by eliminating the marriage tax 
penalty.
    Ladies and gentlemen, we are on the verge of running a 
surplus. It's basic math. It means Americans are already paying 
more than is needed for government to do the job we expect of 
it. What better way to give back than to give mom and dad and 
the American family, the backbone of our society, what they 
have earned. We ask President Clinton to join with Congress and 
make elimination of the marriage tax penalty a bipartisan 
priority.
    Of all the challenges facing married couples today in 
providing home and hearth for America's children, the U.S. Tax 
Code should not be one of them. Let's eliminate the marriage 
tax penalty, and do it now.
    Again, thank you, Mr. Chairman.
    [The prepared statement follows:]
Statement of Hon. Jerry Weller, a Representative in Congress from the 
State of Illinois

    Mr. Chairman:
    I want to commend you for holding these hearings on 
inequities in the tax code and thank you for inviting my 
colleagues and I to testify on what is arguably the most 
immoral provision in our tax code...the marriage tax penalty
    Last night, President Clinton gave his State of the Union 
Address outlining many of the things he wants to do with the 
budget surplus.
    A surplus provided by the bipartisan budget agreement 
which:
     cut waste,
     put America's fiscal house in order, and
     held Washington's feet to the fire to balance the 
budget.
    While President Clinton paraded a long list of new spending 
proposals--without mentioning the accompanying increase in 
bureaucracy and red tape--we believe that a top priority should 
be returning the budget surplus to America's families as 
additional middle-class tax relief.
    This Congress has given more tax relief to the middle class 
and working poor than any Congress of the last half century.
    I think the issue of the marriage tax penalty can best be 
framed by asking these questions: Do Americans feel its fair 
that our tax code imposes a higher tax penalty on marriage? Do 
Americans feel its fair that the average married working couple 
pays almost $1,400 more in taxes than a couple with almost 
identical income living together outside of marriage--is it 
right that our tax code provides an incentive to get divorced?
    In fact, today the only form one can file to avoid the 
marriage tax penalty is paperwork for divorce.
    Since 1969, our tax laws have punished married couples when 
both spouses work. For no other reason than the decision to be 
joined in holy matrimony, more than 21 million couples a year 
are penalized. They pay more in taxes than they would if they 
were single. Not only is the marriage penalty unfair, it's 
immoral that our tax code punishes society's most basic 
institution. The marriage tax penalty exacts a disproportionate 
toll on working women and lower income couples with children.
    Let me give you an example of how the marriage tax penalty 
unfairly affects middle class married working couples.
    For example, a machinist, at a Caterpillar manufacturing 
plant in my home district of Joliet, makes $30,500 a year in 
salary. His wife is a tenured elementary school teacher, also 
bringing home $30,500 a year in salary. If they would both file 
their taxes as singles, as individuals, they would pay 15%.
    But if they chose to live their lives in holy matrimony, 
and now file jointly, their combined income of $61,000 pushes 
them into a higher tax bracket of 28 percent, producing a tax 
penalty of $1400 in higher taxes.
    On average, America's married working couples pay $1,400 
more a year in taxes than individuals with the same incomes. 
That's serious money.
    Particularly if you think of it in terms of:
     a down payment on a house or a car,
     one years tuition at a local community college, or
     several months worth of quality child care at a 
local day care center.
    To that end, Congressman David McIntosh and I have authored 
the Marriage Tax Elimination Act.
    It would allow married couples a choice in filing their 
income taxes, either jointly or as individuals--which ever way 
lets them keep more of their own money.
    Our bill already has the support of 232 Members of the 
House and a similar bill in the Senate also enjoys widespread 
support.
    It isn't enough for President Clinton to suggest tax breaks 
for child care. The President's child care proposal would help 
a working couple afford, on average, three to four weeks of day 
care. Elimination of the marriage tax penalty would give the 
same couple the choice of paying for three to four months of 
child care--or addressing other family priorities. After all, 
parents know better than Washington what their family needs.
    We fondly remember the 1996 State of the Union address when 
the President declared emphatically that, quote ``the era of 
big government is over.''
    We must stick to our guns, and stay the course.
    There never was an American appetite for big government.
    But there certainly is for reforming the existing way 
government does business.
    And what better way to show the American people that our 
government will continue along the path to reform and 
prosperity than by eliminating the marriage tax penalty.
    Ladies and Gentleman, we are on the verge of running a 
surplus. It's basic math.
    It means Americans are already paying more than is needed 
for government to do the job we expect of it.
    What better way to give back than to begin with mom and dad 
and the American family--the backbone of our society.
    We ask that President Clinton join with Congress and make 
elimination of the marriage tax penalty... a bipartisan 
priority.
    Of all the challenges married couples face in providing 
home and hearth to America's children, the U.S. tax code should 
not be one of them.
    Lets eliminate The Marriage Tax Penalty and do it now!
    Thank you, Mr. Chairman.
      

                                


    Chairman Archer. Thank you, Congressman Weller. Now, 
Congressman Wally Herger.

 STATEMENT OF HON. WALLY HERGER, A REPRESENTATIVE IN CONGRESS 
                  FROM THE STATE OF CALIFORNIA

    Mr. Herger. Thank you, Mr. Chairman and Members of the 
Committee for the opportunity to testify today about a serious 
inequity in the Tax Code. When a couple stands at the altar and 
says ``I do,'' they are not agreeing to higher taxes. Yet under 
our current tax law, that is precisely what is happening to 
millions of married couples each year. According to a recent 
report by the Congressional Budget Office, an estimated 42 
percent of all married couples, some 21 million couples 
nationwide, incurred marriage penalties in 1996. The average 
marriage penalty that year approached an astonishing $1,400. I 
believe that addressing this inequity in our tax law should be 
a top priority for this Committee as we work to provide the 
American people further tax relief in 1998.
    Mr. Chairman, as financial pressures push more and more 
nonworking spouses into the labor force, an increasing number 
of families will fall prey to this marriage tax. A major reason 
why so many of these joint filers face this added tax burden is 
that the very first dollar earned by the low-earning spouse is 
taxed at the marginal rate of the high-earning spouse, not 
necessarily at the lower 15-percent rate faced by single 
filers. This problem was exacerbated in 1993 when the number of 
tax brackets was increased from three to five. That change 
created even more opportunities for dual-income, married 
couples to be bumped into higher brackets, and to face even 
larger marriage penalties.
    To address this problem, I have introduced legislation 
along with Mrs. Kennelly to restore the two-earner deduction. 
As many of you may remember, between 1982 and 1986, dual-income 
couples were entitled to a significant tax benefit to help 
offset the marriage penalties built into the Internal Revenue 
Code. The two-earner deduction, once fully phased in, entitled 
married couples to a 10-percent deduction on up to $30,000 of 
the low-earning spouse's income. However, for a variety of 
reasons, Congress eliminated this tax benefit in 1986. My bill, 
H.R. 2593, the Marriage Penalty Relief Act, would simply 
restore the two-earner deduction. I am pleased to report that 
this legislation has attracted a broad bipartisan group of 155 
cosponsors in the House so far, including 35 Democrats. I am 
particularly gratified that 27 Members of this Committee, 21 
Republicans and 6 Democrats, have thus far signed onto this 
legislation.
    I should make it clear for the record, Mr. Chairman, that I 
strongly support a complete elimination of the marriage 
penalty. I am an original cosponsor to the bill introduced by 
Mr. Weller and Mr. McIntosh. I am encouraged to learn that the 
Congressional Budget Office is now projecting a $660 billion 
surplus over the next 10 years. I sincerely hope that this 
fiscal dividend can be used in part to ensure that our Tax Code 
no longer punishes married couples. However, I also recognize 
that Members of this body and of this Committee have a variety 
of ideas about where to dedicate this projected surplus. If 
budgetary and political conditions prevent us from completely 
eliminating the marriage penalty in this year's tax bill, I 
would certainly hope that we can at least take a significant 
step toward achieving that objective.
    Mr. Chairman, restoring the two-earner deduction would 
enable us to make meaningful progress toward that goal in a way 
that provides targeted relief to those couples who are 
particularly hard hit by this inequity. When a couple stands at 
the altar and says ``I do,'' they are not agreeing to higher 
taxes. Congress should act this year to address the fact that 
in too many cases, they will be paying higher taxes.
    I want to again thank Chairman Archer for the opportunity 
to testify. I look forward to working with all interested 
Members on this issue as the Committee works to provide the 
American people further tax relief this year. I would also like 
to ask that Mrs. Kennelly's statement in support of my 
legislation, which she had hoped to deliver today in person, be 
included in the record following my testimony. Thank you.
    [The prepared statements follow:]

Statement of Hon. Wally Herger, a Representative in Congress from the 
State of California

    Thank you Mr. Chairman and Members of the Committee for the 
opportunity to testify today about a serious inequity in the 
tax code. When a couple stands at the altar and says ``I do,'' 
they are not agreeing to higher taxes. Yet under our current 
tax law, that is precisely what is happening to millions of 
married couples each year.
    According to a recent report by the Congressional Budget 
Office, an estimated 42 percent of all married couples--some 21 
million couples nationwide--incurred marriage penalties in 
1996. The average marriage penalty that year approached an 
astonishing $1,400. I believe that addressing this inequity in 
our tax law should be a top priority for this Committee as we 
work to provide the American people further tax relief in 1998.
    Mr. Chairman, as financial pressures push more and more 
non-working spouses into the labor force, an increasing number 
of families fall prey to this marriage tax. A major reason why 
so many of these joint filers face this added tax burden is 
that the very first dollar earned by the lower-earning spouse 
is taxed at the marginal rate of the higher-earning spouse, not 
necessarily at the lower 15-percent rate faced by single 
filers. This problem was exacerbated in 1993 when the number of 
tax brackets was increased from three to five. That change 
created even more opportunities for dual-income married couples 
to be bumped into higher brackets and to face even larger 
marriage penalties.
    To address this problem, I have introduced legislation--
along with Mrs. Kennelly--to restore the two-earner deduction. 
As many of you may remember, between 1982 and 1986, dual-income 
couples were entitled to a significant tax benefit to help 
offset the marriage penalties built into the Internal Revenue 
Code. The two-earner deduction, once fully phased in, entitled 
married couples to a 10-percent deduction on up to $30,000 of 
the lower-earning spouse's income. However, for a variety of 
reasons, Congress eliminated this tax benefit in 1986.
    My bill, H.R. 2593--``The Marriage Penalty Relief Act''--
would simply restore the two-earner deduction. I am pleased to 
report that this legislation has attracted a broad, bipartisan 
group of 155 cosponsors in the House so far, including 35 
Democrats. I am particularly gratified that 27 members of this 
Committee--21 Republicans and 6 Democrats--have thus far signed 
on to this legislation.
    I should make it clear for the record, Mr. Chairman, that I 
strongly support a complete elimination of the marriage penalty 
and am an original cosponsor of the bill introduced by Mr. 
Weller and Mr. McIntosh. I am encouraged to learn that the 
Congressional Budget Office is now projecting a $660 billion 
surplus over the next 10 years, and I sincerely hope that this 
fiscal dividend can be used, in part, to insure that our tax 
code no longer punishes married couples.
    However, I also recognize that members of this body--and of 
this Committee--have a variety of ideas about where to dedicate 
this projected surplus. If budgetary and political conditions 
prevent us from completely eliminating the marriage penalty in 
this year's tax bill, I would certainly hope that we can at 
least take a significant step toward achieving that objective.
    Mr. Chairman, restoring the two-earner deduction would 
enable us to make meaningful progress toward that goal in a way 
that provides targeted relief to those couples who are 
particularly hard-hit by this inequity. When a couple stands at 
the altar and says ``I do,'' they are not agreeing to higher 
taxes. Congress should act this year to address the fact that 
in too many cases, they will be paying higher taxes. I want to 
again thank Chairman Archer for the opportunity to testify 
today, and I look forward to working with all interested 
members on this issue as the Committee works to provide the 
American people further tax relief this year.
      

                                


[GRAPHIC] [TIFF OMITTED] T0897.002

      

                                


    Chairman Archer. Thank you, Congressman Herger.
    Congressman McIntosh, you may proceed in any way you see 
fit. If you wish to give a statement and then introduce Ms. 
Mallory and Mr. Pierce, that's fine. If you want them to speak 
first, that's fine. The floor is yours. You may proceed.

   STATEMENT OF HON. DAVID M. MCINTOSH, A REPRESENTATIVE IN 
               CONGRESS FROM THE STATE OF INDIANA

    Mr. McIntosh. Thank you, Chairman Archer, Mr. Chairman, 
excuse me. I want to say I appreciate the Committee hearing 
this issue today, and more importantly, the spotlight that you 
are able to shed on this important issue.
    Let me first introduce Sharon and Darryl. The Committee can 
hear from them directly. Then I would like to add a statement 
about the importance of this issue. Sharon and Darryl are two 
constituents of mine. Sharon wrote me a letter last February 
that really moved me to find out what is at stake in this 
marriage penalty issue. She explained that she and Darryl both 
work at the Ford Motor plant in Connersville. They live in a 
small rural community in my district, make about $10 an hour. 
Darryl does a little farming on the side. They wanted to get 
married. They went to H&R Block to find out what would be the 
consequences, if they got married, on their tax form. Well, as 
Sharon put it in her letter, not only would she have to give up 
her $900 refund, she found out that together they would pay 
$2,800 in taxes. Quite frankly, they couldn't afford it, Mr. 
Chairman, and wrote to me that they can't afford to get 
married, and wanted Congress to do something about this unfair 
marriage penalty in the Tax Code. It broke their hearts.
    Well, it broke my heart when I heard their story. They have 
been kind enough to tell their story to others and to come here 
today. So why don't I now turn it over to Sharon Mallory. 
Sharon and Darryl, if you want to share your thoughts about 
this penalty and how it affects you, and then I'll have a 
statement at the end of that, Mr. Chairman.

   STATEMENT OF SHARON MALLORY AND DARRYL PIERCE, STRAUGHN, 
                            INDIANA

    Ms. Mallory. My name is Sharon Mallory, of Straughn, 
Indiana.
    Mr. Thomas. Sharon, excuse me. These microphones are 
horrible today, worse than usual. If you speak directly into 
it, you might have a better chance. We do want to hear your 
message. Thank you.
    Ms. Mallory. My boyfriend Darryl Pierce and I are 
constituents of Congressman David McIntosh. Darryl and I love 
each other very much and want to be married, but the IRS won't 
let us. We are victims of the marriage penalty. We traveled 
here from Indiana today to tell the Committee how the marriage 
penalty affects us, and to urge the Committee to adopt 
legislation introduced by Congressman David McIntosh and 
Congressman Jerry Weller to eliminate the marriage penalty.
    Darryl and I both work at the former Ford Electronics Plant 
in Connersville, southeast of Indianapolis near the Indiana/
Ohio border. We make less than $10 and work overtime whenever 
it is available. Darryl does some farming on the side to 
supplement our income. Last year Darryl and I decided we wanted 
to get married. However, when we went to our accountant in an 
H&R Block office in New Castle, Indiana, she said that not only 
would I forfeit my $900 refund, but that we would also have to 
write a check to the IRS for $2,800. To us, this is real money. 
It's food on our table and clothes on our backs. For Darryl and 
me, the marriage penalty was large enough that we were forced 
to put off our marriage.
    Last February, I wrote to Congressman McIntosh about our 
situation. In my letter, I wrote, ``Darryl and I would very 
much like to be married. I must say it broke our hearts when we 
found out we can't afford it. We hope some day the government 
will allow us to get married by not penalizing us.''
    I know that Congress and the President wouldn't purposely 
single out married couples for higher taxes, but that is the 
effect of this tax. I understand the Committee and the Congress 
may have different ideas about how to cut people's taxes this 
year. Let me urge you to include eliminating the marriage 
penalty on the top of your list. It is too important an issue 
for too many families to ignore. According to the Congressional 
Budget Office, 21 million families pay an average of $1,400 
more in Federal taxes just because they are married. This 
cannot be allowed to continue. Strong families are the 
backbones of strong communities and the heart of a strong 
country. I don't know how many other couples postpone or cancel 
their marriages because of the marriage penalty, but one family 
is one too many. By approving legislation to eliminate the 
marriage penalty, this Congress can do something that will help 
millions of families in a real and tangible way. I urge you to 
approve this legislation as soon as possible. Thank you.
    [The prepared statement follows:]

Statement of Sharon Mallory and Darryl Pierce, Straughn, Indiana

    My name is Sharon Mallory of Straughn, Indiana. My 
boyfriend, Darryl Pierce, and I are constituents of Congressman 
David McIntosh.
    Darryl and I love each other and very much want to be 
married. But the IRS won't let us. We're are victims of the 
marriage penalty.
    We traveled here from Indiana today to tell the committee 
how the marriage penalty affects us--and to urge the committee 
to adopt legislation introduced by Congressmen David McIntosh 
and Congressman Jerry Weller to eliminate the marriage penalty.
    Darryl and I both work at the former Ford Electronics plant 
in Connersville, southwest of Indianapolis near the Indiana-
Ohio border. We make less than $10 and work overtime whenever 
it is available. Darryl does some farming on the side to 
supplement our income.
    Last year, Darryl and I decided we wanted to get married. 
However, when we went to our accountant in an H & R Block 
office in New Castle, Indiana, she said that not only would I 
forfeit my $900 refund but that we also would have to write a 
check to the IRS for $2800.
    To us, this is real money. It's food on our table and 
clothes on our children's backs. For Darryl and me, the 
marriage penalty was large enough that we were forced to put 
off our marriage.
    Last February I wrote to Congressman McIntosh about our 
situation. In my letter, I wrote: ``Darryl and I would very 
much like to be married and I must say it broke our hearts when 
we found out we can't afford it. We hope someday the government 
will allow us to get married by not penalizing us.''
    I know that Congress and the President wouldn't 
purposefully single out married couples for higher taxes. But 
that's the effect of this tax.
    I understand that the committee and the Congress may have 
different ideas about how to cut people's taxes this year. Let 
me urge you to include eliminating the marriage penalty at the 
top of your list. It's too important an issue for too many 
families to ignore.
    According to the Congressional Budget Office, 21 million 
families pay on average $1,400 more in federal taxes just 
because they're married.
    This cannot be allowed to continue. Strong families are the 
backbones of strong communities--and the heart of a strong 
country. I don't know how many other couples postpone or cancel 
their marriages because of the marriage penalty. But one family 
is too many.
    By approving legislation to eliminate the marriage penalty, 
this Congress can do something that will help millions of 
families in a real and tangible way. I urge you to approve this 
legislation as soon as possible.
      

                                


    Chairman Archer. Thank you, Ms. Mallory.
    Mr. McIntosh. Mr. Chairman, is there still time available 
for my statement or do you need to move on?
    Chairman Archer. If you can make it as brief as possible, 
yes. Your entire written statement, without objection, will be 
inserted in the record.
    Mr. McIntosh. Thank you, Mr. Chairman. I would also ask, 
Jerry and I have received numerous correspondence and e-mails 
from people like Sharon and Darryl about the marriage penalty, 
if we could also ask permission to submit those as part of the 
record as well.
    Chairman Archer. Without objection.
    Mr. McIntosh. I would just make two points to the 
Committee. One, this marriage penalty disproportionately 
discriminates against women. When the Tax Code was written in 
the sixties with the married filing jointly, most families in 
this country had one wage earner, traditionally the husband. 
Today, that has changed. Seventy-five percent of the families 
have both spouses working. When the wife decides to go to work, 
perhaps she has been out of the job force raising children and 
goes back to finish her career, she gets hit with all of that 
penalty, as much as a 50 percent marginal tax on her income. So 
some have said that Jerry Weller and David McIntosh's bill 
would be the Working Women's Tax Relief Act of 1998, because 
they are hit disproportionately and unfairly by this marriage 
penalty.
    The second point that has come out in research recently by 
a professor at the University of Cincinnati Law School, is that 
minority families are also disproportionately discriminated 
against by this penalty. That is because oftentimes the woman's 
income in those families is of a greater percentage than 
traditional families in the whole of the population in the 
United States. Therefore, they suffer a larger penalty when you 
look at minority families as compared to typical families in 
the United States. That's because oftentimes they have to have 
two people working in order to earn enough money to get ahead 
and have a chance to survive in our economy.
    So this bill to eliminate the marriage penalty not only 
would strengthen families, but it would eliminate a policy that 
discriminates against women and discriminates against 
minorities as well. I wanted to make sure that that point was 
in the record, and will submit my testimony, the complete 
testimony for the Committee.
    Thank you, Mr. Chairman, very much. I know you care a great 
deal about this issue. I appreciate this hearing.
    [The prepared statement and attachments follow:]

Statement of Hon. David M. McIntosh, a Representative in Congress from 
the State of Indiana

    Mr. Chairman, fellow members of the Committee, I want to 
thank you for inviting here before this prestigious body to 
speak about the Marriage Penalty, but much more importantly, 
you have my profound gratitude for shining the public spotlight 
on this insidious tax.
    As Sharon and Darryl's testimony makes so heart-breakingly 
clear, the marriage tax is immoral. There's no more adequate 
way to describe a designed government policy which undermines 
the traditional institution of the family and, most tellingly, 
discriminates against women and minorities.
    The marriage penalty entered our tax code thirty years ago 
and has systematically undermined the family ever since. The 
trend in our nation has seen a decrease in marriage and 
increase in divorce. Many people, like Sharon and Darryl, want 
to marry but cannot afford it. Divorce is reaching epidemic 
levels. There are twice as many single parent households in 
America today since the marriage penalty came into effect.\1\ 
The terrible financial strain caused by the marriage penalty 
contributes to this. Simply put, the marriage penalty is doing 
great harm to our society by frustrating family cohesion.
---------------------------------------------------------------------------
    \1\ The Statistical Abstract of the United States, Department of 
Commerce, Table No. 146, ``Marriages and Divorces,'' p. 104: 1996.
---------------------------------------------------------------------------
    The devastating consequences of divorce on parents and 
children are well documented. When parents divorce, they are 
likely to die earlier, their general health is worse, and 
sadly, many divorced adults, particularly young mothers, are 
thrown into poverty.\2\ The effects on children are no less 
devastating. The National Fatherhood Initiative has shown that 
where there is a divorce, the children are more prone to 
violence, illegal drugs, suicide, and drop out of school. Over 
Ninety percent, Ninety percent!, of children on welfare are 
from homes with only one parent.\3\
---------------------------------------------------------------------------
    \2\ Dr. Wade Horn, The National Fatherhood Initiative, ``Father 
Facts 2,'' p.10: 1997.
    \3\ Ibid.
---------------------------------------------------------------------------
    And by the way, don't interpret these facts as an attack on 
single mothers. I was raised by a single mom. I know the 
sacrifices she made for us. Single moms are heroes born out of 
necessity.
    Let us simply get rid of the government penalties that push 
these moms toward divorce and illegitimacy. Big government in 
Washington and its marriage penalty tax have become the number 
one enemy of the American family and its affects on working 
women and minorities are particularly devastating.
    The marriage penalty could equally be known as ``The Tax on 
Working Women.'' When the marriage penalty was proposed America 
was a far different place and large numbers of women were not 
yet in the workforce. Today, 75 percent of married couples have 
two incomes.\4\ The marriage penalty almost always hits the 
second-earner the hardest. Therefore, this tax clearly 
discriminates against women who may chose to enter the 
workforce to provide a better life for their family. These 
women can be taxed at an astounding 50% marginal rate.\5\ The 
Weller-McIntosh Tax on Working Women Elimination Act is the 
ultimate piece of legislation in the women's liberation 
movement. If our bill passes, women--and men--will have much 
greater freedom to choose to work without having to worry about 
the taxman.
---------------------------------------------------------------------------
    \4\ The Congressional Budget Office, ``For Better of for Worse: 
Marriage and the Federal Income Tax,'' (June 1997), Table 10, p.39.
    \5\ The Greater Washington Societies of Certified Public 
Accountants, Sept. 1997
---------------------------------------------------------------------------
    African-Americans are particularly devastated by the 
marriage tax. The marriage penalty occurs when both spouses 
work and make roughly the same income and black women 
historically have entered the workforce in larger numbers and 
make comparatively more money than whites. 73% of married back 
women are breadwinners and black women contribute approximately 
40% of their household's income.\6\ Our legislation brings 
fairness back into the tax code so that African-American women 
and families can keep more of their hard earned money to 
provide for their children.
---------------------------------------------------------------------------
    \6\ Dorothy Brown, ``The Marriage Bonus/Penalty in Black and 
White,'' University of Cincinnati Law Review (Spring 1997), p.5.
---------------------------------------------------------------------------
    I know you agree with me that we must completely rid our 
tax code of this bill that hurts families, working women, and 
minorities. Therefore, I categorically reject those who have 
said that the federal government can't afford it. No one in 
Congress asked married people if they could afford it when they 
passed it. It's time for the federal government to tighten its 
belt to help families. I say we cannot afford to allow it to 
continue because of its pernicious effects on families. I will 
work with this committee to ensure adequate funding to 
eliminate the marriage penalty is included in the budget 
resolution. To guarantee support from those who favor 
eliminating the marriage penalty, the budget resolution must 
include enough resources to abolish the marriage penalty.
    Mr. Chairman, we in Congress must be held accountable for 
failing to respond to the American people when we defy the 
traditional values of the American people. We have a choice. We 
can continue down the path of destroying the family, penalizing 
marriage in our tax code, the path of high crime, drug use, 
divorce, and children being brought up without knowing the 
difference between right and wrong.
    Or we can choose a different path: a path based on the firm 
conviction that the family must be the foundation of our 
society. We can choose a path where families are lifted up--not 
punished by government. It is the way by which young people 
like Sharon and Darryl can find happiness and finally be 
married. I believe most strongly that for our nations' future, 
we must choose to lift up the family. I joined Jerry Weller in 
introducing legislation to eliminate the marriage penalty and 
remove one more obstacle in the recovery of the family. Even if 
some in Washington scoff at this idea, the American people have 
a special wisdom in these matters. They will support our 
efforts to succeed in this effort to eliminate the marriage 
penalty. It is crucial that we succeed because the success of 
the family and the success of America are inseparable.
    Thank you, Mr. Chairman.
    I would ask that I could submit a speech I gave on the 
marriage penalty as well as a marriage penalty paper prepared 
by my office for the record.
      

                                


TO RENEW THE AMERICAN FAMILY by David McIntosh, R-IN

Speech to Christian Coalition, September 13, 1997

    Some say that it takes a village to raise a child. No! It 
takes a family and it will take a family to rebuild our nation 
and once again make it the guiding moral light for this world. 
These are two competing visions for America's future. One is 
right. One is wrong. Putting the family first, builds a great 
nation. But putting the village--that is the government--first, 
tears down the family and the nation crumbles.
    We, as a nation, must learn from history that societies 
which rely on government, instead of families,to solve their 
problems never prosper. 500 years before Christ, the prophet 
Nehemiah returned to Jerusalem, the city of his forefathers and 
found it in ruins. The City wall had broken down and thieves 
and marauders preyed upon the people. Even worse, the Bible 
says that the Israelites were forced to pay excessively high 
taxes, to a remote government in a far off capital. Families 
had to sell their property and give up on their inheritance 
just to pay what the King of Persia's tax collectors extorted 
from them. We know Nehemiah set about rebuilding the walls of 
Jerusalem using the strength of the family. He assigned each 
family a piece of the wall to rebuild. When his enemies 
threaten to kill the Israelites, Nehemiah mounted a family 
defense. ``Don't be afraid. Remember the Lord, who is great and 
awesome, and fight for your brothers, your sons and your 
daughters, your wives and your homes.'' With each family 
defending a portion of the wall, Nehemiah defeated his enemies. 
500 years before Christ the people of Israel followed God's 
plan, employed a family defense, rebuilt the walls of a new 
Jerusalem, and were blessed with a society that was moral and 
just.
    History repeats itself. Let us fast forward to today, 
nearly 2000 years after the death of Christ, and ask ourselves: 
What is happening in America? America that for 200 years was 
founded on the principle that God has blessed every man and 
woman in this nation with certain inalienable rights, among 
them, life, liberty, and the pursuit of happiness. America that 
has become for most of the world a shinning city on the hill in 
which truth, justice, and freedom are hallmarks of everything 
we do.
    For the last thirty-years, America has turned away from the 
commandment to entrust the family with the well-being of our 
society. Indeed, America's government has begun to 
systematically punish the family. Starting in 1969, America has 
taxed married couples more than if they are divorced or single. 
That is the year the marriage penalty entered into our tax 
code. Today, 21 million couples in America suffer and strain 
under a marriage penalty tax. The average cost to the family is 
$1,400 a year.
    Here is how the marriage penalty works. First, when a young 
couple decide to get married they pay higher rates and lose 
some of their deductions. Second, when the couple has children 
they are penalized once again. Under the budget we passed, many 
families only receive a portion of the $500 tax child credit 
because they are married and earn too much money. Third, when 
their children go to college the family is punished by paying 
higher taxes on savings they use to pay tuition. Fourth, when 
they retire, they are penalized in Social Security and Veterans 
benefits, if they remarry. The worst part of the marriage 
penalty is that it discriminates against women who, when their 
children are old enough, want to go back into the workforce to 
provide an even better life for their family. These women can 
be taxed at an astounding 50% marginal rate.
    This is wrong. Washington should not punish families that 
need two incomes to make ends meet. A constituent of mine, 
Sharon Mallory, wrote me an anguished letter about how this 
marriage tax hurt her. Let me read to you from her letter. 
``Dear Congressman McIntosh, My boyfriend, Darryl Pierce, and I 
would very much like to get married....We both work at Ford 
Electronics and make less than $10.00 an hour; however, we do 
work overtime whenever it is available....I can't tell you how 
disgusted we both are over this tax issue....If we get married 
not only would I forfeit my $900 refund check, we would be 
writing a check to the IRS for $2,800....Darryl and I would 
very much like to be married and I must say it broke our hearts 
when we found out we can't afford it.''
    Sadly, Darryl and Sharon's story is not unique. One of my 
staff in Muncie, Indiana told me of a young couple, who asked 
not to be named, that has a terrible problem in their family. 
They were driving home one evening and were struck by an on-
coming car. The couple's 6 year-old daughter suffered severe 
brain damage. She is now having to learn to walk and talk all 
over again. Our government, out of compassion for people like 
this, has programs to assist families and allow them to pay for 
their medical bills. This family went to a government case-
worker to seek help for their little girl's therapy. The 
devastated parents were told that the husband makes 10 dollars 
more a year than the government will allow in order to qualify 
for any assistance. What did the case worker say to the family? 
That they have two choices. One, the father can quit his job 
and go on welfare. And if that's not bad enough, The second 
choice was that they can get a divorce! The mother can take the 
child and qualify for government assistance.
    Once again, I say this tax is wrong and immoral. Our 
government should not force 21 million families to choose 
between divorce and economic prosperity, on the one hand, or 
staying married and financial hardship, on the other. In the 
Gospel of St. Matthew, Christ said about the family ``What 
therefore God hath joined together, let not man put asunder.'' 
Our government has ignored this warning. What are the 
consequences of such folly? Look at what has happened to 
America during these last thirty years? Each of us, as we look 
around in our neighborhoods and our streets and our cities, 
know that the family is under assault. In Hollywood, on the 
Internet, and in Washington, the family is a favorite and 
familiar target. This barrage has weakened the family as the 
foundation of our society.
    In our inner cities, in our small towns across America, and 
in our neighborhoods, the walls of our communities, built up by 
the American family, are crumbling. We face a crisis in our 
country. In the last thirty years, since the marriage penalty 
began, 9 million couples decided not to get married in the 
United States. Many of these young people are like Sharon and 
Darryl who want to marry but cannot afford it. 2 million more 
marriages ended in divorce, And there are twice as many single 
parent households.
    What does this breakdown of the family mean for mothers and 
fathers, and most importantly, for the children of broken 
families? Studies show that when parents divorce, they are four 
times as likely to die early,e more respiratory and digestive 
illnesses. And sadly, many divorced adults, particularly young 
mothers, are thrown into poverty. The effects on children are 
no less devastating.
    The National Fatherhood Initiative has shown that where 
there is a divorce, the children are prone to violence. 72 
percent of juvenile murderers and 60 percent of America's 
rapists grew up in homes without fathers. They are 4 times more 
likely to use illegal drugs; 3 times more likely to commit 
suicide, and twice as likely to drop out of school. When they 
join the workforce, their pay is lower, with less of a chance 
to be promoted. These poor children, who are not responsible 
for their fate, are even more likely to be trapped in a cycle 
of poverty. Over Ninety percent, Ninety percent!, of children 
on welfare are from homes with only one parent.
    And by the way, don't interpret these facts as an attack on 
single mothers. I was raised by a single mom. I know the 
sacrifices she made for us. Single moms are heroes born out of 
necessity. Let us simply get rid of the government penalties 
that push these moms toward divorce and illegitimacy.
    Big government in Washington and its marriage penalty tax 
have become the number one enemy of the American family.
    My friends, we cannot let this stand. We must pass a bill 
that Jerry Weller and I have introduced into Congress that 
eliminates the marriage penalty from the tax code. Our bill is 
simple--It says families may choose. If they pay less taxes 
filing jointly as a normal couple, they may do so. If they pay 
lower taxes by filing as individuals, they may choose to do 
that instead of having to file for a divorce to get this tax 
break.
    The prophet Jeremiah says: ``Stand at the crossroads and 
look. Ask for the ancient paths. Ask where the good way is. And 
walk in it.'' My friends, as the 20th century draws to an 
end,America indeed stands at a crossroad.
    We have a choice. We can continue down the path of 
destroying the family, penalizing marriage in our tax code, the 
path of high crime, drug use, divorce, and children being 
brought up without knowing the difference between right and 
wrong.
    Or we can choose a different path: a path that is based on 
the ancient ways of Nehemiah where we recognize that the family 
must be the foundation of our society. We can choose a path 
where families are lifted up--not punished by government. It is 
the way by which young people like Sharon and Darryl can find 
happiness and finally be married. It is the path that allows 
Americans to provide for their children without the government 
pressuring them to divorce.
    Again, the choice is ours. For the sake of America, and 
freedom, and the young boys and girls who are our nations' 
future, we must choose to lift up the family. I feel it is my 
personal calling to begin by fighting with every ounce of my 
being to end the marriage penalty tax once and for all. I ask 
you in the Christian Coalition to join me in this calling. Let 
us act boldly, with the courage of our convictions, to link arm 
and arm and march to Washington with the goal of unconditional 
surrender.
    Let us never stop praying that our nation's leaders will 
understand that the laws of this land must not try to ``put 
asunder what God has brought together.'' let us call on our 
nation's leaders, our leaders in Congress, and the President 
to: Demand that families are put at the head of our national 
agenda. Demand that America once again has a government that 
respects the sanctity of marriage. We will be silent no longer. 
Tonight, we say to Sharon and Darryl and to all those facing 
marriage penalties: No more broken promises. No more broken 
hearts.
    In our crusade, I urge you to: Support your leaders here in 
the Christian Coalition--Pat Robertson, Don Hodell, Randy 
Tate--as they fight across this great land on behalf of the 
American family. As they fight in Washington to rid our tax 
code of the penalties against marriage and the family. If the 
Christian Coalition makes repeal of the marriage penalty tax 
your number one priority, we cannot fail. This is crucial 
because the success of the family and the success of America 
are inseparable. I am confident, that with the help of God, we 
will succeed.
    And when we do, America will once again be on the path of 
righteousness. And when we have restored the family, we can re-
fortify the walls of this great country with the building 
blocks of freedom, faith, and virtue. Then, and only then, as 
we enter the 21st century, will America be that shining city on 
the hill.
    Thank you, God bless you and God bless America.
      

                                


Congressman David M. McIntosh, Second District, Indiana

         Do you pay more in taxes just because you're married?

What is the marriage penalty?

    The IRS punishes millions of married couples who file their 
income taxes jointly by pushing them into higher tax brackets. 
The marriage penalty taxes the income of a family's second wage 
earner--often the wife's salary--at a much higher rate than if 
that salary were taxed only as an individual.
    For example, consider a couple whose husband and wife each 
earn $30,500 for a total household income of $61,000. 
Subtracting their personal exemptions and standard deductions 
of $11,800, this couple's taxable income is $49,200. At this 
income level, the couple is taxed at the 28 percent marginal 
rate for a total tax bill of $8,563.
    However, if this couple were divorced or living together 
but not married, they would get a better tax break from Uncle 
Sam. For example, with each earning $30,500 and subtracting 
their individual exemptions and deductions of $6,550 each, 
their taxable income would be $23,950 each. That means their 
incomes would each be taxed at the lower 15 percent marginal 
rate for a tax bill of $3,592 each.
    So the married couple pays more in taxes just because 
they're married. That's a marriage penalty of $1,378. Overall, 
according to a recent report by the Congressional Budget 
Office, more than 21 million couples suffer a marriage penalty 
averaging $1,400.


----------------------------------------------------------------------------------------------------------------
                     Marriage Penalty Example                       Individual      Individual        Couple
----------------------------------------------------------------------------------------------------------------
Adjusted gross income:..........................................         430,500         430,500         461,000
Minus personal exemption and standard deduction:................          46,550          46,550         411,800
Taxable income:.................................................         423,950         423,950         449,200
Tax liability:..................................................          43,592          43,592          48,563
Marriage Penalty:...............................................  ..............  ..............          41,378
----------------------------------------------------------------------------------------------------------------


    Incidentally, there's also a marriage penalty for the 
personal exemption and standard deduction. In the above 
example, the exemptions and deductions for an individual total 
$6,550. Common sense says that for a married couple the 
exemptions and deductions should be double that of an 
individual, or $13,100. Unfortunately, common sense doesn't 
apply to the IRS. The family's personal exemptions and standard 
deductions total $11,800--that's $1,300 less that what two 
individuals living together receive.

Consequences of marriage penalty?

    Families today are under assault. Broken homes. Fatherless 
children. Single moms struggling to raise their children while 
also ensuring there's food on the table.
    When Washington taxes couples more just because they're 
married that hurts working families who are playing by the 
rules. Rather than helping families stay together, the marriage 
penalty contributes to the breakdown of the family.
    What does this breakdown mean for mothers and fathers? 
Studies show that when parents divorce, they are four times as 
likely to die at an earlier age,\1\ their health is worse \2\ 
and sadly many divorced adults, particularly young mothers, are 
thrown into poverty.\3\
---------------------------------------------------------------------------
    \1\ Joseph E. Schwartz. ``Sociodemographic and Physchosocial 
Factors in Childhood as Predictors of Adult Mortality.'' American 
Journal of Public Health 85 (1995):1237-1245.
    \2\ L. Remez. ``Children who Don't Live with Both Parents Face 
Behavioral Problems.'' Family Planning Perspectives. (January/February 
1992).
    \3\ Jeanne Woodward. ``Housing America's Children in 1991.'' U.S. 
Bureau of the Census, Current Housing Reports H121/93-6. U.S. 
Government Printing Office, Washington, D.C., 1993.
---------------------------------------------------------------------------
    The effects on children are also devastating: 72 percent of 
juvenile murders \4\ and 60 percent of rapists \5\ grew up in 
broken homes. They are more likely to use drugs, more likely to 
commit suicide and more likely to drop out of school.\6\ And 
today 75 percent of children living in single-parent families 
will experience poverty before they turn 11 years old.\7\
---------------------------------------------------------------------------
    \4\ Dewey Cornell. ``Characteristics of Adolescents Charged with 
Homicide.'' Behavioral Sciences and the Law 5 (1987):11-23.
    \5\ Nicholas Davidson. ``Life Without Father.'' Policy Review 
(1990); see also Karl Zinsmeister. ``Crime is Terrorizing Our Nation's 
Kids.'' Citizen (August 20, 199): 12.
    \6\ Wade F. Horn. ``The National Fatherhood Initiative.'' Father 
Facts II.
    \7\ National Commission on Children. ``Just the Facts: A Summary of 
Recent Information on America's Children and Their Families.'' 
Washington, D.C., 1993.

---------------------------------------------------------------------------
What's the solution to the marriage penalty?

    In September Reps. David McIntosh, R-Ind., and Jerry 
Weller, R-Ill. introduced H.R. 2456, the ``Marriage Tax 
Elimination Act of 1997.'' The bill would benefit married 
couples regardless of whether they have children. Its idea is 
simple: It allows families to decide how they file their income 
taxes--either individually or jointly, whichever gives them the 
greatest tax benefit. Ending the marriage penalty will allow 21 
million families to keep more of the money they earn, rather 
than paying more in taxes to Uncle Sam.

In Congress who supports the Marriage Tax Elimination Act?

    Over 226 House co-sponsors--including Speaker Newt 
Gingrich, Majority Leader Dick Armey, Majority Whip Tom DeLay, 
Conference Chairman John Boehner, Conference Vice Chairman 
Jennifer Dunn and Conference Secretary Deborah Pryce.

Who else supports McIntosh's bill?

    ``Government, by taxing married couples at higher rates 
than singles, has for too long been a part of the problem. At a 
time when family breakups are so common, Congress should pass 
legislation to encourage marriage and ease the burden of 
families trying to form and stay together. This legislation 
places government on the side of families.''
    The Christian Coalition, Don Hodel, president

    ``David McIntosh has touched a nerve--his bill to eliminate 
the marriage penalty will help put an end to Washington's 
punishment of families. Washington should be supporting 
families, not undermining them. McIntosh's bill is a bold step 
in the right direction to make the tax code more family-
friendly.''
    Americans for Hope, Growth and Opportunity, Steve Forbes, 
chairman

    ``American's for Tax Reform supports the efforts of the 
Sophomore Republican Class in leading the march toward tax 
relief for working American couples. We support efforts to 
enact the `Marriage Tax Elimination Act' for America's working 
couples. We would like to thank David McIntosh in particular 
for his efforts.''
    Americans For Tax Reform, Grover Norquist, president

    ``Current law forces many married Americans to pay a higher 
tax bill than if they remained single and had the same combined 
income. Such a double standard is wholly at odds with the 
American ideal that taxes should not be a primary consideration 
in any individual's economic or social choices.''
    National Taxpayers Union, Al Cors, director

    ``We welcome the `Marriage Tax Elimination Act' introduced 
today by representatives Dave McIntosh and Jerry Weller. This 
bill can be a first step in recognizing in law that the family 
is the first church, the first school, the first government, 
the first hospital, the first economy, and the first and most 
vital mediating institution in our culture. In order to 
encourage stable two-parent, marriage-bound households we can 
no longer support a tax code that penalizes them.''
    The Catholic Alliance, Keith Fournier, president

    ``By eliminating the marriage penalty, Congress will send a 
strong message to couples across America that the institution 
of marriage is important and that the government should work to 
strengthen, not weaken it. With the passage of the `Marriage 
Tax Elimination Act,' couples and families will no longer be 
robbed of their hard-earned money, and it will enable them to 
work towards their own financial independence at retirement.''
    Traditional Values Coalition, Rev. Louis P. Sheldon, 
chairman

    ``We urge Congress to put the tax code where its rhetoric 
is and eliminate marriage penalties. Serious steps to reform 
tax laws would mean real liberation for women, those who work 
and those who may have to in the future.''
    National Independent Women's Forum, Barbara Ledeen, 
executive director
      

                                


[GRAPHIC] [TIFF OMITTED] T0897.003

[GRAPHIC] [TIFF OMITTED] T0897.004

      

                                


[GRAPHIC] [TIFF OMITTED] T0897.005

[GRAPHIC] [TIFF OMITTED] T0897.006

      

                                


    Chairman Archer. Mr. Pierce, do you have anything to add to 
what Ms. Mallory said?
    Mr. Pierce. No. She said it all.
    Chairman Archer. We are happy to have you before us. You 
have graphically pointed out to the Committee the unfairness of 
this marriage penalty in the Code. I will say for myself that 
when I came on this Committee in January 1973, coming from the 
State of Texas, our property laws automatically provide that a 
spouse that is not working has title to 50 percent of 
everything the spouse that is working earns. I was offended 
enormously by the marriage penalty because it totally 
disregards the property rights that are established by each 
State. This is a little bit different an issue than the one 
that Ms. Mallory and Mr. Pierce brought up, but it is another 
part of the inequity in the marriage penalty. I have fought 
against it my entire career on this Committee. So I welcome 
your testimony today.
    I yield to Mr. Rangel for any inquiry that he might like to 
make.
    Mr. Rangel. Mr. Chairman, I pass my time.
    Chairman Archer. Mr. Thomas.
    Mr. Thomas. Thank you, Mr. Chairman. I thank all of my 
colleagues, and especially those who came from Indiana. The old 
saying, love conquers all, apparently doesn't cover the IRS. 
Although Mr. Pierce, your willingness to defer to Ms. Mallory 
indicates that you are ready for marriage. [Laughter.]
    Even though the IRS won't let you. I just found the opening 
exchange between the Chairman and the Ranking Member 
interesting since in the 103d Congress the Chairman of the Ways 
and Means Committee, Mr. Gibbons, and then in the 104th, the 
Ranking Member of the Committee, Mr. Gibbons, has long been an 
advocate for a system different than the current system, and 
went so far before he retired to actually write a bill to 
produce just such a different system. I am just a little 
surprised perhaps that there appears to be a newness to the 
subject of fundamentally reforming the tax system.
    Mr. Rangel. Will the gentleman yield? I assume you are 
referring to me.
    Mr. Thomas. Very briefly.
    Mr. Rangel. I am very anxious to see what document is 
coming out. I have just as much interest as Sam Gibbons or 
anyone else on this Committee. But we can't just keep educating 
people. We need a bill before us. Thank you.
    Mr. Thomas. I thought the road to a bill was education. I 
guess we're supposed to put the old cart before the horse.
    Let me say that I'm a cosponsor of legislation dealing with 
this. I commend all of you for trying to get at the problem, 
although I believe the Chairman's comment, that as long as we 
have the current system, it's going to be a continual chase 
through the system. I don't think this is partisan. I do not 
think it's a vestigial remain from a previous era. Just let me 
make one point to illustrate that.
    We just passed a tax package in the Balanced Budget Act. 
Because the administration insisted that we limit people's 
access to the new so-called Roth IRA, we in fact have 
perpetuated, reinforced and ingrained the marriage penalty in 
the Tax Code as recently as last year. If you are single, you 
can deal with an income up to $100,000 and a rollover into the 
new IRA. But if you are married, that married couple is limited 
to the $100,000, regardless of their income. It is something 
that is very difficult to root out, given the way in which the 
tax structure is created.
    I commend you for your efforts. We will support your 
efforts. But I think what we need to do is look fundamentally 
at repealing those sections that create limits, that produce 
choices such as we see here before us. There should be no 
penalty in the Code for marriage. I, for one, think I'm going 
to introduce legislation to repeal the cap, for example, on the 
Roth IRA, as my indication that at some point we have to say 
you can't play games with the numbers. You simply have to 
eliminate any reason for treating two people who happen to be 
married differently than two people who do not.
    So I compliment you. I support your effort. Frankly, what 
we need to do, and Mr. McIntosh you indicated this creates a 
little bit of publicity on this issue. There are an awful lot 
of people who know about it. What we need to do is sensitize 
our Members to move on it. Thank you very much.
    Chairman Archer. Ms. Dunn.
    Ms. Dunn. Thank you very much, Mr. Chairman. I have a 
couple of questions. One I'll ask you, members of the panel. 
Have you had the scoring done on your two plans? Could I get 
the numbers if you have?
    Mr. Herger. The latest Congressional Budget Office number 
that I am aware of, Congresswoman Dunn, is about $9 billion a 
year on my approach, and about $29 billion for complete 
elimination.
    Ms. Dunn. Is that over 5 years or is that over 1 year?
    Mr. Herger. That is per year, based on figures from 1996.
    Mr. Weller. If I might respond, Ms. Dunn. While the 
Marriage Tax Elimination Act, which allows a married working 
couple to choose to file jointly or as two singles has not been 
officially scored by Joint Tax yet this year, a similar bill in 
a previous Congress 2 years ago was scored roughly at about $18 
billion in revenue loss to the Federal Government. But there is 
also a different way to say that. That is, that's an $18 
billion tax on marriage that should not be being collected 
today.
    Ms. Dunn. Thank you very much. I think we need to start 
with some background. I think this is a superb idea. I think I 
am on both your pieces of legislation. If I'm not, I certainly 
ought to be on your legislation because I think the points that 
were made, particularly by Mr. Weller and Mr. McIntosh about 
how working women are very concerned about this penalty that 
they are paying when they are married. It's not fair to them 
that this money is going to the IRS. We all know that it's not 
spent as well by the Federal Government as it would be by 
people who are able to keep this money in their pockets and 
decide where they want to put this money.
    Mr. Chairman, my second question is one that I would like 
to ask you or somebody. I am wondering what the reason was for 
doing away with this obviously important part of the Tax Code 
in 1986. Is there justification that we ought to know as we are 
moving back into this area?
    Chairman Archer. We'll be happy to have a presentation or a 
briefing on that for the Members of the Committee. I am 
reluctant to try to take the time now to explain what I know 
historically happened. But the marriage penalty has been in the 
Code beginning back in 1969. It was exacerbated to a degree in 
1986, but it's been with us a very long time. It occurred 
initially because of the political pressure of the singles who 
came before this Committee and said ``it's cheaper for two 
people to live together than it is to live separately. 
Therefore, it is unfair to us to have everybody treated the 
same.'' That political pressure welled up and caused the 
Committee and the Congress to insert what we now term the 
marriage penalty. But that was the genesis of it originally.
    Ms. Dunn. Thank you, Mr. Chairman. I suspect that the 
number of dollars included must have been very tempting for 
those people who believed the Federal Government's role should 
be expanded. These dollars certainly have been going the last 
few years until just recently to pay for lots of big government 
programs. I think it's time to turn that around.
    Mr. Weller. Will the gentlelady yield? You asked the 
question on the impact on the Federal Government if they lose 
the revenue that's currently collected with the marriage tax 
penalty. But if you think about what $1,400 means to a married 
working couple in Washington State or in Illinois or Indiana or 
California, $1,400 is 1 year's tuition at Joliet Junior College 
in my district. It's 3 months of childcare. In fact, I have a 
chart over here.
    You know, the President has a politically attractive idea 
regarding expanding the childcare tax credit. Well, according 
to the President's own figures, that $360 that an average 
couple that would qualify for the President's childcare tax 
credit would be able to purchase 3 weeks of childcare. But with 
elimination of the marriage tax penalty, that extra $1,400 that 
the average married working couple would be able to keep as a 
result of the Marriage Tax Elimination Act would purchase 3 
months. So you have 3 weeks versus 3 months of childcare in 
comparing the two proposals.
    Ms. Dunn. And also the right of the parents to choose what 
they want to do in the area of childcare. Thank you very much.
    Chairman Archer. Let's see who is here at this time. I 
guess on the list on the Minority side, Mrs. Thurman is.
    Mrs. Thurman.
    Mrs. Thurman. Mr. Chairman, I actually don't have any 
questions at this time. I am looking forward to the debate as 
we get into this, and certainly any of the offsets. I know that 
Mr. McIntosh and I have talked about this on the floor. There 
are several proposals, I understand, that are being looked at 
in this area. Hopefully as this day goes on, we will have the 
opportunity to see how this all unfolds. But my heart does go 
out to folks that are here testifying before us today. It is 
unfortunate that we have a penalty in taking what many of us 
think is a wonderful part of our lives, of being married and 
having that opportunity. So I certainly think there are things 
that we need to look at. But let's see what happens as we go 
on.
    Chairman Archer. Mr. English. Does any other Member of the 
Committee wish to inquire? If not, thank you very much.
    Our next panel is scheduled to be three more of our 
colleagues. I don't know if they are here. Congressman Kasich, 
Congressman Salmon, and Congressman Riley. If one or more of 
those colleagues are here, they are invited to come and take a 
seat at the witness stand. I see Congressman Riley.
    Congressman Riley, welcome. Congressman Salmon, welcome. If 
Congressman Kasich shows up, we'll be happy to receive his 
testimony also.
    Congressman Salmon, just briefly, the rules of the 
Committee are that we would like for you to keep your oral 
testimony within 5 minutes. Without objection, your entire 
written statement will be inserted in the record. If you are 
ready, we are happy to have you here. You may proceed.

  STATEMENT OF HON. MATT SALMON, A REPRESENTATIVE IN CONGRESS 
                   FROM THE STATE OF ARIZONA

    Mr. Salmon. Thank you very much, Mr. Chairman. I appreciate 
the opportunity to testify before the Ways and Means Committee 
in support of the Riley-Salmon Marriage Protection and Fairness 
Act. The Taxpayer Relief Act, now law, provided Americans with 
the first significant tax cut in almost a generation, but our 
work is not done. Mr. Chairman, as you so aptly pointed out, 
Americans were taxed at the post-World War II record of 19.9 
percent of the Gross Domestic Product last year.
    Lawmakers from both sides of the aisle have called for the 
next round of tax cuts, to revise the Tax Code as it pertains 
to married couples. One of the most indefensible aspects of our 
current Tax Code is that over 40 percent of married couples pay 
more in taxes filing jointly than they would if the husband and 
wife each filed individually. That's a crime.
    This marriage penalty has been criticized by President Bill 
Clinton, Speaker Newt Gingrich, and Majority Leader Trent Lott. 
To ensure that the tax law would not punish married Americans, 
Representative Jerry Weller and Dave McIntosh introduced a 
bill, which I have cosponsored, and would eliminate the 
marriage penalty for some 40 percent for the 40-some odd 
percent of couples who pay tax filings jointly, pay more taxes 
filing jointly than they would as unmarried individuals. 
However, it would upset the principle embedded in our current 
law, that different families with the same total income should 
be treated equally for tax purposes. Consequently, it would 
place most couples in which both spouses work full time in a 
more favorable tax position than families in which one spouse 
remains at home or works part time.
    Jerry Weller and Dave McIntosh have put this issue on the 
map. For that, we are deeply indebted. Taxpayers owe them a big 
debt of gratitude. I applaud their leadership on this issue. 
But income-splitting offers a better fix to this important 
problem.
    The Riley-Salmon bill would permit married couples to use 
income-splitting on their tax returns and would increase the 
standard deduction for married couples. These changes would 
offer almost all married couples a tax cut, would eliminate the 
tax penalty on marriage that exists under current law, and 
would continue the current policy that different families with 
the same total income should be treated equally for tax 
purposes. Senator Lauch Faircloth has introduced virtually the 
same bill in the Senate, that's S. 1285.
    Most importantly, the income-splitting legislation we have 
introduced treats equitably those families in which one parent 
stays at home. As the New York Post has editorialized, this 
approach would end the marriage penalty and benefit hard-
pressed, one-income married families. Another attractive 
feature Maggie Gallagher noted in a Washington Times column on 
the marriage penalty, that income splitting would keep 
government from taking sides on the mommy wars. Indeed, as the 
Congress and President contemplate proposals to improve daycare 
for young children, including the President's proposal to pour 
billions of dollars into daycare centers, while ignoring 
parents that raise their kids or have relatives who participate 
in child rearing, pursuing a marriage penalty fix that does not 
assist spouses who choose to stay at home or work part time 
should cause us to pause.
    Profamily organizations such as the Family Research 
Council, Eagle Forum, and tax reform groups such as National 
Taxpayers Union, are aligning behind our approach because it 
benefits all married couples. Some will undoubtedly criticize 
our proposal as too difficult to achieve, given budgetary 
limitations. Indeed, the bill would likely require Washington 
to run on $30 billion less of tax money from America's 
families. But the preservation of security of the cornerstone 
of America, the smallest most important unit of government, the 
family, is too important to short-change with more economical 
but less effective proposals.
    Additionally, Chairman Archer, you recently unveiled a 
proposal that would cap Federal taxation at 19 percent of Gross 
Domestic Product, which if enacted, could amount to an annual 
tax cut of up to $75 billion. A comprehensive marriage penalty 
fix would represent less than half of this amount.
    I know that when we talk about the budget and numbers and 
the fact that this is probably double what the proposal from 
McIntosh and Weller is offering, I know it makes us a little 
bit queazy. But who would have ever thought 3 years ago that we 
would be where we are today in terms of balancing the budget. 
We are within a stone's throw of doing it.
    I have a belief that if the American people can get 
energized about something, and if we representing them get 
energized about something, all things are possible to he that 
believes it. Let's go get it done. Thank you.
    [The prepared statement follows:]

Statement of Hon. Matt Salmon, a Representative in Congress from the 
State of Arizona

    I appreciate the opportunity to testify before the Ways and 
Means Committee in support of the ``Riley-Salmon Marriage 
Protection and Fairness Act.'' The Taxpayer Relief Act (now 
law) provided Americans with the first significant tax cut in 
almost a generation. But our work is not done. As Chairman Bill 
Archer has pointed out, Americans were taxed at a post World 
War II record (19.9) percentage of Gross Domestic Product last 
year.
    Lawmakers from both sides of the aisle have called for the 
next round of tax cuts to revise the tax code as it pertains to 
married couples. One of the most indefensible aspects of our 
current tax code is that over 40 percent of married couples pay 
more in taxes filing jointly than they would if husband and 
wife each filed individually. This ``marriage penalty'' has 
been criticized by President Bill Clinton, Speaker Newt 
Gingrich, and Majority Leader Trent Lott.
    To ensure that tax law would not punish married Americans, 
Representatives Jerry Weller and Dave McIntosh introduced a 
bill, which I have cosponsored, that would eliminate the 
``marriage penalty'' for the 40 some-odd percent of couples who 
pay more taxes filing jointly than they would if each spouse 
filed as an unmarried individual. However, it would upset the 
principle embedded in current law that different families with 
the same total income should be treated equally for tax 
purposes. Consequently, it would place most couples in which 
both spouses work full time in a more favorable tax position 
than families in which one spouse remains at home or works part 
time. Jerry Weller and Dave McIntosh have put this issue on the 
map. Taxpayers owe them a debt of gratitude, and I applaud 
their leadership on this issue. But ``income splitting'' offers 
a better fix to this important problem.
    The Riley-Salmon bill would permit married couples to use 
``income splitting'' on their tax returns, and would increase 
the standard deduction for married couples. These changes would 
offer almost all married couples a tax cut, would eliminate the 
tax penalty on marriage that exists under current law, and 
would continue the current policy that different families with 
the same total income should be treated equally for tax 
purposes. Senator Lauch Faircloth has introduced virtually the 
same bill in the Senate (S. 1285).
    Most importantly, the income-splitting legislation we have 
introduced treats equitably those families in which one parent 
stays at home. As the New York Post has editorialized, this 
approach would end the marriage penalty and benefit ``hard-
pressed one-income married families.'' Another attractive 
feature: Maggie Gallagher noted in a Washington Times column on 
the marriage penalty that income-splitting would keep ``the 
government from taking sides in the mommy wars.'' Indeed, as 
the Congress and President contemplate proposals to improve day 
care for young children--including the President's proposal to 
pour billions of dollars into day care centers, while ignoring 
parents that raise their kids or have relatives who participate 
in child-rearing--pursuing a marriage penalty fix that does not 
assist spouses who choose to remain at home or work part-time 
should cause us to pause.
    Pro-family organizations such as the Family Research 
Council and Eagle Forum, and tax reform groups such as National 
Taxpayers Union are aligning behind our approach because it 
benefits all married couples. Some will undoubtedly criticize 
our proposal as too difficult to achieve given budgetary 
limitations. Indeed, the bill would likely require Washington 
to run on $30 billion less of tax money from America's 
families. But the preservation and security of the cornerstone 
of America, the smallest, yet most important unit of 
government--the family--is too important to shortchange with 
more economical, but less effective proposals. Additionally, 
Chairman Archer recently unveiled a proposal that would cap 
federal taxation at 19 percent of Gross Domestic Product, which 
if enacted, could amount to an annual tax cut of up to $75 
billion. A comprehensive marriage penalty fix would represent 
less than half of this amount.
    I look forward to working with the Committee on passing a 
marriage tax relief bill that benefits all families.
      

                                


    Chairman Archer. Thank you for your testimony.
    Congressman Riley, we would be happy to receive your 
testimony. Again, your entire written statement, without 
objection, will be inserted in the record. You are recognized 
to proceed on your oral testimony.

STATEMENT OF HON. BOB RILEY, A REPRESENTATIVE IN CONGRESS FROM 
                      THE STATE OF ALABAMA

    Mr. Riley. Thank you, Mr. Chairman. Mr. Chairman, I want to 
thank you for holding this important hearing today. I 
appreciate the opportunity to come and speak before the 
Committee about the marriage tax penalty. I think that we can 
all agree that the marriage tax penalty is unfair and is 
misguided. According to the Joint Tax Committee in 1996, more 
than 21 million married couples paid a marriage penalty costing 
more than $28 billion a year. But as simply the average 
American couple will pay $1,400 more in income taxes simply 
because they are married. In my opinion, it is difficult to 
comprehend the devastating effect that the marriage penalty has 
had on our society. Instead of encouraging and helping families 
to stay together, our current Tax Code is forcing them apart.
    Unfortunately, President Clinton's 1993 tax increase made 
the marriage penalty even more painful for married couples. For 
example, according to the National Center for Policy Analysis, 
the marriage penalty for couples earning $50,000 is $1,326 if 
they have no children. However, if they have two children, the 
marriage penalty would be $4,348, a penalty of $1,500 per 
child.
    Yesterday, I introduced the Marriage Protection and 
Fairness Act, that will once and for all eliminate this 
penalty. My proposal is unique because it allows couples to 
effectively split their combined incomes for tax purposes. That 
means that taxes for married couples would be figured by adding 
up the income of both spouses and dividing by two. Each would 
be taxed on half of their own total income. Furthermore, the 
bill also increases the basic standard deduction for married 
couples to twice the standard deduction. This would lower the 
tax burden for all families and would lower it regardless of 
how many children they have. Moreover, it would neutralize the 
tax incentive for two versus one income.
    Mr. Chairman, there are many good marriage penalty relief 
proposals before Congress today. Like many of our colleagues, I 
am a cosponsor of the Weller-McIntosh Marriage Tax Elimination 
Act. But suppose one spouse earns $30,000 a year, and the 
family needs more income. If the other spouse takes a paid job, 
then the couple will benefit from the Weller-McIntosh proposal. 
But if the first spouse works harder to increase his own 
earnings by working overtime, by taking a second job, or by 
getting a promotion, the couple gets no benefit at all. 
Essentially, this means that two couples with the same family 
income, would pay a different Federal income tax. The couple 
where one spouse is a full-time homemaker would pay a higher 
tax than a couple in which both spouses work.
    That is why I introduced the Marriage Protection and 
Fairness Act. I believe that my proposal is the fairest way to 
eliminate the marriage tax penalty. It is the one that makes 
the most sense. It will help millions of working couples who 
are simply trying to make ends meet, and will allow them to 
keep more of what they earn. Under this proposal, the tax 
burden would be the same if one spouse earned all the family 
income, or if both contributed to the family's earnings. It 
would allow millions of Americans to make a choice on how many 
breadwinners there should be, without incurring any penalties 
for that choice. It will also create incentives for families, 
that will allow one parent to stay at home to take care of and 
raise their children.
    Mr. Chairman, we in Congress have a moral obligation to 
promote the family. If we are serious about giving working 
American families tax relief, if we are serious about reducing 
juvenile crime rates and keeping our children off drugs, if we 
are serious about solving our Nation's many other social 
problems, then we must promote legislation that promotes the 
family. I can think of no other more important profamily 
initiative that we in Congress can initiate than the repeal of 
the marriage tax.
    Mr. Chairman, my bill is the same legislation that has been 
introduced by Senator Faircloth, Senator Hutchinson, and 
Senator Mack in the other body. Our proposal is not a 
revolutionary concept. In fact, it was the law until 1969. I 
urge this Committee to strongly consider the merits of the 
Marriage Protection and Fairness Act in its efforts to repeal 
the marriage penalty tax.
    Thank you, Mr. Chairman.
    [The prepared statement and attachments follow:]
    [GRAPHIC] [TIFF OMITTED] T0897.007
    
      

                                


Statement of Hon. Bob Riley, a Representative in Congress from the 
State of Alabama

    Mr. Chairman, I want to thank you for holding this 
important hearing today. I appreciate this opportunity to speak 
before the Committee about the marriage tax penalty.
    I think we can all agree that the marriage tax penalty is 
unfair and misguided. According to the Joint Tax Committee, in 
1996, more than 21 million married couples paid a marriage 
penalty, costing them an extra $28 billion a year in taxes. To 
put it simply, the average American couple will pay $1,400 more 
in income taxes simply because they are married. In my opinion, 
it is difficult to comprehend the devastating effect the 
marriage penalty has had on our society. Instead of encouraging 
and helping families to stay together, our current tax code is 
forcing them apart.
    Unfortunately, President Clinton's 1993 tax increase made 
the marriage penalty even more painful for married couples with 
children. For example, according to the National Center for 
Policy Analysis, the marriage penalty for couples earning 
$50,000 is $1,326 if they have no children. However, if they 
have two children, the marriage penalty would be $4,348--a 
penalty of $1,511 per child.
    Yesterday, I introduced the Riley-Faircloth Marriage 
Protection and Fairness Act that will once and for all 
eliminate the marriage tax penalty. My proposal is unique 
because it allows couples to effectively split their combined 
incomes for tax purposes. That means that taxes for married 
couples would be figured by adding up the income of both 
spouses and dividing by two. Each would be taxed on half of the 
total income. Furthermore, the bill also increases the basic 
standard deduction for married couples to twice the standard 
deduction of single filers (totaling $8,300 for 1997). This 
would lower the tax burden for all families, regardless of how 
many children they have. Moreover, it would neutralize the tax 
incentives for two versus one income.
    Mr. Chairman, there are many good marriage penalty relief 
proposals before Congress today. And like many of my 
colleagues, I am a cosponsor of the Weller-McIntosh Marriage 
Tax Elimination Act. But, suppose one spouse earns $30,000 and 
the family needs more income. If the other spouse takes a paid 
job, then the couple will benefit from the Weller-McIntosh 
proposal. But if the first spouse works harder to increase his 
own earnings by working overtime, by taking a second job, or by 
getting a promotion, the couple gets no benefit at all.
    Essentially, this means that two couples with the same 
family income would pay a different federal income tax--the 
couple where one spouse is a full-time homemaker would pay a 
higher tax than a couple in which both spouses work.
    That is why I introduced the Marriage Protection and 
Fairness Act. I believe that my proposal is the fairest way to 
eliminate the marriage tax penalty, and it is the one that 
makes the most sense. It will help millions of working 
couples--who are simply trying to make ends meet--and will 
allow them to keep more of what they earn. Under this proposal, 
the tax burden would be the same if one spouse earned all of 
the family income, or if both contributed to the family's 
earnings. It will allow millions of American families to make a 
choice on how many breadwinners there should be, without 
incurring any penalties for that choice. It will also create 
incentives for families that will allow one parent to stay at 
home to take care of and raise their children.
    Mr. Chairman, we in Congress have a moral obligation to 
promote the family. If we are serious about giving working 
American families tax relief, if we are serious about reducing 
juvenile crime rates and keeping our children off drugs, if we 
are serious about solving our nation's many other social 
problems and living up to our obligations, then we must promote 
legislation that promotes the family. I can think of no more 
important pro-family initiative that we in Congress can 
initiate than the repeal of the marriage tax penalty.
    This debate over the marriage tax penalty is about the 
survival of the American family. It's about correcting 
unintended consequences. And if, under my proposal, 1,000, 
10,000, or 100,000 American families are able to keep one 
parent at home to care of the children, then I believe our 
nation will be better off. I cannot think of a more noble goal.
    Mr. Chairman, this committee has the opportunity to once 
again reduce the tax burden on the American people. And like 
many of our colleagues, your work and the work of this 
committee is to be commended. As you begin preparing a tax 
relief package, I urge you to include the Marriage Protection 
and Fairness Act.
    The time to pass this legislation is now. Working American 
families simply cannot wait any longer.
    Thank you, Mr. Chairman.
      

                                


[GRAPHIC] [TIFF OMITTED] T0897.008

      

                                


[GRAPHIC] [TIFF OMITTED] T0897.009

[GRAPHIC] [TIFF OMITTED] T0897.010

[GRAPHIC] [TIFF OMITTED] T0897.011

[GRAPHIC] [TIFF OMITTED] T0897.012

      

                                


    Chairman Archer. Thank you, Mr. Riley. You and Congressman 
Salmon are appearing together. Is there any difference in the 
proposals that each of you would make or are you basically 
behind the same proposal?
    Mr. Salmon. It's the same bill, Mr. Chairman.
    Mr. Riley. Exactly.
    Chairman Archer. That's very, very helpful. I must say that 
your approach is very appealing to me because again, coming 
from a community property State, the property laws require 
exactly what you are proposing. Half of each spouse's earnings 
belong legally to the other spouse.
    Mr. Riley. Yes, sir. That's exactly. What we can't do, Mr. 
Chairman, is codify into law something that differentiates 
between two working couples with the same income. That 
essentially is what the former proposal does. I want to 
compliment Congressman Weller for all the work and the 
attention that he has brought to it, but I think we do need to 
take it one step further. I think we need to go back and never 
penalize any spouse for making the decision to stay home and 
raise their family. Essentially, that's what we do. That is one 
thing that I don't believe this Congress believes in. I know 
it's certainly not something that I believe in.
    Mr. Salmon. You know, Mr. Chairman, every politician just 
about that's here, when they get up, they talk about family 
values. I think it would be a real mixed message out of 
Congress that we would send if we are saying basically you 
mothers that decide to stay home or work part time so you can 
spend more time with your children, we are going to penalize 
you or continue the penalty for doing such. I think it sends 
the wrong message out of Congress. Some say ``Can we afford to 
do it?'' I say, ``Can we afford not to do it?'' I think that at 
a time when the message is and has been for parents to be more 
involved in their children's education, for parents to be more 
involved in raising their children, for parents to be more 
involved to make sure that their kids are off the streets, not 
causing mischief. When a couple decides the best way for them 
to address that issue is to have either mom or dad at home, I 
think it really sends a poor message from Congress that we 
disagree with you, that doesn't really add value.
    Chairman Archer. Having said what I did, I also have to be 
a realist about the amount of revenue that we are going to be 
able to put into a tax package this year. We certainly will 
make an effort to move in the direction of ameliorating the 
negative impact of the marriage penalty. But how far we can go 
will depend upon how much revenue we will be able to put into 
the tax bill.
    Does any other Member wish to inquire?
    Mr. Shaw.
    Mr. Shaw. Mr. Chairman, just very briefly I would like to 
compliment all the witnesses, and this panel particularly, who 
testified on the marriage penalty tax. It's certainly something 
that we should take down. We partially took down the barrier to 
marriage in the welfare reform bill, in which we paid people 
not to work, not to get married and to have kids. We have to 
take this last one down in the tax bill. It's absolutely 
ridiculous that it's this way.
    To share with you an anecdote that we had in our own 
office. A young lady who works for me on my staff had a New 
Years Eve wedding. They waited for their license to be dated on 
the first of the year in order to avoid a marriage penalty. 
This is absolutely ridiculous, that we penalize people for 
being married. I compliment you for your work in this area, and 
am very hopeful that this will be the top priority of the Ways 
and Means Committee, to get rid of this unfair tax. Thank you. 
Thank you, Mr. Chairman.
    Chairman Archer. Does anyone else wish to inquire?
    Mr. Weller.
    Mr. Weller. Thank you, Mr. Chairman. I want to commend my 
friends, Mr. Riley and Mr. Salmon, for their interest in this 
issue. I have enjoyed talking with them and working with them. 
Of course whatever idea is the best idea, the bottom line is we 
want to eliminate the marriage tax penalty.
    A couple questions I have. The Congressional Budget Office 
study highlighted not only the marriage tax penalty, but they 
also mentioned the so-called marriage bonus. In studying the 
CBO study, they pointed out that the single earner family, 
where one individual, the husband or wife works and the other 
one might stay at home or is not a wage earner, I was 
wondering, how does your legislation impact the so-called 
marriage bonus? Does that marriage bonus still exist or does it 
eliminate the marriage bonus for a married couple with one 
source of income?
    Mr. Riley. Congressman, it essentially does the same thing 
that your legislation does. It allows them an option to figure 
their tax liability in any one of three different forms, choose 
the lowest of the three and that's what they would do. If there 
is a bonus, I'm not too sure that that is a bad idea. If 
anything, I wish that we could encourage more spouses to stay 
home and raise their children. If that is an unintended asset 
to this bill, then I think it's one that I would encourage.
    Mr. Weller. Of course I am one who believes the bonus is a 
good thing. We certainly don't want to jeopardize that. But let 
me ask this. I was asked this question regarding our 
legislation. Have you had the legislation scored yet? Do you 
know the revenue impact?
    Mr. Riley. No. We haven't. We filed it yesterday. It is 
being scored. I think as Congressman Salmon said a moment ago, 
it's going to be more expensive. We know that going in. 
Probably by $8 to $10 billion. That is no menial figure. But 
again, when you talk about codifying into law something that 
discriminates against a homemaker, I do not believe that we can 
allow that to happen in this country. Even though it may be 
another $8 or $10 billion, I think it is going to be well worth 
the price that we pay.
    Mr. Salmon. If I might address that too. It will be 
significantly higher on an annual basis than the other one, 
even though as Congressman Riley mentioned, it hasn't been 
scored yet. But I would like to go back to what we have seen, 
Congressman Weller, since we have been in the Congress. The 
projections on revenues have vastly exceeded what we ever 
anticipated. There is a possibility in this next budget, we 
will already see a surplus.
    I believe that it simply gets down to priorities. If this 
is our number one priority for the Congress, we can make it 
happen. We can figure out a way to make it happen and really 
not have any other aspect of government suffer for it.
    Mr. Weller. Thank you. I look forward to working with you. 
I share your goal, the number one must do as we look at this 
year's budget negotiations when it comes to the tax provision 
is eliminating the marriage tax penalty. So again, thank you.
    Mr. Riley. Let both of us compliment you on your leadership 
on this. We really appreciate it.
    Mr. Salmon. If it wasn't for you, Congressman Weller, I 
don't think any of us would be here today. So we must both 
compliment you. I am a cosponsor of your bill as well.
    Mr. Riley. So am I.
    Chairman Archer. Mr. Hayworth.
    Mr. Hayworth. Thank you, Mr. Chairman. I have no real 
question other than just a commendation to my colleagues. Along 
with my seatmate here, the gentleman from Illinois, I am very 
pleased to see my colleague from Arizona, from the first 
district. I think this is intriguing. And one of the newcomers 
to the House of Representatives, the gentleman from Alabama. 
Thank you for bringing sound, logical thinking and a good dose 
of common sense here to the District of Columbia. I think you 
are both to be commended. This is a very intriguing proposal. 
We'll continue to study this as we also study the proposal by 
our colleagues from Illinois and Indiana. I just want to thank 
you again for your input into this debate and your solution.
    Chairman Archer. Has the gentleman completed his inquiry.
    Mr. Hayworth. Yes, sir. I know it's hard to believe.
    Chairman Archer. Are there any other Members who wish to 
inquire? If not, thank you very much. I appreciate your input.
    Our next panel is Michael Graetz, Daniel Feenberg, David 
Lifson, and Bruce Bartlett. Will you please come to the witness 
table?
    If you gentlemen, when recognized, will state where you are 
employed and what you do for the record, and then proceed into 
your testimony. And, as I mentioned earlier, we would 
appreciate it if each of you would keep your oral presentation 
within 5 minutes, and your entire written statement, without 
objection, will be inserted in the record.
    Mr. Graetz, we are delighted to have you back before the 
Committee. You're no stranger to the Committee over the years, 
and you go back to when the first marriage penalty was really 
inserted into the law. So we are really pleased to have you 
back before the Committee. And, again, if you'll tell the other 
Members what you are doing now, and whom, if anybody, you 
represent, we'd be pleased to hear your testimony.

  STATEMENT OF MICHAEL J. GRAETZ, PROFESSOR OF LAW, YALE LAW 
                 SCHOOL, NEW HAVEN, CONNECTICUT

    Mr. Graetz. Thank you, Mr. Chairman. I am currently a 
professor of law at the Yale Law School, and represent only 
myself, I fear.
    I thank you for inviting me to testify. The last time I 
testified before this Committee on this subject was in May 1972 
when we were considering the impact of legislation that had 
been enacted in 1969. Here we are 25 years later on the same 
topic.
    I attached to my statement a chapter from my recently 
published book, ``The Decline (and Fall?) of the Income Tax,'' 
which I've made available to the Members and to the staff. I 
can, therefore, just summarize a few of the key points I would 
like to make.
    As you know, Mr. Chairman, in 1969 and shortly thereafter, 
the marriage penalty affected very few people. In 1972, when 
Treasury testified, it said that only 15 percent of married 
couples suffered a marriage penalty, while 85 percent received 
a bonus. In the last 25 years, the scale and scope of the 
marriage penalty have expanded dramatically. I think today 
somewhere between one-half and two-thirds of all married 
couples face a penalty because of some provisions that were 
omitted from the numbers that you have discussed earlier.
    There are two causes of this vast expansion: one is the 
transformation of the Nation's work force and, in particular, 
the entry of married women into the labor market, as has been 
discussed earlier. The median income of those families is 40 
percent greater than that of families with only 1 earner. 
Second, while the composition of the Nation's work force was 
changing so dramatically, Congress after 1969, was adding to 
the Tax Code a number of new marriage penalties. The earned 
income tax credit provisions have a very large marriage penalty 
in them, in some cases the tax can be as high as one-fourth of 
a combined couple's income. The 1993 changes requested by 
President Clinton and accepted by Congress added whopping 
marriage penalties at the top of the income scale and for 
Social Security recipients.
    These new tax penalties on marriage, in my opinion, Mr. 
Chairman, have resulted from efforts by Congress to fit tax 
measures into straightjackets imposed by budgetary revenue 
constraints coupled with the desire to make distributional 
tables come out right. The fact that Congress now routinely 
enacts sizeable penalties on marriage for the sole purpose of 
conforming to distribution tables demonstrates the dangers of 
subordinating important tax and public policy goals to such 
constraints.
    Second, because marriage penalties have been introduced to 
the Code through specific provisions as well as in the tax 
rates schedules, finding a solution to this problem is going to 
be extremely difficult. There are two general approaches before 
the Committee today, as you have heard, neither one of which, 
in my view, is entirely satisfactory. The first is to try and 
focus on specific tax penalties and to root them out wherever 
they appear; allowing deductions or credits for a portion of 
wages of the low-earning spouses, for example, would be such an 
approach. It would not affect, for example, Social Security 
recipients. And it's not clear to me why tax penalties for 
marriage are more important for citizens at one part of the 
income scale rather than at the other, or for workers rather 
than retirees.
    The second approach, exemplified by Congressman Weller's 
bill and some others is to allow a married couple to file tax 
returns as if they were unmarried. As you pointed out, Mr. 
Chairman, this reintroduces distinctions between community 
property and common-law States and creates incentives to shift 
the ownership of assets. I think ultimately you have to base 
such an approach on the aggregate income of the couple in order 
to make it work.
    In my book, I suggest that the marriage penalty is one of 
the major reasons the American public is now so dissatisfied 
with the income tax. It is one reason to take seriously 
restructuring of the tax system. To be sure, we've seen today 
people who have not married, and we know there are couples who 
have divorced because of this tax penalty on marriage. It is 
routine for couples to hold marriages in January rather than in 
December and put their families and friends to a bizarre 
inconvenience.
    No one would design a tax system that penalized marriage. 
No broad reform of the tax system before the Congress should 
retain any tax penalty on marriage. The marriage penalty should 
be removed from our system, but I am, frankly, Mr. Chairman, 
skeptical about whether that can be done while retaining the 
current income tax in place.
    When a tax system departs fundamentally from the values of 
the people it taxes, it cannot sustain public support. When 
people lose respect for a tax law, they will not obey it. 
Arbitrary and unfair tax distinctions of this sort instill 
disdain for the law and disrespect for those who write and 
enforce it.
    Let me just end with this quote from an exchange between 
Senator Robert Dole--I report this in my book--and between a 
couple, Angela and David Boyter, in a Senate Finance Committee 
hearing in 1980 on this subject. Senator Dole says, ``You are 
divorced now?'' Mr. Boyter: ``We are divorced now and have been 
for several years.'' Senator Dole: ``You live together 
though.'' Mr. Boyter: ``That is right. The IRS told us that 
that was preferable to getting remarried every year and then 
divorced.'' Mrs. Boyter: ``My mother did not think so, but the 
IRS did.''
    Now is the time to conform the tax system to the values of 
America's mothers.
    Thank you, Mr. Chairman.
    [The prepared statement and attachment follow:]
Statement of Michael J. Graetz, Professor of Law, Yale Law School, New 
Haven, Connecticut

    Mr. Chairman, and members of the Committee--
    Thank you for inviting me to testify on this important 
issue. I first sat at this table at a hearing on this subject 
more than twenty five years ago in May, 1972, when I was 
serving at the Treasury Department.
    My views on this issue are set forth in Chapter Two of my 
recently published book, The Decline (and Fall?) of the Income 
Tax, which I have attached to this statement. That chapter also 
reviews the history of the taxation of married and single 
persons under the income tax. Its history makes clear that this 
issue is no simple or straightforward matter. In this brief 
statement, I shall merely emphasize a few major points:
    1. From the inception of the income tax in 1913 until 1969, 
there was no tax penalty for marriage. The marriage penalty 
originated in 1969 as a by-product of a well-intentioned 
Congressional effort to improve income tax equity for single 
people. In 1972, the Treasury Department testified that fewer 
than 15% of married couples faced any marriage penalty, while 
more than 85% of married couples enjoyed a tax reduction by 
filing joint returns. At that time, the marriage penalty 
affected only this relatively small number of upper-middle-
income couples. It had virtually no impact at the bottom or top 
of the income scale. In the past twenty five years, both the 
scale and scope of income tax penalties on marriage have grown 
dramatically so that today, somewhere between one half and two 
thirds of all married couples pay greater income taxes solely 
because they are married.
    2. There are two causes of this great expansion of income 
tax marriage penalties. The first is the transformation of the 
nation's workforce, in particular, the entry of married women 
into the labor market. Today, nearly three quarters of married 
women under age 55 are in the labor force. The median income of 
these families is 40% greater than families with only one wage 
earner.
    Second, while the composition of America's labor force was 
changing so dramatically, Congress was adding to the tax code a 
variety of new marriage penalties. By so doing, incentives for 
divorce or for remaining unmarried were created for wide 
segments of the population that previously had been unaffected. 
The earned income tax credit provisions, which first came into 
the Internal Revenue Code in the mid-1970s and have been 
greatly expanded since, frequently impose a very large marriage 
penalty on low income workers. In some cases, the additional 
tax can be as much as one fourth of two low income workers' 
combined incomes. The 1993 changes in the tax rate schedule 
requested by President Clinton and accepted by Congress, added 
whopping marriage penalties for high-income taxpayers, in some 
cases as much as $15,000 of additional taxes a year. Income tax 
penalties on marriage now appear throughout the tax code, in 
the provisions taxing Social Security, for example, and in 
provisions such as last year's tax legislation's phase-outs of 
certian new benefits for families with children, and for 
education or retirement savings.
    These recent new tax penalties on marriage have resulted 
from efforts by Congress to fit tax measures into a 
straightjacket imposed by budgetary revenue constraints coupled 
with a desire to make the distributional tables ``look right.'' 
The fact that Congress now routinely enacts sizable penalties 
on marriage for the sole purpose of conforming to a specific 
combination of revenue and distributional targets demonstrates 
the dangers of subordinating important tax and public policy 
goals to such constraints.
    3. Because marriage tax penalties have entered the code in 
recent years both through the tax rate schedule and through new 
penalties being added here and there within specific 
provisions, finding a clean and complete solution to this 
problem is not easy. There are two general approaches--both of 
which are represented in bills before this committee today--
neither one of which is entirely satisfactory.
    The first line of attack is to focus on specific marriage 
tax penalties and try to root them out whenever they seem 
important. This, of course, requires establishing priorities, 
which are inevitably controversial. For example, allowing a 
deduction for a portion of the wages of the lower-earning 
spouse, as was in the law prior to 1986 and has been re-
proposed here today, reduces marriage penalties for taxpayers 
who can use the deduction, but does nothing to alleviate 
marriage penalties, for example, due to the workings of the 
earned income tax credit or the way Social Security benefits 
are taxed. It is not clear to me, why tax barriers to marriage 
are more important for higher-income citizens than for lower-
income citizens or even for workers rather than retirees.
    The second approach--exemplified by Congressman Weller's 
bill--is to allow a married couple to file tax returns as if 
they were unmarried. This is an expensive and potentially 
complex solution. It also reintroduces distinctions between 
married couples who live in community property states and 
common law states--a distinction which has long plagued the 
income tax--and creates opportunities for tax savings by 
shifting the ownership of investment assets within a family.
    I am inclined to think that if a general solution to this 
problem is to be attempted in the current income tax, it should 
be based on the aggregate income of the married couple, not on 
their individual incomes. For example, a married couple might 
be allowed to fill out their joint return, but to treat half of 
the income as earned by each spouse and file as single persons. 
This would avoid some of the potential problems of Congressman 
Weller's approach, but would also represent a comprehensive 
attack on the income tax penalties on marriage. I doubt if this 
alternative would be significantly less costly in terms of 
revenues than Congressman Weller's bill. The approach I have 
just described also would not solve the problem, which has been 
emphasized by some analysts, of taxing a married woman who 
enters the labor force at a marginal income tax rate that 
depends on her spouse's income. In other words, while this kind 
of approach could eliminate tax penalties solely due to 
marriage, it would not eliminate certain tax disincentives for 
married women to work. This does not trouble me, because I 
regard the marriage tax problem as a problem of an income tax 
system endorsing and incorporating the wrong values; I am far 
less concerned with its behavioral effects.
    4. In my book, I suggest that the marriage tax penalty is 
one of the major reasons the American people have become so 
dissatisfied with the income tax, one of several reasons to 
take seriously the task of restructuring the nation's tax 
system. This penalty, to be sure, has induced some people to 
remain single who otherwise might have married, or to divorce, 
and no doubt has induced many more couples who do marry to 
postpone their weddings from December to January to save at 
least one year's marriage penalty. They and their families and 
friends all rightly hold Congress responsible for such an 
absurdity.
    No one would design a tax system in a way that penalized 
marriage. No broad reform of the tax system recently introduced 
in the Congress--whether a restructuring of the income tax as 
Congressman Gephardt has proposed, or elimination of the income 
tax in favor of some form of consumption tax as others have 
proposed--should retain any tax penalty on marriage. The 
marriage penalty must be removed from our tax system. I am, 
however, somewhat skeptical about whether that can be done 
while retaining in place the current income tax with its many 
complexities and barnacles.
    When a tax system departs dramatically from the fundamental 
values of the people it taxes, it cannot sustain public 
support. When people lose respect for a law, they will not obey 
it. Arbitrary and unfair tax distinctions--such as those based 
on marital status--instill disdain for the law and disrespect 
for those who write and enforce it. The voluntary compliance of 
private citizens which is essential to enforce any tax statute 
will diminish.
    Consider this quote from an exchange reported in my book 
between Angela and David Boyter and Senator Robert Dole at an 
August, 1980 hearing of the Senate Finance Committee on this 
subject:

          Senator Dole: ``You are divorced now?''
          Mr. Boyter: ``We are divorced now and have been for several 
        years.''
          Senator Dole: ``You live together, though?''
          Mr. Boyter: ``That is right. The IRS told us that that was 
        preferable to getting remarried every year and divorced.''
          Mrs. Boyter: ``My mother did not think so, but the IRS did.''

    I applaud the Chairman for calling these hearings to 
demonstrate that Congress has now become serious about 
responding to the changes in society, in the economy, and in 
the tax law, that have occurred since the marriage penalty was 
first introduced in 1969. The absence of a perfect, or even 
fully satisfactory resolution to this difficult problem should 
not become an excuse for not acting. The public is properly not 
indifferent about whether the nation's income tax law 
encourages marriage or divorce. I hope that this Committee will 
soon begin to bring the tax system into greater conformity with 
the values of America's mothers.
      

                                


[GRAPHIC] [TIFF OMITTED] T0897.013

[GRAPHIC] [TIFF OMITTED] T0897.014

[GRAPHIC] [TIFF OMITTED] T0897.015

[GRAPHIC] [TIFF OMITTED] T0897.016

[GRAPHIC] [TIFF OMITTED] T0897.017

[GRAPHIC] [TIFF OMITTED] T0897.018

[GRAPHIC] [TIFF OMITTED] T0897.019

[GRAPHIC] [TIFF OMITTED] T0897.020

[GRAPHIC] [TIFF OMITTED] T0897.021

[GRAPHIC] [TIFF OMITTED] T0897.022

[GRAPHIC] [TIFF OMITTED] T0897.023

[GRAPHIC] [TIFF OMITTED] T0897.024

[GRAPHIC] [TIFF OMITTED] T0897.025

      

                                


    Chairman Archer. Mr. Feenberg.

  STATEMENT OF DANIEL FEENBERG, RESEARCH ASSOCIATE, NATIONAL 
     BUREAU OF ECONOMIC RESEARCH, CAMBRIDGE, MASSACHUSETTS

    Mr. Feenberg. I work at the National Bureau of Economic 
Research in Cambridge, Massachusetts. I represent only myself.
    Marriage penalties can be quite significant. For working 
couples with modest income, penalties of $1,000 or $2,000 are 
typical. For successful professionals, the increase can be 
$10,000 or $20,000. More significantly, for two working-poor 
parents near the EIC maximum, the penalty could be several 
thousand dollars.
    While the available statistical evidence does not support a 
large effective marriage tax on marriage and divorce rates, the 
situation is morally troubling, to say the least. Economic 
analysis of the marriage penalty usually centers on other 
aspects. First the system may be thought to be unfair because 
it imposes the same tax burden on married couples with two 
earners as it does on a one-earner couple with the same income, 
even though the latter is better off by the value of the 
additional untaxed home-produced services. This is an important 
argument because it justifies different tax liabilities for 
families according to the within-family distribution of income. 
If this argument is accepted, it is again possible to reduce or 
eliminate the marriage tax without giving up graduated rates.
    The second concern that economists generally have is that 
married women are typically thought to be quite responsive to 
changes in the aftertax wage rate. This makes it particularly 
inefficient to tax married women at their husband's marginal 
rate. In 1995, Martin Feldstein and I analyzed a number of tax 
reform proposals, including a revival of the second-earner's 
deduction which allowed the secondary earner to deduct 10 
percent of her earnings up to $30,000 from total income. For 
married women with earnings below $30,000, this represents a 
10-percent reduction in the marginal tax rate. With no change 
in labor supply, we found a cost of $7.2 billion at 1994 
levels, but we estimated a net $5.7 billion increase in wage 
earnings. This would reduce the cost in the individual income 
tax side of the budget by $1.1 billion. In addition, the 
increased earnings also increase the payroll taxes by about 
$0.9 billion, bringing the net loss to $5.2 billion. In this 
case, the static revenue estimate overstates the actual loss by 
38 percent. So the revenue argument against the deduction is 
substantially moderated by the consideration of behavioral 
effects.
    We also simulated the law with a cap set at $50,000 rather 
than $30,000. This is a better match to the 1981 law after an 
allowance for inflation. The surprising feature of this 
analysis is that the more generous plan dominates the original. 
More specifically, the higher deduction limit raises the static 
revenue loss by about $700 million, but induces an additional 
$1.7 billion in earnings. While the personal income tax still 
falls by $200 million, this is offset by greater payroll tax 
revenues.
    At the price, the secondary earner's deduction is an 
especially attractive plan because it reduces marriage 
penalties by about a third or more without much increasing 
marriage bonuses and with very little complication to the tax 
form. I note that the secondary earner's deduction has no 
phaseout range, and I applaud that. A phaseout of the benefit 
would just aggravate the marriage tax at some higher income 
level.
    H.R. 2456 creates a new filing status called a combined 
return similar to optional separate filing but with deductions 
apportioned by formula and using the schedule for single 
taxpayers. My personal view is that combined return of the form 
contemplated is highly problematic from the tax administration 
complexity perspective. The plan adds at least 40 boxes to the 
form 1040 and doubles the number of supporting schedules that 
couples with separate property would have to attach. Even 
taxpayers not benefiting from the new provisions might spend 
substantial time confirming that disappointing fact, and few 
will understand the justice for their disappointment.
    We did simulate a number of plans which allowed the 
secondary earner to file a separate return for wage income only 
and with all deductions and exemptions on the couple's primary 
return. While quite costly, these plans did well on a 
deadweight loss per dollar of revenue basis and would be worth 
considering. With only one form of income separately taxed, the 
additional lines on the form are few and the additional 
complexity is minimized.
    There are a number of provisions in the law, including the 
earned income tax credit, the phaseout of personal exemptions, 
limitations on itemized deductions, and the thresholds for 
taxation of Social Security that aggravate the marriage tax. 
The apparent rationale for these phaseouts is that not only 
should the Tax Code be progressive overall, but that each 
provision of the Tax Code should be progressive on its own. 
This is not attractive logically. Progressivity should be a 
feature of the entire Tax Code, and not of the individual 
paragraphs of the Tax Code. Perhaps we could have fewer of 
these carbuncles on the Code if, like the British, we called 
them clawbacks instead of phaseouts.
    Finally, separate filing provides a dramatic example of the 
role that graduated rates play in generating tax complexity. It 
is often alleged that taxes need not be flat to be simple since 
the effort of looking up the tax liability in the table is 
independent of the number of brackets that were used to create 
the table. But those 40 additional boxes on the 1040 that would 
be required by the combined return are due to the fact that 
with graduated rates the amount of tax depends upon exactly who 
has earned the income. It is the individual's specific marginal 
tax rate that means the tax cannot be simple unless it is also 
flat.
    My last remark would be to point out that neither of the 
proposed bills do anything to ameliorate the marriage tax 
generated by the EIC phaseouts. This is very unfortunate 
because it is at these lowest income levels that the tax is the 
greatest in proportion to income and where the effects on 
marital status might be expected.
    Thank you for your attention.
    [The prepared statement follows:]

Statement of Daniel Feenberg, Research Associate, National Bureau of 
Economic Research, Cambridge, Massachusetts

    With graduated rates, higher income taxpayers pay a greater 
percentage of their income in taxes. But there is no obviously 
correct way to compare individuals and couples. The individual 
with 50K of annual income pays a higher average tax rate than 
the individual with 25K of income. But what rate should the 
couple with 50K of income pay? Are they like the individual 
with the same income, and should they pay the higher rate? Or 
like two single taxpayers each with half that of income, and be 
subject to a lower average rate set for the less well off? Does 
it matter if both are working at a low wage, or just one at a 
high wage? And should couples with the same income pay the same 
tax, anyway? It isn't a question that can be answered 
scientifically by investigation into whether two can live as 
cheaply as one.
    As you know, single and married people face different tax 
schedules under current law, with the tax liability of married 
individuals based on the couple's joint income. Consequently, 
tax burdens change with marital status, although whether up or 
down depends upon the closeness of the incomes of the spouses. 
The more equal the incomes, the greater the tendency for tax 
liabilities to increase upon marriage.
    The marriage penalty is no mere technical problem, and 
marriage non-neutrality is inevitable in a tax system with 
income splitting and graduate rates. From 1982 to 1986 the law 
departed from pure income splitting by the introduction of the 
secondary earner's deduction. That substantially ameliorated 
the marriage penalty but was dropped when TRA87 provided an 
even greater relief from the marriage penalties through lower 
marginal rates. Recent increases in statutory marginal rates 
have aggravated the marriage penalty again, as has the 
introduction of taxable social security benefits. The 1997 
Taxpayer Relief Act includes a child credit which adds a 
potential marriage tax of $500 per child to those couples where 
both husband and wife earn between $65,000 and $75,000. Their 
income together puts them above the phaseout range for a 
couple, but apart they would receive the full benefit.
    Under current law the magnitude of the marriage penalty can 
be quite significant. For working couples with modest incomes, 
penalties of one or two thousand dollars are typical. For two 
very successful professionals, the increase could be ten or 
twenty thousand dollars. More significantly, for two working 
poor parents near the EIC maximum, the penalty could be several 
thousand dollars, perhaps 15% of income. Of course a similar 
number of couples receive a marriage bonus. It may hard to 
reduce the tax without increasing the bonus, or we may consider 
the bonus to be desirable.
    While the available statistical evidence does not support a 
large effect of marriage taxes on marriage and divorce rates, 
the situation is morally troubling, to say the least.
    Economic analysis of the marriage penalty usually centers 
on other aspects. First, the system may be thought to be unfair 
because it imposes the same tax burden on a married couple with 
two earners as it does on a one earner couple with the same 
income, even though the later is better off by the value of the 
additional untaxed home produced services.
    This is an important argument, because it justifies 
different tax liabilities for families according to the within 
family distribution of earnings. If this argument is accepted, 
it is again possible to reduce or eliminate the marriage tax 
without giving up graduated rates.
    The second concern is that while the labor supply response 
of married men to the after-tax wage is still controversial, 
most economists in both parties believe that women are quite 
responsive to changes in the after-tax wage rate. This makes it 
particularly inefficient to tax married women at their 
husband's marginal rate. In fact, currently the typical married 
woman's marginal rate is even higher than her husband's rate, 
once social security tax and benefit rules are accounted for. 
Reducing the marginal rate faced by the more elastic earner 
will improve efficiency.
    In 1995 Martin Feldstein \1\ and I analyzed a number of tax 
reform proposals including a revival of the secondary earner's 
deduction. This was a feature of the tax law from 1982 to 1986, 
and as with HR 2593, it allowed the secondary earner to deduct 
10% of her earnings from total income. For married women with 
earning below $30,000 this represents a 10% reduction in the 
marginal tax rate.
---------------------------------------------------------------------------
    \1\ Feldstein, Martin, and Daniel Feenberg, ``The Taxation of Two-
Earner Families'' in Martin Feldstein and James Poterba, editors, 
Empirical Foundations of Household Taxation, University of Chicago 
Press, 1996.
---------------------------------------------------------------------------
    In our analysis we forecast the revenue effect after 
accounting for the change in labor supply induced by the higher 
after tax wage rate and lower tax liability. We take the 
elasticity of hours with respect to the net of tax share to be 
.45.
    With no change in labor supply, we found a cost of 7.2 
billion dollars at 1994 levels. But we estimated a net 5.7 
billion dollar increase in wage earnings. This would reduce the 
cost on the individual income tax side of the budget by 1.1 
billion to 6.1. In addition, the increased earnings also 
increase the payroll taxes that these women and their employers 
pay by about .9 billion, bringing the net loss to 5.2 billion. 
In this case the static revenue estimate overstates the loss by 
38 percent. So the revenue argument against the deduction is 
substantially moderated by the consideration of behavioral 
effects.
    We also simulated the law with a cap set at $50,000 rather 
than $30,000. That is a better match to the 1981 law after an 
inflation correction. The surprising feature of this analysis 
is that the more generous plan dominates the original. This 
occurs because the $30,000 cap provides no favorable effect on 
the incentives of secondary earners with initial earnings above 
$30,000, while nevertheless reducing the tax that they pay. 
More specifically, the higher deduction limit raises the static 
revenue loss by approximately $700 million, but induces an 
additional $1.7 billion in earnings. Although the personal 
income tax still falls by $200 million, this is offset by 
greater payroll tax revenues.
    At the price, the secondary earner's deduction is an 
especially attractive plan because it reduces the marry about a 
third or more, without much increasing marriage bonuses, and 
with very little complication to the tax form. I note that the 
secondary earner's deduction has no phaseout range, and I 
applaud that. A phaseout of the benefit would just aggravate 
the marriage tax at some higher income level.
    HR 2456 creates a new filing status called a ``combined 
return'', similar to optional separate filing but with 
deductions apportioned by formula and using the schedule for 
single taxpayers. We did not do an analysis for any form of 
optional separate filing, perhaps because the revenue cost 
seemed too great at the time, but I would expect that the 
importance of accounting for behavioral effects would be as or 
more important than for a secondary earner's deduction.
    Anyone doing such an estimate for separate filing must face 
the problem that even if one knew the current distribution of 
property within the family, that distribution might be affected 
by tax-avoidance measures induced by the availability of the 
new filing status. With no simulations, I have no quantitative 
evaluation of HR 2456.
    My personal view is that a combined return of the form 
contemplated by HR 2456 is highly problematic from the tax 
administration and complexity perspective. The plan adds at 
least 40 boxes to the Form 1040, and doubles the number of 
supporting schedules that couples with separate property would 
have to attach. Even taxpayers not benefiting from the new 
provisions might spend substantial time confirming that 
disappointing fact, and few will understand the justice of that 
disappointment.
    We did simulate a number of plans which allowed for the 
secondary earner to file a separate return for wage income 
only, with all deductions and exemptions on the couples primary 
return. While quite costly, these plans did well on 
a``deadweight loss per dollar of foregone revenue'' basis and 
would be worth considering. With only one form of income 
separately taxed, the additional lines are few, and the 
additional complexity minimized.
    Finally, separate filing provides a dramatic example of the 
role that graduated rates play in generating tax complexity. It 
is often alleged that taxes need not be flat to be simple, 
since the effort of looking up the tax liability in the tax 
table is independent of the number of brackets. But those 40 
additional boxes on the 1040 would be required under separate 
taxation with graduated rates because the amount of tax would 
depend upon exactly whose income is whose.
    Neither HR 2456 nor HR 2593 do anything to ameliorate the 
marriage tax generated by the EIC phaseouts. This is 
unfortunate because it is at the lowest income levels that the 
tax is the greatest proportion of income and where effects on 
marital status might be expected.
    Thank you for your attention.

Daniel Feenberg is Research Associate of the National Bureau of 
Economic Research, Cambridge MA. The views expressed here are 
those of the author, and not of any institution.
      

                                


    Chairman Archer. Thank you, Mr. Feenberg.
    Our next witness is David Lifson. Mr. Lifson, you may 
proceed.

STATEMENT OF DAVID LIFSON, VICE CHAIR, TAX EXECUTIVE COMMITTEE, 
       AMERICAN INSTITUTE OF CERTIFIED PUBLIC ACCOUNTANTS

    Mr. Lifson. Mr. Chairman, and Members of this distinguished 
Committee: I am David Lifson, vice chair of the Tax Executive 
Committee at the American Institute of CPAs--the national 
professional organization of CPAs with more than 330,000 
members. Many of our members are tax practitioners who, 
collectively, prepare income tax returns for millions of 
Americans. We appreciate this opportunity to testify today on 
the marriage penalty.
    The AICPA urges that the tax system be modified to 
eliminate or reduce the marriage penalty. The tax system should 
be marriage neutral. Both simplification and equity must also 
be considered. This issue involves tax, social, and economic 
policy decisions that must be coordinated to maximize the 
benefit of any change. We want to help and we can be very 
helpful.
    Your background studies confirm that under the current tax 
system, a marriage penalty, or a marriage bonus, exists. The 
bonus is intentional often, and is the result of prior tax 
policy. The penalty is often unintentional.
    There are currently at least 63 provisions in the Internal 
Revenue Code where tax liability depends on whether a taxpayer 
is married or single. In 1996, when the GAO released their 
report on this topic, there were only 59 reasons. Then, there 
were 59 reasons to leave your spouse. Now, with the 1997 tax 
act, there are 63 reasons, representing nearly a 7-percent 
increase in only 1 year. [Laughter.]
    The marriage penalty results from two root causes: stacking 
of joint income against progressive tax rates, and phaseouts of 
credits, deductions, and exemptions often designed to prevent 
abuses or to produce targeted benefits. We recommend that at a 
minimum Congress should consider adopting standard phaseouts 
for three income levels--low-income, middle-income, and high-
income taxpayers--rather than the 20 current levels; and adopt 
one standard phaseout method for all. Note that the phaseout 
ranges would eliminate many of the 63 penalties since the joint 
amounts would be twice the single ranges, and the phaseout 
ranges applicable to married-filing-separate taxpayers would be 
the same as those for single taxpayers.
    We have provided you a table to study our proposal further. 
In one careful step, you could go a long way to attack two of 
the most talked about issues today in taxes: complexity, and 
the marriage penalty.
    In addition, there are related tax problems that arise 
because of marriage and joint liability. We urge this Committee 
to give these matters their due consideration. For example, the 
innocent spouse rules need modifications, as do the treatment 
of carryover tax attributes, and NOL computations in the 50 
percent of our marriages that end in divorce. Further, we 
suggest that Congress provide for allocated liability instead 
of joint and several liability on joint tax returns. And 
perhaps most importantly, further consideration of separate 
returns or separate liability calculations must be considered 
as an option.
    Again, we have provided you with background material in 
this area. It's with our materials.
    The AICPA has been studying this area, including H.R. 2593 
providing a limited two-earner deduction, and H.R. 2456 
allowing limited combined returns. These and other bills 
included in the discussions today need to go further and need 
to be coordinated into a single rational improvement.
    You should consider all possible approaches--provide for 
the separate calculations; provide for something like a two-
earner deduction; provide a tax credit; adjust or broaden the 
current rate bracket schedules so that there is less marriage 
penalty; or, as I said earlier, you can adopt a standard 
phaseout for the three income levels, eliminating many of the 
63 marriage penalties.
    In conclusion, the AICPA urges that the tax system be 
modified to eliminate or reduce the marriage penalty or bonus. 
We have discussed a number of possible approaches to address 
this problem. However, each of these provisions needs to be 
thoroughly analyzed in order to provide the intended economic, 
tax, and social benefits. Standard phaseouts could go a long 
way. All alternatives should be considered.
    American families, American workers, and all American 
taxpayers deserve everyone's careful analysis and 
consideration.
    The AICPA thanks you for listening.
    [The prepared statement and attachments follow. Appendices 
are being retained in the Committee files.]
[GRAPHIC] [TIFF OMITTED] T0897.026

[GRAPHIC] [TIFF OMITTED] T0897.027

[GRAPHIC] [TIFF OMITTED] T0897.028

[GRAPHIC] [TIFF OMITTED] T0897.029

      

                                


    Chairman Archer. Thank you for your testimony and your 
input.
    Mr. Bartlett. We'd be happy to have your testimony.

STATEMENT OF BRUCE R. BARTLETT, SENIOR FELLOW, NATIONAL CENTER 
                      FOR POLICY ANALYSIS

    Mr. Bartlett. Thank you, Mr. Chairman. I'm a senior fellow 
with the National Center for Policy Analysis, which is a think 
tank based in Dallas, Texas.
    First, I would like to say that I associate myself 
completely with all the statements previously made. I agree 
with everything that the other three witnesses have said, and 
in particular, I think that Mr. Graetz is right to point to the 
pernicious effect of the domination of income distribution 
tables in the tax policy process, because that's what has given 
us all these crazy phaseouts that are so well detailed in the 
previous testimony.
    What I would like to concentrate on is the notion that 
anything short of fundamental tax reform is very unlikely to 
completely get rid of the marriage penalty. I support all of 
the legislation that has been offered, and I think that in the 
end it will probably be revenue constraints that determine how 
much or how little is ultimately able to be done in terms of 
the marriage penalty. I would just hope that whatever approach 
to alleviating the marriage penalty that Congress adopts be 
done with some vision of tax reform in mind. Personally, I 
think the flat tax is the best way that we should go, but going 
to a consumption tax, such as a national retail sales tax, 
would also get rid of the marriage penalty. I think that either 
of these approaches ought to be in the mind of the Congress as 
they adopt incremental changes to the Tax Code, whether it be 
in terms of the marriage penalty or in other legislation.
    I would like to call attention to the discussion in the 
Joint Committee's pamphlet, which points out, quite correctly, 
that the Congress cannot simultaneously do three things. You 
cannot have progressive tax rates, you cannot have equal 
treatment of couples with equal incomes and be marriage 
neutral. Historically, the Congress has accepted the first 
premise--the first principle--and the second principle, and 
abandoned the third. And we are now here to try to redress this 
problem. But, anything we do to redress the marriage penalty in 
terms of the legislation that is under discussion is going to 
violate the second principle. You are going to have a situation 
in which married couples with the same gross income are going 
to be paying quite different taxes depending solely on how that 
income is earned; whether it's earned by a single earner or two 
earners, and what is the split of income between those two, 
because the marriage penalty is exacerbated, or it's worst, 
when a married couple each have approximately equal income.
    So, I think that you need to be aware that you may be 
leaving one minefield for another, and that we'll be back here 
in a couple of years to try to fix another problem. And, as you 
know very well, Mr. Chairman, this whole problem came about 
because in 1969 the single earners were all complaining that 
they were overtaxed relative to married couples, and you 
changed the tax brackets to alleviate that problem and created 
another one.
    So, I would emphasize the need to go to fundamental tax 
reform. And, as the Joint Committee's pamphlet correctly points 
out, a pure flat rate tax system does eliminate the marriage 
penalty; and also having a consumption tax would do the same 
thing. But that would require abandoning the first principle, 
which is the principle of progressivity in our tax system. I 
agree with Professor Feenberg that you don't necessarily have 
to have progressive rate structure to have a progressive tax 
system. You can do a lot of things with the personal exemption, 
with things like the earned-income tax credit to achieve pretty 
much any degree of progressivity you wish to have in the 
overall tax system without the necessity of having progressive 
tax rates. And, I believe that there is now a growing 
consensus, at least among economists, and among some tax 
theorists as well, that maybe progressivity of the rate 
structure is not necessarily something that we ought to accept 
without question.
    Of course, the other approach you can take is to simply 
abandon the family as the fundamental tax unit and go to a pure 
individual filing system such as we had before 1948. There is a 
growing agreement, I think, among many tax theorists who are 
cited in my testimony to this regard as well. Certainly going 
to something like the choice system in the Weller-McIntosh bill 
moves us a long way in that direction, but it might be worth at 
least considering the possibility of going to a mandatory 
individual filing system.
    I'll just stop there and take your questions. Thank you.
    [The prepared statement follows:]

Statement of Bruce R. Bartlett, Senior Fellow, National Center for 
Policy Analysis

    A marriage penalty results when a married couple pay more 
taxes by filing jointly than they would pay if each spouse 
could file as a single. Marriage penalties only result when 
both spouses have earned income. Single earner couples never 
pay a penalty and in fact always get a bonus from the Tax Code. 
A marriage bonus results when a couple pay less taxes than they 
would pay as singles.
    The marriage penalty fundamentally results from 
progressivity of the Tax Code.\1\ Marginal income tax rates 
rise from 15 percent to 39.6 percent. This causes a marriage 
penalty because the earnings of the secondary worker (the lower 
paid spouse) in effect come on top of the primary earner's. 
Thus, a secondary worker may find his or her income taxed at a 
marginal rate higher than they would pay if taxed as a single.
    To see how this works, consider a husband with taxable 
income of $25,000 per year. Under both the single and joint tax 
schedules he would pay 15 percent tax on that income. If his 
wife also makes $25,000, however, only the first $17,350 of her 
income would be taxed at 15 percent. The remaining $7,650 of 
her income will be taxed at 28 percent, because it puts the 
couple's total income above the $42,350 ceiling for the 15 
percent bracket. Thus she will pay 13 percent more tax on that 
income (the difference between 15 percent and 28 percent) than 
she would pay if she were taxed as a single. In this case, that 
would make the marriage penalty $994 per year.
    On the same total income, a couple may either get a tax 
bonus or pay a tax penalty depending on what the income split 
is between husband and wife. The couple in the earlier example 
paid the maximum marriage penalty on their $50,000 joint income 
because each spouse earned half the income. However, if one 
spouse earned substantially less than the other, the marriage 
penalty would have become a marriage bonus. If the husband 
earned $40,000 per year while the wife earned $10,000, instead 
of paying a penalty of $994 per year, they would have received 
a bonus of $910. That is, they would pay $910 less in taxes as 
a couple filing jointly than they would pay if each were taxed 
as a single.
    The marriage penalty is most likely to strike couples whose 
incomes are roughly equal. No couple with equal incomes or 
those within 10 percent of each other receive a marriage bonus 
and most receive penalties. As noted earlier, no single earner 
couples pay a marriage penalty and virtually all, regardless of 
income, receive a bonus.
    To get an idea of how marriage penalties and bonuses affect 
real people, the Congressional Budget Office (CBO) looked at 
Internal Revenue Service and Census data. The CBO found that 
the highest proportion of marriage penalties occurred when the 
higher earning spouse made between $20,000 and $75,000 per 
year. Couples with incomes above and below these levels were 
more likely to receive a tax bonus for being married.
    Thus we see that marriage penalties are most likely to 
impact on couples with middle incomes whose incomes are roughly 
equal. In an interesting article, Professor Dorothy Brown of 
the University of Cincinnati College of Law has argued that 
these two factors mean that blacks are more likely to suffer a 
marriage penalty, while whites are more likely to receive a 
marriage bonus from the Tax Code.\2\ The reason is because 
among married couples, black women are more likely to work than 
white women. Furthermore, working black women on average 
provide a higher percentage of the couple's total income than 
working white women. According to a 1990 study by the U.S. 
Commission on Civil Rights, 75 percent of black women work 
full-time, whereas only 62 percent of white women do. And 
working black women contribute 40 percent family earnings, 
while working white women contribute just 29 percent.\3\
    Although the marriage penalty is inherent in the nature of 
progressive tax rates, its magnitude has gone up and down with 
changes in the tax law. When the income tax was established in 
1913, there was no distinction between married and unmarried 
taxpayers. There was a single rate schedule that applied to 
both.
    The tax problems related to working women were much less in 
those days because only a small number of married women worked 
outside the home. In the census of 1900, there were only 
769,000 married women in the labor force, out of a total of 
27,640,000 workers. Even single women were unlikely to hold a 
paying job at that time. The female labor force participation 
rate was just 20 percent in 1900, compared to 86 percent for 
men.\4\
    In the 1920s, however, a number of couples in community 
property states began filing separate tax returns, with each 
spouse claiming half the couple's total income.\5\ This was 
justified on the grounds that under community property each 
spouse is deemed to own half the couple's joint earnings, 
regardless of who earned them. By contrast, in common law 
states, the earnings of a spouse generally belonged to that 
spouse. Among the states with community property laws at that 
time were Texas, Arizona, Idaho, Louisiana, Nevada, New Mexico, 
Washington and California.
    Initially, the Attorney General of the United States ruled 
that couples in community property states could split their 
income for tax purposes. This had the effect of reducing taxes 
for most couples. For example, if a husband had $20,000 of 
earnings and his wife had none, they would be taxed as if each 
earned $10,000. This generally put them in a lower tax bracket 
and lowered their joint tax liability. Had this state of 
affairs been allowed to continue, it would have led states to 
adopt community property laws just to give their citizens a cut 
in their federal income taxes.
    Congress and the Treasury Department attempted to thwart 
the use of income splitting through legislation and 
regulations. Eventually, a case reached the Supreme Court on 
the question of income splitting. In Poe v. Seaborn (1930), the 
Court ruled that state community property laws did allow 
couples to split their incomes for federal income tax purposes. 
And as expected, it did indeed lead several states to change 
from common law to community property in order to give their 
citizens a tax cut at no expense to the state. This trend 
accelerated when tax rates shot up during World War II. By 
1948, Oregon, Nebraska, Michigan and Oklahoma had changed their 
laws to become community property states.\6\
    Obviously, this situation led to a great deal of 
unfairness, with citizens of some states paying significantly 
lower federal income taxes than citizens of other states with 
the same income. The magnitude of the marriage penalty for 
couples in common law states in 1947 was quite high. Some 
couples in common law states were paying 40 percent more in 
federal income taxes than they would have paid in a community 
property state. A couple with a joint income of $25,000, for 
example, would have paid $9,082 in federal income taxes in a 
common law state, but only $6,460 in a community property 
state.\7\ As Professor Michael Graetz of Yale recently noted, 
``this absurd situation did not engender great respect for the 
integrity of the income tax.'' \8\
    Congress finally resolved this problem in the Revenue Act 
of 1948, which extended the principle of income splitting to 
all married couples.\9\ This constituted a significant tax cut 
for most married couples. The bulk of the benefits accrued to 
couples with middle incomes.\10\
    More significantly, almost every married couple saw a sharp 
reduction in their marginal tax rate--the tax that applies to 
the last dollar earned. A couple earning $51,000, for example, 
saw their marginal rate drop from 75 percent to 59 percent 
between 1947 and 1948. Again, those in the middle brackets, not 
the rich, were the principal beneficiaries.
    In practice, the impact of lower tax rates was mainly on 
women. Since a married woman's earnings came on top of her 
husband's, she was in effect taxed at her husband's marginal 
tax rate on the first dollar of her earnings. With marginal tax 
rates going as high as 90 percent after World War II, this very 
strongly discouraged married women from working.
    Although the institution of income splitting was highly 
beneficial to most married couples, it created a problem for 
single taxpayers. As a result of income splitting, a married 
couple mow paid significantly less tax than a single earner 
with the same income. Congress tried to address this inequity 
in 1951 by creating a new tax rate schedule for single heads of 
households, which roughly split the difference between the 
married and single tax schedules.
    Singles, however, continued to agitate for tax relief. By 
1969, some single taxpayers were paying 42 percent more federal 
taxes than a married couple with the same income. That year 
Congress created a new tax schedule for singles that was 
designed to keep the tax burden on singles and married couples 
with the same income within 20 percent of each other. This 
legislation created a significant marriage penalty for the 
first time.\11\ As a result, some married couples now paid more 
taxes by filing jointly than they would have paid if both filed 
as individuals.\12\
    Further contributing to the rise of the marriage penalty 
was the steep rise in the number of women in the labor force. 
The number of women in the labor force increased by about 50 
percent between the late 1940s and the early 1970s. The labor 
force participation rate for women has continued to rise since 
and in 1997 was almost double the rate of 1947. This is 
important because a marriage penalty only occurs when a husband 
and wife both have earned income. With women working in greater 
and greater numbers, this means that the likelihood of a couple 
suffering a marriage penalty rose concomitantly.
    As knowledge of the marriage penalty grew, increasing 
numbers of couples began to take matters into their own hands 
by getting divorced for tax reasons. One couple, David and 
Angela Boyter, received national publicity for getting divorced 
each December, allowing each to file as single for the year, 
and then getting remarried in January.\13\ Eventually the IRS 
cracked down on this charade, but not before moving Congress to 
action.\14\ By 1981, there was strong political pressure to 
redress the marriage penalty problem. A variety of proposals 
were put forward to accomplish this goal.\15\
    In the Economic Recovery Tax Act of 1981, Congress 
attempted to redress the marriage penalty by giving the lower 
paid spouse a 10 percent tax deduction on income up to $30,000, 
for a maximum deduction of $3,000. While this provision did not 
eliminate the marriage penalty, it did redress the problem 
substantially for most married taxpayers.\16\
    The secondary earner deduction did not live long, however, 
and was eliminated by the Tax Reform Act of 1986. But because 
the Tax Reform Act sharply reduced tax rates for most 
taxpayers, the net effect was to reduce the number of couples 
suffering a marriage penalty and the magnitude of the 
penalty.\17\ Nevertheless, some couples were worse off.\18\
    The most recent tax legislation with a major impact on the 
marriage penalty is the 1993 tax bill.\19\ Interestingly, the 
provision of the legislation that exacerbated the marriage 
penalty was not the increase in tax rates, but the expansion of 
the Earned Income Tax Credit (EITC). The EITC is a refundable 
income tax credit for workers with low earnings. It creates 
marriage penalties because it is phased-out as incomes rise and 
because it is maximized for workers with two children.\20\ No 
additional credit is available for three or more children in a 
single qualifying family. Depending on their income, therefore, 
a two-earner couple might significantly increase their joint 
EITC benefit by divorcing. And if they have more than two 
children, the benefits of divorce can be enormous. In 1996, for 
example, a two-earner couple with four children and each 
earning $11,000 would have increased their EITC payment from 
$1,375 to $7,120 by getting divorced, with each spouse claiming 
two children.\21\
    As noted earlier, the principal effect of the marriage 
penalty has been on wives, because they generally earn less 
than their husbands and thus are in effect taxed at their 
husbands' marginal tax rate. This means that wives generally 
receive less aftertax income on each dollar they earn than 
their husbands do. This alone is sufficient to significantly 
discourage work effort among married women. There is a 
considerable amount of economic research clearly demonstrating 
that high marginal tax rates reduce labor supply, especially 
for married women.\22\
    The disincentive effects of high marginal tax rates on 
married women are aggravated by their looser attachment to the 
labor force than men and their child-rearing 
responsibilities.\23\ Although most married women who work do 
so because of financial necessity, many do not. Their income is 
not essential for maintaining a couple's standard of living. 
Such women may work for a variety of reasons, including the 
simple joy of doing so. But the consequence is that they are 
more easily driven from the labor force by tax disincentives 
than married men are. For this reason, economic theory suggests 
that married women should be taxed less than married men.\24\
    Thus it should come as no surprise that tax policies 
affecting the marriage penalty have had a significant impact on 
female labor supply. The institution of income splitting in 
1948 and the effective reduction in marginal tax rates had a 
significant effect on women's work decisions. Between 1947 and 
1950 the labor force participation rate for married women shot 
up, raising their share of the female labor force from 46.2 
percent to 52.1 percent. Those with a husband present, those 
most likely to be affected by income splitting, increased their 
labor force participation most, increasing their share of the 
female labor force from 40.9 percent to 48 percent. By 
contrast, single, widowed or divorced women, who gained nothing 
from income splitting, saw their labor force participation stay 
flat or decline. The labor force participation rate for men was 
also unchanged over this period.
    A study of the 1981 tax act, which reduced the marriage 
penalty by instituting a secondary earner deduction, shows that 
married women's work expanded by almost enough to pay for the 
deduction's revenue loss.\25\ Analysis of the Tax Reform Act of 
1986, which lowered the top marginal tax rate from 50 percent 
to 28 percent, shows that married women responded more strongly 
to the increased work incentive than men did.\26\ Another study 
estimated that if the marriage penalties remaining after the 
Tax Reform Act were eliminated, the average married woman would 
increase her hours worked by 46 hours per year. High-income and 
low-income women would respond even more strongly, increasing 
their work hours by 100 hours per year.\27\
    The latest estimates by Martin Feldstein and Daniel 
Feenberg suggest that the labor supply response of married 
women to reduction of the marriage penalty could be quite 
large. Sharply cutting the tax rate on secondary workers could 
lead to an increase in earnings by such workers of as much as 
$66 billion per year.\28\
    In addition to effects on labor supply, the marriage 
penalty also impacts the marriage/divorce decision. There is 
certainly no question that over time the number of couples 
living together without marriage has sharply increased. The 
Census Bureau reports that 523,000 adults of the opposite sex 
were living together in 1970. By 1996, this figure had risen to 
3,958,000. In 1970, unmarried couples represented just 0.5 
percent of the married couples in the United States. By 1996, 
this percentage had risen to 7.2 percent. At least some of this 
is undoubtedly due to tax considerations.
    Several studies have looked at this question. They find 
that the marriage penalty has a small but significant impact on 
couples' decision to marry. When the marriage penalty rises 
aggregate marriage rates fall. There is a much greater impact 
on the timing of marriage, with couples often delaying marriage 
late in the year to minimize their marriage penalty.\29\ 
Finally, there is some evidence that taxes encourage divorce, 
especially on the part of women who are affected most by the 
marriage penalty.\30\
    As noted earlier, from 1913 to 1948 Congress adopted an 
approach to taxation that did not differentiate between married 
and unmarried persons. There was only one tax schedule and 
everyone paid the same rates. A single person and a married 
couple with the same income paid the same tax. Congress did not 
willingly adopt income splitting in 1948. It was forced to do 
so out of necessity resulting from the consequences of a 
Supreme Court case. Nevertheless, the effect was to replace the 
individual with the family as the fundamental unit for 
taxation.
    It has long been known that a tax system cannot 
simultaneously do three things: (1) have progressive tax rates, 
(2) have equal tax treatment of couples with the same income, 
and (3) be marriage-neutral.\31\ The last point means that 
marital status would have no effect on an individual's tax 
liability. If the first point is accepted, one must choose 
between the second and third. In 1948, Congress chose the first 
and second and abandoned the third.
    In recent years, a number of tax theorists have questioned 
Congress's decision. Progressivity is no longer assumed to be a 
primary criterion of our tax system. Increasingly, tax 
theorists question whether it is fair to penalize those with 
higher incomes, while economists produce more and more data on 
the economic cost of progressivity. At the same time, others 
question the assumption of family-based taxation. They argue 
that a system of individual filing would be fairer, simpler and 
more efficient.
    The notion of progressivity has been under attack for many 
years. Tax experts have long known that exemptions, deductions 
and exclusions in the Tax Code can easily erode the nominal 
progressivity of the rate structure. They have also known that 
progressivity breeds complexity, evasion and imposes a large 
deadweight cost on the economy. But the idea that ``fairness'' 
demanded higher tax rates on those with upper incomes was too 
widespread to challenge.\32\
    By the 1980s, however, opinion had shifted sufficiently 
that there was now serious support for the idea of a flat tax, 
one with a single tax rate for all taxpayers regardless of 
income. So popular was the idea that in 1986 Congress went a 
long way toward a flat tax by creating a two-rate tax system, 
with a top rate of just 28 percent. Eventually, even academic 
tax theorists began to come around to the idea. Now it is 
common to read criticism of progressivity in leading law 
journals, where earlier it would have been unthinkable.\33\
    At the same time, economists have increasingly come to see 
the cost of progressivity as extremely high. One study put it 
this way:

          Even a mild degree of progressivity in the income tax system 
        (as measured by the steepness of the marginal rate schedule) 
        imposes a very large efficiency cost. For example, in 
        comparison with an equal revenue proportional income tax, a 
        progressive income tax with average tax rates varying over the 
        life cycle between .23 and .32 and marginal rates ranging from 
        .23 to .43 imposes an efficiency cost greater than 6 percent of 
        full lifetime resources.\34\

    Since that study appeared, many others have come to similar 
conclusions about the overall welfare cost of progressivity in 
the U.S. tax system.\35\ As a result, a recent president of the 
American Economic Association has said, ``Today, it is fair to 
say that many, if not most, economists favor the expenditure 
tax or flat rate income tax. This group has joined the 
opponents of progressive taxation in the attack on the income 
tax.'' \36\
    Just as progressivity increasingly has become questioned as 
a norm of taxation, so too many tax theorists now question 
whether the family should be the fundamental unit of taxation. 
They suggest that the individual, rather than the family, is 
the most appropriate unit of taxation. Such a move would 
eliminate the marriage penalty completely, but would also 
eliminate marriage bonuses. Such bonuses, however, may be 
inappropriate because there is no particular reason why couples 
should receive special treatment from the Tax Code merely 
because they are married. To the extent that we wish to aid 
children, we could target tax deductions or credits directly to 
the children, rather than families in general.\37\
    Individual taxation may also be better suited to changing 
societal mores. In 1948, relatively few women worked, few 
headed households, and most couples had a single earner. Now 
women work in almost the same percentages as men, female-headed 
households are common, and families represent a decreasing 
share of households. Indeed, growth of the marriage penalty is 
as much due to demographic changes as changes in the tax 
law.\38\ According to the Census Bureau, nonfamily households 
have risen from 18.8 percent of all households in 1970 to 30.1 
percent in 1996.\39\ It is also worth noting that most major 
industrialized countries use the individual as the basic unit 
of taxation.\40\
    It is not necessary to completely abandon the family as the 
basic unit of taxation in order to eliminate the marriage 
penalty. It would only be necessary to allow couples the choice 
of filing as singles or jointly. This would preserve marriage 
bonuses for single-earner couples, but eliminate the marriage 
penalty for two-earner couples. However, Congress would also 
have to pass rules about dividing joint income, such as 
interest and dividends, and allocating itemized deductions, 
such as for mortgage interest and dependents.\41\
    The major objections to the choice approach are complexity, 
cost and abandonment of the principle that couples with the 
same income should pay similar taxes. It would be complex 
because many couples would, in effect, have to do their taxes 
twice: first jointly and then as singles to see which way they 
would come out ahead. Also, whatever rules are adopted for 
allocating joint income and deductions are bound to be 
complicated.
    Allowing couples to choose their filing status would also 
be costly. According to the CBO, it would have reduced federal 
revenues by $29 billion in 1996.\42\ It will also lead to 
situations in which certain couples will pay less total taxes 
than others with the same income. This could create pressure in 
future years for further tax measures to redress this perceived 
imbalance.
    Congress certainly needs to be wary about adding additional 
complexity to an already overly complicated Tax Code. However, 
in recent years Congress has enacted a number of very 
complicated provisions to the tax law involving phase-outs for 
various tax benefits that also have the effect of worsening the 
marriage penalty for some couples. For example, the child 
credit is phased-out for couples with incomes over $110,000 and 
over $75,000 for singles. This means that a couple making 
$75,000 each would qualify for the full $500 per child credit 
if they divorce, but receive nothing if married.\43\
    Almost any solution to the marriage penalty is likely to 
increase complexity and raise questions about cost and 
fairness.\44\ Short of going all the way to an individual 
filing system, other options for redressing the marriage 
penalty include restoration of the second-earner deduction, 
such as that included in the 1981 tax bill, widening tax 
brackets and modifying provisions such as the EITC that create 
marriage penalties.\45\ Given the cost of full elimination of 
the marriage penalty and budgetary realities, in the end 
Congress will probably be forced to choose among these more 
limited options if it decides to address the issue at all.
    A better solution to further tinkering with the Tax Code 
would be to move toward a flat rate income or consumption tax. 
By eliminating progressivity, it gets at the root cause of the 
marriage penalty.\46\ Although there are many other arguments 
for a flat tax, this one may prove most persuasive to two-
earner couples.

                                Endnotes

    1. Other factors contributing to the marriage penalty are the 
standard deduction, personal exemptions, the Earned Income Tax Credit, 
phase-outs for personal exemptions, and the limitation on itemized 
deductions. See Congressional Budget Office (CBO), For Better or for 
Worse: Marriage and the Federal Income Tax (Washington: USGPO, 1997), 
pp. 15-25.
    2. Dorothy A. Brown, ``The Marriage Bonus/Penalty in Black and 
White,'' University of Cincinnati Law Review, vol. 65, no. 3 (Spring 
1997), pp. 787-798.
    3. U.S. Commission on Civil Rights, The Economic Status of Black 
Women: An Exploratory Investigation (Washington: USGPO, 1990), pp. 100, 
105.
    4. Bureau of the Census, Historical Statistics of the United 
States: Colonial Times to 1970, 2 parts (Washington: USGPO, 1975), pt 
1, pp. 132-33.
    5. The following discussion draws heavily on Joint Committee on 
Taxation (JCT), The Income Tax Treatment of Married Couples and Single 
Persons, Joint Committee Print JCS-17-80 (Washington: USGPO, 1980), pp. 
19-25.
    6. For a discussion of the spread of community property laws and 
other means by which people attempted to exploit the opportunity to 
split incomes, see Carolyn C. Jones, ``Split Income and Separate 
Spheres: Tax Law and Gender Roles in the 1940s,'' Law and History 
Review, vol. 6, no. 2 (Fall 1988), pp. 259-310.
    7. House Report 1274, 80th Congress, 2nd session (1948), p. 22.
    8. Michael J. Graetz, The Decline (and Fall?) of the Income Tax 
(New York: W.W. Norton, 1997), p. 31.
    9. For details, see Stanley Surrey, ``Federal Taxation of the 
Family--The Revenue Act of 1948,'' Harvard Law Review, vol. 61, no. 7 
(July 1948), pp. 1097-1164.
    10. House Ways and Means Committee, Reduction of Individual Income 
Taxes, 80th Congress, 2nd session (Washington: USGPO, 1948), p. 28.
    11. For evidence that small marriage penalties existed for some 
taxpayers before 1969, see John Brozovsky and A.J. Cataldo, II, ``A 
Historical Analysis of the `Marriage Tax Penalty,''' Accounting 
Historians Journal, vol. 21, no. 1 (June 1994), pp. 163-187.
    12. Grace Blumberg, ``Sexism in the Code: A Comparative Study of 
Income Taxation of Working Wives and Mothers,'' Buffalo Law Review, 
vol. 21, no. 1 (Fall 1971), pp. 49-98; Joyce Nussbaum, ``The Tax 
Structure and Discrimination Against Working Wives,'' National Tax 
Journal, vol. 25, no. 2 (June 1972), pp. 183-191.
    13. The reason this worked is because for tax purposes a couple are 
regarded as married for the full year if married on December 31, and 
they are considered separated for the full year if divorced on that 
day. For these and other complications regarding whether a couple is or 
is not married for tax purposes, see Toni Robinson and Mary Moers 
Wenig, ``Marry in Haste, Repent at Tax Time: Marital Status as a Tax 
Determinant,'' Virginia Tax Review, vol. 8, no. 4 (Spring 1989), pp. 
788-819.
    14. Graetz, Decline of the Income Tax, pp. 35-38.
    15. Lynda S. Moerschbaecher, ``The Marriage Penalty and the Divorce 
Bonus: A Comparative Examination of the Current Legislative 
Proposals,'' Review of Taxation of Individuals, vol. 5, no. 2 (Spring 
1981), pp. 133-146.
    16. Joint Committee on Taxation, General Explanation of the 
Economic Recovery Tax Act of 1981 (Washington: USGPO, 1981), p. 35.
    17. Harvey S. Rosen, ``The Marriage Penalty Is Down But Not Out,'' 
National Tax Journal, vol. 40, no. 4 (December 1987), pp. 567-575; 
Douglas W. Mitchell, ``The Marriage Tax Penalty and Subsidy Under Tax 
Reform,'' Eastern Economic Journal, vol. 12, no. 2 (April-June 1989), 
pp. 113-116.
    18. Joint Committee on Taxation, General Explanation of the Tax 
Reform Act of 1986 (Washington: USGPO, 1987), p. 19.
    19. Daniel Feenberg and Harvey S. Rosen, ``Recent Developments in 
the Marriage Tax,'' National Tax Journal, vol. 48, no. 1 (March 1995), 
pp. 91-101; Gregg A. Eisenwein, ``Marriage Tax Penalties After the 
Omnibus Budget Reconciliation Act of 1993,'' CRS Report for Congress, 
93-1000E (November 19, 1993).
    20. Anne L. Alstott, ``The Earned Income Tax Credit and the 
Limitations of Tax-Based Welfare Reform,'' Harvard Law Review, vol. 
108, no. 3 (January 1995), pp. 559-564; Edward McCaffery, ``Taxation 
and the Family: A Fresh Look at Behavioral Biases in the Code,'' UCLA 
Law Review, vol. 40, no. 4 (April 1993), pp. 1014-1020.
    21. Janet Novack, ``The Worm in the Apple,'' Forbes (November 7, 
1994), p. 98.
    22. The most recent research is summarized in Congressional Budget 
Office, ``Labor Supply and Taxes,'' CBO Memorandum (January 1996); and 
Robert K. Triest, ``The Effect of Income Taxation on Labor Supply in 
the United States,'' Journal of Human Resources, vol. 25, no. 3 (Summer 
1990), pp. 491-516.
    23. Jerry Hausman, ``Taxes and Labor Supply,'' in Alan J. Auerbach 
and Martin Feldstein, eds., Handbook of Public Economics (New York: 
North-Holland, 1985), pp. 247-249.
    24. Michael J. Boskin and Eytan Sheshinski, ``Optimal Tax Treatment 
of the Family: Married Couples,'' Journal of Public Economics, vol. 20, 
no. 3 (April 1983), pp. 281-297.
    25. Daniel Feenberg, ``The Tax Treatment of Married Couples and the 
1981 Tax Law,'' NBER Working Paper No. 872 (April 1982).
    26. Nada Eissa, ``Taxation and Labor Supply of Married Women: The 
Tax Reform Act of 1986 as a Natural Experiment,'' National Bureau of 
Economic Research Working Paper No. 5023 (February 1995); idem, ``Tax 
Reforms and Labor Supply,'' in James M. Poterba, ed., Tax Policy and 
the Economy, vol. 10 (Cambridge, MA: MIT Press, 1996), pp. 119-151.
    27. Deenie K. Neff, ``Married Women's Labor Supply and the Marriage 
Penalty,'' Public Finance Quarterly, vol. 18, no. 4 (October 1990), pp. 
420-432.
    28. Martin Feldstein and Daniel Feenberg, ``The Taxation of Two 
Earner Families,'' NBER Working Paper No. 5155 (June 1995).
    29. James Alm and Leslie A. Whittington, ``Income Taxes and the 
Marriage Decision,'' Applied Economics, vol. 27, no. 1 (January 1995), 
pp. 25-31; idem, ``Does the Income Tax Affect Marital Decisions?'' 
National Tax Journal, vol. 48, no. 4 (December 1995), pp. 565-572; 
idem, ``Income Taxes and the Timing of Marital Decisions,'' Journal of 
Public Economics, vol. 64, no. 2 (May 1997), pp. 219-240; David L. 
Sjoquist and Mary Beth Walker, ``The Marriage Tax and the Rate and 
Timing of Marriage,'' National Tax Journal, vol. 48, no. 4 (December 
1995), pp. 547-548; Alexander Gelardi, ``The Influence of Tax Law 
Changes on the Timing of Marriages: A Two-Country Analysis,'' National 
Tax Journal, vol. 49, no. 1 (March 1996), pp. 17-30.
    30. Leslie A. Whittington and James Alm, ``'Til Death or Taxes Do 
Us Part: The Effect of Income Taxation on Divorce,'' Journal of Human 
Resources, vol. 32, no. 2 (Spring 1997), pp. 388-412.
    31. Boris I. Bittker, ``Federal Income Taxation and the Family,'' 
Stanford Law Review, vol. 27, no. 6 (July 1975), pp. 1395-96; Jane M. 
Fraser, ``The Marriage Tax,'' Management Science, vol. 32, no. 7 (July 
1986), pp. 831-840; Marvin Chirelstein, Federal Income Taxation, 7th 
ed. (Westbury, NY: Foundation Press, 1994), p. 219.
    32. See Walter J. Blum and Harry Kalven Jr., The Uneasy Case for 
Progressive Taxation (Chicago: University of Chicago Press, 1953).
    33. See, for example, Richard L. Doernberg, ``A Workable Flat Rate 
Consumption Tax,'' Iowa Law Review, vol. 70, no. 2 (January 1985), pp. 
425-485; Charles R. O'Kelley, Jr., ``Tax Policy for Post-Liberal 
Society: A Flat-Tax-Inspired Redefinition of the Purpose and Ideal 
Structure of a Progressive Income Tax,'' Southern California Law 
Review, vol. 58, no. 3 (March 1985), pp. 727-776; Curtis J. Berger, 
``In Behalf of a Single-Rate Flat Tax,'' St. Louis University Law 
Journal, vol. 29, no. 4 (June 1985), pp. 993-1027; Richard A. Epstein, 
``Taxation in a Lockean World,'' Social Philosophy and Policy, vol. 4, 
no. 1 (Autumn 1986), pp. 49-74; Joseph Bankman and Thomas Griffith, 
``Social Welfare and the Rate Structure: A New Look at Progressive 
Taxation,'' California Law Review, vol. 75, no. 6 (December 1987), pp. 
1905-1967; Jay M. Howard, ``When Two Tax Theories Collide: A Look at 
the History and Future of Progressive and Proportionate Personal Income 
Taxation,'' Washburn Law Journal, vol. 32, no. 1 (Fall 1992), pp. 43-
76; Jeffrey A. Schoenblum, ``Tax Fairness or Unfairness? A 
Consideration of the Philosophical Bases for Unequal Taxation of 
Individuals,'' American Journal of Tax Policy, vol. 12, no. 2 (Fall 
1995), pp. 221-271
    34. Alan J. Auerbach, Laurence J. Kotlikoff, and Jonathan Skinner, 
``The Efficiency Gains from Dynamic Tax Reform,'' International 
Economic Review, vol. 24, no. 1 (February 1983), pp. 81-100.
    35. Charles Stuart, ``Welfare Costs per Dollar of Additional Tax 
Revenue in the United States,'' American Economic Review, vol. 74, no. 
3 (June 1984), pp. 352-362; Charles L. Ballard, John B. Shoven, and 
John Whalley, ``General Equilibrium Computations of the Marginal 
Welfare Costs of Taxes in the United States,'' American Economic 
Review, vol. 75, no. 1 (March 1985), pp. 128-138; idem, ``The Total 
Welfare Cost of the United States Tax System: A General Equilibrium 
Approach,'' National Tax Journal, vol. 38, no. 2 (June 1985), pp. 125-
140; Dale W. Jorgenson and Kun-Young Yun, ``Tax Reform and U.S. 
Economic Growth,'' Journal of Political Economy, vol. 98, no. 5, pt. 2 
(October 1990), pp. S151-S193; idem, ``The Excess Burden of Taxation in 
the United States,'' Journal of Accounting, Auditing and Finance, vol. 
6, no. 4 (Fall 1991), pp. 487-508.
    36. Joseph A. Pechman, ``The Future of the Income Tax,'' American 
Economic Review, vol. 80, no. 1 (March 1990), p. 1.
    37. Harvey Rosen, ``Is It Time to Abandon Joint Filing?'' National 
Tax Journal, vol. 30, no. 4 (December 1977), pp. 423-428; Alicia 
Munnell, ``The Couple versus the Individual under the Federal Personal 
Income Tax,'' in Henry J. Aaron and Michael J. Boskin, eds., The 
Economics of Taxation (Washington: Brookings Institution, 1980), pp. 
247-278; Pamela B. Gann, ``Abandoning Marital Status as a Factor in 
Allocating Income Tax Burdens,'' Texas Law Review, vol. 59, no. 1 
(December 1980), pp. 1-69; Laura Ann Davis, ``A Feminist Justification 
for the Adoption of an Individual Filing System,'' Southern California 
Law Review, vol. 62, no. 1 (November 1988), pp. 197-252; Marjorie E. 
Kornhauser, ``Love, Money, and the IRS: Family, Income-Sharing, and the 
Joint Income Tax Return,'' Hastings Law Journal, vol. 45, no. 1 
(November 1993); Edward J. McCaffery, Taxing Women (Chicago: University 
of Chicago Press, 1997).
    38. James Alm and Leslie Whittington, ``The Rise and Fall and 
Rise...of the Marriage Tax,'' National Tax Journal, vol. 49, no. 4 
(December 1996), pp. 571-589.
    39. Bureau of the Census, Statistical Abstract of the United 
States, 1997 (Washington: USGPO, 1998), p. 59.
    40. CBO, For Better or Worse, p. 60.
    41. JCT, Income Tax Treatment, pp. 38-46.
    42. CBO, For Better or Worse, p. 55.
    43. For a discussion of other provisions of recent tax laws that 
exacerbate the marriage penalty for some couples, see David J. Roberts 
and Mark J. Sullivan, ``The Federal Income Tax: Where Are the Family 
Values?'' Tax Notes (October 26, 1992), pp. 547-550; Albert B. 
Crenshaw, ``For Two-Income Couples, More Reasons Not to Get Tied,'' 
Washington Post (August 24, 1997); Janet Novak and Laura Saunders, 
``Torture By Taxation,'' Forbes (August 25, 1997), pp. 42-44; Diana 
Furchtgott-Roth and Kevin Hassett, ``The Skyline Tax,'' The Weekly 
Standard (September 29, 1997), pp. 13-14; Janet Novak, ``The Old Shell 
Game,'' Forbes (December 29, 1997), pp. 76-81.
    44. Opponents of eliminating the marriage penalty have already made 
this point. See Jonathan Chait, ``Penalty Box: The Folly of Fighting 
the Marriage Tax,'' The New Republic (October 20, 1997), pp. 14, 16.
    45. CBO, For Better or Worse, pp. 47-56; Jonathan Barry Forman, 
``What Can Be Done About Marriage Penalties?'' Family Law Quarterly, 
vol. 30, no. 1 (Spring 1996), pp. 1-22.
    46. CBO, For Better or Worse, p. 56; Joint Committee on Taxation, 
Impact on Individuals and Families of Replacing the Federal Income Tax, 
JCS-8-97 (Washington: USGPO, 1997), p. 103.
      

                                


    Chairman Archer. Thank you, Mr. Bartlett.
    And my compliments to all of you because you have given us 
some excellent testimony, and I can assure you that the 
Committee is going to consider what you've said very seriously 
before we act.
    Do all four of you basically agree on a particular approach 
which is appropriate to solve this problem? We have a problem; 
we know that. But the solution to the problem is what we have 
to focus on. Now, do you think all four of you could come 
together on the appropriate solution?
    Mr. Graetz. Mr. Chairman, I think that there are two 
difficulties here in our coming together. One is the revenue 
that you are prepared to devote to this issue. If you give us 
unlimited revenue, I suppose we could reach a solution as 
quickly as the Committee could, but we all know that that's not 
the current reality. And so the question would be setting 
priorities about where you would first relieve the marriage 
penalty, and we might have different priorities.
    I think that we probably would come fairly close to a 
solution once you told us how much revenue we had to spend on 
it. We could probably come to some agreement; although, I want 
to be clear that my differences with Mr. Feenberg are 
important. He is focused on the behavioral effects of this 
marriage penalty on people entering the labor market, and I'm 
focused on what taxing marriage does in terms of the signal it 
sends to the American people about how the Congress and the 
American people's values line up. I think this is a very 
serious issue. This was, as Congressman Thomas said earlier, it 
was a huge issue during the welfare debate, and it seems to me 
it's an extremely important issue now concerning values and how 
the tax system reflects values. So there is a difference 
between us. I wouldn't put as much weight on incentives as Mr. 
Feenberg.
    I also want to compliment Mr. Lifson on the phaseout point. 
That is clearly something that I think we could all endorse in 
some fashion: to move to his phaseout solution. And this is the 
first time I've heard that idea. As we said, Mr. Chairman, I've 
heard most of them over the past 25 years.
    Chairman Archer. Mr. Feenberg, since your name was 
mentioned would you like to comment?
    Mr. Feenberg. There's no disagreement in values between me 
and Professor Graetz. I'm testifying to the things that I know 
most about. That doesn't mean that I disagree with what he 
testified about--other, no doubt, more important things.
    Chairman Archer. Well, let me comment on that. Before, it 
seemed like we always talked about what is the economic impact 
of everything that we do here. Now I've begun to focus on what 
is the moral and social impact of how we tax. I believe we're 
going to have to talk more about that, and think more about 
that, because it has a dramatic effect on our society, both 
morally and socially. But, of course that's my own view which I 
expressed right in this room a week ago in the press conference 
that I held.
    There was one reason for my asking you that question, 
beyond what we've discussed, and it is because I have reached 
the point of believing you will never fix the income tax; that 
the income tax is, in effect, an attractive nuisance, which is 
a very specific legal term meaning that it draws all kinds of 
bad things into it over time. I will say that I used to be for 
the flat tax, Mr. Bartlett, back in 1985, until I went through 
the 1985-1986 reform effort, and after that I became convinced 
you'll never fix the income tax. Though we shrank the amount of 
deductions, we did reduce the number of tax rates to two--
statutorily at least. By 1990, we were already back to 3 rates, 
and by 1993 we were back to the 5 rates we have now. The 
empirical data prove that what we seem to learn from history is 
that we never seem to learn from history.
    Now you tell me how we're going to keep an income tax, 
which inherently is an attractive nuisance, simple. I don't 
believe it's possible. I don't believe this body will pass a 
flat income tax without a deduction for charitable 
contributions and home mortgage interest. Nor do I believe that 
it will be able, politically, to pass a flat income tax without 
taxing dividends, rent, royalties, and what we call--I think 
inappropriately, but nevertheless--unearned income. It will not 
happen.
    And so you are off to the races again. You planted the seed 
again, replanted the income tax--the roots are there and the 
tree is spouting even before you get out of this Committee. 
Inevitably you are back into all of the ramifications about how 
we solve this problem. That's why I asked you the question, 
because there is not unanimity among you as to how we solve it, 
and we will always have to redefine income. It is an uncertain 
term, and we will forever be creating inequities as we solve an 
inequity, and then we will have to patch that.
    So, I personally believe that the right way to do this is 
to let people pay their taxes when they spend their money and 
then you have no problem with a marriage penalty. But, that's 
my own personal view which has been developed over the years.
    Now, let me ask you all this--there are several things that 
are specific to this marriage penalty, and I want to ask you: 
under any proposal that you might be comfortable with, would 
there be a marriage bonus? And if so, what would it be? And 
would that, over time, be perceived as being equitable?
    Mr. Bartlett. Well, speaking for myself, I think a case can 
be made for getting rid of the bonuses. I don't really see any 
reason as a matter of public policy why a man and a women 
without children who simply happen to be married should pay 
substantially less taxes than they would pay as singles. You'd 
get rid of that by going to an individual filing system.
    I think when we talk about families, what we really mean 
are families with children, and I think you should target the 
tax relief to the children directly and not to the institution 
of marriage per se. Obviously, that's a somewhat controversial 
point, but I think that that's the way we ought to think about 
going. And I think that certainly the Weller-McIntosh bill 
moves a long way in that direction. But, I think it is worth 
noting that if you got rid of the bonuses, it's about the same 
in the aggregate as the penalties, so that if you went to a 
pure individual filing system it wouldn't really cost the 
treasury anything.
    Chairman Archer. Before I move on to you, Mr. Graetz, I ask 
Mr. Bartlett: will the flat tax proposal that you endorse 
completely eliminate the marriage penalty insofar as doubling 
the exclusion for two people who are married compared to a 
single?
    Mr. Bartlett. It could easily be designed to do that.
    Chairman Archer. No. But, let's take the Armey-Forbes 
approach, is it double the exclusion for a married couple 
compared to a single?
    Mr. Bartlett. No, I think it's more.
    Chairman Archer. So it still has a marriage penalty. You 
cited that a flat tax gets rid of the marriage penalty, but 
their proposal does not get rid of it.
    Mr. Bartlett. Well, I would point out also that the sales 
tax proposal--the Schaefer-Tauzin bill, for example--also has a 
marriage penalty, because it has the rebate mechanism that is 
based on family size, based on the Census Bureau----
    Chairman Archer. Well, of course, that is one proposal that 
is out there----
    Mr. Bartlett. I'm just saying that there are many marriage 
penalties, and you can design----
    Chairman Archer. But certainly where all income is treated 
equally and you pay your taxes when you spend your money, you 
have no marriage penalty. All income is treated equally. You 
don't have to get into the definition of income.
    Mr. Bartlett. I'm just saying the rebate mechanism does, or 
can, create a marriage penalty, that's all.
    Chairman Archer. But, the point I wanted to make is that 
there will not be an automatic elimination of the marriage 
penalty if you go to a flat income tax.
    Mr. Graetz.
    Mr. Graetz. Mr. Chairman, I just wanted to say a word about 
individual filing on a mandatory basis. That was the law before 
1948. And, as you know well, what happened during the period of 
1941 until 1948--which is the period when the income tax was 
extended to the masses because of the Second World War--is that 
a number of common-law States started moving to community 
property. A number of States started to reverse their marital 
property laws which had been in place historically depending 
primarily on whether they had adopted the British property 
system or a continental system--as Texas did. You cannot have 
an individual filing that would not reintroduce the problem of 
community property and common-law States that caused such havoc 
in the forties. You also would introduce the prospect of tax 
planning by shifting the ownership of property to the low-
income spouse. That is to say, if you just move some stock to 
the low-income spouse, then the dividends on that stock would 
be taxed at a lower rate than if the stock is owned by the 
high-income spouse.
    The reason that we have a marriage bonus is that Congress 
decided in 1948 that the way to solve this problem under a 
progressive rate schedule was to give married couples the best 
possible split of income, which in a progressive system is to 
treat them as if the income came equally from each partner. I 
have to say, I think that marriage bonuses are much more benign 
than marriage penalties.
    But I think that moving back toward an individual filing 
system is going to add complexity, in the filing of tax 
returns, and also in terms of family arrangements. You're going 
to hear from different couples than you heard from today, but I 
suspect you'll hear from some.
    Chairman Archer. Well, don't you have to continue to define 
income and who earns the income? Now, I happen to believe that 
in a marriage, half of a married couple's income is earned by 
each spouse legally. Why should our tax laws not accept that? 
But then you have different laws within the States on property 
and you get all fouled up with the beginning point, which is 
who earns this income legally. That is a very difficult 
question to answer, and you never get away from it with an 
income tax.
    Well, do either one of the other two of you want to comment 
on my initial question?
    Mr. Lifson. Well, I would say that we could agree to a 
method, and I would say that we could agree to a baseline. What 
we would have a hard time agreeing on is not elimination of the 
penalty, but who gets the bonus, if anybody.
    But I would say as an accountant, I have listened to many 
enraged other accountants, quite enraged about who should get 
these bonuses. But I think that my fellow panelist said, it's a 
much more benign argument about who should receive a bonus than 
who should pay a penalty. The true issue is creating an 
equitable base line, and arguably looking at the concept about 
whether once you are married two of you are taxed jointly, 
because of your marriage, or whether you are allowed to remain 
an independent economic unit as so many marriages would like to 
remain. You can still respect and report your income jointly. 
And you can still tax it as if each person earns half. All of 
these are modest mechanical considerations that I think can be 
worked out. How to spend the bonus is beyond what I think we 
could work out.
    Chairman Archer. Well, that's why I asked the question 
about the bonus. Because that is an inherent part of whatever 
we ultimately do.
    Mr. Bartlett. Could I just say one thing? I think that 
while it is very important that we have some idea of ultimately 
where we would like to go in terms of dealing with this 
problem, you can't overlook the budgetary constraints. And I 
just think that in the end you are going to be faced with a 
dilemma. You're going to have a certain pot of money, and you 
are going to have many competing interests, and at the end of 
the day you are going to have whatever: $5 billion, $10 
billion, however many billion, to devote to this one problem, 
and you'll simply have to shoehorn some proposal that fits the 
numbers into it. But I would like to suggest that when the time 
comes that you look very carefully at the incentive effects 
because, as you know, the Joint Committee now has the authority 
to do some modified behavioral responses in terms of dynamic 
scoring, and it may very well make the difference between going 
with one approach or another that may have the same static cost 
but they may have quite different dynamic costs.
    Chairman Archer. Well, I think you are absolutely correct 
in everything that you said. I want to highlight the end of it 
because when we took over as a Congressional majority 3 years 
ago, I pushed very hard for the Joint Committee on Taxation to 
begin to take into account behavioral response; they do that 
now, contrary to what an awful lot of people write out there. 
They do take into account behavioral response. What they do 
not, and cannot, take into account is microeconomic feedback 
because that is determined by CBO. The Joint Committee has 
really updated and modernized their estimating process, I 
think, to become more accurate.
    Let me ask one last question. The Committee has indulged me 
and I apologize to the Members. The term targeting is now used 
more in the arena politically. You heard the President use it 
in his speech last night, that all tax relief should be 
targeted. Now, doesn't targeting, in effect, impact in a bad 
way on the marriage penalty?
    Mr. Graetz. Mr. Chairman, this is a particularly 
complicated question because many of the new marriage penalties 
in the Code--and I mean the ones that are there because they 
have been added subsequent to the 1969 change in the rate 
schedule--are due to targeted provisions. For example, the 
reason that a married couple who are retired will pay more 
taxes in many instances than an unmarried couple who are 
retired is because of the way in which the income taxation of 
Social Security works. The reason that low-income workers--and 
I have to say, listening to the couple that was here today and 
the magnitude of the marriage penalties they were describing, I 
suspect--I don't know this because I haven't seen their 
returns, but I suspect--that part of the marriage tax they are 
talking about is because of the way the earned income tax 
credit works in its phaseouts. They said they made less than 
$10 an hour and it sounded to me like they might be in that 
targeted group. And here the problem, Mr. Chairman, is that 
many of these penalties--many of the largest of these 
penalties--now exist in specific provisions of the Code.
    The AICPA again is to be complimented in looking for a 
general approach to some of these phaseouts. I have to say, I 
dread the thought of teaching the 1997 phaseout rules to my 
basic income tax class, and I have the luxury of having Yale 
Law students to try and master them.
    Chairman Archer. Well, in effect, I would synthesize what 
you said by saying that targeting can become a code word for 
greater marriage penalties and much higher complications in a 
Code that we say we want to simplify.
    All of you are nodding your heads, and the record should 
show that.
    I thank you very much for your testimony.
    Any inquiry by other Members?
    Mr. Weller.
    Mr. Weller. Again, thank you, Mr. Chairman, for your 
leadership by conducting this hearing. I think as we raise the 
profile of this issue every day we get closer to April 15, more 
of these 21 million married working couples are going to 
realize that they are paying this marriage penalty and they are 
going to be looking to the President and Congress to work 
together in a bipartisan way to solve it.
    And I have a question that I would like to address to Mr. 
Lifson. And of course, I like your suggestion of working to 
make the Tax Code marriage neutral. And I appreciate your 
identifying 63 areas in the Tax Code where the marriage penalty 
exists beyond just the joint combined income situation.
    As we worked on the Marriage Tax Elimination Act, and in 
consulting with many of your members who happen to reside in 
Illinois in my district and throughout the country--and of 
course many of them had their ideas and suggestions which 
produced the legislation that we have in the Marriage Tax 
Elimination Act--I remember one of them said--and that was just 
recently, in fact, I was just talking to one just this past 
week--he said, you know, I have a couple before me right now--
we were on the telephone--and he says, this couple, I just 
informed them that had they stayed single, they each would have 
received a tax refund. But because they chose to get married, 
they are going to owe taxes. Clearly illustrating the problem 
in the marriage tax penalty.
    Just from your perspective as representing a lot of the tax 
preparers across the country, which do you think is a higher 
priority: addressing the problem that comes from filing jointly 
with a combined income pushing you into a higher tax bracket, 
or eliminating those 63 targeted tax provisions, which creates 
63 additional marriage tax penalties?
    Mr. Lifson. I think that in most of our discussions the 
easiest target, if you'll excuse the term, the easiest target 
for simplification is going to a single table, that is, one 
table for all. It has the greatest appearance of both 
simplification and equity to it. And neutrality, everybody pays 
according to one table.
    I think to simply look at 1 of the 63 items is a naive 
approach and that you have to dig in deeper if you really want 
to solve the problem rather than the initial appearance of the 
problem. It won't take the American taxpayers long to come into 
my office and find out that just because it is advertised that 
there is now only 1 table that there aren't 60 more problems 
for them to think about. I think that you have to do both.
    Mr. Weller. Well, thank you.
    Again, thank you, Mr. Chairman, for conducting this hearing 
because it does raise a very important issue that affects 21 
million married, working couples across the country. And when 
you think about it, $1,400 on average for each of these couples 
is a drop in the bucket here in Washington, but for a couple 
back in Illinois, or any of our communities we represent, 
that's a year's tuition to a local community college, 3 month's 
worth of child care at a local daycare center, several month's 
worth of car payments. It means a lot. And the bottom line is 
we need to be working to eliminate this penalty.
    Again, thank you, Mr. Chairman, for your leadership in 
conducting this hearing.
    Mr. Herger [presiding]. Thank you.
    Mr. Feenberg, you mentioned in your testimony that you had 
done research on the labor market effects of restoring the two-
earner deduction. I wonder if you could elaborate, that on how 
you feel that proposal would affect tax revenues.
    Mr. Feenberg. Our conclusion was just that the proposal 
would be cheaper than it looks because it lowers the marginal 
tax rate on a group that has relatively elastic response--
elastic attachment to the labor force. There would be 
additional earnings from secondary earners and that would come 
back into the income tax and into the Social Security taxes 
which is just as important. And so that in the end the thing 
turns out to be cheaper than might look at first glance. And in 
particular, if you put a higher cap--$50,000 instead of 
$30,000--there are more people who are still at the margin, 
rather than receiving the capped amount, and so there is still 
more labor supply and that makes it even cheaper so that it 
dominates. That is it has a lower foregone revenue but it is 
better from a utility perspective from each taxpayer's point of 
view.
    So, it's not really a statement about whether it's a good 
thing or a bad thing, it's just a statement that if you follow 
through all the effects on labor supply, it's likely to be 
cheaper than it looks at first glance.
    Mr. Herger. Thank you very much. I think that certainly is 
an important point to bring out. I appreciate your doing so in 
your testimony.
    Mr. Hulshof will inquire.
    Mr. Hulshof. Thank you, Mr. Chairman. Just briefly, and I 
think each of you has mentioned in your own words that any time 
we talk about targeted tax relief, we are subject to budgetary 
constraints. Mr. Bartlett, I think you said it most forcefully 
at the end. And I think each of these particular provisions, 
whether it's Mr. Weller, Mr. McIntosh's bill; Mr. Riley, Mr. 
Salmon's bill, indeed even the freshmen class has a tax bill. 
And in our efforts to at least address the marriage tax 
penalty, we simply raised the deduction to twice that of what 
it would be for individuals. And one of the complaints of that, 
we understand, is for those that itemize, they would not then 
get that targeted tax break; even though 75 percent of the 
Americans in this country don't itemize.
    But again, budgetary constraints being such that they are, 
we're looking at about $4 to $5 billion a year for that 
simple--and I emphasize simple--solution.
    Mr. Lifson, I've had several CPAs in my district who have 
thanked me on behalf of their industry for what we have done 
with the Taxpayer Relief Act as far as job security and some of 
the complicating factors.
    And Mr. Feenberg, this question goes to you because in your 
testimony you actually began to address, for example, how many 
additional lines it would be on certain forms because, quite 
frankly, even beyond the experts in the field, Mr. Lifson, from 
the CPAs, one of the concerns, slash complaints, I heard from 
constituents over the holiday was: thanks for the tax relief, 
but where was the simplification. So taking into account all of 
the measures here, Mr. Feenberg, are there certain proposals 
that you have considered that actually do promote 
simplification? I think in addition to more across the board 
relief for the American people, we need to look constantly at 
ways to simplify our present Tax Code. Which of these 
proposals, Mr. Feenberg, have you looked at that may be better 
than others as far as simplification.
    Mr. Feenberg. First of all let me say, the source for the 
information on how many boxes might be added to the form came 
from looking at State tax forms that do allow for this. And 
Iowa was the one I remember that had about 50 additional boxes 
for that; others were fewer. There is really no way around that 
kind of complexity, I think, if you allow for some sort of 
separate filing.
    With respect to simplification as a way of reducing the 
marriage tax: Well the 63 phaseouts all go with 63 special 
provisions and the only way to get simplicity is to look at 
those provisions and see if you can do without them. We got 
very good results in terms of deadweight loss per dollar of 
foregone revenue from a relatively simple thing like the 
secondary earner's deduction. It doesn't devastate the law, but 
it's not going in the right direction, obviously, it's a small 
step in the wrong direction for simplification.
    Mr. Graetz. Mr. Hulshof. If I could just add----
    Mr. Hulshof. Mr. Graetz, yes.
    Mr. Graetz. Any time you increase the standard deduction, 
which as I understand it is the way you are approaching this 
problem, you will move people who otherwise would itemize, on 
to the standard deduction. And historically, this has been a 
very sound way of simplifying the tax law. That is, to the 
extent that more people don't have to keep records, and don't 
have to itemize their deductions, this does increase 
simplicity. So, I think on simplicity grounds your suggestion 
should get high marks.
    Mr. Hulshof. Any one else? Mr. Bartlett.
    Mr. Bartlett. I would just say that responding to Chairman 
Archer's point as he was leaving about targeting, is that I 
think targeting is a dirty word, contrary to what the President 
says. I think it has given us all these pernicious problems 
that we're dealing with here to a very large extent.
    And I would emphasize what I said earlier that you should 
look at this whole problem with the obsession with distribution 
of taxation to the exclusion of every other provision. And that 
is basically what happened last year, as you know better than I 
do, is you can't give a tax cut to the rich, so we've got to 
put in a phaseout, and that creates additional problems and it 
just multiplies to the point where it becomes utterly absurd. 
And I would endorse Professor Graetz's proposal that you not 
produce income distribution tables during the deliberation 
process. I realize that's probably politically impossible, but 
I would suggest it anyway.
    Mr. Hulshof. Well, Mr. Bartlett, let me say as my 
concluding thought that as a freshman Member in this body and 
certainly on this Committee, I probably personally have learned 
more in this past year than any year in my lifetime, other than 
the year after I got married. And it has been astounding to me 
in our debate on tax relief that somehow families, married 
couples who are successful, are demonized to some extent in the 
political argument and they should not be entitled to the same 
good policy decisions that those making less, or who aren't 
quite as successful. And that has been an interesting lesson to 
learn as a new Member.
    Thank you, Mr. Chairman. I yield back whatever time I have 
remaining.
    Mr. Herger. Thank you very much, Mr. Hulshof.
    And I want to thank our distinguished panel for their 
testimony.
    And with that we'll move to our next panel on death taxes. 
And Congressman Jim McCrery, a Member of our own Committee, 
will be first to testify.
    Mr. McCrery.

  STATEMENT OF HON. JIM MCCRERY, A REPRESENTATIVE IN CONGRESS 
                  FROM THE STATE OF LOUISIANA

    Mr. McCrery. Thank you, Mr. Chairman. If Chairman Archer 
were here, I would also thank him for the leadership that he 
exhibited last year in taking significant steps to lessen the 
burden of the estate tax, sometimes called the death tax.
    And while we did some good work last year, I think there is 
more needed to reduce this unfair tax, especially burdensome, I 
think, on small businesses and family farms owned by hard 
working families. And eventually, Mr. Chairman, in my opinion, 
the estate tax should be abolished. We should not have an 
estate tax, and I think there are some sound reasons for that 
conclusion. Number one, as I said earlier, it's unfair. Number 
two, it discourages savings and investment. It destroys small 
businesses and family farms. It double taxes income. And, it 
doesn't provide much revenue to the Federal Government; less 
than 1 percent of our revenues are derived from this tax.
    So, it ought to be done away with. But if we decide, for 
budget scoring reasons, as we did last year, that we cannot 
abolish the estate tax, then we ought to look at some more 
tinkering this year that would reduce the burden. And I think 
there are some ways that we can do that.
    I want to suggest three ways, and I'll do these in order of 
priority. Number one, the family business exemption that we 
created last year should be increased. Simply by increasing 
that family business, family farm exemption, we do the most in 
the most efficient way to save family farms and businesses from 
extinction. Number two, we should consider making the unified 
credit a true exemption so that the lowest rate of 18 percent 
applies to the first dollar of value in a person's estate upon 
which they actually pay the tax. As you know, Mr. Chairman, now 
because of the unified credit the first tax rate that is 
applied in a taxable estate is 37 percent, when we have an 18-
percent rate on the books. So, that's the second thing that we 
ought to look at, making that a true exemption. Third, we 
should consider raising the unified credit. Mr. Chairman, those 
options are less attractive to me than abolition of the estate 
tax but, short of a proposal that allows us to abolish the 
estate tax, I think we ought to look at making adjustments in 
those three areas. Mr. Chairman, my full testimony is in 
writing, it has been presented to the Committee, and I would 
appreciate it submitted for the record.
    [The prepared statement follows:]

Statement of Hon. Jim McCrery, a Representative in Congress from the 
State of Louisiana

    Thank you Mr. Chairman for giving me the opportunity again 
to testify before the Committee on the estate and gift tax. 
Please also let me congratulate you on the leadership you 
showed last year in taking significant steps to reduce the 
burden of this unfair tax. As the author of the H.R. 1299, the 
Family Business Protection Act, which provided a $1.5 million 
exemption for family owned business, I am very pleased with the 
estate tax reduction in the Taxpayer Relief Act of 1997. 
Nevertheless, I know that you invited me here today because you 
understand more is needed to reduce this unfair tax, a tax 
especially burdensome on small businesses owned by hard working 
families, and that eventually, it should be eliminated.
    Mr. Chairman, the death tax should be abolished because it 
discourages savings and investment, double taxes income, and 
collects minimal revenue. High estate tax rates serve to 
discourage savings. While we have several statutory rates for 
the taxation of estates, the first rate that is actually 
applied is 37%, then the rates go up to 55%. I doubt that many 
support rates of such magnitude even on the very wealthy, let 
alone a small businessperson who has never been guilty of 
conspicuous consumption, but through sound business practices 
has managed to build up an estate subject to the federal death 
tax.
    The estate tax also has inordinately high compliance costs. 
Specifically, the National Federation of Independent Business 
estimated that the government and individuals collectively 
spend some 65 cents for each dollar of estate and gift tax 
collected-that's $5 to $6 billion annually-for enforcement and 
compliance activities. The end result of this process is for 
the businessperson to spend down their assets in an attempt to 
avoid the burden of this tax, thus depressing job creation and 
economic growth.
    Mr. Chairman, the death tax is unfair because it taxes 
earnings that have already been subject to federal taxes. After 
all, business owners already pay income and capital gains 
taxes, yet when they die, they must pay taxes again.
    And Mr. Chairman, despite the fact the estate tax only 
accounts for approximately one percent of federal revenues, 
eliminating the estate tax would have created salutary effects 
on the economy. For example, a 1996 study by the Heritage 
Foundation found that a repeal of the death tax would have 
positive effects on the American economy over a nine year 
period. It found that the nation's economy would average as 
much as $11 billion per year in extra output, an average of 
145,000 additional jobs would be created, household income 
would rise by an average of $12 billion per year above current 
projections, and revenues would be recovered due to the growth 
generated by its abolishment. I would hope all of this evidence 
would lead us to conclude the death tax belongs only one 
place--six feet under.
    Due to our scoring system, we decided abolition of the 
estate tax was too costly in 1997. Should we again make that 
determination, I believe we should make further modifications 
to the estate and gift tax. Many people believe only the 
wealthy pay estate taxes. While the affluent can afford the 
costs of attorneys and accountants to avoid or minimize the 
estate tax, the small businessperson cannot. In fact, the 
Internal Revenue Service reported that of the 69,772 death tax 
returns filed in 1995, almost 85% were for estates of $2.5 
million or less. Since the unified credit has not been indexed 
beyond 2006, small businesses will continue to find their 
assets can easily exceed the threshold for taxation. Therefore, 
please consider the following proposals.
    First, the family business exemption should be increased. 
As the value of the unified credit goes up, the value of the 
family business credit goes down so that the combined credit 
does not exceed $1.3 million. By 2006, the family exemption 
will only be $300,000. Considering the devaluation this credit 
will experience over the course of ten years, many businesses 
may decide not to incur the costs of applying for the credit 
and instead continue to spend down their assets in an attempt 
to avoid the death tax. Increasing this exemption is the best 
way to save family farms and businesses from extinction.
    Second, the outdated tax rate structure must be reformed. 
Mr. Chairman, while I am flexible in seeking these reforms, let 
me suggest the model set up in my legislation. According to 
H.R. 1299, the unified credit will be made a true exemption so 
that the lowest rate of 18% applies to the first dollar of 
value in a person's estate upon which they actually pay the 
tax. The rates would then be graduated, as under current law.
    Lastly, we should consider raising the unified credit. If 
the unified credit had been indexed since 1986, it would be 
worth approximately $840,000 today. The unified credit will not 
reach that level, however, until 2003 and will continue to be 
undervalued when it reaches $1 million in 2006. In fact, I 
estimate the credit should be worth somewhere between $1.2-$1.5 
million by that time. Thus, while our committee has made great 
strides to lower the burden of the estate and gift tax, we 
could do more to make the unified credit consistent with 
today's dollars.
    While these options are not as good as abolition, and some 
could increase complexity, they are preferable to the status 
quo. Again, thank you for this opportunity to testify. I will 
be happy to take any questions at the appropriate time.
      

                                


    Mr. Herger. Without objection----
    Mr. McCrery. Thank you, Mr. Chairman.
    Mr. Herger [continuing]. We'll do that. Thank you, Mr. 
McCrery. Mr. Cox, your testimony.

STATEMENT OF HON. CHRISTOPHER COX, A REPRESENTATIVE IN CONGRESS 
                  FROM THE STATE OF CALIFORNIA

    Mr. Cox. I thank the Chairman and I thank the Members for 
focusing needed attention on this important issue. I want to 
commend you for your leadership in holding these hearings and I 
welcome the opportunity to talk about the urgent need to repeal 
the death tax.
    We did important reform. We ameliorated, to a certain 
extent, the awful incidence of the death tax in the last 
Congress, but this tax, perhaps better than any part of the 
Internal Revenue Code, begs for elimination because tax 
simplification is all about making the system both fair, 
understandable on the one hand, and predictable on the other 
hand. The death tax is none of these things. In one fell swoop, 
we could get rid of over 80 pages of the Internal Revenue Code, 
nearly 300 pages of regulations, were we to eliminate it. But 
every time we change it, what happens in the real world is that 
small businesses have to call their lawyers, redo their estate 
plan, and take a look at the whole thing from key man life 
insurance to the way the business might be carried on in the 
event of partial liquidation.
    It actually raises the costs of tax compliance and one of 
the very, very serious and pernicious aspects of this tax is 
not highlighted when economists tell us how much money it 
raises or what the cost of compliance is and that is what it 
costs people who are not dead or dying to prepare for that 
eventuality.
    I just went to Sonny Bono's memorial service, as a lot of 
you did. He, tragically, met his death earlier than he'd 
expected, but we're all going to die. All of us, at some time. 
And so we all have to prepare for this. That's why we know that 
even the nominal compliance costs, the ones that economists can 
keep track off, by some estimates amount to 65 cents on every 
dollar that we collect. So, not only does this tax get us 
barely 1 percent to start with but then 65 cents out of every 
dollar is sucked out of the economy or sucked directly out of 
Federal revenues because that's what it costs to comply with 
the tax.
    As you perhaps know, I've introduced legislation in each of 
the last three Congresses to kill the death tax and I'm proud 
to say that support has been growing ever since our colleague, 
Mr. Gephardt, drew attention to this tax by trying actually to 
increase it. Support has been growing for getting rid of it 
altogether. The White House Council on Small Business, which 
the White House itself gathers together, this is not a partisan 
thing, I hope, but the President of the United States and the 
White House, which he controls, are the ones that put the thing 
together. And they've made a list of over 50 important policy 
steps that they hope the Congress and the President will take 
together to protect and expand small business in America. 
Number four on that list is repealing this tax. Ending it, not 
mending it. Repealing this tax, number four on a list of over 
50 that the White House Council on Small Business says is 
necessary for their survival.
    Now, some people are going to tell you that the death tax 
isn't really a death tax, it's an estate tax. In fact, that's 
what the legal jargon is, the estate and gift tax. That, 
basically, this is a tax on the rich and its purpose is 
redistribution of wealth. It is utterly failed in that it does 
not redistribute wealth from rich to poor. To the contrary, 
it's one of the main causes of a conglomeration of wealth in 
America as multinational corporations, in many cases, acquire 
what used to be small businesses. It's one of the number one 
killers of small business in America.
    And, furthermore, the people who pay the tax are not the 
rich because they can use an estate plan to either put that tax 
off forever or avoid it altogether. Rather, the people who pay 
the tax are not even the people who own small businesses or 
small ranches, although we hear about them a lot. They're the 
people who work in those operations. The incidence of this tax 
is greatest, heaviest, and most serious on low-wage workers in 
small businesses and on family farms and on ranches.
    And no economic study that I've seen even attempts to 
quantify what it means to have a 100 percent tax when you lose 
your job, when you lose your livelihood. But that's what 
destroying a small business is all about, that's what a 
property tax masquerading as an income tax is all about, 
because that's what this is. Liquidity of the business, 
liquidity of the ranch, liquidity of the farm has nothing to do 
with whether the tax is owed. And so, given the steep rates and 
the fact that it's assessed on aftertax savings, aftertax 
values, almost always there's got to be litigation about the 
value of those assets which consumes more wealth and requires 
liquidation on the part of that business and then further 
liquidation in the end to satisfy the tax.
    Because the American people understand how pernicious this 
tax is, because they understand it's not about redistribution 
of wealth, except to the extent that it's causing small 
business to go away and big business to get bigger, they've 
been voting to get rid of it routinely. In our State, Chairman 
Herger, you know that we repealed this death tax, we repealed 
our inheritance taxes by an initiative vote of the people.
    Now, the Los Angeles Times editorialized that this would be 
an extremely unpopular thing, that this would be protection for 
the rich, and so on, and you know what the vote was? You know 
what the vote of the people was? To eliminate the death tax in 
California? Sixty-five percent. And they didn't just eliminate 
the death tax. They said you can never bring this ugly thing 
back without another initiative of the people. Even the 
legislature can't do it.
    I'd just like to close with a personal story about a 
constituent of mine who is an estate tax lawyer. One would 
think that perhaps the small lobby in favor of this tax would 
comprise chiefly people who make money from it, estate tax 
lawyers. Well, one person at least who is an estate tax lawyer 
doesn't feel that way. And he told me he could find another way 
to earn a living as a tax lawyer if we were to do the right 
thing and get rid of this tax. And he recounted to me an 
example, one of the reasons that he feels this way. Recently, 
he said, he was finishing the estate planning for one of his 
clients and, as he said, occasionally sadly happens in his 
business, that client became fatally ill. So serious was his 
problem that he had to go to his house and rush to his bedside. 
His family were all gathered there because it was clear he was 
slipping and on that man's last day on Earth, he spent two and 
a half hours with his estate lawyer who had him sign documents. 
And the lawyer told me that the effect of signing these 
documents was that the family could avoid that tax. There was 
no economic effect in real life, just a tax effect. And if he 
failed to sign the documents, then there would be a big 
liability and so he spent the time going over these documents 
with the man while his family sat outside and they missed those 
last hours with him because of us, because we imposed this 
horrible death tax. No one of our constituents, no American, 
should spend his or her last hours on Earth that way. This is 
an evil, pernicious, counterproductive assault on small 
business, thrift, savings, hard work and it deserves to die. I 
thank you.
    [The prepared statement follows:]

Statement of Hon. Christopher Cox, a Representative in Congress from 
the State of California

    Chairman Archer, I want to commend you for your leadership 
in holding these hearings today, and I welcome the opportunity 
to talk about the urgent need for repeal of the death tax.
    Mr. Chairman, this tax raises less than 1% of federal 
receipts. It is not paid by the rich and those who can afford 
the fancy lawyers and accounts needed to legally avoid the tax. 
It is paid by the small businessman and the farmer and by those 
who work for these individuals who pay a 100% tax when they 
lose their jobs as businesses are liquidated.
    Having introduced legislation in each of the last three 
Congresses to kill the death tax, I am proud to report that 
support has grown as the American people recognize the danger 
this most unfair tax poses to them and their families. They 
realize that the death tax is unfair, confiscatory, and 
contrary to the values of hard work and saving on which this 
country built its success. In 1993, when I first introduced the 
Family Heritage Preservation Act, my bill had only 29 co-
sponsors in the House and had not been introduced in the 
Senate. Today, the same legislation is endorsed by 168 members 
of the House and 30 members of the Senate.
    As far back as 1982, the voters of California sent this 
message to their state legislature when they overwhelming 
supported Proposition 6, which repealed the California state 
inheritance tax. Nearly 65% of the voters in the most populous 
state in the nation repealed their state inheritance tax by 
popular initiative. Proposition 6 not only repealed these 
onerous taxes, but it stipulated that the state legislature 
could not reimpose this state death tax unless another popular 
initiative of the people instructed it to do so. Mr. Chairman, 
the people in my state could have tried changing the details of 
the law, they could have raised exemptions or lowered rates, 
but instead they wisely chose to do away with state death taxes 
completely.
    Numerous states like Iowa have followed California's lead, 
and many other states like Pennsylvania are beginning to follow 
suit. Foreign nations like Israel, Australia, and Canada, which 
are not considered to be low-tax nations, have repealed their 
death taxes due to the social and economic harm they cause. I 
have received thousands of petitions that represent just a 
fraction of the millions of Americans who, like Californians in 
1982, are fed up with the death tax.
    Support for repealing the death tax transcends the usual 
boundaries that often seem to divide us. Democrat and 
Republican, rich and poor, white and black, people around the 
county want to kill the death tax. The death tax is not an 
issue of class warfare or left-leaning versus right-leaning 
economists--everyone agrees that the death tax seeks to repeal 
the most basic of human natures, the desire to provide for 
one's family and loved ones.
    We are familiar with the concept of a sin tax, a government 
levy on goods like cigarettes and alcohol. ``If we have to tax 
something,'' states the logic behind such taxes, ``why not tax 
behavior that is damaging to society and individuals?'' The 
death tax is the opposite of a sin tax--it is a virtue tax. 
Self-professed liberal scholar Edward McCaffrey labelled the 
death tax as a tax on virtue because it taxes exactly the kinds 
of behavior we consider to be virtuous and want to encourage: 
savings, investment, and most importantly, work.
    After you have worked to put food on the table, clothes on 
your back and a roof over your head, the most powerful reason 
to continue to work is to provide for your family and those you 
care about. You want to work hard to make life easier for your 
children. Yet the death tax thwarts this basic human instinct. 
While you may have worked hard, taken risks, built a business, 
and paid your taxes, you discover that at the end of the line, 
Uncle Sam stands between you and your loved ones and demands up 
to 55% of everything you have left.
    I will leave it to other witnesses here today to testify 
about the many economic benefits resulting from repeal of the 
death tax, but I want to take a moment to highlight a few of 
these, paying particular attention to the erroneous notion that 
repeal of the death tax will leave the federal government 
starved of revenue. When we consider the role death taxes play 
in tax revenues it is important to keep several points in mind:
     Death taxes collect approximately 1% of federal 
receipts, and one study suggests that 65 cents on every dollar 
is lost through enforcement, compliance and other costs. 
Instead of being confiscated or used to build elaborate legal 
devices to avoid the tax, this money would be used in an 
economically beneficial way by private citizens, expanding 
opportunity for all Americans, and therefore, the tax base for 
the federal government.
     The current discussion of the expected ``budget 
surplus'' indicates that we have achieved a balanced budget. 
Assuming this trend continues, it would more than offset any 
initial loss in revenue from death tax repeal.
     Repeal of the estate tax will lead to increased 
federal tax collections from income and payroll taxes. 
According to a Heritage Foundation study, repealing the death 
tax in 1997 would have resulted in increased annual economic 
growth by $11 billion, an additional 145,000 new jobs, and 
increased annual personal income by $8 billion each year. A 
retrospective study of the economy over the 20-year period from 
1971 to 1991 showed that net annual federal revenues would have 
been $21 billion higher if the death tax had been repealed 20 
years ago.
    Some have suggested that we should again merely modify the 
death tax instead of repealing it outright. But this won't 
change the underlying incentives against hard work; it will 
simply add yet another layer of bureaucracy and regulation to 
what is already one of the most litigated and contentious areas 
in the entire tax code. Last year, in testimony before this 
Committee, one witness testified that this ``mend it, don't end 
it'' approach to the death tax would actually add $3 billion in 
new litigation and accounting costs to the current system as 
families and businesses try to structure their assets to meet 
the new standards.
    We have the opportunity to simplify the tax code, to cut an 
entire section of the law that punishes savings and investment, 
punishes hard work, breaks up family businesses, and makes the 
next generation keep trying to climb the same rung of the 
economic ladder. The death tax is contrary to our principles, 
it is contrary to sound economic policy, and it should die.
    I'd like to close with a story that illustrates that the 
death tax is not merely destructive but immoral. I was talking 
with a city council representative in one of the cities in my 
district. The city council is a part-time job, and this man is 
an estate tax planner and a tax lawyer in his real life outside 
politics. He came up to me and he thanked me for my efforts to 
repeal the death tax and shared with me his experience as a tax 
lawyer. The day before, he said, he spent several hours with 
one of his clients on his client's deathbed. The man's family 
was waiting in the next room, but this dying man was forced to 
give up some of his last hours on earth to sign forms necessary 
to avoid the death tax. These papers created no new wealth, 
they were economically useless, except that they allowed this 
man's family to keep the wealth he had worked for them to have.
    So this man signed the papers, but he was deprived of some 
of his last moments with his family. The government got no 
money. The tax lawyer got paid, and he came to his Congressman 
and complained that this is not what the government of the 
United States of America should do to its citizens during their 
final moments on Earth. I think that in this we must all agree.
    The death tax deserves to die, and I thank the Committee 
for providing me this opportunity to testify.
      

                                


    Mr. Herger. Thank you very much, Mr. McCrery, and thank you 
for your work, Mr. Cox. I thank you both for your past 
legislation in this area of which I've been a cosponsor in the 
last several Congresses. Mr. Cox, your story reminds me of an 
example as well.
    I'm from an agricultural community just north of Sacramento 
in Northern California and from an agricultural family. And I 
remember, in my office, not that many years ago, a family came 
in to talk to me and to discuss their individual situation in 
which this lady's father, who had farmed in our area and who I 
knew, grew up with, and knew all my life, explained to me the 
frugality of their family, which I already knew, and the fact 
that he had even saved money up and his ranch was debt-free. He 
had money, a seemingly substantial amount, in the bank to take 
care of the death tax. Yet, it was not nearly enough, and they 
were forced to sell this ranch that had been in the family 
since about the turn of the century. They were forced to sell 
it just to pay the death taxes. And, as I know you know and I 
certainly know, this is just one of many examples, not only on 
farms but on small businesses. No, you're absolutely right, 
this is a tax that, in my opinion should be done away with. I 
thank you very much.
    Yes, Mr. Collins.
    Mr. Collins. Thank you, Mr. Herger. Mr. Cox, you made a 
statement there that you know that a lot of family-owned 
businesses, small businesses are selling their businesses to 
conglomerates in order to avoid the death tax. Would you go 
into a little more depth of why?
    Mr. Cox. As I alluded to, the death tax which can exceed 50 
percent, is imposed irrespective of whether there's any money 
in the business that is closely held or the farm that is 
closely held or the ranch that is closely held by the person 
who died. And so, you have to pay the tax somehow and that 
means you have to sell off whatever you've got. You might need 
to sell off the assets of the business but you might also need 
to sell off your house. I mean, the tax does not care whether 
it's a personal heirloom. Sell it. There is no quarter given by 
the death tax.
    Mr. Collins. Yes, maybe I should just give you an opinion 
that I have as to why this may be occurring. Simply the tax 
rates themselves. If you wait and die, your estate is going to 
pay 55 percent, but if you sell, then you pay on the gain of 
that sale at a much less or a much lower rate. And, too, 
oftentimes when a business is passed on due to the death of the 
principal owner, there is a tendency for that small business to 
fail because of the tax liability. It will exist because of the 
value of that estate, which often leads, as you say again, to a 
sale. But also, when the principal owner dies and money has to 
be borrowed to either pay the tax or to continue the operation 
of that business once the tax liability is met, it prevents the 
heirs from having the same financial status that the principal 
had; interfering with their ability to borrow funds to continue 
the operation of that business. So, I think that it is often 
the cause of the sale of a business. I do know that it is 
occurring and I do know that there are a lot of small 
businessmen who carry a tremendous amount of life insurance in 
hopes that they will be able to meet that liability and 
continue the operation of that business after it is passed to 
the next generation. I'm one of them. Thank you.
    Chairman Archer [presiding]. The Chair would advise the 
remaining Members in the room that we have a vote on and that 
we have about 3 minutes left to vote so the Committee will 
stand in recess until after this vote. Hopefully 15 minutes 
from now or maybe less we will continue with our next panel. 
Thank you.
    [Recess.]
    Mr. Herger [presiding]. We'll now reconvene our next panel 
on death taxes. First on the panel will be a brother and 
sister, Christopher Clements and Kimberly Clements, whom we 
will allow Mr. Hayworth to introduce in just a minute. Also, 
Richard Forrestel, Jr., Carl B. Loop, Jr., and Harold I. 
Apolinsky.
    Mr. Hayworth, would you like to introduce your 
constituents?
    Mr. Hayworth. Thank you, Mr. Chairman. Ladies and 
Gentlemen, I'm very pleased to introduce to my colleagues here 
on the Ways and Means Committee, Christopher and Kimberly 
Clements of Tucson, Arizona. Chris and Kim are the children of 
the last William M. ``Bill'' Clements, the owner of Golden 
Eagle Distributors, a beer wholesaler based in Tucson. Golden 
Eagle also has several facilities throughout Arizona's sixth 
district, including Casa Grande, Globe, Holbrook and Flagstaff. 
Bill Clements died unexpectedly, following a 2-month battle 
with cancer, and Chris and Kim will share with the Committee 
their experience with the death tax upon inheriting and keeping 
Golden Eagle Distributors. Thank you, Mr. Chairman.
    Mr. Herger. Thank you, Mr. Hayworth.
    Kimberly, would you like to begin?

 STATEMENT OF CHRISTOPHER AND KIMBERLY CLEMENTS, GOLDEN EAGLE 
DISTRIBUTORS, INC., TUCSON, ARIZONA; ON BEHALF OF THE NATIONAL 
                  BEER WHOLESALERS ASSOCIATION

    Ms. Kimberly Clements. Thank you, Congressman Hayworth and 
Mr. Chairman. Ladies and Gentlemen of the Committee, it is an 
honor for my brother, Christopher, and I to be testifying here 
today on the Federal estate tax. My name is Kimberly Clements 
and my brother and I are the third generation owners of Golden 
Eagle Distributors, Inc., headquartered in Tucson, Arizona.
    Golden Eagle is an Anheuser-Busch beer wholesalership which 
just celebrated 50 years of doing business in the State. 
Unfortunately, this anniversary was not shared with the one who 
was responsible for the company's success. Three years ago, our 
father, William M. Clements, passed away after a brief but 
courageous bout with cancer. This left my mother, Virginia, my 
brother and I the task and responsibility of continuing our 
father's work in the community as well as in our industry.
    If there was one thing that Chris and I learned from our 
father, it was commitment. In 1976, our tiny company with just 
a handful of employees was faced with a national brewery 
strike. Dad made a lot of sacrifices, but he never laid off one 
employee. Now, 22 years later, Chris and I are directly 
responsible for over 260 employees and their families. Our 
company has grown substantially because we have continuously 
reinvested dollars back into the business by building new 
warehouses, adding to our fleet, developing new departments, 
and, most of all, hiring more employees.
    The most significant contributors in Tucson do not come 
from multinational corporations. They come from independent 
family businesses; the restaurants, the corner markets. And 
Golden Eagle is no exception. These businesses know the value 
of giving back to the community. These businesses know that 
value of family and its importance in today's society.
    In a Congress that is deemed profamily, it has not fully 
recognized the unique nature of the family business. Golden 
Eagle Distributors is the core of the Clements family. It is 
what we have rallied around following the death of our father, 
knowing that the business is the family legacy.
    When Dad died, there were so many questions that were asked 
not only to one another, but by our employees and by members of 
our community. What will happen to Golden Eagle Distributors? 
Thankfully, our estate plan was barely completed 6 months prior 
to his death. If we hadn't been prepared, the financial as well 
as emotional effects on the family and on our community would 
have been devastating.
    Mr. Clements. Mr. Chairman, Ladies and Gentlemen of the 
Committee, this is the real impact of the Federal estate tax. 
It devastates families, businesses, and communities. The death 
tax barely comprises 1 percent of all Federal tax revenue yet 
its overall effect is much more far reaching.
    My sister and I, quite frankly, are some of the lucky ones. 
We had a father who saw fit to plan accordingly to protect his 
family, his employees, and his community from the greed of the 
government. I say greed because much of our business has been 
taxed and over taxed already. The motions and moneys families 
must endure to protect themselves and their businesses from the 
government are well-documented. Lawyers, accountants, and open-
handed insurance representatives are paid thousands of dollars 
to set up the trusts, the wills, the funds to pay the death 
tax. Our father was no exception, but at what cost? Certainly, 
these moneys could have been used more productively and 
invested back into our business and its employees.
    Although this Congress saw fit to raise the death tax 
exemption levels in this year's budget agreement, it did little 
to calm the fears and concerns of family businesses. In fact, 
the current legislation that attempts to give added relief to 
family businesses does not assist the majority of medium to 
large family businesses. These new laws are a pittance and fail 
to address the large amounts of capital the majority of family 
businesses have invested directly in their buildings, their 
inventories, their employees, capital that almost certainly 
would not meet the current or future exemption levels.
    For example, in the coming year, Golden Eagle plans to 
invest in its Tucson operations well over $1 million in capital 
and human resource improvements. These expenditures are 
necessary in order to remain competitive in an already 
cutthroat business environment. The death tax exemption levels 
passed by this Congress would not even account for the 
inventory in our warehouse. However, the more insulting aspect 
of the death tax is the fact that the Federal Government offers 
families the privilege to pay the tax in installments over 14 
years and charges them interest to do so, essentially taxing an 
already unfair tax.
    Our own Arizona Senator, John Kyl, and his esteemed 
colleague, Congressman Chris Cox, who you heard from today, 
have the correct approach to the death tax. Do away with it. 
Indeed, according to a recent article in Insight magazine, if 
the death tax were eliminated, the U.S. economy would be 
producing $79.2 billion more in annual output and creating 
228,000 more jobs a year.
    Obviously, eliminating the death tax is not a completely 
realistic expectation for this Congress. Therefore, Mr. 
Chairman, we hope that you and your colleague will consider 
recognizing the unique nature of the family business, and 
exempt from the death tax those closely held by 50 percent or 
more of family members. It is time to lift this incredible 
burden from the families of America. It is time to recognize 
America's greatest resources: the entrepreneur, the 
philanthropist, the risk-taker. A family businessowner is all 
these things and more. We know. We learned from the best.
    We thank the Chairman and the Committee for the opportunity 
to share our views on this vital, comprehensive issue and look 
forward to progressive steps to alleviate this unfair tax on 
American family businesses. Thank you very much.
    [The prepared statement and attachments follow. Attachments 
are being retained in the Committee files.]

Statement of Christopher and Kimberly Clements, Golden Eagle 
Distributors, Inc., Tucson, Arizona; on behalf of the National Beer 
Wholesalers Association

    Mr. Chairman, ladies and gentlemen of the Committee, we are 
very privileged and honored to address you today for not only 
ourselves, but also for beer wholesalers across the country who 
belong to the National Beer Wholesalers Association. We hope we 
will answer some pressing questions regarding the inequity of 
the death tax.
    Why should a person build a business in America? Why should 
a person sacrifice everything to run the risk of having his or 
her livelihood taken away from his or her family?
    It seems a silly question, but it is asked more frequently 
than many people think. This is the dilemma the American 
entrepreneur faces today--to invest capital in his or her 
company and community, and risk its future if anything were to 
befall him or her.
    The vision of our Founding Fathers was simple enough--that 
all Americans should reap the fruits of their labor--that the 
right to life, liberty, and property is sacred and divined by 
God.
    Hundreds of thousands of immigrants come to the United 
States every year fleeing from the tyranny of non-democratic 
regimes, from poverty, from terrorism. Whatever the reasons, 
people come with the thought that the United States will give 
them the inalienable freedoms of life, liberty, and property.
    Many start families, begin businesses, work hard, and see 
their lives grow.
    However, the thought that the government, over time, could 
take away all that they have built is unconscionable to many 
immigrants and, indeed, to many Americans who have been here 
for generations.
    Today in America, without ``proper planning''--which 
usually entails the investment of numerous resources in the 
guise of accountants, lawyers, and wayward insurance 
salespeople--a family can see their business and livelihood 
stripped away by the most destructive tax created--the estate 
tax (or now commonly known as the death tax.
    The family entrepreneur, who puts his good name and 
reputation on the line to create jobs and wealth for his loved 
ones and his community, is one of America's greatest resources. 
Yet, if this vital resource fails to protect his family from 
the government to which he provided countless tax revenues and 
the creation of innumerable jobs, he may find that upon his 
passing that his family is forced to sell their life's work to 
pay the government again.
    The greatest misperception about death taxes is that they 
only affect the very rich. However, death and taxes do not 
discriminate. Death taxes are hardest on the small farmer, the 
independent shopkeeper, the restauranteur, and the beer 
wholesaler--small business people with families and strong ties 
to the communities they serve.
    In fact, a recent study reported that ``nine out of 10 
family businesses that failed within three years of the 
principal owner's death said that trouble paying estate taxes 
contributed to their companies' demise.''
    Mr. Chairman, our family is one of the lucky ones.
    We had a father who planned properly and who allocated the 
appropriate resources to make sure his family, his employees, 
and his community would be well protected.
    Yet who would have known?
    Who would have known that during the Christmas of 1994, our 
father, William M. ``Bill'' Clements, an entrepreneur and 
philanthropist, would be driving down the street and suddenly 
be unable to see? Who would have known that subsequent tests 
and diagnoses would discover cancer throughout his body? Who 
would have known that two arduous months later he would leave a 
wife, two children, a business, and a community wondering...?
    What is next?
    To understand the answer to this question, we would like to 
share with the committee how far our family business has come 
and where it has yet to go.
    In 1941, our grandfather, Dudley M. Clements, founded All 
American Distributing Co., which was a wholesale liquor 
operation in Phoenix, Arizona. Dudley, a banker by trade, was 
raised in Casa Grande, Arizona. His father, William Preston 
``W.P.'' Clements, was a banker and rancher. W.P. also served 
as mayor of Casa Grande back in the early 1900s.
    They raised Dudley with a strict work ethic and he survived 
much of the depression by working in Idaho as head of the new 
state liquor board, which was formed following the repeal of 
prohibition. His son, Bill, was born April 29, 1936, in Boise, 
Idaho. After a brief move to New York City following Bill's 
birth, Dudley along with wife, Patricia, and son moved to 
Arizona.
    Several partners joined to form All American Distributing. 
One of the more notable partners was the cinema singing cowboy, 
Gene Autrey. During that time, Arizona was a growing state and 
business was good. Over the years, All American grew from a 
small wholesaler with a limited portfolio of products into a 
large supplier of beers, wines, whiskeys, and scotches. Over 
time, the business even expanded to several different markets 
including Casa Grande, Globe, Flagstaff, Holbrook, and Tucson.
    In 1956, August A. Busch, Jr., Chairman of Anheuser-Busch 
(A.B.) and affectionately known as ``Gussy,'' called our 
grandfather to ask a seemingly simple question, but one with 
extensive implications.
    Would Dudley handle Budweiser?
    Our grandfather was skeptical. Back then, Budweiser was a 
regional brand known primarily in the Midwest and in the East. 
Schlitz, A-1, and Coors were the big brands in Arizona, with 
Budweiser merely an afterthought. Nevertheless, several of 
grandfather's key managers prodded him, and All American began 
to distribute Budweiser in Tucson, Casa Grande, Globe, and 
parts of Phoenix.
    At that time, our father, Bill, was in college at the 
University of Washington, playing football and majoring in 
engineering. With all those activities, he had practically no 
interest in entering the family business.
    After graduation, a degree in engineering brought many 
opportunities. In fact, Dad furthered his education and 
received a Ph.D. in Environmental Engineering from the 
University of California at Berkeley. He stayed in the San 
Francisco Bay area and eventually started his own firm. Much of 
his work involved the military and the National Aeronautical 
Space Administration (NASA). At one point, he was designing air 
flow specifications for spacecraft and consulting with the 
Defense Intelligence Agency (D.I.A.).
    Government projects began to dry up in 1967, when President 
Lyndon B. Johnson successfully moved many contracts out of 
California and into his native state of Texas. Dad was left 
contemplating his future. As it turned out, back at All 
American, Anheuser-Busch began to inquire about the status of 
Dudley's son.
    A.B. wanted a succession plan for the family.
    Sensing the long-term stability and profitability in the 
wholesale business, Dad returned to Phoenix with his new wife, 
Virginia, and worked alongside his father. He worked hard to 
learn the wholesale business, which was no easy task since he 
had no formal experience or training. Moreover, his father was 
very strict with him, holding him to higher expectations than 
his other employees. Despite his doctorate, his father expected 
him to perform even the most menial tasks, like scrubbing 
floors. But Dad persevered and came to know the business from 
the ground up.
    After several years, market pressures finally forced our 
grandfather to separate the liquor and the Budweiser side of 
business. Budweiser, along with Anheuser-Busch's other brands, 
had grown and deserved more attention. Consequently, Dad, Mom, 
and the two of us moved to Tucson to open the corporate 
headquarters for our new company.
    So, in the spring of 1974, Golden Eagle Distributors, an 
exclusive distributor of Anheuser-Busch products was born.
    The first few years in Tucson were difficult. Budweiser 
held a market share of less than 10 percent and, for a while, 
Golden Eagle destroyed more beer than it sold.
    In 1976, a national brewery strike nearly crippled the 
company. Dad dug deep into his own pockets and borrowed to keep 
the company afloat. He lost nearly 18 months of profits but 
never laid off one employee. It was this type of commitment to 
his company that would endear his employees to him for years to 
come.
    The strike soon ended and Golden Eagle finally had the 
freedom to grow. Between 1977 and 1984, Golden Eagle saw 
incredible change, including the proliferation of new brands 
like Natural Light and Michelob Light. In 1981, Tucson was the 
number one test market for a risky excursion in the light beer 
category, Budweiser Light.
    With the new growth, our company created new departments 
and new job opportunities. Golden Eagle added an in-house 
Marketing Department (one of the first of its kind in the 
nation). Chain stores began to demand more attention, so Golden 
Eagle established a National Account Representative position to 
better serve local buyers. Growth in computer technology 
mandated the development of an in-house Data Processing 
Department that continues to change and evolve with the needs 
of the business. With more employees, human resource management 
became a priority and our company established a Vice President 
of Human Resources.
    Through it all, Dad felt that it was imperative to give 
back to the community of Tucson and the cities of the 
surrounding branches for all he had received. He embraced 
countless community projects and donated his time and money to 
worthy causes. From Chairman of the United Way, to the Boy 
Scouts of America, to the Copper Bowl Foundation, to creating 
the Greater Tucson Economic Council--Bill Clements was a man 
who could never say ``no'' to anyone who asked for help. In 
addition, he was politically active and a close friend and 
confidant to many past and current members of this Congress. 
Not surprisingly, this legacy of duty to others continues to 
grow, both in ourselves and in our company.
    On February 23, 1995, our father died unexpectedly after a 
brief yet valiant bout with cancer. He was 58.
    At that time, we were both forced to forgo many training 
steps we would normally take and assume executive positions in 
the company. Currently, we are working to be recognized by 
Anheuser-Busch as Equity and Successor Managers of the company.
    Luck, and extensive and expensive estate planning, has 
allowed Golden Eagle Distributors to survive. Indeed, with the 
unprecedented growth in the business over the past twenty 
years, we are extremely fortunate that Dad foresaw the need to 
protect what he had built.
    Yet at what cost?
    Thousands of dollars were spent to hire lawyers, 
accountants, and insurance people to draw up trusts, wills, and 
accounts to protect the fruits of Dad's labor. Congress making 
changes to the already complicated tax laws forced Dad to 
frequently reevaluate our company's plan. Ironically, he 
finished the final arrangements in our family's estate plan 
barely six months before his death.
    Golden Eagle could have better used these ``necessary'' 
resources in the business for new salespeople, more trucks, 
better benefits, etc. In other words, we could have reinvested 
them in people.
    It was hard work, sacrifice, perseverance, and faith in 
people that allowed our father to be successful. Dad, however, 
knew that success in America carried with it a terrible price. 
We are lucky that all these measures were in place and that our 
company did not have to be sold to satisfy the I.R.S. Hundreds 
of jobs would have been lost and countless lives devastated.
    Thankfully, estate tax planning usually provides for no 
taxes due when the first spouse dies. However, at the death of 
the surviving spouse, it becomes very difficult and complicated 
to keep control of a family business for the next generation 
due to the heavy burden imposed by death taxes.
    Today, nearly three years following the death of our 
father, Golden Eagle is still a growing company forged by a 
vision of teamwork, fairness, and duty.
    Golden Eagle is a company of 242 employees across Arizona 
with annual wages and benefits of $10.3 million. It paid $3.1 
million in state luxury taxes and purchased $5.3 million goods 
and services. Golden Eagle employees participate i funds from 
the corporation. Our health plan is one of the finest in the 
industry with employees able to choose almost any doctor they 
want.
    All of this viable economic activity takes place in six 
separate counties statewide--communities that would be severely 
affected if the company ever had to be sold to satisfy the 
greed of the federal government.
    There is a misconception in Washington, D.C., about how 
family businesses operate. Many government bureaucrats, who 
have never invested a lifetime in building a future for a 
family and a community, see family businesses as cash rich and 
easily able to pay the whopping 55 percent death tax levy.
    However, the vast majority of families who own a business 
have capital tied up directly in the operation. Not only in the 
plant(s) and equipment, but in the lives of its employees. 
Golden Eagle, for example, has capital tied up in the education 
of salesman Orlando Iosue's children and in driver Rudy 
Duarte's new marriage. While tangible items may be easily sold, 
it is the human capital that is the most precious and the most 
fragile.
    We are thankful that this Congress saw fit to pass new laws 
friendly to family businesses. Many in Congress, to their 
credit, attempted to alleviate the death tax burden by 
increasing the exemption levels from $600,000 to $1 million by 
the year 2006 in the last budget agreement.
    Unfortunately, these new increases in the unified credit do 
little for the majority of family businesses. In fact, none of 
the provisions, including those specifically targeted to 
family-owned and operated businesses, provide significant help 
for medium to large family businesses. Moreover, they are very 
complex to implement for small family-owned businesses.
    Further, although the current law provides for installments 
of 14 years to pay off a levied death tax, the government 
charges interest for this ``privilege.'' Although Congress 
reduced the rate from four percent to two percent, expecting a 
family that has paid countless taxes over the life of a 
business to pay interest to the government when a loved one 
dies is ridiculous. This interest payment is not even 
deductible for estate or income tax purposes.
    Again, an entrepreneur may have a net worth near or upwards 
of this amount, but most often his capital is tied up in 
nurturing his business. We think Senator Jon Kyl from Arizona 
and Congressman Christopher Cox from California have the 
correct approach to the death tax dilemma--do away with it! Mr. 
Chairman, we also know that if you had your way, this would be 
your solution as well.
    According to a recent Insight magazine article on the 
nation's growing tax burden, if the death tax were eliminated, 
``the U.S. economy would be producing $79.2 billion more in 
annual output and creating 228,000 more new jobs a year.'' This 
is growing evidence that the tax revenue gained from the 
increase in Gross Domestic Product (GDP) and jobs would be 
enough to offset the elimination of the death tax.
    Understandably, the thought of completely eliminating the 
death tax may not be completely realistic for this Congress. 
Therefore, it is important that Members of Congress continue to 
recognize the unique nature of the family-owned business and 
consider exempting from the death tax a family business that is 
closely held by 50 percent or more by family members. As you 
know, the current laws provide some help for these types of 
businesses, but fall well short of eliminating the tax.
    Mr. Chairman, ladies and gentlemen of the Committee, the 
death tax is an injustice to American working families who have 
risked everything to make a business grow and create 
opportunities for their employees and communities. It is 
especially unfair to the smallest of businesses for they do not 
have the resources to set up the trusts, the accounts, and the 
wills to protect themselves from the death tax.
    It is time to lift this burden from the hundreds of 
thousands of family businesses in this country. Let us begin to 
protect one of America's greatest resources--the entrepreneur, 
the risk taker, the provider, the community leader, the 
philanthropist. A family business owner is all these things, 
and more. We know--we learned from one of the best.
    Why should a person build a business in America? To 
perpetuate it. To make it grow. To keep it through the 
generations. To provide opportunity for its employees and the 
community.
    We are committed to sending the message for those who might 
not have a voice. We hope that other wholesalers and all 
closely held family businesses would see fit to rally behind 
this important cause and give it the support it deserves.
    We thank the Chairman and the Committee members for the 
opportunity to address this vitally important issue and look 
forward to progressive steps to alleviate this unfair burden on 
American family businesses.
      

                                


    Mr. Herger Thank you, Mr. Clements. We'll now hear from 
Richard Forrestel, Jr., treasurer, Cold Spring Construction 
Co., Akron, New York, on behalf of the Associated General 
Contractors of America.
    Mr. Forrestel.

  STATEMENT OF RICHARD FORRESTEL, JR., TREASURER, COLD SPRING 
CONSTRUCTION COMPANY, AKRON, NEW YORK, ON BEHALF OF ASSOCIATED 
                 GENERAL CONTRACTORS OF AMERICA

    Mr. Forrestel. Thank you and good afternoon. I am Richard 
Forrestel, Jr., a CPA and treasurer of Cold Spring Construction 
Company based in Akron, New York. I would like to thank 
Chairman Archer and the other Members of this distinguished 
Committee for the opportunity to discuss the devastating impact 
of the Federal estate tax, or death tax, on family-owned 
businesses. I am testifying on behalf of the Associated General 
Contractors of America, AGC, a national trade association 
representing more than 33,000 firms, including 7,500 of 
America's general contracting firms. AGC is the voice of the 
construction industry.
    While AGC's membership is diverse, the majority of AGC 
firms are closely held businesses, like our own. AGC member 
firms are 94 percent closely held, 81 percent are owned by 
fewer than four persons, and over 80 percent are small 
businesses with an average construction project under $5 
million.
    Cold Spring was founded by Grandpa in 1911. We are a 
closely held, family-owned construction firm that specializes 
in highway and bridge construction. Our projects range in size 
from $1 million to $30 million. Dad and his brother, Uncle Tom, 
both entered the business after serving our country in World 
War II and worked together until Uncle Tom died in 1977. Dad, 
our chief executive officer, still remains very active today. 
In addition, my brother Steve, our president, and my brother 
Andrew, our vice president, are actively involved in managing 
the business. We have eight siblings who are not involved in 
Cold Spring, although each worked for Cold Spring every summer 
to pay for college, as did 12 of my first cousins.
    Congress needs to be reminded that Americans are smart 
people. When faced with an onerous tax like the death tax, 
family held businesses have been forced to jump through 
numerous, peculiar, and sometimes ridiculous tax hoops to 
ensure the livelihood and continuation of their family 
businesses.
    I began working for Cold Spring in 1975 and would like to 
describe some of the estate planning techniques we have 
employed in our battle to save our family business. Uncle Tom 
died at the young age of 49 in 1977. At the time, both he and 
Dad owned half the business. Subsequent to Uncle Tom's death, 
Dad negotiated with Aunt Jo and bought Uncle Tom's stock in the 
company. This transaction was completed in 1979.
    In 1980, Dad found himself with a potentially nasty estate 
tax problem brewing. Cold Spring did an estate freeze and 
created a preferred class of stock. In addition, a nonvoting 
common stock was created. Dad and Mom then began to gift the 
voting stock to the three of us involved in the business and 
the nonvoting stock to our eight siblings not involved in the 
business. Dad and Mom both used their unified credits to 
expedite the gifting. They brought their 11 children together 
in 1987 and told them of the gifting program. One of our 
sisters suggested that we have the option to call their 
nonvoting stock at some future date. This stock was called in 
the early nineties. As Dad approached 70, he felt it was 
necessary to create some immediate liquidity in his estate and 
the corporation redeemed his preferred stock.
    In 1980, Cold Spring bought a large life insurance policy 
on Dad's life. The reason for this purchase was to create 
liquidity in Dad's estate in the event of his demise. Cold 
Spring still maintains the policy on Dad along with policies on 
Steve, Andy, and me. More than $2 million has been paid in life 
insurance premiums since 1980 on these policies. The primary 
purpose of these, of course, is to ensure liquidity in our 
various estates to pay for estate taxes. In addition, Cold 
Spring has spent more than $2 million since 1980 redeeming 
stock from various shareholders. Again, these transactions were 
driven by estate taxes.
    Cold Spring missed a glorious planning opportunity in 1986 
to become an S corporation when it found itself with three 
classes of stock. Those three classes of stock existed because 
of estate taxes.
    Chairman Archer, I have hit the highlights as to the hoops 
Cold Spring has jumped through to provide for a fourth 
generation in our family business. We have diverted enormous 
amounts of capital and management time to this process. We 
ought to be buying bulldozers and backhoes built in Peoria, 
Illinois, rather than intangible life insurance policies. We 
should also be providing long-term security for our employees. 
I believe the country and our company would be better served 
had these capital and intellectual diversions not been 
necessary.
    I appreciate the efforts made by this Committee in 
attempting to provide some estate tax relief to family-owned 
businesses as part of the 1997 Act. However, Congress needs to 
do much, much more to help the family-owned businesses 
threatened by the estate tax. AGC ultimately supports repeal. 
Short of full repeal, AGC supports every effort to reduce the 
impact of estate taxes on family-owned businesses so that they 
may survive to the next generation. I urge you to include 
estate tax repeal or large-scale estate tax relief in any 
upcoming bill. Thank you.
    [The prepared statement follows:]

Statement of Richard Forrestel, Jr., Treasurer, Cold Spring 
Construction Company, Akron, New York, on behalf of Associated General 
Contractors of America

    I am Richard Forrestel, Jr., a CPA and Treasurer of Cold 
Spring Construction, based in Akron, New York.
    I would like to thank Chairman Archer and other members of 
this distinguished Committee for the opportunity to discuss the 
devastating impact of the federal estate tax, or the death tax 
as we often refer to it, on family-owned businesses.
    I am testifying on behalf of the Associated General 
Contractors of America, a national trade association 
representing more than 33,000 firms, including 7,500 of 
America's leading general contracting firms. They are engaged 
in the construction of the nation's commercial buildings, 
shopping centers, factories, warehouses, highways, bridges, 
tunnels, airports, waterworks facilities, waste treatment 
facilities, dams, water conservation projects, defense 
facilities, multi-family housing projects, and site 
preparation/utilities installation for housing developments.
    While AGC's membership is diverse, the majority of AGC 
firms are closely-held businesses like my own. AGC member firms 
are 94% closely-held, 81% are owned by fewer than four persons, 
and over 80% are small businesses with an average construction 
project size under $5 million.
    Please note that the survey data mentioned in my testimony 
is drawn from the 1997 AGC/Deloitte and Touche Insights in 
Construction Survey and the 1995 Center for the Study of 
Taxation Federal Estate Tax Impact Survey.

              I. What the Death Tax Has Meant to My Family

    Cold Spring Construction Company was founded by Grandpa in 
1911. We are a closely-held, family-owned construction firm 
that specializes in highway and bridge construction. Our 
projects range in size from $1 million to $30 million. Dad and 
his brother, Uncle Tom, both entered the business after serving 
our country in World War II and worked together until Uncle Tom 
died in 1977. Dad (C.E.O.) still remains very active in the 
business today. In addition, my brothers Steve (President) and 
Andy (Vice President) are actively involved in managing the 
business today. We have eight siblings who are not involved in 
Cold Spring, although each worked for Cold Spring every summer 
to pay for college, as did 12 of my first cousins.
    Congress needs to be reminded that Americans are smart 
people. When faced with an onerous tax like the death tax, 
family-held businesses have been forced to jump through 
numerous, peculiar, and sometimes ridiculous, tax hoops to 
ensure the livelihood and continuation of their family 
businesses.
    I began working for Cold Spring in 1975 and would like to 
describe some of the estate tax planning techniques we have 
employed in our battle to save our family business. Uncle Tom 
died at the young age of 49, in 1977. At the time, both he and 
Dad owned 50% of the business. Subsequent to Uncle Tom's death, 
Dad negotiated with Aunt Jo and bought Uncle Tom's stock in the 
company. This transaction was completed in 1979.
    In 1980 Dad found himself with a potentially nasty estate 
tax problem brewing. Cold Spring did an estate freeze and 
created a preferred class of stock. In addition, a non-voting 
common stock was created. Dad and Mom then began to gift the 
voting stock to the three of us involved in the business and 
the non-voting stock to our eight siblings not involved in the 
business. Dad and Mom both used their unified credits to 
expedite the gifting. They brought their eleven children 
together in 1987 and told them of the gifting program. One of 
our sisters suggested that we have the option to ``call'' their 
non-voting stock at some future date. This stock was called in 
the early 1990's. As Dad approached 70, he felt it was 
necessary to create some immediate liquidity in his estate and 
the corporation redeemed his preferred stock.
    In 1980 Cold Spring bought a large insurance policy on 
Dad's life. The reason for this purchase was to create 
liquidity in Dad's estate in the event of his demise. Cold 
Spring still maintains that policy on Dad today along with life 
insurance policies on Steve, Andy, and me. More than $2 million 
has been paid in insurance premiums since 1980 on these 
policies--the primary purpose of these is, of course, to ensure 
liquidity in our various estates to pay for estate taxes. In 
addition, Cold Spring has also spent more than $2 million since 
1980 in redeeming stock from various shareholders. Again, these 
transactions were driven by estate taxes.
    Cold Spring missed a glorious planning opportunity in 1986 
to become an S Corporation when it found itself with three 
classes of stock. Those three classes of stock existed because 
of estate taxes.
    Chairman Archer, I have hit the highlights as to the hoops 
Cold Spring has jumped through to provide for a fourth 
generation in our family business. We have diverted enormous 
amounts of capital and management time to this process. We 
ought to be buying bulldozers and backhoes built in Peoria, 
Illinois rather than wasting capital on intangible life 
insurance policies. We should also be providing long-term job 
security for our employees. I believe the country and our 
company would be better served had these capital and 
intellectual diversions not been necessary.

  II. What the Death Tax Means to All Family-Owned Construction Firms

    The federal estate tax is one of the most onerous obstacles 
to business continuity and growth. When the owner of a family 
business dies, his or her estate is subject to federal and 
state estate taxes. The total value of the estate includes the 
value of the family business along with other assets such as 
homes, cash, stocks and bonds. Currently, an estate over 
$625,000 is subject to the federal estate tax, and an estate 
over $3 million will be taxed at an astronomical 55% rate. This 
unfair tax is on top of the income, business, property, sales 
and capital gains taxes that have been paid on these same 
assets over a lifetime. This is double taxation of the worst 
kind.
    Even the smallest contractor has lifetime capital assets, 
property, real estate and insurance over $625,000. Most family-
owned construction firms invest a significant portion of their 
after-tax profits in equipment, facilities, and working 
capital. This is necessary for these firms to increase their 
net worth, create jobs, and continue to be bonded for larger 
projects.
    Accordingly, the burden of the federal estate tax falls 
squarely on family-owned businesses, such as my own. The result 
is that many of these family-owned business must be sold, 
downsized, or liquidated just to pay the estate tax.
    Please allow me to tell you about several ways that the 
estate tax impacts small family-owned construction firms--
focusing on business continuity, cost of estate planning, job 
destruction, and the human toll.

Business Continuity

    It is part of the American Dream to create a prosperous 
business and to pass that success on to future generations. 
Business continuity--the passing of years of hard work to the 
next generation--is a great concern to most family-owned 
businesses. Unfortunately, more than 70% of family businesses 
do not succeed to the second generation and 87% do not survive 
to the third generation. Furthermore, it is estimated that 90% 
of family businesses that fail shortly after the death of the 
founder fail because of the estate tax burden placed on family 
members.
    This is especially true in the case of capital-intensive 
industries such as construction. In a recent survey, 62% of 
AGC's membership said that the federal estate tax would make it 
significantly more difficult for the business to survive the 
death of the principle owner. For a business like Cold Spring, 
the federal estate tax and other tax considerations of passing 
a business to the next generation are an overwhelming obstacle.

Cost of Estate Planning

    Let me state for the record, I am fortunate as a CPA to 
have a grasp of the impact of the death tax on our business. 
However, most of my colleagues in family-owned construction 
firms do not have an accounting background. More importantly, 
many construction firms do not have a CFO or in-house 
accountant. Remember, our goal is to construct buildings, 
bridges and highways. You can only imagine the frustration I 
share with my colleagues in the construction industry when we 
are confronted with the intricacies of the Internal Revenue 
Code. The current tax code, and particularly the estate tax, is 
so difficult to understand that most construction firms, 
notably smaller firms, are forced to hire costly outside 
accounting and legal advisors for estate planning.
    Those family-owned businesses that do survive to the next 
generation have spent thousands, sometimes millions of dollars, 
on estate planning so they are capable of paying the estate 
tax. Please note that I said to pay the tax, not to avoid the 
tax. Of AGC firms involved in estate planning, 63% purchase 
life insurance, 44% have buy/sell agreements and 29% provide 
lifetime gifts of stock. Again, allow me to use Cold Spring as 
a family-owned business example. We spend in excess of $100,000 
a year in insurance costs and accounting fees to ensure that we 
have the capital to pay the estate tax and transfer our 
business from one generation to the next.
    These finances are being diverted from useful means that 
could support firms like mine in becoming more efficient and 
creating jobs. In fact, it is not unusual for contractors to 
forgo new equipment, manpower, and technology to plan for 
estate taxes. This monetary cost is in addition to the valuable 
time spent by family-owned business owners on estate planning, 
which would be better spent managing their companies so they 
are able to better compete in the marketplace.

Job Destruction

    The estate tax not only affects the business owner, but 
also his or her employees. The Center for the Study of Taxation 
found that family-owned businesses created 78% of all new jobs 
in the United States from 1977 to 1990. In fact, AGC's family-
owned firms employ on average 40 persons and have created on 
average 12 new jobs each in the last five years. At Cold Spring 
we help support 150 families through employment. The estate 
tax, however, can destroy these jobs because firms are often 
forced to sell, downsize or liquidate to pay this onerous tax. 
On average, 46 workers lose their jobs every time a family-
owned business closes. Finally, let us not forget the impact 
that these family-owned businesses have on their immediate 
community. These family-owned businesses not only offer jobs, 
but they are also a vital part of every community providing 
specialized services, supporting local charities, and returning 
earnings back to the local economy.

The Human Toll

    It has been said that, ``At birth you get a 
certificate...at marriage you get a license...at death you get 
a bill.'' That is the human side of the estate tax. Little 
needs to be said of the immense grief of the passing of a loved 
one. However, I do not believe that the fear of losing one's 
business should be any part of mourning the passing of a parent 
or sibling. Making a decision on the future of a family-owned 
business includes generations of hopes and dreams of your 
family, as well as your employees. The estate tax has a toll--
it hits when families are most in turmoil, especially owners of 
small family-owned businesses.

                   III. Provide Death Tax Relief Now

    I appreciate the efforts made by this committee in lowering 
the estate tax as part of the Taxpayer Relief Act of 1997. I 
also understand that numerous pieces of legislation have been 
introduced in the 105th Congress that would repeal or reform 
estate taxes. However, Congress needs to do much more to help 
the growing number of family-owned businesses facing the estate 
tax. AGC ultimately supports repeal of the federal estate tax. 
Short of full repeal, AGC supports every effort to reduce the 
impact of estate taxes on family-owned businesses so they may 
survive to the next generation. I urge you to include estate 
tax repeal or large-scale estate tax rate relief in any 
upcoming tax bill. This issue continues to loom over employers 
and their employees on a daily basis.
    Thank you for the opportunity to speak to you about this 
important issue. I will be happy to answer any questions.
      

                                


    Chairman Archer [presiding]. Thank you, Mr. Forrestel. Let 
me just quickly interject, before I recognize Mr. Loop, that 
no, we have not done enough, but we should never forget the 
dramatic change for improvement rather than disimprovement that 
occurred after the election in 1994, because prior to that time 
the issue was, is the exclusion going to be reduced. You may 
remember that.
    Mr. Forrestel. Yes, sir.
    Chairman Archer. Mr. Loop.

 STATEMENT OF CARL B. LOOP, JR., PRESIDENT, LOOP'S NURSERY AND 
   GREENHOUSES, INC., JACKSONVILLE, FLORIDA; VICE PRESIDENT, 
 AMERICAN FARM BUREAU FEDERATION; AND PRESIDENT, FLORIDA FARM 
                       BUREAU FEDERATION

    Mr. Loop. Thank you, Mr. Chairman, Members of the 
Committee. My name is Carl Loop. I'm president of Loop's 
Nursery and Greenhouses, Incorporated in Jacksonville, Florida. 
I serve as president of the Florida Farm Bureau. I'm also vice 
president of the American Farm Bureau. I'm pleased to be here 
today to talk about the unfairness of estate taxes and the 
threat they pose to family farmers and ranchers.
    Farm bureau's position on estate taxes is straightforward; 
we recommend their elimination. This issue is so emotionally 
charged that last year farm bureau members sent more than 
70,000 letters to Washington calling for an end to the death 
taxes. I wrote several of those letters myself because death 
tax threatens the continuation of my family's livelihood.
    In 1949, I started a nursery business with a $1,500 loan 
and a borrowed truck. In the early years, we got by living on 
my wife's salary from teaching school and everything I earned 
went back into the business. For 49 years, I worked with my 
wife and children. We worked hard to build our business into 
one of the largest wholesale growers of flowering pot plants 
and tropical foliage in the southeastern United States.
    My family feels that our operation not only grows a needed 
product, but makes a positive contribution to our community. We 
employ over 85 people year round, support community activities, 
and provide a stable tax base. It's hard for us to understand 
why the government wants to penalize us for being successful, 
especially when we've already paid taxes on everything that 
we've earned. Inflation has increased the value of both our 
land and equipment to the point that my family would have to 
sell part of the nursery to pay death taxes. This could prove 
fatal to our business. Because greenhouses are a single-purpose 
structure, they don't have a whole lot of market value and the 
only thing a forced partial sale would accomplish would be to 
destroy our business viability.
    My son and daughter would like to continue the family 
business and I would like to pass it on to them. For the past 5 
years, I've been working with attorneys to plan for my death. I 
purchased life insurance. I recapitalized the business, issued 
two classes of stock, set up revocable and irrevocable trust 
agreements, gifted assets, given stock options, and shifted 
some control of the business. After hours of worry and large 
attorney fees, I still don't know if my estate plan will serve 
to save our family business. I guess that won't be known until 
after my death.
    It seems to me and my family that Loop's Nursery and 
Greenhouses is worth much more to our community and the 
government as an ongoing business compared to the amount of a 
one-time estate tax payment. If my family is forced out of 
business by the death tax, the business will close, my family 
will lose their livelihood, people will lose their jobs, and a 
community-minded business that pays taxes will be gone.
    My situation is not unique. As a farm bureau official, I 
talk with farmers and ranchers across this country and I can 
tell you that people everywhere are concerned that death taxes 
will destroy their family businesses. Many don't know how 
severely they will be impacted because they don't realize how 
much the value of their property has increased because of 
inflation. Others understand the consequences but fail to 
adequately prepare because, first, the law is complicated, 
second, estate planning is expensive, and third, death is a 
subject that is difficult for a lot of people to talk about.
    The Tax Relief Act of 1997 made improvements in the estate 
tax system by increasing the exemption to $1 million by the 
year 2006 and creating the $1.3 million family business 
exemption. We commend Congress for enacting these changes. 
While they are helpful, most of the benefits are far in the 
future and the family business exemption has made the estate 
tax law even more complicated.
    Farm bureau renews its call for the elimination of estate 
taxes. Action by Congress is needed to preserve our Nation's 
family farms and ranches, the jobs they provide, and the 
contribution they make to their communities. I want to thank 
the Committee for this opportunity to be here today to explain 
why farmers and ranchers feel so strongly that death taxes 
should be eliminated. Thank you.
    [The prepared statement follows:]

Statement of Carl B. Loop, Jr., President, Loop's Nursery and 
Greenhouses, Inc., Jacksonville, Florida; Vice President, American Farm 
Bureau Federation; and President, Florida Farm Bureau Federation

    My name is Carl B. Loop, Jr., I am president of Loop's 
Nursery and Greenhouses, Inc., a wholesale plant nursery 
operation in Jacksonville, Florida. I serve as President of the 
Florida Farm Bureau Federation and as Vice President of the 
American Farm Bureau Federation. Farm Bureau is a general farm 
organization of 4.7 million member families who produce all 
commercially marketed commodities produced in this country.
    Last year's Taxpayer Relief Act made cuts in estate taxes 
that are helpful to agricultural producers but stopped short of 
ending death taxes that can destroy a family business. I am 
pleased to be here today to talk about the unfairness of estate 
taxes and the threat they pose to family farmers and ranchers.
    Farm Bureau's position on estate taxes is straightforward. 
We recommend their elimination. The issue is so emotionally 
charged that last year Farm Bureau members sent more than 
70,000 letters to their representatives and senators calling 
for an end to death taxes. I wrote several of those letters 
because death taxes threaten the continuation of my family's 
livelihood.
    In 1949, after graduating from the University of Florida, I 
started my nursery business with a $1500 loan and a borrowed 
truck. In the early years we got by living on the teacher's 
salary of my wife, Ruth. Everything that I earned was 
reinvested in the business. For 49 years I, along with my wife 
and children, have worked hard to build our business into one 
of the largest wholesale nursery operations in the southeastern 
United States.
    I am proud that my nursery has allowed me to support my 
family and send my three children, Carol, 42, David, 39, and 
Jane, 32, to college. David, earned his degree in ornamental 
horticultural and agriculture economics and now runs the 
business on a daily basis. Without his involvement I wouldn't 
have been able to come here today. My youngest daughter, Jane, 
would also like to come into the business.
    Loop Nursery and Greenhouses, Inc., grows flowering pot 
plants and tropical foliage in 350,000 square feet (nine acres) 
of greenhouses. Also part of the business are warehouses, cold 
storage and the equipment needed to grow, harvest and market 
our products. Between 85 and 100 people are employed year-
round.
    My family feels that our operation not only grows a needed 
product, but makes a positive contribution to our community. In 
addition to employing 85-plus people, we are a community minded 
business which provides a stable tax base for city, county, 
state and federal government. We do not understand why the 
government wants to penalize us for being successful, 
especially since we already paid taxes on what we have earned.
    Inflation has increased the value of both our land and 
equipment to the point that my family would have to sell part 
of the nursery to pay death taxes. This could prove fatal to 
our business because our assets can't be easily liquidated. 
Because greenhouses are single purpose structures, they don't 
have much market value and the only thing a forced partial sale 
would accomplish would be to destroy the viability of our 
business.
    My son and daughter want to continue our family business 
and I would like to pass it on to them. For the last five 
years, I have been working with attorneys to plan for my death. 
I have purchased life insurance, recapitalized the business, 
issued two classes of stock, set up revocable and irrevocable 
trust agreements, gifted assets, given stock options, and 
shifted control of the business. After hours of worry and large 
attorney fees I still don't know if my estate tax plan will 
save our family business.
    It seems to me and my family that Loop's Nursery and 
Greenhouses, Inc., is worth much more to our community and the 
government as an ongoing business when compared to the amount 
of a one-time estate tax payment. If my family is forced out of 
business by death taxes everything that I have worked for will 
be lost, my family will lose its livelihood, 85-plus families 
will lose their incomes and the community will lose a valuable 
part of its business base.
    My situation is not unique. As vice president of the 
American Farm Bureau, I talk with farmers and ranchers from 
across the country and I can tell you that people everywhere 
are concerned that death taxes will destroy their family 
businesses. Many don't know how severely they will be impacted 
because they don't realize how much their property has 
increased in value due to inflation. Others understand the 
consequences but fail to adequately prepare because the law is 
complicated, because lawyers, accountants and life insurance 
are expensive and because death is a difficult subject.
    It bothers me and my family that while death taxes can cost 
farm and ranch families their businesses and cost them hundreds 
of hours and thousands of dollars for estate planning, 
relatively little revenue is generated for the federal 
government. The estate tax raised a total of about $17.2 
billion in fiscal year 1996, as reported by the Office of 
Management and Budget.
    The potential impact of estate taxes on the future of 
American agriculture is enormous. Ninety-nine percent of U.S. 
farms are owned by individuals, family partnerships or family 
corporations. About half of farm and ranch operators are 55 
years or older and are approaching the time when they will 
transfer their farms and ranches to their children.
    The situation in my state of Florida is acute. The value of 
farmland there has been inflated far beyond its worth for 
agriculture because developers are willing to pay high prices 
to convert farmland to other uses. It is not uncommon for land 
to be valued at as much as $10,000 an acre. On paper this makes 
a Florida farmer look like a wealthy person, but my farm 
neighbors aren't rich. They simply don't have the money to pay 
a huge estate tax bill without selling part or all of their 
business. While estate tax planning can protect some of the 
farms, it is costly and takes resources that could be better 
used to upgrade and expand their businesses.
    The Tax Relief Act of 1997 made improvements in the estate 
tax system by increasing the per person exemption to $1 million 
by 2006 and creating the $1.3 million family business 
exemption. We commend Congress for enacting these changes. 
While they are helpful, most of the benefits are far in the 
future and the family business exemption has made the estate 
tax law even more complex.
    Farm Bureau renews its call for the elimination of estate 
taxes. Action by Congress is needed to preserve our nation's 
family farms and ranches, the jobs they provide and the 
contribution they make to their communities. Until repeal of 
estate taxes can be accomplished, Farm Bureau urges increasing 
the estate tax exemption to $5 million per person, indexing the 
exemption for inflation and cutting the tax rate for assets 
above the threshold by half. Special-use valuation should be 
expanded, an estate tax exemption for protected farmland should 
be put in place and the annual gift tax exemption should be 
increased to $50,000.
    Thank you for the opportunity to be here today to explain 
why farmers and ranchers feel so strongly that death taxes 
should be eliminated.
      

                                


    Chairman Archer. Thank you, Mr. Loop, and finally, a 
gentleman who is no stranger to our Committee and a gentleman 
who I greatly respect, who is one of the Nation's outstanding 
experts on the death tax and all of its details and 
complexities, Mr. Harold Apolinsky.

  STATEMENT OF HAROLD I. APOLINSKY, GENERAL COUNSEL, AMERICAN 
FAMILY BUSINESS INSTITUTE, AND VICE PRESIDENT, LEGISLATION, AND 
         PAST CHAIR, SMALL BUSINESS COUNCIL OF AMERICA

    Mr. Apolinsky. Thank you, Mr. Chairman. It is a privilege 
to be with these members on these panels. These stories to me 
of family businesses are just absolutely chilling. Mr. Loop is 
correct when he says that the majority of people, I think maybe 
80 percent of the people in this country who will be impacted 
by this 55 percent death tax, do not really know it. Unless you 
hire me or somebody else as an estate tax lawyer or sell life 
insurance, it just does not occur to you. We all get a dose of 
income tax every April but we do not get a dose of death tax 
until someone dies.
    As you say, I am an estate tax lawyer. I have been doing 
this for 36 years. I have been teaching estate planning at both 
the University of Alabama School and Law and Cumberland School 
of Law for 26 years. I flew up this morning and go back this 
evening. I feel privileged, on behalf of the American Family 
Business Institute and the Small Business Council of America, 
to share ideas with this Committee for your important work.
    In my firm, we have 110 lawyers in Alabama. We believe that 
is enough lawyers to solve any problem or cause any problem, 
depending on what the client really would like to hire us to 
do. We have nine full-time trust and estate lawyers and yet we 
all agree that this death tax needs to be repealed. Even though 
it would impact our practices, we will find something 
productive to do. We have seen how harmful it is to family 
businesses, family farms, family capital to want to get rid of 
it.
    It is relatively easy to calculate the death tax. Most 
people, as Mr. Loop says, have not. You simply add up the fair 
market value, of everything a person owns; qualified retirement 
plans, life insurance, even tax exempt bonds are not exempt 
from the 55 percent death tax. You subtract liabilities, you 
subtract $1 million, and then multiply by 50 percent. That's a 
little conservative because the top rate, as you know, is 55 
percent. If you have a large qualified retirement plan, you 
basically pay 75 percent in tax, both income and estate, and so 
the children get 25 cents on the dollar.
    Thank you for repealing the 15 percent extra excise tax on 
retirement accounts because when that hit, only 10 percent went 
to the children. But I still think a 75 percent tax on 
qualified retirement plans is unreasonable.
    And then, if parents decide they want to leave assets to 
grandchildren, there may be an extra 55 percent generation-
skipping tax. I am blessed with two grandchildren. One is seven 
and one is four. I understand why they are called grandchildren 
because they really are grand. But if you want to leave the 
grandchildren a significant amount, I'm widowed, let's say more 
than $1 million, there's an extra 55 percent generation-
skipping tax on top of the 55 percent estate tax on what goes 
to grandchildren. So, it is really confiscatory.
    I am grateful that your Committee encouraged Congress to 
increase the tax-free amount from $600,000 to, this year, 
$625,000. It moves up in rather odd increments, I must admit. 
It is good that you do not build stairs in houses or people 
would fall down because it is so unusual and uneven. It would 
be easier if it went up equally but I understand the budget 
problems.
    I tell my clients that, the tax-free amount will be $1 
million in 2006 so please live as long as you can, which seems 
to please them. Unfortunately, if you have a qualified family-
owned business interest, you really need to die early. You have 
described the Code, and I agree, Mr. Chairman, as a lawyer in 
your past life, as an attractive nuisance. In my judgment, 2033 
A, the Qualified Family Owned Business Exclusion, is an 
unattractive nuisance. Both the American College of Trust and 
Estate Counsel, ACTEC, senior estate planning lawyers, I am a 
member, and the Real Property and Probate section of the 
American Bar Association have asked that this provision be 
repealed. In the most recent issue of Trusts and Estates, the 
writer described 2033 A as one of the most ambiguous and 
complicated tax provisions to be passed in decades. So help me, 
this is true. There is even a web page now on the Internet on 
2033 A. I have given the Committee my exhibit C to my testimony 
as a tool to try and understand 2033A. As Professor Graetz 
said, I, too, am apprehensive as I kick off my estate planning 
class this spring as to whether the law seniors can understand 
this Code section. I warned them that they may go through the 
entire semester and then I will be so happy if I get the estate 
tax repealed. I promised all 56 of them an A but they will get 
no tuition rebate.
    I determined if a business fits under 2033A, you have to 
master a fraction with 14 variables. It is simply so complex. 
With dynamic scoring the cost of repeal will drop dramatically. 
Please put this as number one because this is the one thing, as 
the Clements family mentioned, that you cannot program. You 
just do not know when death is going to strike. You can program 
a lot of other things, but this one, I would say, we ought to 
try to put first. If we repeal the death tax, obviously the 
inherited step-up in bases would logically go away. Income tax 
will be collected when assets are sold. It should not bother 
anybody because if you are going to sell something, you know 
the price, so we can stop litigating values. You also expect to 
pay a tax when you sell something. We do not have to worry 
about the profit on a home anymore.
    If you still find you do not have enough money, repeal 
2033A. It will not harm the lawyers because we really have not 
picked up all the legal fees yet that are out there that we 
will when we explain and investigate 2033A. Remove the death 
tax from qualified retirement plans. And, number three, reduce 
the top rate. I do not think of this as a prowealth situation. 
As the panel described it, I think it is profamily and projobs. 
I believe the American people will endorse that. Sixty Plus, a 
great organization started us down this road of repeal. We are 
grateful to Roger Zion and his team and Jim Martin. They did a 
poll recently of the American people and 77 percent of them 
said that they would rather vote for a Member of Congress who 
repealed the death tax, as for someone who would not. That 77 
percent wanted that death tax repealed. I have attached as 
exhibit D, a list of 15 states that have repealed their State 
death taxes since 1980, 15 of them. They took an exit poll in 
California and people said it was not fair to tax during life 
and at death. It was a fairness issue in California and 
elsewhere. Indiana is going to repeal, I believe, this year, 
and Kansas will repeal as well.
    H.R. 902 in the House, Representative Cox's bill, now has 
166 cosponsors to repeal. Senator Kyl now has 30. Please strike 
a blow for fairness and simplicities and families. Put me and 
my colleagues out of work. Repeal the death tax. It would be 
one of the most wonderful things we could do. We should, in my 
personal view, repeal the Internal Revenue Code but I think 
that may come a little bit later. I would like to get rid of 
the death tax first. Thank you, Mr. Chairman.
    [The prepared statement and attachments follow:]

Statement of Harold I. Apolinsky, General Counsel, American Family 
Business Institute; and Vice President, Legislation, and Past Chair, 
Small Business Council of America

    Mr. Chairman and Members of the Committee, I am Harold I. 
Apolinsky, General Counsel of the American Family Business 
Institute and Past Chair of the Small Business Council of 
America (SBCA) and currently Vice President--Legislation. I am 
also a practicing tax attorney (over 30 years) who specializes 
in estate planning and probate. For over 25 years, I have 
taught estate planning and estate, gift and generation-skipping 
taxation as my avocation to law school seniors at both the 
University of Alabama School of Law in Tuscaloosa, Alabama and 
the Cumberland School of Law in Birmingham, Alabama. I am here 
to present our views on the unfairness of the estate, gift and 
generation-skipping taxes.
    The American Family Business Institute is a year old non-
profit organization. Our members are family businesses 
employing over 5,000 employees throughout the United States 
facing forced sale or liquidation because of this 55% death 
tax. Our mission is to educate and alert family business owners 
regarding the death tax and to seek its repeal by Congress. We 
hope you will put us out of business this year.
    SBCA is a national nonprofit organization which represents 
the interests of privately-held and family-owned businesses on 
federal tax, health care and employee benefit matters. The 
SBCA, through its members, represents well over 20,000 
enterprises in retail, manufacturing and service industries, 
which enterprises represent or sponsor over two hundred 
thousand qualified retirement and welfare plans, and employ 
over 1,500,000 employees.
    We are delighted and heartened by the overwhelming response 
that this issue has evoked from Members of Congress and their 
staffs. It is indeed refreshing to observe the level of 
understanding and commitment that individual Members have 
demonstrated. The existence and harm of the 55% death tax is 
not generally known other than to estate tax lawyers and 
families who have suffered the loss of a loved one owning more 
than the applicable exclusion amount, now $625,000.
    Thank you for the increase in this tax-free amount. I 
advise my clients to try and live to 2006, but die early if 
they own a qualified family business. Unfortunately, neither 
this nor the unworkable 2033A Family-Owned Business Exclusion 
will save 90% of family businesses.
    We submit that the time has come for Congress to repeal the 
estate, gift and generation-skipping taxes. It is unfair to tax 
people all their working lives and then again at death.
    An estate tax due nine months after death is imposed on the 
transfer to children or other heirs of the taxable estate of 
every decedent who is a citizen or resident of the United 
States ($625,000 of assets are now exempt). The graduated 
estate tax rates begin effectively at 37% and increase to a 
maximum rate of 55% (see Exhibit ``A'' for how the tax is 
calculated). Taxes on bequests to spouses may be deferred until 
the last-to-die of husband and wife.
    A gift tax is levied on taxable gifts (excluding $10,000 
per donee per year) as a back-stop to the estate taxes. The 
graduated rates are the same. (The current $625,000 exempt 
amount may be used during life for gifts or at death.)
    An extra, flat 55% generation-skipping tax is imposed on 
gifts or bequests to grandchildren ($1,000,000 is now exempt).
    Combined income and estate taxes frequently consume 75% or 
better of retirement plan accounts at death (see chart attached 
as Exhibit ``B''). Thank you also for repealing the 15% excise 
tax. With that, only10% would go to children.
    The 1995 White House Conference on Small Business 
recommended repeal of estate and gift taxes. In fact, ranked by 
votes, this was the number four (out of sixty) recommendation 
to come out of the Conference.
    It is well known that only 30% of family business and farms 
make it through the second generation. Seventy percent (70%) do 
not. Only 13% make it through the third generation. Eighty-
seven (87%) do not. The primary cause of the demise of family 
businesses and farms, after the death of the founder and the 
founder's spouse, is the 55% estate tax. It is hard for the 
successful business to afford enough life insurance. (Premiums 
are not deductible and deplete working capital.)
    The new Qualified Family-Owned Business Interest Exclusion 
(QFOBI) is now the most complex provision in the Tax Code. At 
best, it will help less than 5% of family businesses facing 
sale or liquidation from the death tax. Just look at Exhibit 
``C'' which I use to try and teach 2033A. It may make you 
laugh. Both the American College of Trust and Estate Counsel 
(to which I belong) and the Real Property and Probate Division 
of the American Bar Association have urged repeal. In an 
article in the January 1998 issue of Trusts & Estates the 
author referred to 2033A as ``one of the most ambiguous and 
complicated tax provisions to be passed in decades.''
    The estate tax took its present form primarily in the early 
30's. The express purpose was to ``break-up wealth.'' Is this 
consistent with a free enterprise economic system and a very 
competitive world economy? The 55% estate and gift tax cannot 
be justified as playing an important role in financing the 
federal government; it now brings in less than 1.2 percent of 
total federal revenues. The expense of administering this 
system probably offset 75% or more of the revenue. Since the 
step-up in basis will also be repealed, resulting in tax when 
assets are sold by heirs, the net loss of revenue will be 
modest.
    Since 1980, 15 states have repealed their state death tax 
(see Exhibit ``D''). California voters approved Proposition 6 
in 1982 to repeal the California death tax. Exit polls 
determined that voters, even in this state with such a wide 
disparity between rich and poor, did not feel it fair to pay 
taxes during life and at death. The fair approach is to repeal 
the death tax in 1998.
    As I have testified before, if the estate tax were 
repealed, we believe based upon studies conducted by Professor 
Richard Wagner of George Mason University, by the Heritage 
Foundation and by Kennesaw State College that the beneficial 
effect on the economy would be significant. According to the 
study conducted by Professor Richard Wagner of George Mason 
University, the effect of the estate tax on the cost of capital 
is so great that within eight years, a U.S. economy without an 
estate tax would be producing $80 billion more in annual output 
and would have created 250,000 additional jobs and a $640 
billion larger capital stock.
    The Heritage Foundation study utilizing two leading 
econometric models also found that repealing the estate tax 
would have a beneficial effect on the economy. The Heritage 
analysis found that if the tax were repealed in 1996, over the 
next nine years:
     The nation's economy would average as much as $11 
billion per year in extra output;
     An average of 145,000 additional new jobs could be 
created;
     Personal income could rise by an average of $8 
billion per year above current projections; and
     The deficit actually would decline, since revenues 
generated by extra growth would more than compensate for the 
meager revenues currently raised by the inefficient estate tax.
    We submit if repealing estate taxes accomplished only half 
of these things, the country would be significantly better off 
than staying under the current draconian estate tax system. The 
estate tax system raises very little revenue at a heavy cost to 
the economy. It generates complex tax avoidance schemes, it 
promotes spending instead of saving and it promotes people 
``giving up'' on the family business or farm. It helps my 
estate tax lawyers (now 9 in my 110 lawyer firm), but is not 
fair to families or good for my country.
    The Kennesaw State College Study on the Impact of the 
Federal Estate Tax, prepared by Astrachan and Aronoff, studied 
in detail the impact of the estate tax on members of the 
Associated Equipment Distributors (AED), an association 
composed of capital-intensive family-owned distribution 
businesses and on newly-emerging, minority-owned family 
enterprises selected from lists published by Black Enterprise 
Magazine. The study showed that for the AED group:
     Nearly $5 million is spent annually in life 
insurance premiums in order to have proceeds available to meet 
their estate tax liability. The survey shows an average of 
$27,000 per year expended by distributors on such insurance.
     $6.6 million has been spent on lawyers, 
accountants and other advisors for estate tax planning 
purposes. On average companies spent nearly:
     $20,000 in legal fees
     $11,900 in accounting fees
     $11,200 for other advisors
     In addition to the protection provided by life 
insurance premiums, roughly 12% of the AED respondents reserved 
over $51 million in liquid assets for the purpose of having 
cash available for the payment of the estate tax.
    The study showed that 57% of the businesses felt that the 
imposition of the estate tax would make long term survival of 
the business after the death of the current owner significantly 
more difficult. They are not wrong--the statistics show it is 
extraordinarily difficult to have the family business survive 
the death of the first generation. Working capital to a 
business is like fuel to an airplane. When you run out of fuel, 
the plane comes down whether at an airport or not. Removing 55% 
of the value of a family business often removes more than 55% 
of the working capital.
    Australia repealed their estate and gift tax laws in the 
mid-1970's. It was felt that these transfer taxes were an 
inhibitor on the growth of family businesses. The legislative 
body of Australia sought more jobs which they believed would 
come if family businesses grew larger and were not caused to 
sell, downsize, or liquidate at the death of the founder to pay 
estate taxes. More recently, Canada has also repealed estate 
taxes for the same reasons.
    The SBCA has a legal and advisory board comprised of the 
top legal, accounting, insurance, pension and actuarial 
advisors to small business in the country. It is contrary to 
the financial interests of these board members in their tax 
practice and advisory businesses to urge repeal of these 
transfer taxes. We stand firmly behind repeal or significant 
reform, however, because it is the right thing to do to help 
grow family businesses, provide jobs and encourage the 
entrepreneurial spirit needed for small businesses to become 
large businesses.
    We applaud the bills introduced by Congressman Cox (HR 902 
now with 166 co-sponsors) AND Senators Kyl (S-75 now with 30 
co-sponsors) and Lugar (S-30) to repeal these taxes. The 
country will be far better off if any of them become law. As a 
country, we cannot stand by and see one more farm or one more 
small business get torn apart because of an obsolete tax 
supposedly in place to redistribute massive wealth. Part of the 
problem with estate taxes is that many of the families who are 
ultimately destroyed by the estate tax are not even aware that 
it exists. Many times no one in the family has ever been 
subjected to it.
    The 55% death tax (the highest in the world) does the most 
harm to capital of any tax we have. Once it leaves the family 
at death and goes to Washington, it never seems to come back to 
provide jobs back home. It is simply not fair!
      

                                


[GRAPHIC] [TIFF OMITTED] T0897.078

[GRAPHIC] [TIFF OMITTED] T0897.079

[GRAPHIC] [TIFF OMITTED] T0897.080

[GRAPHIC] [TIFF OMITTED] T0897.081

      

                                


    Chairman Archer. Thank you, Mr. Apolinsky. Let me piggy-
back momentarily on what Mr. Loop said. I believe it's accurate 
to say that we did not increase the complexities in the Code 
relative to the small business exemption but we did not 
simplify them. We left in place the complexities that were 
already in the Code. Is that a fair statement, Mr. Apolinsky?
    Mr. Apolinsky. Mr. Chairman, I am afraid we did add to the 
complexity. I am afraid that 2033 A is an additional complexity 
because it incorporates 14 provisions from 2032 A. I realize it 
is elective, which is useful. But, from an estate planner's 
perspective, we feel the necessity to contact all of our family 
business clients, explain the law to them, have them engage us 
to check it out, make any required changes and, document 
material participation. So, this is an additional burden, and 
expense to family businesses. I worry that only about 2 to 5 
percent of family businesses will really qualify. But I think 
every family business needs to take a look at it to see if they 
can, ultimately, qualify because it may save $400,000 or 
$500,000 in tax.
    Chairman Archer. My understanding, though, and you 
certainly have been one of my educators on this over the last 
several years, is that the existing definition of small 
business or farm in the Code before the 1997 act was already so 
very complex that it, in itself, limited the practical 
application to a very small percentage of people who thought 
they probably qualified. Is that a fair statement?
    Mr. Apolinsky. Mr. Chairman, that is a fair statement. As 
you remember better than I, in 1976, Congress wanted to save 
the family farm, a great idea. Congress passed 2032A. It is 11 
pages of statute. It has now been challenged constantly in 
court. There have been 138 court decisions to date. About two-
thirds were won by the Internal Revenue Service. This is 
probably at least an equal number in the pipeline. You are 
exactly right. And then, you know, I realize, it was not the 
House, in my judgment authorized 2033A. It came out of the 
Senate. I tried to start teaching this in 1995 when it was the 
Dole-Roth.
    Chairman Archer. That is a correct thing to say in this 
room, Mr. Apolinsky. Thank you very much. [Laughter.]
    Mr. Apolinsky. I hope no Senators are here. [Laughter.]
    Chairman Archer. Let me comment just briefly on a couple of 
things. I read an article recently where a financial counselor 
was telling his clients, you should not have an IRA, you should 
not have a tax-deductible retirement plan because in the end 
the taxes are so brutal at the time of your death that it is 
far better to do something else. Now, what a terrible thing to 
have to say to the American public. It is terrible to tell 
people if they get married, they're going to pay more taxes. It 
is also terrible to tell them if they put aside for their own 
retirement, it's a mistake because of the Tax Code.
    I don't think the Members of Congress understand that the 
savings that the law permits, and our salaries, which go into a 
thrift savings account for our retirement, will be taxed at 
unbelievably high rates at the time of death. As you've pointed 
out, that applies to all tax-deductible savings accounts, so 
much so that you end up, if you leave funds in that account and 
you die prematurely, before you actuarially have been able to 
pull out the amount there in your lifetime, what you leave to 
your children gives them roughly 25 percent. That is highway 
robbery and I appreciate your suggestion that if we don't do 
anything else, we should change that, well, you've said many 
other things, but as a part of it, that we should change that 
provision in the Code.
    Now, let me ask you if you have any data for us as to the 
net revenues that the death tax provides to the Federal 
Government, because I've read articles that say that the cost 
of collecting it and the loss of other revenues, through other 
tax programs, actually is virtually an offset to where it 
produces no net income to the Federal Government. Do you have 
any data on that at all?
    Mr. Apolinsky. One of the members of the next panel, Bill 
Beach, has worked with a group that I have assisted from a 
technical standpoint to try and do a study of what would be the 
revenue from a combination where you repeal the death tax, 
factor in the expenses, and, although I have not seen their 
final study, factor in some income from sales by heirs 
selling--using a carryover basis.
    Chairman Archer. Good.
    Mr. Apolinsky. But, my impression, everything I have seen, 
supports the concept that roughly 65 percent of the dollar goes 
into the cost of collecting. Then, if you factor in the revenue 
that will come from the sale by heirs from that, I think it 
would be a question whether it is 2 or 3 or 4 years before it 
becomes positive revenue. More revenue will flow if family 
businessowners spend time with their marketing people, their 
manufacturing people, and less time with their tax lawyers. As 
much fun as I enjoy being with them and I love being paid by 
them.
    I have one client in Birmingham, Alabama, a little town, 
that is paying $2 million a year in life insurance premium to 
try to keep a family bottling company in the family through the 
third generation. His expansion has just stopped. I told him, I 
said, Jimmy, let me tell you what I'm working on, to repeal. 
Would it mean anything to your company if I got the tax 
repealed? His eyes got wide. He said, Harold, I'll promise you 
I will build a bronze statue to you at Legion Field, which is 
our football stadium. People will walk by and say, who's that 
old man in the houndstooth hat, because we have Bear Bryant's 
statue there. They'll say, I don't know him but I know that's 
Harold Apolinsky. He got the estate tax repealed. [Laughter.]
    Chairman Archer. That's a great story. Now, in a socialist 
or communist country, I could understand it, but it defies me 
that in a free-enterprise country that has built the finest 
life, economically, for any people in the history of the world, 
not without its faults, but nevertheless in a relative sense, 
the finest life for the people who are its citizens of any 
country in the history of the world, that we would say to 
people in the later years of their life, if you continue to 
work and to produce and to expand the wealth of this country, 
you will be losing because all that you can ever leave to kids 
out of that will be 25 percent. That the government will get 75 
percent because at 44 percent income tax that comes off the top 
and then another 55 percent of the 56 percent that is left 
leaves you with 25 percent. What incentive is there for people 
to continue to produce and to build more for everybody in this 
country, jobs, and so forth? And, clearly, it is wrong and we 
should do something about it.
    Let me stop there and recognize my colleagues for any 
inquiry they might like to make. First, Mr. Hulshof.
    Mr. Hulshof. Thanks, Mr. Chairman. Ms. Clements, Mr. 
Clements, I hope that America hears your story and I'm 
confident that your father is probably looking down and smiling 
because he knows that the lessons he taught you you have 
learned well. As the only son of a Missouri farm family, I know 
firsthand your plight.
    First of all, we welcome you here to Washington, DC. We 
have to continue to tell this story back home and I hope you go 
back to Arizona and continue to talk about your story because 
of the incredible battle we have ahead of us. Just a few short 
months ago, a high-ranking official in this White House made 
the public pronouncement that those of us who seek to change 
the death tax laws are committing the ultimate act of 
selfishness. A high-ranking Congressman from my State of 
Missouri, who once sat on this Committee when his party was in 
the majority, has tried in the past to lower the exemption so 
that more family businesses and more family farms, Mr. Loop, 
are subject to paying the tax in an effort to satisfy the 
government's insatiable appetite for more taxes. And so, when 
we have those on the other side that are fighting the efforts 
to repeal and do away with the death tax, we have formidable 
foes but I think if your story and stories that each of you 
have told, if we can talk back home in our congressional 
districts and tell those stories, then I believe the best 
policy will come out. And, quite frankly, Ms. Clements, I 
thought your testimony hit the nail squarely on the head in 
that the vision of our Founding Fathers was very simple. And 
that is, all Americans should be able to reap from the fruits 
of their labors. And that's the right of life and the liberty 
and property and that is a sacred right and we should be able 
to pass on the fruits of our labors to those who follow us and 
that, in essence, is the American dream. So, please continue to 
tell your story because my personal opinion is a simple one and 
that is that the death of a family member should not be a 
taxable event, period. So, we welcome you here but please help 
us continue to fight this fight. And I appreciate the time, Mr. 
Chairman, and yield back.
    Ms. Clements. Thank you.
    Mr. Clements. Thank you, very much.
    Chairman Archer. Mr. Hayworth.
    Mr. Hayworth. Thank you, Mr. Chairman. I'd like to thank 
all members of the panel and, of course, I'm especially pleased 
to have Chris and Kim Clements here from Tucson. I would echo 
the comments of my colleague from Missouri and point out the 
irony. We saw it again last night in the State of the Union 
Address, to have one side of the chamber rise in enthusiastic 
applause for the largest tax increase in American history, 
which I thought was extremely telling, and, from the Chief 
Executive, this rather unique modern revisionism less than 5 
years after the fact.
    Be that as it may, Chris and Kim, in a town not very far 
from one of your facilities, you have one in Holbrook, over in 
Winslow, Arizona we had a townhall meeting a couple of months 
ago. I think it ties into what Mr. Apolinsky said. Many 
concerned citizens came by there. We had the townhall there in 
the council chambers. Two young men, in particular, who hope to 
go to military academies had received permission to leave their 
class and come to the townhall. And we were talking with small 
business owners, with seniors, about the scourge of the death 
tax and one of the young men, so earnest as a high school 
junior or senior, stood up, Congressman, sir, do you mean to 
tell me the government taxes you upon your death? And the 
knowing laughter, almost a variation of Art Linkletter's ``Kids 
Say the Darndest Things,'' was incredible, but all too often 
that laughter is to keep from crying because we are talking 
about our tax policy in the realm of the absurd.
    Chris, I have no compulsion to try to dredge up emotional 
times for you and Kim, but so often people are accused of 
putting on the green eyeshade and looking at the bottom line, 
all of that. Can you take us back to that trying time 
immediately following your father's death? Both emotionally and 
financially. Is there any way to encapsulate the challenges you 
faced immediately, even following the plan that your father had 
instituted? If you had to sum it up, what was the greatest 
challenge in the wake of all that and dealing with this notion 
of the death tax, Chris?
    Mr. Clements. The greatest challenge. Well, I think the 
greatest challenge in this regard is really comforting our 
employees, comforting our mother who had no experience in the 
business other than being the wife of our father, and assuring 
everyone that, indeed, the business would go on, that we would 
attempt to perpetuate it the best we could.
    Kimberly touched on the vast outpouring of affection in 
terms of questions and what we received not only from our 
employees but also our community. We have a company that is 
very active in our community and in many of the communities 
around the State. And the questions came from them much more, 
in terms of will the business be sold, do you have to pay a 
large levy. And people were rather educated about it and, 
because we give so much back, they were wondering exactly what 
would happen to us.
    Congressman Cox hit right on the head with his tale today 
about the gentleman who was on his deathbed and preparing his 
estate. Kimberly motioned to me and said, well, that sounds 
really familiar because our mother was doing the same sort of 
things because our father was virtually incapacitated. She was 
making sure everything was OK, that the business would not have 
to be sold, and it's interesting because now we're engaged in 
evaluating the life of our mother. How long will she live? When 
she dies, what would the business be worth then? At that time, 
how much insurance will we need to provide for ourselves in 
order to pay the government? That's a very interesting task 
because we're not tax lawyers and we certainly don't understand 
all of it. All we understand is that our father is gone, and 
that we have a responsibility to our employees and our 
community to continue what he had started. That's the only 
thing we've ever understood.
    Mr. Hayworth. Chris, thank you very much. Mr. Forrestel, as 
the treasurer of your family business, you left us with a very 
intriguing statement. We won't ask you to inventory it right 
now but you talked about the amazing possibilities that existed 
for your business if that money weren't taken out to deal with 
this type of planning.
    Mr. Loop, I thought one particular observation you had was 
especially germane: why should you be punished for succeeding 
and living the American dream.
    And, just in conclusion, Mr. Apolinsky, ``J.D.'' in my name 
does not stand for juris doctor. I'm not an attorney, I've 
never played one on television. But, I do find it encouraging 
that you and your brethren in the legal profession are 
perfectly willing to take on other work and, in conclusion, Mr. 
Chairman, I'd just simply like to echo the words of our dear 
colleague from Colorado, Bob Schaffer, who makes the point that 
he believes there should be no taxation without respiration. I 
thank you and yield back.
    Chairman Archer. Gentlemen and ladies, thank you very much 
for all of your testimony. We appreciate your coming and giving 
us the benefit of it. You're excused and we will go to the next 
panel, the next and final panel.
    Douglas Stinson, Jeannine Mizell, Roger Hannay, and William 
Beach, if you'll please come to the witness table.
    Welcome to each of you to the Committee. Thank you for 
coming today. Mr. Stinson, would you lead off, and give us the 
benefit of your testimony, and I think since you've been in the 
audience you know the general procedures here that we'd like 
for you to limit oral testimony to 5 minutes or less, and your 
entire written statement, without objection, will be printed in 
the record. You may proceed. Mr. Stinson? Yes, sir, and if 
you'll identify yourself for the record.

  STATEMENT OF DOUGLAS P. STINSON, OWNER, COWLITZ RIDGE TREE 
   FARM, TOLEDO, WASHINGTON, ON BEHALF OF FOREST INDUSTRIES 
   COUNCIL ON TAXATION, AMERICAN FOREST & PAPER ASSOCIATION, 
    AMERICAN TREE FARM SYSTEM, AND WASHINGTON FARM FORESTRY 
                          ASSOCIATION

    Mr. Stinson. Thank you, Mr. Chairman. My name is Doug 
Stinson, and I'm a tree farmer from the State of Washington. My 
wife and our three children own the Cowlitz Ridge Tree Farm 
which consists of four parcels of forest land totaling 1,000 
acres near Toledo, Washington. I'm here today to represent the 
American Tree Farm System, a national network of 70,000 private 
forest landowners committed to protecting water, wildlife, soil 
and recreation and at the same time to grow trees for forest 
products. We are committed to sustainable forestry.
    Tree farmers are private citizens from all walks of life 
who take great pride in practicing forest stewardship on their 
land, and I'm proud to be speaking on their behalf. In 
addition, I'm proud to be speaking for the Forest Industries 
Council on Taxation, the American Forest and Paper Association, 
and the Washington Farm and Forest Association.
    Two years ago, I sat before this Committee and told you 
about the disincentives built into the Federal Tax Code that 
discourage people from being good forest stewards, 
specifically, the capital gains tax and the estate tax 
provisions. The Taxpayer Relief Act of 1997 went a long way 
toward remedying these problems, and I commend you for your 
actions and your support for American forests, but to ensure 
the long term health of American private forests which make up 
58 percent of our total forest land, we must go further.
    Cowlitz Ridge Tree Farm has four goals: first, to earn a 
living; second, to live in balance with nature; third, to leave 
the land in better condition than when we acquired it, and 
fourth, to educate the public and other landowners on the value 
of good forest stewardship.
    Cowlitz Ridge is managed as an economically viable forest. 
We are operating on a sustained yield basis and have harvested 
approximately 65 percent of our forest growth in the past 26 
years. In other words, we're growing more wood than we're 
harvesting. To make sure that our forests remain sustainable we 
invest $325 per acre to establish and nurture a new stand of 
trees. We will not see any cash flow for 25 years and will have 
to wait 60 to 80 years for the full return of that investment.
    You can see investing in timberland is not for the faint-
hearted. Many risks, including wildfire, wind storms, and 
insect blights and regulatory uncertainty are involved as we 
work to build a legacy for our children and grandchildren, and 
this legacy is not just for our family. We give educational 
tours to several hundred people each year. Our forest lands are 
open to the public for hunting, berry picking, hiking, and 
horseback riding.
    Today, family-owned tree farms are still being destroyed by 
the Federal estate tax, because many of them are highly 
illiquid. For tree farmers, much of their cash is in standing 
trees. If you've heard the saying, ``land rich and cash poor,'' 
well, that's an apt description of many forest landowners. The 
annual household income of the average tree farmer is less than 
$50,000, yet, on paper, the typical tree farmer can be valued 
at well above $2 million. Even with the increase in the 
exemption under the unified credit and newly created business 
exclusion, which provides a total exclusion of $1.3 million, 
the death tax hit on these forest lands can be several hundred 
thousand dollars. This forces many families to liquidate the 
timber or, even worse, to fragment the woodland by selling off 
pieces of their forest land. We need incentives for landowners 
to stop conversions.
    In Washington State, the Department of Natural Resources 
current figures show there's 100 acres a day of prime forest 
land being converted. The death tax is the leading cause of 
forest fragmentation today, and in my opinion, the greatest 
threat to the long-term health of American forests. Thousands 
of American families like mine cycle earnings back into their 
businesses. At Cowlitz Ridge, we spend approximately $25,000 
each year on forest regeneration and timber stand improvement. 
We protect and enhance habitat and watersheds. We have excluded 
200 acres of forested wetlands and streamside buffers from 
harvest. We minimize soil disturbance when we harvest and keep 
our regenerative cuts to between 5 and 20 acres. Because we 
replant immediately after we harvest and use large, high 
quality seedlings, we minimize herbicide use and avoid aerial 
spraying.
    The death tax provisions you included in the Taxpayer 
Relief Act of 1997 will ease the estate tax burden of many 
small landowners, but it leaves many issues unresolved. For 
instance, the $10,000 gift exclusion and the $750,000 special 
use valuation were areas indexed for inflation. The increase in 
unified credit was not indexed. When you consider that many 
harvests don't occur for 40 to 60 years or more, you can see 
that inflation alone can put many families over the total 
exclusion limit.
    My family has worked hard on our tree farm to earn a living 
and create a forest where wildlife, water, air quality, and 
aesthetic beauty are sustained. We have formed a limited family 
partnership to help pass this legacy on to our children. We are 
in the process of forming a habitat conservation plan, but I'm 
still concerned with all that we have done, our children will 
still be forced to break up Cowlitz Ridge Tree Farm. It's 
disturbing to know that the death tax generates only 1 percent 
of all Federal revenues, and for that jobs are lost, 
communities damaged, and forests destroyed. It seems to me 
that's a high price to exact on our national heritage for such 
little return. Thank you.
    [The prepared statement follows:]

Statement of Douglas P. Stinson, Owner, Cowlitz Ridge Tree Farm, 
Toledo, Washington, on behalf of Forest Industries Council on Taxation, 
American Forest & Paper Association, American Tree Farm System, and 
Washington Farm Forestry Association

    My name is Doug Stinson, and I am a Tree Farmer from 
Washington State. My wife, our three children, and I own the 
Cowlitz Ridge Tree Farm--four parcels of forestland totaling 
1000 acres near Toledo, WA.
    I am here today representing the American Tree Farm System, 
a national network of nearly 70,000 private forest landowners 
committed to protecting water, wildlife, soil and recreation 
opportunities and at the same time grow trees for forest 
products. We are committed to sustainable forestry. Tree 
Farmers are private citizens from all walks of life who take 
great pride in practicing forest stewardship on our land, and 
I'm proud to be speaking on their behalf. In addition, I am 
proud to be speaking for the Forest Industries Council on 
Taxation, American Forest & Paper Association and the 
Washington Farm Forestry Association.
    Two years ago, Tree Farmer Chester Thigpen of Mississippi, 
and I sat before this committee and told you about the 
disincentives built into the federal tax code that discourage 
people from being good forest stewards--specifically the 
capital gains and the estate tax provisions. The Taxpayer 
Relief Act of 1997 went a long way toward remedying those 
problems. Along with millions of other Americans, I commend you 
for your actions and support for America's forests. But to 
insure the long-term health of Americas private forests, which 
make up 58 percent of our total forestland--we must go even 
further.
    As I told this committee in 1995, we have four goals at 
Cowlitz Ridge Tree Farm:
    1. To earn a living.
    2. To live in balance with nature.
    3. To leave the land in better condition than when we 
purchased it.
    4. To educate the public and other landowners on the value 
of good forest stewardship.
    Cowlitz Ridge is managed as an economically viable forest. 
We are operating on a sustained yield basis, and have harvested 
approximately 65% of our forest growth in the past 20 years. In 
other words, we are growing more wood than we are harvesting.
    To make sure that our forests remain sustainable, we invest 
$325 per acre to establish and nurture a new stand of trees at 
Cowlitz Ridge. We won't see any cash flow for 25 years and will 
have to wait between 60 and 80 years for the full return on 
that investment.
    So as you can see, investing in timberland is not for the 
fainthearted. Many risks, including wildfire, wind damage, and 
insect blights are involved as we work to build a legacy for 
our children and our grandchildren. Just two weeks ago, in 
fact, New Hampshire Tree Farmer Tom Thomson lost 90 percent of 
his 1,060-acre woodland to an ice storm. For the past 20 years, 
Tom had been building a legacy for his son. Today, most of that 
legacy lies in splinters on the ground.
    But many Tree Farmers face another risk, one that is much 
more certain to strike than an ice storm: The Death Tax.
    Today, family-owned Tree Farms and small businesses are 
still being destroyed by the federal estate tax because many of 
them are highly illiquid. For Tree Farmers, much of our cash is 
literally in our standing trees. You've heard the saying ``land 
rich and cash poor.'' Well, that's an apt description of many 
forest landowners. The annual household income of the average 
Tree Farmer is less than $50,000. Yet on paper, the typical 
Tree Farm can be valued at well above $2 million. Even with the 
increase in the exemption under the unified credit and newly 
created business exclusion which provides a total exclusion of 
$1.3 million, the Death Tax ``hit'' on these forestlands can be 
several hundred thousand dollars. This forces many families to 
liquidate the timber, or even worse, to fragment the woodland 
by selling off pieces of their property.
    In Washington State, 25,000 acres of prime forest land a 
year is converted to other uses. The Death Tax is the leading 
cause of forest fragmentation today, and in my opinion is the 
greatest threat to the long-term health of America's forests.
    Thousands of American families like mine cycle earnings 
back into their businesses. At Cowlitz Ridge Tree Farm, we 
spend approximately $25,000 each year on forest regeneration 
and timber stand improvement. We protect and enhance habitat 
and watersheds. We have excluded our 150 acres of wetlands from 
harvest. We minimize soil disturbance when we harvest and keep 
our harvest areas small. Because we replant immediately after 
we harvest, and use large high quality seedlings, we minimize 
herbicide use and avoid aerial spraying. This is a large 
investment of time and money. But it's worth it to me as long 
as I know I can pass our legacy along to our children and their 
children's children.
    The Death Tax provisions you included in The Taxpayer 
Relief Act of 1997 will ease the estate tax burden of many 
small landowners, but it leaves many issues unresolved. For 
instance, the $10,000 gift exclusion and the $750,000 special 
use valuation were the only areas indexed for inflation. When 
you consider that many harvests don't occur for 60 years or 
more, you can see that inflation alone can put many families 
over the total exclusion limit.
    My family has worked hard on our Tree Farm to earn a living 
and create a place where wildlife, water and air quality and 
aesthetic beauty are sustained. We have formed a limited family 
partnership to help pass on this legacy to our children. We are 
in the process of forming a habitat conservation plan. But I am 
concerned that even after all I've done they will be forced to 
break up Cowlitz Ridge Tree Farm. It's disturbing to know that 
the Death tax generates only one percent of all federal 
revenues. And for that, jobs are lost, communities damaged and 
forests destroyed. I'm not an economist, but it seems to me 
that's a high price to exact on our national heritage for such 
little return.
    I applaud you for convening these hearings. Further reforms 
in the estate tax for Tree Farmers and small business owners 
will save jobs, strengthen communities and help guarantee the 
long-term health and productivity of our nation's private 
forestlands.
    Thank you.
      

                                


    Chairman Archer. Thank you, Mr. Stinson. Our next witness 
is Jeannine Mizell. If you'll identify yourself, we'll be 
pleased to hear your testimony, and you may proceed.

STATEMENT OF JEANNINE MIZELL, OWNER AND MANAGER, MIZELL LUMBER 
 AND HARDWARE COMPANY, INC., KENSINGTON, MARYLAND, AND MEMBER, 
                    U.S. CHAMBER OF COMMERCE

    Ms. Mizell. Good afternoon, Mr. Chairman and Members of the 
Committee. I am Jeannine Mizell, a third-generation owner and 
manager of Mizell Lumber and Hardware Company which is located 
in Kensington, Maryland. I am also a member of the U.S. Chamber 
of Commerce, the world's largest business federation, 
representing more than 3 million businesses and organizations 
of every size, sector, and region. I appreciate this 
opportunity to tell my story and to express the views of the 
U.S. Chamber on the Federal estate and gift tax and the need 
for its repeal or significant reform.
    My grandfather founded Mizell Lumber in 1922. In 1931, he 
purchased the property on which Mizell Lumber is still 
operated. He paid approximately $55,000 for the property. My 
father, Fred Mizell, joined his dad in the family business in 
1947. My father worked 6 days a week for 37 years. He rarely 
took a vacation or even a day off. Then, one Friday night in 
1984, he drove home from work, suffered a heart attack, and 
died at the age of 63. At that time, his assets, the most 
valuable of which was Mizell Lumber, passed to my mother. My 
mother died on September 7, 1990. In administering my mother's 
estate, my two brothers and I were told by our attorney that we 
would need to hire appraisers to determine the fair market 
value of the business including the land on which Mizell Lumber 
is operated. I can recall feeling shocked when I learned that 
we would have to pay Federal estate taxes on the value of the 
lumber company as of the date of my mother's death. The land, 
which my grandfather originally had purchased for $55,000 and 
which had been in the family for almost 60 years, was now 
appraised at $1, 247,000. To our surprise and chagrin we owed a 
whopping $297,000 in Federal estate taxes. In addition, we had 
to pay more than $5,000 for the appraisals and $40,000 for 
attorneys' fees because the estate had many issues so complex 
that it took two and a half years for it to be settled, and all 
of this was occurring as we were grieving the loss of our 
mother.
    These days I hear so much talk that Americans are not 
saving enough for retirement and are buying too many things on 
credit. Well, my father could have taught a class on fiscal 
responsibility. He never used a credit card in his life. He 
didn't purchase a new car until he had the money saved up to 
pay cash for it. My dad worked hard, 6 days a week, 52 weeks a 
year. He always lived within his means and saved for the 
future. His number one priority was his children's education. 
He sent all 3 of us through 12 years of catholic school and 
then to the college of our choice and most importantly he 
wanted to leave a legacy to his children and grandchildren.
    How was my father rewarded for his lifetime of hard work 
and frugality? We had to liquidate his certificates of deposit, 
bank accounts, stocks and bonds, and send nearly all of the 
cash we could come up with to the Internal Revenue Service, 
yet, that still wasn't enough to pay the Federal estate taxes. 
We were allowed to defer paying approximately $150,000 of the 
total tax liability over 15 years. We have sent an estate tax 
payment of about $19,000 to the Internal Revenue Service every 
June and will continue to do so until the year 2006.
    I feel very fortunate that we didn't have to liquidate or 
sell the business in order to pay off these estate taxes. 
Nonetheless, I ask, where is the incentive to work hard, 
invest, be responsible, and pay as you go if a businessowner's 
estate is taxed the fair market value on property that has been 
in the family for decades.
    I have three small children. My oldest son is 9 years old, 
and he sits behind me today. He is a fourth-grader at Holy 
Cross Elementary School in Garrett Park, Maryland. He is a 
straight-A student and recently won the National Geographic 
Geography Bee for his entire school, beating out all of the 
older students in grades five through eight. He deserves to 
attend one of the finest universities in the United States. If 
I could invest my share of the estate taxes that we are paying, 
his college education and that of my two younger children would 
be assured.
    In conclusion, it is clear to me that the estate and gift 
tax depletes the estates of taxpayers who have saved their 
entire lives forcing many successful family businesses to 
either lay off workers, borrow funds, reduce capital 
investments, or, in a worst case scenario, liquidate or sell to 
an outsider. Taxpayers should be motivated to make financial 
decisions for business and investment reasons and not be 
punished for individual initiative, hard work, and capital 
accumulation. The U.S. Chamber believes that the estate and 
gift tax should be completely repealed, however, if outright 
repeal is not feasible at this time, it should be significantly 
reformed in order to reduce or eliminate its negative effect on 
individuals and the owners of family businesses.
    Thank you for allowing me the opportunity to testify here 
today, and I ask that my entire written statement be placed in 
the record.
    [The prepared statement follows:]

Statement of Jeannine Mizell, Owner and Manager, Mizell Lumber and 
Hardware Company, Inc., Kensington, Maryland, and Member, U.S. Chamber 
of Commerce

    Mr. Chairman and members of the Committee, my name is 
Jeannine Mizell and I am a third generation owner and manager 
of Mizell Lumber and Hardware Company, Inc., which is located 
in Kensington, Maryland. I am also a member of the U.S. Chamber 
of Commerce--the world's largest business federation, 
representing more than three million businesses and 
organizations of every size, sector, and region. I appreciate 
this opportunity to relate my story, and to express the views 
of the U.S. Chamber on the federal estate and gift tax and the 
need for its repeal or significant reform.
    I hereby ask that my entire statement be incorporated into 
the record. While this afternoon's topic of discussion is the 
federal estate and gift tax and its negative affect on 
businesses, such as mine, the U.S. Chamber would also like to 
point out that additional tax relief measures need to be 
enacted to further increase economic growth, productivity and 
international competitiveness.
    These tax measures include: repealing, or in the 
alternative, further reducing the alternative minimum tax and 
capital gains tax; permanently extending the research and 
experimentation tax credit; simplifying the foreign tax rules; 
reforming and restructuring the Internal Revenue Service, 
simplifying the worker classification rules, further expanding 
individual retirement accounts; lowering the maximum tax rate 
on the reinvested earnings of all flow-through entities, and 
further reforming the S corporation rules.

                 BACKGROUND OF THE ESTATE AND GIFT TAX

    Originally, federal estate taxes were imposed primarily to 
finance wars or threats of war. The first federal estate tax 
was a stamp tax imposed in 1797. The first progressive estate 
tax was adopted in 1916, with the maximum tax rate varying from 
10 percent in 1916 to 77 percent in 1941. The gift tax was 
first imposed in 1924, repealed two years later, and then 
reinstated in 1932.
    Before 1976, estate taxes were imposed on transfers 
occurring at death, while gift taxes were imposed on transfers 
made during a taxpayer's life. In 1976, the estate and gift tax 
structures were combined and a single unified graduated estate 
and gift tax system was created. This unified tax system has 
since applied to the cumulative taxable transfers made by a 
taxpayer during his or her lifetime and at death.
    In 1948, Congress provided the first marital deduction, 
allowing 50 percent of the value of any property transferred to 
a spouse to be excluded from a decedent's taxable estate. This 
deduction was later increased to 100 percent. In addition, an 
individual can give to an unlimited number of recipients up to 
$10,000 in gifts annually without triggering the gift tax.
    Under the current estate and gift tax rate structure, rates 
begin at 18 percent on the first $10,000 of cumulative 
transfers and reach 55 percent on transfers that exceed $3 
million. In addition, a 5-percent surtax is imposed upon 
cumulative taxable transfers between $10 million and 
$21,040,000.
    A unified tax credit is available to offset a specific 
amount of a decedent's federal estate and gift tax liability. 
From 1987 through 1997, the unified credit effectively exempted 
the first $600,000 of cumulative taxable transfers of a 
decedent from the estate and gift tax. Under the Taxpayer 
Relief Act of 1997, the effective exemption amount was 
increased to $625,000 for 1998, $650,000 for 1999, $675,000 for 
2000 and 2001, $700,000 for 2002 and 2003, $850,000 for 2004, 
$950,000 for 2005, and $1 million for 2006 and years 
thereafter. The exemption amount, however, will not be indexed 
for inflation after 2006.
    In addition, the Taxpayer Relief Act of 1997 created a new 
exemption for ``qualified family-owned business interests'' 
beginning in 1998. However, this exemption, plus the amount 
effectively exempted by the applicable unified credit, can not 
exceed $1,300,000. Whether a decedent's estate can qualify for 
the maximum $1,300,000 exemption amount will depend on the 
blend of personal and qualified business assets in the estate 
at death.

       THE ESTATE AND GIFT TAX IS COMPLEX, UNFAIR AND INEFFICIENT

    When the government in a free society uses its power to 
tax, it has an obligation to do so in the least intrusive 
manner. Taxes imposed should meet the basic criteria of 
simplicity, efficiency, neutrality and fairness. The federal 
estate and gift tax fails to meet any of these requisites.
    The estate tax is anything but simple to understand or 
comply with. It is a multi-layered taxing mechanism so complex 
and convoluted that it has given rise to a cottage industry of 
estate tax planners, accountants and lawyers. While this may be 
acceptable to those professionals who make their living from 
the federal estate and gift tax system, it is not acceptable to 
the thousands of individuals who are forced to pay billions of 
dollars each year in estate taxes, planning fees, and 
compliance costs.
    Even the simplest of estates require a certain amount of 
estate tax planning in order to avoid the pitfalls of this 
complicated tax system. Estate tax planning often includes the 
creation of one or more trusts, such as a living trust or ``Q-
TIP'' (qualified terminable interest property) trust, adding 
even more expense for taxpayers. The estate tax system also 
contains generation-skipping provisions designed to tax 
transfers from grandparents to their grandchildren. While the 
newly-created ``qualified family-owned business interest'' 
exclusion will reduce estate taxes for some businesses, the 
provisions have added complexity to an already overly 
complicated tax system.
    The estate and gift tax is also inefficient. Taxes are 
efficient when they waste few resources in the collection 
process, impose no unnecessary compliance costs on taxpayers 
and make a high percentage of the proceeds available for public 
goods. The estate tax has very high collection and compliance 
costs, even though its revenues only account for slightly more 
than one percent of total federal tax collections. Individuals 
and businesses that do not owe estate tax still spend millions 
of dollars on estate planning and tax return preparation. For 
example, in 1995, approximately 31,000 estates were subject to 
estate tax, however, about 70,000 estates had to go through the 
expense of filing estate tax returns.
    The other characteristics of an acceptable tax are its 
neutrality and fairness. While measuring these aspects require 
a certain amount of subjectivity, the estate tax can not be 
considered either neutral or fair to individuals or businesses. 
The highly-progressive nature of this tax severely penalizes 
those who have saved more, risked more, and worked harder than 
others.
    Furthermore, those with large estates often hire expensive 
estate tax planners and attorneys to establish elaborate estate 
plans in order to eliminate, substantially reduce, or defer 
their estate tax liabilities. Unfortunately, many small and 
family-owned business owners are either unaware of the need for 
estate tax planning or unable to afford it, which later results 
in enormous estate tax liabilities for such businesses. In 
order to pay such liabilities, these businesses are forced to 
either lay off workers, borrow funds, reduce capital 
investments, liquidate, or sell to an outside buyer. These 
actions hurt everyone connected with these businesses, 
including its owners, employees, customers, vendors, and 
families.

    THE ESTATE AND GIFT TAX THWARTS ECONOMIC GROWTH AND PRODUCTIVITY

    Public policies should not only improve our nation's 
current economic environment, but also ensure our future 
prosperity. The key to a stronger economic future is simple to 
define (i.e., a high rate of economic growth), but difficult to 
achieve. It is strong economic growth that will allow us to 
maintain our position of world leadership, increase our 
standard of living, and meet the daunting demographic 
challenges that will begin to present themselves early in the 
next century.
    But economic growth does not occur by accident. Just as our 
farmers do not rely on good luck for bountiful harvests, 
neither can we rely on chance or the momentum of the past to 
propel us in the future. The seeds of tomorrow's economic 
success must be planted today, and so, when evaluating economic 
policies, we must ask how they would cultivate long-term 
economic growth.
    By definition, economic growth is simply the product of 
growth in the labor force (i.e., the number of hours worked) 
and growth in productivity (i.e., output per hour). With growth 
in hours worked largely determined by demographics, sensible 
economic policy must emphasize strong productivity growth.
    This is a crucial issue because productivity growth has 
been languishing for the past quarter-century or so. After 
expanding at a healthy 2.7 percent rate during the 1960's, for 
example, productivity growth has slowed to an anemic one 
percent rate so far in the 1990's. With growth in hours worked 
hovering a little below 1.5 percent, long-term economic growth 
is thus limited to 2.5 percent--well below the average of the 
post-World War II era.
    While measurement problems related to productivity have 
expanded with the growing share of the economy devoted to 
service-producers rather than goods-producers, the decline in 
economic growth over the same period confirms that we are 
suffering a decline in the underlying growth rate in 
productivity. The question then becomes: What can we do to 
raise productivity growth?
    Like the farmer who sows the seed corn and cultivates the 
soil, households and businesses must also prepare for the 
future. Virtually all economists agree that this is done by 
saving and investing in capital--both human capital (education) 
and physical capital (plant and equipment). Thus the issue of 
long-term productivity growth and, in turn, economic growth 
becomes one of fostering additions to, and improvements in, 
capital. Consequently, today's economic policies must be 
targeted toward improving economic growth by fostering saving, 
investment, and capital formation. Only through such pro-growth 
policies can we lay the foundation of prosperity and security 
for our children into and beyond the 21st century.
    To boost productivity, the federal government must end its 
misdirection of resources and curb its appetite for borrowing 
so that national savings and investment can be increased. This 
will yield stronger productivity growth, which in turn will 
propel the economy on a higher growth track. Besides balancing 
the budget, other policy elements that would aid long-term 
economic growth include overhauling our regulatory and tort 
systems, enhancing education and job training programs, 
reducing the tax burden, and reforming the tax code.

        THE ESTATE AND GIFT TAX NEEDS TO BE REPEALED OR REFORMED

    While the Taxpayer Relief Act of 1997 will provide some 
businesses with relief from the estate and gift tax, and is 
certainly a step in the right direction, the best solution 
would be to repeal the tax outright. The U.S. Chamber supports 
legislation introduced by Senator Jon L. Kyl (R-AZ) and 
Representative Christopher Cox (R-CA)--the Family Heritage 
Preservation Act (S. 75, H.R. 902)--which would immediately 
repeal the federal estate and gift tax. However, if repeal is 
not politically feasible in the near term, additional reforms 
should be implemented to make the tax less harmful to small 
business owners and their workers.
    First, the unified credit (and its corresponding exemption 
amount) should be increased even further. In today's 
marketplace, the value of many ``small'' businesses easily 
exceed the prescribed exemption amounts, making them 
potentially subject to estate tax. In addition, the recently-
enacted $1-million exemption amount should be phased-in over a 
much quicker time period. For example, while the effective 
exemption amount is scheduled to increase to $1 million by 
2006, such amount will not exceed $700,000 until 2004. The 
credit also needs to be indexed for inflation so its value is 
not eroded over time. Under current law, once the effective 
exemption amount reaches $1 million, it is scheduled to remain 
at that level indefinitely.
    Second, overall estate and gift tax rates--which can reach 
as high as 60 percent--need to be significantly reduced. The 
value of a decedent's taxable estate only has to exceed $2 
million before it becomes subject to a 49-percent rate, and $3 
million before it becomes subject to a 55-percent rate. These 
rates are excessive and need to be significantly lowered in 
order to promote business and job growth. The U.S. Chamber 
supports legislation introduced by Senator Don Nickles (R-OK)--
the Estate Tax Reduction Act of 1997 (S. 650)--which would drop 
the maximum marginal estate tax rate to 30 percent.
    Third, in order to promote the continuation of family-owned 
businesses, the amount of the newly-enacted ``qualified family-
owned business interest'' exclusion needs to be further 
increased, as well as expanded to encapsulate more businesses. 
When a substantial portion of a decedent's wealth is invested 
in his or her business, payment of the estate and gift tax can 
be extremely difficult without having to liquidate or sell the 
business, sell key assets, lay off hard-working employees, or 
borrow against its assets. The U.S. Chamber supports 
legislation introduced by Representatives Jim McCrery (R-LA), 
Jennifer Dunn (R-WA), and others--the Family Business 
Protection Act (H.R. 1299)--which would, among other things, 
exempt from estate tax the first $1.5 million in value, and 50 
percent of any excess value, of a ``qualified family-owned 
business interest.''
    Fourth, existing installment payment rules need to be 
further broadened. Under current law, the estate tax 
attributable to a ``closely-held'' business can be paid in 
annual installments over a 14-year period. In addition, tax on 
the first $1 million in value of a such a business is eligible 
for a special two percent interest rate. In addition to 
increasing the 14-year installment period, more businesses 
should be able to qualify for installment plans, and a greater 
amount of estate tax should be eligible for a low, or zero 
percent, interest rate. The U.S. Chamber supports legislation 
introduced by Senators Charles E. Grassley (R-IA), Trent Lott 
(R-MS), and others--the Estate Tax Relief for the American 
Family Act of 1997 (S. 479)--which would, among other things, 
increase the installment payment period to 20 years.

                       MY ESTATE TAX HORROR STORY

    My grandfather founded Mizell Lumber in 1922. In 1931, he 
purchased the property on which Mizell Lumber is still operated 
for approximately $55,000. My father, Fred Mizell, joined his 
Dad in the family business in 1947. My father worked six days a 
week for 37 years, rarely taking a vacation or even a day off. 
Then one Friday night in 1984, he drove home from work, 
suffered a heart attack, and died at the age of 63. At that 
time, his assets, the most valuable of which was Mizell Lumber, 
passed to my mother. However, my mother died on September 7, 
1990.
    My two brothers and I were told by our estate tax attorney 
that we would need to hire appraisers to determine the fair 
market value of the business, including the land on which 
Mizell Lumber is operated. I can recall feeling shocked when I 
learned that we would have to pay federal estate taxes on the 
fair market value of the lumber company as of the date of my 
mother's death. The land, which my grandfather originally had 
purchased for $55,000, and which had been in the family for 
almost 60 years, was now appraised at $1,247,000. To our 
surprise and chagrin, we owed a whopping $297,000 in federal 
estate taxes! In addition, we had to pay more than $5,000 for 
the appraisal itself, as well as $40,000 for attorney fees 
because the estate had many issues so complex that it took two 
and one-half years to settle the estate. All this was occurring 
as we were grieving the loss of our mother!
    I hear so much talk in the news regarding the fact that 
Americans are not saving enough for retirement and are buying 
too many things on credit. Well, my father could have taught a 
class on fiscal responsibility. He never used a credit card in 
his life. He didn't purchase a new car until he had the money 
saved up to pay cash for it. My Dad worked hard six days a 
week, 52 weeks a year. He always lived within his means and 
saved his money for the future. His number one priority was his 
children's education. He sent all three of us through twelve 
years of Catholic schools and then to the college of our 
choice. Most importantly, he wanted to leave a legacy to his 
children and grandchildren.
    How was my father rewarded for his lifetime of hard work 
and frugality? We had to liquidate his certificates of deposit, 
bank accounts, stocks and bonds, and send nearly all of the 
cash we could come up with to the Internal Revenue Service. And 
yet that still wasn't enough to pay the federal estate taxes! 
We deferred paying approximately $150,000 of the total taxes 
due over fifteen years. Mizell Lumber has sent an estate tax 
payment of about $19,000 every June, and will do so until the 
hear 2006. I feel very fortunate that we didn't have to 
liquidate or sell the business in order to pay off these estate 
taxes. Where is the incentive to work hard, invest, be 
responsible and pay-as-you-go if a business owner's estate is 
taxed at fair market value on property that has been in the 
family for decades?
    I have three small children. My oldest son is nine years 
old. He is a 4th grader at Holy Cross Elementary School in 
Garrett Park, Maryland. He is a straight-A student and recently 
won the National Geographic Geography Bee for his entire 
school, beating out all the older students in grades 5 through 
8. He deserves to attend one of the finest universities in the 
United States. If I could invest my share of the estate taxes 
that the business is paying, his college education, and that of 
my two younger children, would be assured.

                               CONCLUSION

    The estate and gift tax depletes the estates of taxpayers 
who have saved their entire lives, often forcing successful 
family businesses to liquidate or take on burdensome debt to 
pay the tax. Taxpayers should be motivated to make financial 
decisions for business and investment reasons, and not be 
punished for individual initiative, hard work, and capital 
accumulation. The U.S. Chamber believes that the estate and 
gift tax should be completely repealed. However, if outright 
repeal is not politically feasible, it should be significantly 
reformed in order to reduce or eliminate its negative effect on 
individuals and the owners of family businesses.
    Thank you for the allowing me the opportunity to testify 
here today.
      

                                


    Chairman Archer. Thank you, Ms. Mizell, and, without 
objection, your written statement will be put in the record in 
full as will be true of all witnesses. The next witness is Mr. 
Hannay. Welcome.

   STATEMENT OF ROGER HANNAY, PRESIDENT AND CHIEF EXECUTIVE 
 OFFICER, HANNAY REELS, INC., WESTERLO, NEW YORK, ON BEHALF OF 
             NATIONAL ASSOCIATION OF MANUFACTURERS

    Mr. Hannay. Thank you, sir. Good afternoon, Mr. Chairman 
and other Members of the Committee. My name is Roger Hannay, 
and I am president and chief executive officer of Hannay Reels, 
Inc., a small manufacturer in the foothills of the Catskill 
Mountains in upstate New York, 25 miles from Albany. What we 
make is heavy duty reels that wind up hoses such as on a fire 
truck or on a fuel delivery aircraft refueler, and so forth.
    I'd like to address you today about the death tax. It's 
been aptly named that several times today. For years, it's been 
euphemistically known as the estate tax, which reminds me more 
of a nice place in Virginia that you raise horses than a tax, 
so I will continue to refer to it as the death tax--it is, 
after all, indeed, a tax on dying.
    On November 10, 1997, my dad, George, was lost to us, to 
myself and my siblings, and he was a second-generation owner 
and former chief executive officer and current chairman when he 
passed away. He missed just about as few days of work as my 
counterpart's dad did over the years he was there; he was still 
at work 1 week before his death at age 77. I'd like to thank, 
in absentia, but in spirit, Mike McNulty--my own Congressman 
who's on this panel--for his kindness to us at that time. He 
and his dad were both there for the memorial service.
    Our fourth generation which consists of my son, Eric, and 
my daughter, Elaine--who's with us a little bit further back in 
the room today--they represent the hopes and plans of our 
company for continuation of the business. They are both 
committed to succeeding in both senses of that word. To do so, 
we'll have to successfully navigate the mine field of the 
normal family planning issues: getting along with each other; 
making the business work; deciding who has gifts for what areas 
of the business, and, also, surviving the repeated blows from 
the death tax. It's a challenge that revisits us with every 
generation. The tax challenge is definitely in our case the 
more difficult of those two challenges in our family which is 
reasonably nondysfunctional--to use a double negative.
    Death taxes are an issue, not just because of the recent 
loss of our dad but also because of the need to prepare for my 
passing. I just realized, looking in the mirror, I'm now the 
older generation. So, for the sake of our 150 employees and 
what they represent to our little community which has about 300 
residents, we'd like very much to see that happen without the 
necessity for selling the business simply to pay the taxes.
    My dad's estate will, not may, be subject to a full IRS 
audit; it's a sure thing; it's a slam dunk because of its 
dollar value. Almost any successful small manufacturing 
business or small farm or tree stand will be for an automatic 
audit. As chief executive officer and also other roles such as 
oldest son, older brother, executor, and father to my kids, I 
will literally be dealing with the grief over our dad's loss 
for probably the next 4 years. I heard one optimistic number 
earlier today of two and a half years, but it makes it very 
difficult to have closure over the loss of our dad. I also lost 
my mom April 20 of last year, so it was kind of a double whammy 
kind of year for us.
    I will not attempt, today, to deal with the more technical 
issues of the tax. There are many people in this town and 
beyond that are much better trained and qualified to do that 
than I, and you heard some of them today, however, even with my 
limited tax knowledge I am aware of a couple of basic points. 
First of all, I understand that the net revenue produced by 
this tax after factoring out the costs of collecting it and 
auditing it are roughly 1 percent of Federal revenues. If we're 
wrong, we're all wrong together today, because we've all been 
using roughly that number. The modest source of revenue that 
that brings imposes unbelievably complex and costly burdens on 
my business. It causes a dark cloud over our business and 
thousands of others like it. Did we, indeed, dot all the i's 
and cross all the t's? Can you ever really know in advance with 
certainty that the estate plan is correct and complete? I don't 
think so. What's the value of 20/20 hindsight when we, as 
executors, talk about could have done, should have done, might 
have done, if the business has to end up being sold. At least 
with most other taxes, you can debate and adjust while you're 
still alive; not so with the death tax.
    It's also very obvious to me and others here today that it 
represents at least double taxation without representation 
which Patrick Henry would have had difficulty with. Everything 
in one's estate has already been taxed once before, in some 
cases twice.
    From time to time I lament with my accountants also that 
I'd like to spend some more of my time and money with them 
talking about creative and positive things, not defensive 
things like planning for the death event. There really are 
other things that accountants and lawyers can do besides this 
activity as we've already heard.
    I'd like to make it real clear that I'm not advocating 
further tinkering, tweaking with the present tax, although we 
do appreciate the modest Band-Aid that's been applied for the 
next few months. We basically want to kill the death tax as New 
York State, for one, has already done for the year 2000.
    Why is dying a taxable event? It's almost like this is the 
punishment for having the audacity to die. I sense quite a bit 
of support for repeal out in the hinterlands. It has been said 
at least partially in jest, ``If it moves, tax it.'' I'd like 
to suggest--maybe we could propose a new saying, ``If it quits 
moving, don't tax it anymore.''
    Since some friends have become aware that I would be active 
on this subject, I began receiving some unsolicited war stories 
one of which very much resembles my colleague to the left here 
in terms of a forest land where the loss of a multigenerational 
family farm, or family business, has indeed occurred; there was 
no alternative.
    In closing, I've heard that something close to 95 percent 
of family-owned businesses don't make it successfully to the 
fourth generation as ours is attempting to do, and a very high 
number not to the second or third. If so, I think we have to 
candidly ask ourselves, ``How many of these failures are 
because the families just didn't get along or competitive 
pressures--which are certainly formidable challenges--and how 
many are successful in those arenas only to lose it to the tax 
man?'' I thank you very much for your kind invitation to be 
here today.
    [The prepared statement follows:]

Statement of Roger Hannay, President and Chief Executive Officer, 
Hannay Reels, Inc., Westerlo, New York, on behalf of National 
Association of Manufacturers

    Good afternoon gentlewomen and gentlemen, my name is Roger 
Hannay and I am President and CEO of Hannay Reels, Inc., a 
small manufacturer with 150 employees in the foothills of the 
Catskill Mountains, 25 miles from Albany, New York.
    I'd like to address you today about the ``death'' tax, 
which for years has been euphemistically known as the 
``estate'' tax. Frankly, the word ``estate'' reminds me more of 
a nice place in the countryside of Virginia where you raise 
horses, rather than a tax, so I will continue to refer to it as 
the ``death tax.'' After all, it is indeed a tax on dying. On 
November 10, 1997, my siblings and I lost our Dad, George, a 
second generation owner and former CEO and then Chairman of our 
company. On April 20 of the same year, we had lost our Mom. Our 
fourth generation, my son, Eric, and my daughter, Elaine, who 
is with me here today, represent the hopes and plans we have 
for continuation of the business. They are both committed to 
``succeeding'' in the business (in both senses of that word). 
To do so, we will have to successfully navigate the minefield 
of ``passing the torch'' of leadership in the company and 
surviving repeated blows from the death tax. The tax challenge 
is definitely the more difficult one of the two in our 
reasonably non-dysfunctional family (to use a double negative). 
Death taxes are an issue not just because of the recent loss of 
my father, but also because of the need to prepare for my 
passing. For the sake of our 150 employees and what they 
represent to the community, we would like very much to see that 
happen without being forced to sell the business simply to pay 
taxes.
    My father's estate will be subjected to a full audit by the 
IRS, because of its dollar value. Almost any successful small 
manufacturing business will exceed the threshold for an 
automatic audit. As CEO, and also oldest son, older brother, 
executor, and father, I will literally be dealing with the 
grief over the loss of my parents last year for about the next 
four years until the final death tax audit is complete. This 
makes it very difficult to have closure regarding the loss of 
my parents.
    I will not attempt today to deal with the more technical 
issues of the tax. There are many people, in this town and 
beyond, who are much better trained and qualified to do that 
than I. However, even with my limited tax knowledge, I am aware 
of a couple of basic points. First of all, I understand that 
the net revenue produced by this tax, after factoring out the 
costs of collecting and auditing it, are roughly one percent of 
federal revenues. This modest source of revenue imposes 
unbelievably complex and costly burdens on my business. It 
casts a dark cloud over our business and thousands of other 
family owned businesses: Did we indeed dot all the i's and 
cross all the t's? Can you ever know (in advance) with 
certainty that the estate plan is correct and complete? What is 
the value of 20/20 hindsight when we talk as executors about 
``could have done'' or ``should have done'' if the business has 
been sold? At least with most other taxes, you can debate and 
adjust, while you are alive. Not so with the death tax.
    It is also very obvious to me that it is a tax that 
represents at least double taxation without representation, a 
principle that would have been unthinkable to Patrick Henry. 
After all, virtually everything in one's estate has already 
been taxed at least once before.
    From time to time, I lament with my accountants that I 
would like to spend some of my time and money with them talking 
about creative and positive things, rather than defensive 
things like planning for the death event. There really are 
other things accountants can do in addition to tax planning.
    I'd like to make it very clear that I am not advocating 
further ``tinkering'' or ``tweaking'' with the present tax, 
although we do appreciate the modest tinkering with the 
lifetime exclusion that has been proffered as a short-term 
Band-Aid. We basically want to ``Kill the death tax.'' Why is 
dying a taxable event? It's almost as if this tax is the 
punishment for having the audacity to die.
    I sense quite a bit of support for repeal out in the 
hinterlands. It has been said, at least partially in jest, ``if 
it moves, tax it.'' Perhaps we could begin to agree on a 
philosophy of ``if it quits moving, don't tax it anymore.''
    Since some friends have become aware that I would be active 
on this subject, I've begun to receive unsolicited ``war 
stories'' from these folks about the situations of their own 
parents, and what it meant in terms of the loss of a multi-
generational family farm or family business. As I become aware 
of more of these in detail, I will be happy to share them with 
all who are interested.
    In closing, I've heard that something close to 95 percent 
or more of family-owned businesses do not make it successfully 
to the fourth generation, as ours is striving to do. If so, I 
think we have to candidly ask ourselves how many of those 
failures are because of competitive pressures or families just 
not getting along (which are certainly formidable enough 
challenges), and how many are successful in those arenas only 
to lose these endeavors to the death tax?
    I thank you very much for your kind invitation to be with 
you today.
      

                                


    Chairman Archer. Thank you, Mr. Hannay. Our last witness on 
this panel is Mr. William Beach. Mr. Beach, welcome.

 STATEMENT OF WILLIAM W. BEACH, JOHN M. OLIN SENIOR FELLOW IN 
  ECONOMICS; AND DIRECTOR, CENTER FOR DATA ANALYSIS, HERITAGE 
                           FOUNDATION

    Mr. Beach. Thank you very much, Mr. Chairman. Members of 
the Committee on Ways and Means of the House of 
Representatives, it's a great pleasure for me to be here today. 
My name is William W. Beach. I am the John Olin Senior Fellow 
in Economics at the Heritage Foundation and being the last 
witness on the last panel, I am literally at the end of the 
day.
    I'm going to abandon my formal remarks; what you've heard 
from everybody on the panels preceding what I'm about to say. 
It's much more important than what I'm about to say, because 
they are speaking to the heart of the matter, and the heart of 
the matter is that we have in the estate tax an utter 
contradiction, not only the rest of the Tax Code and everything 
it stands for but of the basis of this country; that if we work 
hard; if we live by the law; if we try to succeed; educate 
ourselves; save, we will succeed, and as Carol Moseley-Braun, a 
Senator from Illinois, said in a hearing before the Finance 
Committee not too long ago, ``in fact, it's the nightmare of 
the American dream.'' It's the thing that you wake up when 
you're 55 years of age, and you say, ``Oh my gosh, my 
accountant has just told me that there's something out there 
called the estate tax.'' So let me being--since I'm the last 
witness, sort of be the sum-up person--and also, Mr. Chairman, 
I'm the one that wears the green eyeshade, and I have some 
answers to revenue questions that you asked in the previous 
panel.
    There are a number of arguments for why we should repeal 
the estate tax; you've heard them all, and it's very important 
to listen to what is being said about how it hurts businesses. 
The other side of that and not represented at these panels is 
it hurts people who have jobs in these businesses. So, an 
indirect effect of the estate tax is that it reduces the number 
of jobs. It also reduces the number of potential jobs, thus, 
hurting people who are young; who are struggling; who are 
entering the labor force. We could say an indirect effect of 
the estate tax is to hurt the working man and the working women 
in the place in which they live most and that is in their 
checkbook.
    Represented at these panels today and at other panels at 
other Committee hearings on this subject have been women in 
business. It's very important to note that with the fastest 
growing segment of the self-employed people being women 
entrepreneurs, that the estate tax has become a quintessential 
women's issue. So among the victims of the estate tax, not only 
do we count people who are laboring, workers, we can now count 
women.
    Did you know, Mr. Chairman, that the most feared tax among 
black businessmen today is not the income tax; not the 
corporation income tax; not the foreign services tax, it's the 
estate tax. A recent survey by Kennesaw State University 
professors of accounting and economics--a very nice survey, 
which I'm happy to send you if you don't have a copy of it--of 
black businesspeople in this country, African-Americans, who 
have struggled to provide for their children the kind of life 
that they didn't have when they started out says the estate tax 
is the surprise, the thing that would be the most unexpected 
development. And why this is such a feared tax is all of their 
life savings have gone into their businesses. These are people 
who are successful in their businesses but not in their 
pocketbook.
    Asian-Americans, we could go on and on and on again. In 
fact, I think, Mr. Chairman, the strongest argument today for 
the estate tax comes from the liberal wing of the American tax 
community. You know because you have had testimony from 
Professor Edward McCaffery. His amazing admission being a 
person who in every other respect will approach taxes from a 
liberal standpoint, but he must now conclude that he is not in 
favor, cannot be in favor, must be opposed to the estate tax, 
and I'll read one short paragraph from his testimony before the 
Senate Committee on Finance June 7, 1995, ``I am an unrequited 
liberal in both the classical and contemporary political senses 
of that word whose views on social and distributive justice 
might best be described as progressive,'' and indeed he will 
haunt this Committee because of a recent book that he just 
published called Taxing Women--you'll see it come up many, many 
times during this tax season.
    I used to believe in the gifts and estate tax as a vehicle 
for obtaining justice. I am now prepared to confess that I was 
blind, but now I can see.
    It seems to me that there are three ways to repeal the 
estate tax, Mr. Chairman, and that's in my written remarks. 
First, outright repeal, it has an amazing support in both the 
House and Senate, and, indeed, the economic and revenue effects 
of outright repeal, similar to that in House Resolution 902 or 
in Senate bill number 75, are very, very good. In a study we 
prepared in 1996, in August, on this subject we found that if 
we were to repeal the estate and gift tax, we would have $11 
billion more annually in gross domestic product, 145,000 more 
additional jobs; personal income would rise by $8 billion a 
year, and the deficit would in fact be unaffected after the 
fifth year. I would strongly support outright repeal as the way 
in which we should proceed, particularly as a result of last 
night's speech by the President. Oddly enough, he put us on a 1 
year short order for Social Security reform. If we, indeed, go 
the direction of personalization or even partial 
personalization as a majority of the advisory council on Social 
Security have recommended, then we're going to have projections 
of many middle-income Americans with substantial estates upon 
their retirement in the year 2025 to 2040. The estate tax, if 
it's not addresses, will be a problem that everybody will face.
    The second way is phaseouts. Phaseouts are very attractive. 
We don't get the economic benefits of repeal immediately, but 
if you're interested in revenue and protecting the revenue then 
there are ways to phase out the estate tax over a 10-year 
period. I would recommend rate reduction coupled with a steady 
increase in the unified credit, and we are working on 
simulations that show what that does.
    The most interesting and exciting approach--and I'll 
conclude with this--is what we are calling the unified capital 
gains. This is a relatively new idea that came out of a hearing 
in front of the Senate Finance Committee last year. The unified 
capital gains repeals the estate tax and takes all of the 
estate tax base and places it under the capital gains tax. It 
follows directly what Mr. Apolinsky was talking about where we 
in fact no longer have step-up in basis. Putting in place a $1 
million exemption for taxable dispositions out of estates and 
taxing the rest of those dispositions if they are taxable under 
capital gains law essentially results in about a 50-percent 
reduction statically in what you would otherwise get from the 
estate tax. The dynamic effects are substantial. We're 
measuring now the economic effects of eliminating compliance, 
putting all of that together, Mr. Chairman--to answer the 
question you asked Mr. Apolinsky--out of a total static loss 
from outright repeal of $180 billion in estate tax revenues 
over 7 years, the Treasury of the United States would be at a 
loss of no more than $24 billion if you take in the static and 
dynamic effects from unified capital gains.
    On any of these proposals, we'd be very happy to supply the 
Committee with additional details. We've measured each of 
these; measured them using, I think, the best macroeconomic 
models available, The Warten Econometric Forecasting 
Associates, DRI, McGraw-Hill. Most economists, now, are on the 
side of phasing out at least the estate tax or of the unified 
capital gains tax move.
    Thank you very much for allowing me to have these remarks, 
and I urge the Committee to move forward on estate tax reform.
    [The prepared statement follows:]

Statement of William W. Beach, John M. Olin Senior Fellow in Economics; 
and Director, Center for Data Analysis, Heritage Foundation

    My name is William W. Beach, and I am delighted to present 
the following arguments in support of estate tax repeal to the 
Committee on Ways and Means of the United States House of 
Representatives. I am the John M. Olin Senior Fellow in 
Economics at the Heritage Foundation, a Washington based public 
policy research organization. The following remarks constitute 
my own opinions, and nothing in this testimony should be 
construed as representing the views of The Heritage Foundation 
or support by the Foundation for any legislation pending before 
the Congress.

                               Testimony

    The 105th Congress took important steps in the Taxpayers 
Relief Act of 1997 toward lightening the burden of death taxes 
on certain well-defined taxpaying segments. By expanding the 
exemption of taxable wealth for estates containing small 
businesses or farms, the Congress officially recognized the 
harmful effects that death taxes now have on entrepreneurship 
and family-owned enterprises. By increasing the unified credit 
from six-hundred thousand to one million dollars over 10 years, 
the tax writing committees signaled their understanding that 
estates of this size will be increasingly common in the near 
future and that small estates should not be taxed.
    The tax act of 1997, however, did little more than address 
the immediate shortcomings of this peculiar tax. The increase 
in the unified credit keeps taxpayers roughly even with 
inflation, even though a little less than half of the higher 
credit comes in the last two years of the ten-year phase-in 
period. The additional exemptions for small businesses will 
offer some taxpayers relief, but the complex steps that 
taxpayers must take to discover whether they are eligible for 
the higher exemptions will require significant legal advice and 
the counsel of high-priced accountants. It is doubtful that 
more than a few hundred estates containing small business 
assets will ever qualify for these ``tax savings'' Congress 
enacted last year.
    The actions taken by Congress in last year's legislation 
had one additional effect: they left largely in place all of 
the arguments for repealing federal death taxes. It remains a 
tax that unintentionally falls most heavily on small 
businesses, farmers, ethnic minorities, women entrepreneurs 
and, indirectly but importantly, on poor people. While 
virtually every Congress since the middle 1930s has spent 
considerable effort designing tax policy that would help these 
types of taxpayers, intergenerational wealth transfer taxation 
has produced an effect almost completely opposite that of 
nearly every other part of the Code. It appears that the estate 
tax actually bears down most heavily on the intended 
beneficiaries of wealth taxation, not the tax policy's apparent 
targets:
     owners of small and medium-sized businesses, who 
often are ethnic or female, discover too late for remedy that 
their legacy of hard work and frugality will not pass to their 
children but instead will fall victim to confiscatory taxation 
and liquidation;
     farmers, many of whom are descendants of the 
Populists who rallied at the end of the nineteenth century in 
support of wealth taxation, lose their farms not because of 
wealthy agribusinesses or capitalist ``robber barons'' but 
because the federal government demands a tax payment upon death 
from people who have invested their earnings back into their 
family legacy and have maintained meager liquid savings;
     workers suffer, too, when small and medium-sized 
businesses are liquidated to pay estate taxes and when high 
capital costs depress the number of new business creations that 
could offer new jobs;
     and poor people are harmed by the estate tax, not 
only because the general economy is weakened by the estate 
tax's rapacious appetite for family-owned businesses but also 
because the estate tax discourages savings and encourages 
consumption (particularly among wealthy individuals), thus 
undermining the federal income tax from which the funds are 
raised to support programs for disadvantaged Americans.
    What should Congress do to address these problems stemming 
from federal death taxes? In my view, nothing short of repeal 
will eliminate the significant indirect effects of the tax, 
such as job losses that result from forced liquidations of 
businesses contained in taxable estates. Indeed, repeal may be 
the only appropriate step if Congress wishes to address the 
moral quandaries raised by multiple taxation.
    There appears to be three repeal options open to Congress: 
immediate repeal of those Code sections that permit estate, 
gift, and generation-skipping taxation; a phase-out plan that 
reduces the top tax rate and raises the unified credit over a 
specified number of years; and the unified capital gains tax 
(which repeals federal death taxes and unifies the old estate 
tax base with the capital gains tax base). Let me describe each 
option separately.

                            Immediate Repeal

    Ending death as a taxable event is the objective of H.R. 
902, sponsored by Congressman Chris Cox, and S. 75 offered by 
Senator Jon Kyl. These two identical bills repeal estate, gift 
and generation-skipping taxes and currently enjoy substantial 
support in their respective chambers: there are 31 sponsors of 
the Senate bill and 161 sponsors of this legislation in the 
House.
    Many of the co-sponsors of these two bills doubtless 
support repeal because of the compelling moral argument behind 
this reform, which I describe below. However, others are more 
comfortable with repeal following several demonstrations that 
federal revenues are enhanced by elimination of federal death 
taxes rather than harmed.
    An analysis by The Heritage Foundation using two leading 
econometric models found that repealing the estate tax would 
have a large and beneficial effect on the economy.\1\ 
Specifically, the Heritage analysis found that if the tax were 
repealed this year, over the next nine years:
---------------------------------------------------------------------------
    \1\ William W. Beach, ``The Case for Repealing the Estate Tax,'' 
The Heritage Foundation Backgrounder, no. 1091, August, 1996.
---------------------------------------------------------------------------
     the nation's economy would average as much as $11 
billion per year in extra output;
     an average of 145,000 additional new jobs could be 
created;
     personal income could rise by an average of $8 
billion per year above current projections; and
     the deficit actually would decline, since revenues 
generated by extra growth would more than compensate for the 
meager revenues currently raised by the inefficient estate tax.
    The Heritage analysis of repeal's positive effects has been 
recently supported by work on the unified capital gains tax by 
Richard Fullenbaum and Mariana McNeill.\2\ Their work includes 
estimates of how much economic output would change from 
eliminating the costs of complying with death tax law. These 
costs were not included in the Heritage study of 1996. Had they 
been, the positive effects described above would be enhanced.
---------------------------------------------------------------------------
    \2\ Richard F. Fullenbaum and Mariana A. McNeill, ``The Effects of 
the Federal Estate and Gift Tax on the Aggregate Economy,'' forthcoming 
from The Research Institute for Small & Emerging Business (1998).
---------------------------------------------------------------------------

        Phasing Down Tax Rates and Increasing the Unified Credit

    A number of Members have expressed interest in slowly but 
steadily reducing the top statutory tax rate on estates. 
Congressman Pappas in particular has championed this approach 
to repeal. Others have indicated an interest in coupling 
reductions in rates with increases in the unified credit, which 
accelerates the phase-out period by shrinking the number and 
size of taxable estates. Over time, federal death taxes simply 
disappear.
    There are a number of unpublished revenue and economic 
estimates of various phase-out plans, all of which indicate 
that significant improvements to economic efficiency follow 
reductions in death tax burden. However, the positive economic 
and revenue effects that come from immediate repeal overwhelm 
those that stem from a slow phase-out program. Not only do 
compliance costs continue to burden taxpayers, but tax 
avoidance behavior persists, which results in capital and labor 
costs remaining higher than they otherwise would be following 
outright repeal.
    Despite the likelihood that phasing out the estate tax 
would result in fewer economic bonuses than would immediate 
repeal, the advocates of the phaseout option argue that the 
Treasury would ``lose'' fewer tax dollars than under the 
immediate repeal option. While my research indicates that 
immediate repeal produces more total income tax revenue after 
the four years than the phase-out option, the advocates of this 
more cautious approach are doubtless correct on the direction 
of revenue change in the very short run.

                     The Unified Capital Gains Tax

    The unification of the estate tax base and the capital 
gains tax base through the unified capital gains tax appeals to 
those repeal advocates concerned with the moral dimensions of 
federal death taxes as well as those focused on repeal's 
revenue effects. The proposal repeals all federal death taxes 
(thus ending death as a taxable event) and imposes the long-
term capital gains tax rate on only those asset transfers from 
estates that 1) would be taxable under existing capital gains 
law and 2) exceed a special one-million dollar exemption on 
otherwise taxable dispositions from estates to persons as 
defined and recognized in present tax law. Some advocates of 
this approach would end step-up in tax basis.
    By making the ``tax moment'' the disposition of an asset 
rather than the death of a taxpayer, the unified capital gain 
tax addresses many of the moral concerns advanced by supporters 
of outright repeal. Death is not the taxable event, and 
unprepared taxpayers will no longer be forced to liquidate 
ongoing businesses or family assets just to pay a tax. Of 
course, the unified capital gains tax only eliminates one layer 
of multiple taxation: many assets created from after-tax income 
will be taxed again under capital gain tax law. However, the 
repeal of the estate tax clearly moves tax policy in the 
direction a flatter tax system, and the proposal should 
interest those tax policy reformers interested in fundamental 
tax changes.
    Economic analysis of the unified capital gains tax by 
Fullenbaum and McNeill indicates that this tax policy change 
would likely result in improved economic performance and 
surprisingly little revenue ``loss'' in the short run. 
Fullenbaum and McNeill predict significant employment and 
income gains from repeal, largely stemming from the drop in 
capital and compliance costs that follow unification. The small 
drop in revenues reverses sign after four years, and income 
taxes from individuals and corporations grow above CBO baseline 
projections.

                     The Moral Argument for Repeal

    All three of these proposals for repealing federal death 
taxes draw on a growing body of empirical evidence and 
philosophical argument that is ineluctably undermining the 
historical justification for intergenerational wealth transfer 
taxation.
    Between 1913 and 1916 the Congress deployed a system of 
income taxation that had two objectives: to raise revenue for 
the federal government and to contain the economic power of 
wealthy individuals through taxation. This latter objective 
dominated Congress's discussion of income taxation and inspired 
support among political activists during the ratification 
process for the Sixteenth Amendment to the United States 
Constitution. In its common translation, the ``containment'' 
objective of early tax policy meant simply this: the increasing 
concentration of wealth in the hands of a few individuals 
prevents many Americans from enjoying the economic 
opportunities that this country was founded to provide and that 
our fundamental law protects.
    While revenue requirements were always high on Congress's 
agenda, especially during the ensuing world war, it is fair to 
say that wealth containment was the fundamental public policy 
goal that Congress intended wealth taxation to achieve. It also 
is fair to say that, after eighty years of estate taxation, 
this objective has not been met.
    If it was Congress's intention to craft a public policy 
that threatens and destroys small and medium-sized businesses, 
devastates rural communities, weakens the economy and depresses 
job growth for new and displaced workers, and makes it more, 
not less, difficult for poor people to rise up the income 
ladder and participate more fully in the economic opportunities 
of American civilization; they could have done little better 
than the estate tax. But this outcome, of course, was precisely 
the opposite of Congress's purpose.
    U.S. wealth taxation policy surely is a classic instance of 
unintended consequences. Reversing these perverse results 
should be the current Congress's principal tax policy program. 
It is politically unconscionable as well as morally dubious to 
assert, on the one hand, that a principal objective of U.S. tax 
policy is to expand economic opportunity for disadvantaged 
Americans--blacks, Hispanics, women, workers, and poor people--
while, on the other hand, vigorously enforcing a part of U.S. 
tax policy that contracts their economic opportunity.
    This dilemma is resolved only by repealing the estate, gift 
and generation-skipping tax. Reforms that ``protect'' certain 
taxpayers from the estate tax (an intriguing admission in 
itself of the contradictions inherent in the law) through 
increases in the unified credit do nothing for those Americans 
above the new taxable threshold but who are no different from 
their brothers and sisters just below the threshold except that 
they are modestly more successful. Reforms do nothing for 
workers in firms that are not ``protected,'' for farmers whose 
land values have risen above the new threshold because they 
abut a new suburb or cross a cellular transmission grid, or for 
poor people living in an economy still insufficiently robust to 
lift them out of poverty. Reforms do nothing to reverse the 
incentive to consume rather than save or to purchase expensive 
life insurance, legal and accounting advice that moves 
resources to sectors of the economy that do little to raise 
worker productivity and worker wages. And reforms do nothing to 
resolve the public's increasing demand that Congress enact 
substantive tax reforms that result in a simpler, flatter, and 
fairer tax system.
    It is ironic but perhaps fitting that most of the energy 
for estate tax repeal has come from political conservatives. 
One would think that the rich tradition among American liberals 
of supporting middle class incomes, jobs for new workers, 
economic opportunities for disadvantaged groups, and protection 
of the family farm would have made estate tax repeal a top 
objective. Surely the liberal objection that repeal would only 
benefit rich people could be addressed by modest changes to 
capital gain tax law where, indeed, many wealthy people 
currently choose to be taxed. And surely the objection that too 
much revenue would be lost with repeal could be addressed by 
simple demonstrations that the estate tax currently undermines 
the income tax directly through legal avoidance schemes that 
shelter income from estate taxes and indirectly through 
consumption rather than savings.
    Take, for example, the growing evidence of the estate tax's 
harm to the general economy and to jobs in particular. 
Economists across a wide political spectrum have produced a 
rich body of empirical and inferential evidence that the estate 
tax reduces economic activity and fails to achieve its stated 
purpose. For example, Alan Blinder, who served in President 
Clinton's first Council of Economic Advisers and later as Vice-
Chairman of the Board of Governors of the Federal Reserve 
System, argued that ``[t]he reformer eyeing the estate tax as a 
means to reduce [income] inequality had best look elsewhere.'' 
\3\
---------------------------------------------------------------------------
    \3\ As quoted in Edward J. McCaffery, ``The Uneasy Case for Wealth 
Transfer Taxation,'' The Yale Law Journal, Vol. 104 (November 1994), p. 
322, note 143. Also see Joseph E. Stiglitz, ``Notes on Estate Taxes, 
Redistribution, and the Concept of Balanced Growth Path Incidence,'' 
Journal of Political Economy, Vol. 86 (1978), Supplement, pp. 137-150; 
Alan S. Blinder, ``A Model of Inherited Wealth,'' Quarterly Journal of 
Economics, Vol. 87 (1973), pp. 608-626; Blinder, ``Inequality and 
Mobility in the Distribution of Wealth,'' Kyklos, Vol. 29 (1976), pp 
607, 619; Michael Boskin, ``An Economist's Perspective on Estate 
Taxation,'' in Death, Taxes and Family Property: Essays and American 
Assembly Report, ed. Edward Halback, Jr. (St. Paul, Minn.: West 
Publishing Co., 1977); Lawrence H. Summers, ``Capital Taxation and 
Accumulation in a Life Cycle Growth Model,'' American Economic Review, 
Vol. 71 (1981); Martin Feldstein, ``The Welfare Cost of Capital Income 
Taxation,'' Journal of Political Economy, Vol. 86 (1978); and Laurence 
J. Kotlikoff, ``Intergenerational Transfers and Savings,'' Journal of 
Economic Perspectives, Vol. 2 (1988).
---------------------------------------------------------------------------
    The complex estate and gift tax edifice rests on the 
foundation that taxing intergenerational wealth transfers 
results in less concentrated wealth holdings and that this 
leads in turn to greater economic opportunity and a more 
democratic society. If the tax's supporters cannot sustain the 
argument that the estate tax improves equality of economic 
opportunity, then there exists little else (except perhaps 
inertia) to recommend continuation of this part of U.S. tax 
policy. Other, simpler taxes could meet revenue objectives far 
more efficiently and fairly.
    Academic support for intergenerational wealth taxation 
remains warm, in large part because of the role it plays in the 
most important theoretical treatise on liberal egalitarianism, 
John Rawls's A Theory of Justice.\4\ Since its publication in 
1971, this careful, magisterial presentation of the case for 
liberal democracy infused with just institutions has permeated 
thinking on most issues in social and political theory. It is 
fair to say that no stronger theoretical case for 
intergenerational wealth taxation exists.
---------------------------------------------------------------------------
    \4\ John Rawls, A Theory of Justice (Cambridge, Mass.: Harvard 
University Press, 1971).
---------------------------------------------------------------------------
    At the center of Rawls's case for wealth taxation is the 
principle that ``[a]ll social primary goods--liberty and 
opportunity, income and wealth, and the bases of self-respect--
are to be distributed equally unless an unequal distribution of 
any or all of these goods is to the advantage of the least 
favored.'' \5\ While at first blush this principle would appear 
to suggest radical egalitarianism in economic and political 
life, Rawls recognizes the superiority of ``free'' over 
socialized markets to produce benefits for the least advantaged 
citizens, which leads him and many like-minded political 
theorists to support significant differences in the economic 
conditions of individuals within a generation. After a century 
of economic experimentation, there can belittle doubt that 
everyone achieves greater economic benefit when individuals are 
allowed to discover their own comparative advantage and focus 
their labor in the area where they can make the greatest 
economic difference.
---------------------------------------------------------------------------
    \5\ Ibid., p. 303.
---------------------------------------------------------------------------
    This tolerance for intragenerational differences leads 
Rawls to oppose all income taxes, since economic income stems 
from natural differences in talent and from differing 
propensities of individuals to apply themselves to hard 
work.\6\ However, two principles considerations compel Rawls to 
take substantial exception to intergenerational differences in 
economic condition.
---------------------------------------------------------------------------
    \6\ Rawls advances a consumption tax to replace income taxes. ``For 
one thing, it is preferable to an income tax (of any kind) at the level 
of common sense precepts of justice, since it imposes a levy according 
to how much a person takes out of the common store of goods and not 
according to how much he contributes (assuming here that income is 
fairly earned).'' Ibid., p. 278.
---------------------------------------------------------------------------
    First, Rawls opposes the transfer of accumulated property 
to succeeding generations because it undermines the first 
principle of a just society: that everyone has ``an equal right 
to the most extensive total system of equal basic liberties 
compatible with a similar system of liberty for all.'' \7\ 
Those who begin with a significant unearned endowment of 
property resources place others not so advantaged in a less 
equal condition, and this undermines the principle that 
everyone should have access to the same system of equal basic 
liberties.
---------------------------------------------------------------------------
    \7\ Ibid., p. 302.
---------------------------------------------------------------------------
    Second, this difference might be tolerated if it produced 
greater benefits for the least advantaged than for the 
advantaged. However, intergenerational wealth transfers create 
benefits that flow in the opposite direction: Over time, they 
enhance the advantages of inheriting generations and generally 
degrade the liberties of the unbenefitted. The ``[t]he taxation 
of inheritance and income at progressive rates (when 
necessary), and the legal definition of property rights, are to 
secure the institutions of equal liberty in a property-owning 
democracy and the fair value of the rights they establish.'' 
\8\
---------------------------------------------------------------------------
    \8\ Ibid., p. 279.
---------------------------------------------------------------------------
    While Rawls does not advance confiscatory taxation of 
intergenerational wealth transfers, his argument does imply 
substantial taxing discretion by the state. In his universe, 
the state guides the institutions of distribution; should 
government determine that wealth transfers constitute 
significant barriers to the equal enjoyment of liberties (as 
defined by Rawls), it clearly has the power to tax away as much 
of the wealth that moves between generations as it deems 
necessary to restore justice.
    A number of objections could be raised against the Rawlsian 
case for wealth transfer taxation, not the least of them being 
the questionable assertion of government authority over the 
intergenerational disposition of private property. If wealth is 
acquired legally and transferred peacefully (that is, in some 
non-tortious fashion that breaches no contract pertaining to 
property), government has no ethical standing to interfere with 
its disposition.
    Of course, liberal egalitarians claim a more expansive role 
for government, a principal element of which is the progressive 
enhancement of equality of condition among citizens. Thus, it 
is important first to consider the estate tax within the 
context of the argument that justifies the tax's existence. If 
it can be shown that the estate tax does not advance the 
ethical program of the liberal egalitarians, then other 
objections to this tax that can be raised without assuming this 
ethical and moral framework become more compelling.
    This approach to analyzing the estate tax was taken in a 
seminal monograph by Edward J. McCaffery published in The Yale 
Law Journal in 1994.\9\ Professor McCaffery comes to the debate 
over the estate tax with impeccable political credentials. 
Unlike many critics of intergenerational taxation who frame 
their objections within a larger, politically conservative 
analysis of contemporary government, McCaffery formulated his 
critique of the estate tax within a liberal framework. As he 
stated last year before this committee:
---------------------------------------------------------------------------
    \9\ Edward J. McCaffery, ``The Uneasy Case for Wealth Transfer 
Taxation,'' The Yale Law Journal, Vol. 104 (November 1994), pp 283-365.

        I am an unrequited liberal, in both the classical and 
        contemporary political senses of that word, whose views on 
        social and distributive justice might best be described as 
        progressive. I used to believe in the gift and estate tax as a 
        vehicle for obtaining justice. As to the latter belief, only, I 
        am now prepared to confess that I ``was blind, but now can 
        see.'' \10\
---------------------------------------------------------------------------
    \10\ Edward J. McCaffery, ``Testimony before the Senate Committee 
on Finance, June 7, 1995.''

    McCaffery raises five general objections to the liberal 
egalitarian argument supporting intergenerational wealth 
taxation. Each of them assumes the ethical and moral objectives 
of the liberal program.
    1) The currently combined income and estate tax system 
encourages large inter vivos gift transfers, which have the 
effect of creating a greater inequality of starting points or a 
less level economic playing field. This predictable effect of 
the estate tax law is aggravated further by the fact that high 
estate tax rates encourage the consumption rather than the 
transfer of wealth. Purchasing goods and services instead of 
saving the funds that support that consumption produces larger 
differences between rich and poor people. Thus, the estate tax 
is illiberal because it undermines rather than advances the 
liberal egalitarian objective of equality of economic 
opportunity.
    2) While higher wealth transfer taxes might reduce the 
level of inter vivos gifts, and other tax law changes could be 
made to penalize the spending behavior of rich families, it 
currently is both practically and politically impossible to do 
so. On the one hand, analysts are becoming increasingly aware 
of the intergenerational focus of much current saving behavior 
at all income levels. Liberals should promote the creation of 
transferable wealth among the less advantaged. On the other 
hand, politicians are becoming increasingly aware of how much 
voters want taxes to fall, not rise. The estate or inheritance 
tax has been repealed in Australia, Canada, Israel, and 
California; and the movement for tax reform is a spreading, 
worldwide movement.
    3) There will always be differences between the starting 
conditions of people in a non-ideal world.
    If liberal egalitarians attempted to eliminate all the 
differences that stem from intergenerational wealth transfers, 
they would risk leaving the least advantaged even worse off 
than they were before. Not only would confiscatory taxation 
reduce the consumption behavior of wealthy people, thereby also 
reducing employment and incomes among poorer citizens, but it 
would depress the amount of economic capital as well, thereby 
reducing economic expansion and income growth, both of which 
are central to improving the conditions of the least 
advantaged.
    4) ``[It] is the use and not the mere concentration of 
wealth that threatens reasonable liberal values.'' \11\ 
Generally speaking, the accumulation of savings and the 
promotion of earnings that underlie the growth of savings are 
``goods'' that liberals like. Earnings and savings create a 
``common pool'' of resources that can be used to promote 
improvements in the general welfare through public and private 
means. Liberals generally regard the consumption behavior of 
the wealthy as objectionable; thus, wealth transfer taxation, 
which attacks savings and promotes wanton consumption, is 
wholly ill-suited to the attainment of an ideal liberal 
society.
---------------------------------------------------------------------------
    \11\ McCaffery, ``The Uneasy Case for Wealth Transfer Taxation,'' 
p. 296.
---------------------------------------------------------------------------
    5) The best tax policy that liberal egalitarians could 
pursue, if attaining liberal social and political objectives 
truly motivates the liberal program, is one that taxes 
consumption, not savings. McCaffery writes that ``[b]y getting 
our reasonable political judgments wrong--by taxing work and 
savings while condoning, even encouraging large-scale use 
[consumption]--the status quo impedes the liberal project.... 
The real threats to liberty and equality from private 
possession alone turn out, on closer scrutiny, to relate to 
possession qua potential or actual use, each of which can be 
addressed--indeed, can best be addressed--in a tax system 
without an estate tax.'' \12\
---------------------------------------------------------------------------
    \12\ Ibid.; emphasis in original.
---------------------------------------------------------------------------
    Not only, then, is the estate tax inconsistent with a 
liberal program of promoting quality of economic condition, but 
it encourages behavior that works against liberal objectives. 
It supports consumption and depletion by penalizing savings and 
earnings. it encourages the kind of strange world where it 
costs less for a millionaire like Steve Forbes to spend $30 
million of his own money on a presidential campaign than to 
save $30 million for his children's future--an investment upon 
which he will pay 55 percent transfer tax as opposed to a 
campaign expenditure upon which no additional taxes are ever 
levied. How many new jobs and new businesses did Mr. Forbes's 
campaign create as opposed to the same amount saved in a bank 
that lends the funds to entrepreneurs and business managers? 
Liberals and conservatives are beginning to answer this 
question in precisely the same way.
      

                                


    Chairman Archer. Thank you, Mr. Beach, and you certainly 
are the appropriate person to wind up this hearing today with 
your expertise in this field. I believe, personally, that if it 
were not for revenue implications--and that's what you 
addressed to a great degree in your testimony--we would be 
pursuing repeal of the death tax.
    Mr. Beach. I agree.
    Chairman Archer. And that the majority in this Congress, a 
majority that has had a new approach to things beginning in 
January 1995, would be supportive of that.
    Mr. Beach. Yes.
    Chairman Archer. But we do have to deal with the revenue 
constraints, and we do have to deal with the official estimates 
and not the estimates that come from Heritage even though in 
the end the estimates coming from Heritage, may prove to be 
more accurate. We have that limitation.
    Mr. Beach. That's right.
    Chairman Archer. And we are limited by the constraints of 
the Budget Act, such that--as I've been saying over the last 
few days--we cannot risk tipping the balance into a deficit 
again in this country. We're on the threshold of a balanced 
budget, which to me is a millennium in itself. It's a dream 
that I had when I came to Congress in 1971, but only a dream, 
and it is going to become a reality. We must adhere to that for 
the benefit of our children, and the death tax is relative to 
what's going to happen to our children too, which is awfully 
important. I hope that your data will be factored by CBO and 
the Joint Committee when they undertake their estimates on 
whatever proposal comes before the Congress, but we are forced 
to live with those official estimates of the Joint Committee 
and CBO. And as a result, even though it is a relatively small 
percentage of the revenue that comes into the Federal 
Government, it still is a significant amount of money unless we 
can get those estimates changed, so I personally will welcome 
your input, and I hope that it will be considered very 
carefully by the estimating agencies of the government.
    I thank all of you for your testimony, because I've said 
over and over again now for 2 or 3 years that the income tax is 
bad for this country because it puts all Americans in a tax 
trap: the harder you work, the longer you work, the more you 
pay, and that's wrong. But when you add the death tax on top of 
it, it becomes the harder you work, the longer you work, the 
more you save, the more you pay, and that is doubly wrong. That 
creates an environment that works against the best interests of 
all Americans, not just the producer but those who benefit from 
that production by having gainful jobs and the ability to 
support their own families. To me, that's the essence of what 
our country stands for: to encourage a work ethic, to encourage 
savings, and, thereby, to create more wealth that can be shared 
by all the people in this country.
    So, I am completely with you philosophically on what we 
need to do, but we have to work through this estimating process 
and these revenue estimates if you----
    Mr. Beach. If I could just have one comment on that, Mr. 
Chairman. First of all, we've been blessed to work very closely 
with the Joint Committee and to learn how they work with their 
staff, and this Committee is well served by the Joint Committee 
staff. The revenue estimates I could disagree with, but the 
level of disagreement would be under $1 billion per year. But 
it is true--and I think your economists will privately tell you 
this as well--that here we're dealing with a tax issue that 
more even than the income tax has an economic story that needs 
to be understood. So, let me recommend this--knowing your 
rules, and knowing that you need to work with the static--what 
I call the static estimates--to ask the Joint Committee to do 
what it did last year and that is to bring several groups 
together each posed with the problem, measure the effects of 
the elimination of the estate tax, and have that report 
produced by whoever will now be the Chief of Staff and given to 
this Committee to inform them of the range of estimates--ours 
is one of those--that come from repeal. I think that 
information would be very informative to the Committee. It 
would do two things: It would move the estate tax forward, and 
it would also move this Committee forward, I hope, more closely 
to consensus, dynamic revenue estimating.
    Chairman Archer. Well, we began, 3 years ago, to get more 
behavioral response into the estimating process, as I mentioned 
during the discussion on the marriage penalty, and I'm pleased 
about that because I've been Chairman of the Joint Committee on 
Taxation as well as Chairman of the Ways and Means Committee, 
and I believe we should always strive for accuracy. I don't 
want something to come out because it weighs in favor of what I 
believe in that isn't accurate. That means that we do have to 
take into account behavioral response, and in the end we have 
to bridge the disconnect between the CBO and Joint Committee, 
and that disconnect is as follows: that the CBO, today, has a 
responsibility for the macroeconomic impact; that is, how many 
more jobs are going to be created, and how much extra income 
tax will flow into the Treasury as a result of whatever we do? 
The Joint Committee does not have the ability to do that, nor 
do they have, under the law, the responsibility to do that. 
They must accept whatever the baseline is that the 
Congressional Budget Office puts out, and then they must 
overlay their estimate as to the specific tax change, and the 
baseline that the CBO puts out is not changed to accommodate 
what impact the tax change will have on the economy. Now, 
that's our responsibility; to find a way to overcome that, and 
we're in the process right now of trying to work through that, 
but our goal should always be accuracy, and I just want to 
assure that I'm going to do everything I can to see that 
happen.
    Mr. Hulshof.
    Mr. Hulshof. Thank you, Mr. Chairman. Thank each of you for 
being here, and Ms. Mizell, it's great to have your supporters 
here. It sounds like that straight-A 9-year-old fourth grader 
might have a future in politics someday.
    Mr. Beach, I want to be a devil's advocate for the brief 
moments I have, and I want to be, just for purposes of this 
question, as a hard as it is for me, an unrequited tax liberal.
    Mr. Beach. All right.
    Mr. Hulshof. And here is their argument: If the principle 
objective of our U.S. tax policy is to expand economic 
opportunities for disadvantaged Americans, and the way we do 
that is to redistribute income from one segment to another, 
then doesn't your proposal to repeal--and, again, this is a 
hypothetical--the fact that you're trying to repeal the death 
tax--shouldn't the Bill Gates of the world be required to pay 
to help provide economic opportunity for those on the lower 
rungs of society? What is the response to that liberal tax 
argument?
    Mr. Beach. Well, thank you for that question, and I know, 
Mr. Hulshof, that that was difficult question for you to ask. 
[Laughter.]
    It's an interesting response. The tax rate of the estate 
tax is so high that it does several things if you're wealthy. 
First of all, it tells you, ``Don't save your money, spend it 
today.'' So instead of saving money that creates jobs for 
ordinary Americans; that expands the economic pie--and by the 
way, that expands the income taxes that come into the Federal 
Government--what we have is a signal sent by the estate tax, 
``Buy that cigarette boat; go to that vacation home in Vale, 
and buy expensive art in London.'' In other words, it supports 
consumption expenditures rather than savings. So, it doesn't 
have the effect that you would expect it to have on wealthy 
people. Now, wealthy people also have this advantage: They can 
hire Harold Apolinsky; they can hire the high-priced 
accountants and lawyers which allow them to find out early in 
life that they're going to have this problem and then to set in 
place a lifetime plan which is oftentimes very expensive of 
avoiding the 55, the 50, even the 35 percent tax rate. So, they 
have that ability, and the people that you've heard today 
generally do not; they're surprised by that tax. And then they 
can distribute their money through gifts and trusts and other 
kinds of things, again, expensive to their children and to 
other people. What happens when that happens? It maldistributes 
wealth. It perpetuates wealth just like the consumption of 
wealth maldistributes consumption.
    So, I think--and there are many other responses I could 
make here, but if you go down all of these responses and you 
talk to someone who's on the liberal side in a quiet moment in 
a bar perhaps, they have to conclude, ``This is the tax I have 
to oppose,'' because it is keeping people from entering the 
work force. It is telling people to consume and to--you know, 
conspicuous consumption, and we lots of pictures from Aspen and 
Vale are troublesome sometimes. It is undermining the income 
tax; it is hurting blacks and women, minority entrepreneurs, 
all of them.
    Mr. Hulshof. How so? How does repeal of the death tax--how 
would help the disadvantaged or minorities?
    Mr. Beach. Well, if I'm--let's suppose that I'm a Hispanic 
person and I have worked and saved and now I've opened a 
business and 20 years later this business is a big business for 
me; I've hired 5 or 6 people. Why have I done that? To provide 
a better life for my children. That's really the overriding 
thing. The intergenerational consideration of parents overrides 
money any day; trumps it.
    Let me give you the story of Wen Trac. She escaped from 
Indochina when she was 13 years old; illegally entered the 
United States--this is a documented case--and began to work the 
streets in Seattle--it was the only thing she knew how to do. 
She saved some money and she opened a bucket and washerboard 
business, and by the time she was 30 she had enough money to 
open a storefront drycleaning business; married, two daughters. 
Now, she's 72 years of age. She has two drycleaning businesses. 
She has learned that she's going to have to liquidate the 
entirety of her holdings in order to pay the estate tax. All of 
her savings was in that business, not in the form of cash, but 
in the form of a job for her two daughters, and those two 
daughters are now going to have to go back--maybe on the 
street, but certainly not where Wen Trac wanted them to go.
    And we all know the famous story of Mr. Thigpen. He was in 
the tree business, and he and his wife of 40 years working up a 
business--treegrowers of the year twice in a row. This is a 
wonderful business. Liquidating that business, and it's a very 
strong prospect. Mr. Thigpen, by the way, is a grandson of 
slaves that his son is going to have to go to work for one of 
the local Mississippi farmers. Now, they may be a white farmer.
    Is that the outcome that people on the liberal side want? 
Is that what they want for Wen Trac or the Hispanics or for the 
African-Americans? It's that contradiction which led Mr. 
McCaffery to depart and say, ``This is not consistent with the 
liberal vision of what taxes should do.'' We have spend 70 
years now building a Tax Code that would help disadvantaged 
people and redistribute wealth. This is wrong; it is 
contradictory; it is inconsistent; it has to be excised from 
the body of Tax Code in order for the rest to be consistent.
    Mr. Hulshof. Well, I appreciate that, and your description 
of this conspicuous consumption suddenly brings the 
realization--my parents, I think, just put a new bumper sticker 
on their car that says, ``I'm spending my children's 
inheritance.''
    I want to thank Mr. Chairman for the time and thank each of 
you for being here.
    Chairman Archer. Well, thank you, Mr. Hulsolf, and I'm 
grateful to all four you for the input that you've given the 
Committee today.
    I want to make one last comment, and that is relative to--
was it McCaffery that you said, Mr. Beach?
    Mr. Beach. Yes, Mr. Chairman.
    Chairman Archer. Who identified himself as a contemporary 
liberal and a historic liberal, or what was the other?
    Mr. Beach. Classical as well as contemporary.
    Chairman Archer. Classical as well as contemporary. And I 
would say that that is an oxymoron----
    Mr. Beach. Well, that may be.
    Chairman Archer [continuing].--because I would refer 
everyone in this country to read the recent book on Thomas 
Jefferson called American Sphinx. He was the classical liberal, 
and I am identified as an 18th century liberal, and in today's 
contemporary times I'm identified as a conservative. There is 
no connection between the classical liberal and the 
contemporary liberal because Thomas Jefferson said, when the 
Constitution was being framed, No. 1, the Federal Government 
should never have any taxing authority. He was the classical 
liberal. The Federal Government should have no taxing 
authority. And then he, furthermore, said, during the creation 
of the Constitution, to his friend James Madison, ``Godsend 
that our Nation never have a government it can feel.''
    Now I say to all of you, do you feel the estate tax, the 
death tax? Do you feel the income tax? Do you feel the 
government regulations? Do you feel the government programs 
from Washington? And I think the answer is very clear.
    Thank you very much. I wish you well.
    The Committee will be adjourned.
    [Whereupon, at 3:50 p.m., the hearing was adjourned subject 
to the call of the Chair.]


                        REDUCING THE TAX BURDEN

                              ----------                              


                      WEDNESDAY, FEBRUARY 4, 1998

                          House of Representatives,
                               Committee on Ways and Means,
                                                    Washington, DC.
    The Committee met, pursuant to call, at 10 a.m., in room 
1100, Longworth House Office Building, Hon. Bill Archer 
(Chairman of the Committee) presiding.
    Chairman Archer. The Committee will come to order. We're 
still awaiting our first witness, but in the interim, I would 
like to make a few comments and then recognize Mr. Coyne for 
what comments he might like to make.
    Today we hold the second in a series of hearings on 
proposals to reduce the tax burden on the American people. 
Taxes as a percentage of gross domestic product this year are 
at the highest level in our Nation's history in peacetime.
    Disappointingly, the President's budget increases taxes to 
an even higher level in 1999. High taxes represent a moral and 
a social challenge to families that are struggling to make ends 
meet. The more the government takes, the less the families have 
to invest in themselves, their children, their retirement, 
their health care, their education, and their communities.
    This year I intend to do two things: reduce the national 
debt and provide tax relief. If we fail to do both, millions of 
middle-income taxpayers, especially those who are planning for 
their retirements, will suffer.
    When the government takes away the resources people were 
counting on to help themselves, the people will turn to big 
government to solve their problems. High taxation creates an 
endless cycle of public dependency and too big government.
    Isn't it better to pay down the debt and reduce taxes so 
people have more money to spend on their own child care needs, 
health care needs, and everyday needs? They should be free to 
invest this money themselves.
    Today our hearing will look at tax rates--what they are, 
and what they should be. The Tax Code has five statutory tax 
rates, but according to a report released today by the Joint 
Committee on Taxation, 21 hidden tax provisions force more than 
33 million Americans to pay higher taxes than they thought. 
These sneak attack tax hikes are akin to false advertising by 
the government.
    One in four taxpayers aren't in the brackets that they 
thought they were. For example, a senior citizen earning 
$30,000 a year who thinks that he or she is in a 28 percent tax 
bracket really pays a marginal rate of 42 percent, thanks to a 
phaseout of the exclusion for Social Security benefits. Five 
million seniors suffer that fate.
    A single parent making $40,000 a year with 2 children in 
college who thought that he or she was in the 15 percent 
bracket will pay a marginal rate of 53.5 percent, 53 and a half 
percent, due to the phaseout of the Hope scholarship that they 
are involved in. 1.2 million Hope scholarships taxpayers are 
hit by this sneak attack tax hike.
    The list goes on and on, but that's just under the regular 
rate. There's also the two-rate alternative minimum tax, which 
can kick in at unpredictable times.
    What throws you into the AMT? Three major things: paying 
State and local taxes, having children, and getting sick. Do 
those sound like tax shelters? I don't think so.
    According to Joint Committee estimates, the individual AMT, 
which applied to only 414,000 taxpayers in 1995, will hit 8.8 
million in the year 2008. And that's just the taxpayers who 
will pay the AMT.
    There are also millions more who will lose some or all of 
their child credit, Hope credit, lifetime learning credit, 
dependent care credit, and other tax credits each year because 
credits cannot reduce regular tax liabilities below the AMT 
liability. The AMT is a tax hike time bomb. And it's 
disappointing that the President's budget leaves it ticking.
    Finally this morning we'll hear about a proposal to protect 
taxpayers who make as little as $26,000 a year by lowering the 
28 percent tax bracket to 15 percent for millions of Americans. 
For every $5,000 the 15 percent tax bracket is expanded, each 
taxpayer affected would save $650.
    This across-the-board, middle-class tax cut would let 25 
million Americans have more money to invest in themselves, 
their children, and their communities. It's another reason why 
reducing taxes solves more social problems than increased 
spending.
    Let me just close with a reminder as the Committee weighs 
the merits of various tax proposals. I intend to be 
conservative. I am not going to over-promise the American 
people and create unrealistic expectations. I will never, I 
repeat, never, tip the budget out of balance. And I will favor 
proposals that simplify the Tax Code.
    I will say to my colleagues that all of us are in for a 
rude awakening when we learn that the budget law, the PAY-GO 
provisions, which is the law of the land today, prohibit us 
from using any surplus moneys for tax reduction. And that in 
itself, unless it is changed, will severely limit the ability 
of this Committee to create a tax relief bill. I will add also 
that that same budget PAY-GO provision prohibits us from using 
any savings in discretionary spending for tax relief.
    I am going to do all that I can to see that this law is 
changed. But in the interim, it is going to be very, very 
difficult to be able to pass a tax reduction bill unless we 
simply increase taxes on somebody else, which results in no net 
tax relief. And that is not a desirable position for this 
Committee to take.
    So, having said that, I now recognize Mr. Coyne for any 
statement that he might like to make on behalf of the Minority.
    Mr. Coyne.
    Mr. Coyne. Thank you, Mr. Chairman, for the opportunity to 
make this statement on behalf of the Ranking Member, Mr. 
Rangel.
    As we begin this hearing on Federal tax burden and as we 
begin putting together the tax component of the fiscal 1999 
budget, I want to urge the Committee to take a serious look at 
the recommendations contained in President Clinton's budget 
regarding taxes.
    I believe that there is fairly broad bipartisan support for 
many of his provisions; for example, the low-income housing tax 
credit. Our colleagues Mr. Ensign and Mr. Rangel have 
introduced legislation to increase the State volume limitation 
on the low-income housing tax credit. I am a cosponsor of the 
bill, and there is a great deal of bipartisan support for the 
low-income housing tax credit.
    I would ask the Chairman to hold a hearing on this issue 
and to include this provision in the Chairman's mark that he 
will eventually present to the Committee.
    The President's budget request also recommended an 
expansion of the education zone program that was included in 
last year's Taxpayer Relief Act. This expansion would provide 
needed assistance to State and local governments in meeting the 
need to repair and construct public schools. Addressing this 
issue through the expansion of last year's act would help our 
community schools while minimizing bureaucracy and 
administrative costs.
    Many of us hope that there will be bipartisan interest in 
addressing the issue of tax credits for school construction 
bonds. I would also ask the Chairman to consider including this 
provision in his mark as well.
    The President's budget request included tax provisions to 
assist working families in meeting child care expenses. This, 
too, is an issue of bipartisan concern and interest. I hope 
that we can develop a bipartisan child care initiative similar 
to the one suggested by the President.
    The President's budget also proposes an extension of 
expiring Tax Code provisions like the research credit, the work 
opportunity credit, the welfare-to-work credit, and the 
brownfields tax incentives. I would hope that we could work 
together in a bipartisan fashion to address these issues as 
well.
    The hearings that we are currently engaged in seem to be 
designed to highlight some of the problems that exist in the 
current tax system. Such hearings can be very helpful to the 
Committee in suggesting important focal points for our tax 
reform efforts.
    Some of the issues that are being raised, however, like the 
marriage penalty, have been discussed in this Committee as long 
as I have served on it. We all agree on the nature of the 
problem and the need to fix it. The sticking point has always 
been how to fix such problems in a fiscally responsible way.
    I look forward to the Chairman's proposal for solving this 
difficult question, and I hope that we can work together to 
address it.
    Thank you, Mr. Chairman.
    Chairman Archer. The Chair thanks the gentleman for his 
statement. And now, without objection, any other Member will be 
permitted to insert a written statement into the record.
    [The opening statement of Mr. Ramstad follows:]

Statement of Hon. Jim Ramstad, a Representative in Congress from the 
State of Minnesota

    Mr. Chairman, thank you for your leadership in examining 
the tax burdens confronting American families.
    I especially appreciate this focus on tax rates, which is 
fundamental to discussions of tax fairness.
    We know that more and more families are going to be pushed 
into alternative minimum tax situations, which is probably the 
only thing on earth worse than paying the ordinary income tax.
    And I am pleased we will be looking into the ``hidden 
rates'' in our tax code that effectively raise the tax burden 
beyond statutory rates.
    As you point out, Mr. Chairman, Americans are now paying 
more in taxes as a percentage of GDP than at any peacetime in 
history. I look forward to our discussion today and in the 
coming weeks, as we explore critical tax issues facing American 
families.
    Thank you, Mr. Chairman.
      

                                


    We now turn to our first witness, one of our own 
colleagues, Congressman John Thune. John, we're happy to have 
you before the Committee today, and we're pleased to receive 
your testimony.
    I will say to you and for the benefit of any subsequent 
witnesses that the rules of the Committee are not too different 
from other Committees. We're going to ask you to keep your oral 
testimony to 5 minutes. And the yellow light will come on in 
front of you when there's 1 minute to go, and the red light 
will come on when 5 minutes have expired. Your entire printed 
statement will, without objection, be inserted in the record. 
And that will apply to all witnesses.
    So we're happy to have you, John. You may proceed.
    Mr. Thune. Thank you, Mr. Chairman and Members of the 
Committee.

 STATEMENT OF HON. JOHN R. THUNE, A REPRESENTATIVE IN CONGRESS 
                 FROM THE STATE OF SOUTH DAKOTA

    Mr. Thune. I do appreciate as most of you I think should 
have a copy of my written statement. And I will try as best I 
can to explain briefly these proposals and summarize my 
comments.
    Let me just start by saying that the reason I think we're 
having this discussion today is that we are for the first time 
in about 30 years in a position where we're talking about 
operating in the black, potentially having a surplus. And any 
time you do that, it's a situation where I think for some 
politicians, that's a dream, but for the taxpayers, it's a 
nightmare.
    My concern has been all along with respect to this issue 
that we look at putting aside money to retire the debt, to 
repay the trust funds. And, in fact, I am cosponsoring 
legislation which would do that here in the House.
    But I sort of got interested in this whole subject where 
these bills are concerned as I was listening some weeks and 
months ago to many of the President's proposals for new 
spending. The thing that struck me about that was that I think 
it's a very dangerous precedent to start embarking on a course 
of new spending because we are doing well today and building in 
a lot of new government programs into the base assuming that at 
some point in the future, we'll have the revenue to support 
those programs. And I'm not sure at this point in time we're 
prepared to make that assumption.
    So, as an alternative to that, people would ask me, ``Well, 
if you don't like what the President's proposal is with respect 
to child care, what do you have as an alternative?'' And so we 
started to think about that.
    Really, what we came up with were a couple of proposals 
that I think address the need but do it in a very different 
way. And that is to allow individuals and families to make the 
decisions about how they want to address those needs in their 
lives, rather than having a government solution to it. And so 
we drafted a couple of bills.
    Of course, let me just say also that I agree with you, Mr. 
Chairman, that anything that we do ought to be in the context 
of a balanced budget. We should not in any way finance any tax 
relief with our children's future. And so to the extent that we 
are able to do anything, I think it's going to mean it's 
because we have the room to accommodate and absorb within the 
budget any tax relief that we might put out there.
    Having said that, the two bills that I would bring before 
you today really are an attempt I think to do something which 
is sort of novel around here. One of the things that troubles 
me the most about many of the President's proposals is this 
obsession with targeting, you know, that we're going to try to 
pick winners and losers and we're going to please this group if 
you act this way.
    These bills really are designed to distribute tax relief in 
a broad, even way. And, frankly, as I look at the first bill, 
which raises the caps, the income caps, at which the 28-percent 
rate would apply, it does, in fact, take a number of people, 
about 10 million filers we're told in this country, out of the 
28 percent bracket back to the 15 percent bracket and allows I 
think people who are trying to improve their lives, trying to 
do better to be rewarded and rather than as a disincentive push 
into a higher, much higher tax rate. And so it's a way which I 
think is very simple and clean, and that's the other aspect I 
like about that bill.
    With the whole issue of where we go in terms of tax policy 
in this country, I think it's the right approach. And when you 
made the comment in your opening statement about you're going 
to favor attempts to simplify the Tax Code, that, too, is a 
priority of mine and one reason why I think this particular 
proposal makes so much sense. It starts moving us to where we 
are getting more people paying at the 15-percent rate. And I 
think that's something that's a very positive development.
    The other bill just let me say briefly as well is a fairly 
straightforward, simple thing. And that is to raise the 
personal exemption for each individual taxpayer.
    When you sit down and figure out again who benefits from 
raising the exemption or from the raise in the thresholds, it 
does deliver tax relief to those in the middle- and low-income 
categories.
    Now, if you assume, of course, that the payroll tax comes 
off somewhere in the $60,000 range, you've got people who are 
caught in the middle there who are paying the payroll tax, the 
28-percent rate. And I think what this does is you are really 
penalizing people in the middle-income categories. This 
attempts to correct that, and it also, with the personal 
exemption bill, helps those who are currently in the 15 percent 
tax bracket.
    So in trying to summarize all of that, what we were looking 
at doing with these is an approach which is simple, which is 
fair, which is a broad-based approach, rather than a targeted 
picking winners and losers, which treats people the same, 
whether they are married or whether they are single.
    I've had people ask me ``What does a single person get out 
of all of this tax relief?'' Most of the bills that we pass we 
say we're doing this for married people or married with 
children.
    And, again, this is not discriminatory in the approach. 
It's very straightforward. It's across the board. And I think 
it's the right approach for the future as we move toward what I 
hope will be a debate about tax reform, about how we can 
further simplify the Code and make it more friendly to the 
taxpayer.
    Let me just close by saying that I don't know what we might 
have in terms of budgetary constraints, what we might be able 
to accommodate in terms of a tax relief proposal this year, but 
to the extent that we can, my own view is having looked at a 
lot of the tax relief proposals that are out there, that this 
makes the most sense in my view and moving toward the long-term 
goal again of simplifying the Tax Code and of doing tax relief 
in a way that benefits everybody in this country and not a 
select few.
    So, with that, I will close. Thank you for the opportunity 
to present testimony this morning.
    [The prepared statement follows:]

Statement of Hon. John R. Thune, a Representative in Congress from the 
State of South Dakota

    Chairman Archer, members of the Committee, thank you for 
the opportunity today to talk about tax reform proposals. This 
is indeed an important and timely topic. The American taxpayers 
are on the verge of realizing the most significant tax cut in 
over 17 years.
    The Taxpayer Relief Act of 1997 provided important relief 
for taxpayers at every stage of life from the cradle to the 
grave. At the same time, we did nothing to make the already 
complicated tax code any simpler. The passage of the Middle 
Class Tax Relief Act of 1998 and the Taxpayer Choice Act of 
1998 would help us make strides toward tax relief that is both 
broad and simple. I also hope these bills can be considered as 
an alternative to future targeted tax cuts and as an 
alternative to new government spending.
    In his State of the Union address, the President outlined 
his policy goals. Now that his budget is out, we know his ideas 
translate into some $150 billion in new Washington spending. 
Most of us can agree with his goals. From important priorities 
like caring for and educating our children, to providing health 
care for an aging population. These are important issues. On 
that we all agree.
    However, the differences are clear in trying to determine 
how best to achieve those goals--particularly with the prospect 
of a revenue surplus. The President's programs mark an 
incredibly expansive reach by the federal government into the 
lives of Americans. At the same time, he is highlighting the 
need to reserve any surplus for Social Security. While I agree 
Congress must begin to restore the Social Security Trust Fund, 
the juxtaposition of saving and spending sends mixed signals to 
me and to the American public.
    There is a responsible approach to dealing with any 
potential surplus. Accordingly, I support an approach that 
would apportion any potential surplus to paying off debt and 
restoring the integrity of the various federal trust funds, 
while reducing taxes on hard working Americans. Such an 
approach would allow us to give something back to the taxpayers 
of this country. After all, it is their money.
    If the President is able to build $150 billion in new 
Washington spending into his budget, it would necessarily 
follow that the President and Congress could give back the same 
amount to the taxpayers. The best solution to helping working 
families deal with tough issues like child care is to give them 
some money back and allow them to make the best decision about 
how to address this important need.
    In order to provide for some tax relief that is both fair 
and effective, my friend and colleague from the State of 
Washington, Congresswoman Jennifer Dunn, and I introduced two 
pieces of tax relief legislation that I believe will serve as 
alternatives to the new Washington spending in the President's 
budget. At the same time, these bills are consistent with the 
dual goals of distributing tax relief broadly and evenly and of 
simplifying an inordinately complicated tax code.
    The first bill, the Middle Class Tax Relief Act, addresses 
the concept of ``bracket creep'' by allowing working Americans 
to enjoy success rather than suffer the penalty imposed by a 
significantly higher tax bracket. The Middle Class Tax Relief 
Act would lower taxes by raising the income threshold at which 
the 28 percent tax bracket would apply. Simply put, more income 
of working Americans would be subject to the 15 percent tax 
bracket rather than the much higher 28 percent bracket.
    This legislation would help middle income-earners who are 
doing better and making more, but as a consequence, have 
graduated from the 15 percent tax bracket. Due to bracket 
creep, 28 cents of each additional dollar they earn now goes to 
the federal government. Under our legislation, many of these 
hardworking people would have an incentive to continue to be 
hard working people, by removing the threat of a higher tax 
rate on each additional dollar they earn.
    And this relief pays no attention to family status or other 
behavioral factors. Presently, the higher 28 percent tax rate 
applies to a single person making more than $25,350. Our 
legislation would raise that threshold to $35,000. For heads of 
household, the 28 percent rate starts at $33,950. We would 
raise that to $52,600. For married couples, the 28 percent rate 
starts at $42,350. We would raise it to $70,000.
    According to the Tax Foundation, over 29,000,000 filers 
would see their taxes lowered under this proposal, with the 
average savings of nearly $1,200 per filer. Over 10 million 
filers would move out of the 28 percent bracket to the 15 
percent bracket.
    A $1,200 tax cut could pay for sixteen weeks of child care, 
four car payments, and up to three months of housing bills, or 
fourteen weeks of grocery bills. That's real help for working 
families.
    The other bill I propose is the Taxpayer Choice Act. The 
Taxpayer Choice Act would raise the personal exemption from 
$2,700 to $3,400. The bill would reduce the taxable income of 
hard working Americans and allow them the freedom to choose how 
best to use the benefit of their tax reduction. By reducing 
taxable income by $700, this legislation would deliver broad 
based tax relief to taxpayers in the lower and middle income 
ranges.
    This change is straightforward and easy to calculate. For 
someone in the 15 percent tax bracket, I have estimated a 
savings of $100, or for a family of four, $400, or the 
approximate equivalent of five weeks of child care, a car 
payment, housing payment or five weeks of grocery bills. That's 
real relief and those are real life choices. For earnings in 
the 28 percent tax bracket, I estimated the legislation would 
provide $200 per individual, or $800 per family of four. That 
is approximately equal to ten weeks of child care, almost ten 
weeks of grocery bills, three car payments, or a couple of 
housing payments. As is true today, the deduction would phase 
out for wage earners whose incomes exceed $124,500.
    These bills both say to the people of this country: You 
have the freedom of choice. We trust your judgement. We believe 
you are capable of caring for your children and making good 
decisions about their future. We believe that as a matter of 
principle, America is infinitely better off when families and 
individuals are making decisions rather than Washington 
bureaucrats.
    As we reform the tax code, we should resist from targeting 
tax cuts. Too often, Washington has chosen to pick winners and 
losers as it moves to cut taxes. For too long Washington has 
tried to dissect our society as it attempts to do something as 
simple as lowering taxes. I supported last year's Taxpayer 
Relief Act, which had plenty of targeting in it. That law has 
made important changes in the tax code to lower the burden of 
many individuals and businesses.
    However, I believe we should strive toward a more perfect 
union and look for ways that allow all Americans--irrespective 
of marriage status, age, or heritage--to participate in the 
benefits of the greater freedom that comes with lower taxes. We 
should strive to make all taxpayers equal under the law.
    Furthermore, we should take a consistent approach to making 
the tax code simpler. Most of the tax relief proposals I have 
seen to date further complicate the tax code. Such efforts do 
not take us down the road toward a less intrusive and more user 
friendly government.
    I would like to come back to a point I made earlier. We 
agree with the President that working families in America need 
relief. However, the President has mistakenly interpreted that 
need as a request for more Washington spending and targeted tax 
cuts. What working families are really asking for is not more 
federal government, but relief from more federal government.
    At the same time, the two bills, the Middle Class Tax 
Relief Act and the Taxpayer Choice Act, both work toward a tax 
code that is more simple and more fair. Americans waste way too 
much time and money filling out tax returns. It's a dream for 
lobbyists, lawyers and tax preparers. It's a nightmare for the 
American taxpayer.
    The two bills I introduced yesterday are consistent with a 
simpler, fairer approach to the tax code. Now is the time to 
reform the code with a focus on inviting all Americans to 
participate in the benefits of a growing economy. These are our 
goals and I look forward to working with the Chairman and the 
rest of this committee to make these initiatives become a 
reality.
    Again, I thank the chair and would be happy to answer any 
questions you may have.
      

                                


    Chairman Archer. Thank you, Congressman Thune.
    Does any Member of the Committee wish to inquire?
    [No response.]
    Chairman Archer. If not, I compliment you on your 
testimony. We're glad to have your entire statement. And we 
wish you well.
    Mr. Thune. Thank you. We need your help. Thanks.
    Chairman Archer. The next panel is: Dr. J.D. Foster; Mr. 
Michael Mares; Dr. Martin Regalia; and Mr. Kenneth Kies. I 
think all of you were in the room when I cited the rules the 
Committee likes to operate under in these hearings. So I won't 
repeat them but just to welcome all of you en banc, as it was, 
to the Committee.
    And according to the schedule before me, Dr. Foster will 
lead off. So if you are prepared, Dr. Foster, we will be 
pleased to receive your testimony.
    I would like to add one other thing in that I'd like for 
each of you to identify yourselves and if you're representing 
anybody, to identify who that is before you commence your 
testimony.
    Dr. Foster.
    Mr. Foster. Thank you very much, Mr. Chairman.

 STATEMENT OF J.D. FOSTER, PH.D., EXECUTIVE DIRECTOR AND CHIEF 
                   ECONOMIST, TAX FOUNDATION

    Mr. Foster. I'm J.D. Foster, the executive director and 
chief economist of the Tax Foundation. I appreciate the 
opportunity to appear before the Committee today.
    I personally think we have a very good reason to be talking 
about tax reductions today. The economy is producing tax 
revenues far in excess of what was projected just a few months 
ago. As the President's budget makes clear, the surpluses that 
we're looking forward to in the near future are largely the 
product of these revenues. So I find a certain simple logic for 
using some of these tax revenues for tax relief.
    In considering tax cuts, I think we should take a couple of 
lessons from tax reform. One of these lessons is the imperative 
of focusing on economic growth. Yes, it's true the economy is 
doing well right now, but that's no reason why we shouldn't 
allow it to do better. I believe tax cuts should always be 
gauged by their ability to encourage economic growth.
    A second lesson from tax reform is tax simplification. 
Complexity in the Tax Code is wasteful, and it is wrong. The 
one sure consensus on tax reform is that the Tax Code is too 
complex. Tax reform is not the issue today, but the lessons are 
the same.
    No tax cut should complicate the Tax Code. Every tax cut 
should be oriented toward encouraging economic growth. Reducing 
marginal tax rates hits on both counts. Reducing marginal tax 
rates has many other benefits, however.
    If your concern is the tax burden on families generally, 
then tax rate reduction is your answer. If your concern is the 
marriage tax penalty, tax rate reduction will help without the 
complexity inherent in many of the solutions we have been 
talking about. If your goal is to encourage private savings, 
then again tax rate reduction is your answer.
    This Committee has heard for years that Americans save too 
little. Assuming this is true, high marginal tax rates must 
bear much of the blame. People respond strongly to incentives 
and disincentives. Why do you suppose brokerage houses 
advertise track records of yielding value to investors if 
investors are not swayed by yields?
    Why do supermarkets advertise their prices in the local 
paper? Because even reductions in the price of a can of soup or 
a bunch of bananas is going to alter consumer behavior.
    Even the Tax Code relies heavily on disincentives to 
function. It has a highly developed system of tax penalties to 
discourage tax cheating. If monetary penalties discourage tax 
cheating, why would we think that high marginal tax rates 
wouldn't discourage saving? Reducing marginal tax rates and 
thereby reducing the tax burden on saving will increase 
national saving.
    If your goal in tax reductions is to increase investment in 
plant and equipment, then again tax rate reduction is your 
answer. Reducing marginal tax rates reduces the cost of 
capital, particularly if those rate reductions are extended to 
the corporate tax system.
    The 1997 tax bill was criticized because many provisions 
affecting individual taxpayers introduced new complexities in 
the Tax Code. I've attached to my testimony the new rules on 
capital gains and losses. These new instructions are mind-
numbing. And it is wrong to inflict them on taxpayers.
    Despite these complexities, I believe last year's tax bill 
was a great victory for taxpayers. It slowed but did not halt 
the rising tide of taxes. And it may have ushered in a new era 
of tax cutting. However, it also opened up the Congress to real 
criticism for reasons beyond complexity.
    The bill created millions of winners, but it created a 
legion of the ignored. In appearance, this was rent seeking at 
its worst. This is not a game I believe the Committee or the 
Congress should be playing.
    The surest way to avoid this unseemly game while providing 
significant tax relief is to reduce tax rates. Tax rate 
reduction can be devised so that all taxpayers benefit and not 
just a select few.
    Tax rate reduction is simple. Many tax cut proposals are 
complex. Its simplicity encourages a sense of public fairness. 
Tax rate reduction is easy to explain and, therefore, easily 
garners public support. And tax rate reduction is very 
flexible. By lowering rates and raising bracket points, you can 
fine-tune the amount of tax relief that you want to give the 
American people.
    The opponents of marginal tax rate reduction are primarily 
special interests who want to get a bigger slice of the pie for 
their own constituencies, appropriate for a democracy but not 
the best way to reduce taxes in my opinion.
    Some might argue that we've reduced our statutory tax rates 
significantly over the last 17 years and we probably shouldn't 
go any further. This argument might be valid if we are only 
talking about whether to cut taxes. But once we're talking 
about cutting taxes, the argument has no merit.
    High marginal tax rates of the past were counterproductive 
and have been roundly repudiated. Today's rates have no basis 
in theory. They're a product of revenue requirements and 
politics. If the politics and the revenue requirements have 
changed and would permit tax reductions, then marginal tax rate 
reductions should be this Committee's primary goal.
    I believe it's time to create a virtuous cycle. Cut taxes 
to spur economic growth. Use the additional revenues from 
faster economic growth to cut taxes further and keep the 
process rolling. Cutting marginal tax rates I believe is your 
first best choice for tax reduction. They're your first best 
choice for creating this virtuous fiscal cycle.
    Thank you, Mr. Chairman.
    [The prepared statement follows:]

Statement of J.D. Foster, Ph.D., Executive Director and Chief 
Economist, Tax Foundation

    Mr. Chairman, Mr. Rangel, Members of the Committee, it is 
with great pleasure that I appear before this Committee to 
testify to the importance of focusing on tax rates as the 
centerpiece of any tax reduction program in 1998.
    I am the Executive Director and Chief Economist of the Tax 
Foundation. The Tax Foundation is a 60-year old non-profit, 
non-partisan research institution. Our mission is a simple one: 
To provide accurate and timely information on matters of 
federal, state, and local fiscal policy so that policymakers 
may make better policy.
    Mr. Chairman, we have good reason today to discuss tax 
reduction. We have an economy that is yielding tax revenues far 
in excess of official expectations of only a few months ago. 
This enormous revenue stream has created the possibility of 
budget surpluses in the near or very near future. While the 
caution previously urged by White House officials and others 
against a change in policy predicated on surpluses is well-
taken, it is perfectly appropriate for this Committee to 
consider what actions it might want to take should a surplus 
arrive earlier than expected. Further, as this happy prospect 
of surpluses is the product of extraordinary growth in tax 
receipts, there is a certain simple logic to using the 
surpluses for tax relief.
    Another reason to consider tax relief is simply that taxes 
are now at their highest levels in our nation's history. Last 
year, Tax Freedom Day arrived on May 9, the latest day ever. 
Tax Freedom Day is a simple representation of the total 
federal, state, and local tax burden. If all of the average 
taxpayer's income goes to pay his taxes beginning on January 
1st, then Tax Freedom Day is the day his annual fiscal debt to 
society is marked ``Paid In Full.'' Tax Freedom Day 1998 is 
almost certain to fall even later in the calendar.
    It's also important to rite last year's historic tax cut. 
Why is that? Because last year's tax cuts were slight indeed 
compared to the revenues produced by a strong economy.

                           Which Taxes to Cut

    There are, therefore, very good reasons to consider tax 
reductions at this time. In establishing a tax cut program, I 
believe the Committee should take a couple pages from the tax 
reform debates. The number one tax policy lesson from these 
debates is the great imperative to get the tax base right. 
Economic distortions due to taxation are minimized when the 
definition of the tax base is correct. On the other hand, 
whatever the tax rate, economic distortions grow with each 
error in the tax base.
    A second lesson from the tax reform debates is the 
importance of tax simplification both economically and 
politically. Complexity in the tax code is wasteful and it is 
wrong. If there is anything about tax reform about which there 
is a general consensus, it is this--the current tax system is 
too complex. Perhaps if the Members of the Committee were 
required to do their own taxes as a condition for sitting on 
this Committee, then the proliferation of complex tax changes 
would cease halt.
    Of course, tax reform is not the issue here, today. But the 
lessons remain the same. In an ideal world the Committee's 
focus ought to be to effect tax policy changes that simplify 
the system and that move the federal income tax in the 
direction of a proper definition of taxable income. That would 
mean, for example, increasing as far as possible the ability of 
taxpayers to exclude capital income from taxation, eliminating 
that abomination of federal tax policy known as the Alternative 
Minimum Tax, and integrating the personal and corporate income 
taxes.
    To the extent reality impinges on this ideal world, as it 
must in a democracy, I would urge the Committee to eschew 
narrow, targeted tax changes in favor of reducing marginal tax 
rates. Whatever distortions exist in the federal income tax, 
and they are legion, they are given greater r are the marginal 
tax rates to which taxpayers are subjected. Conversely, 
reducing tax rates reduces virtually all the distortions 
created by the tax code that rob the economy of vitality and 
rob the American people of greater opportunity and prosperity.
    This Committee is fully versed in the distortions to the 
economy created by the federal income tax and in the multitude 
of opportunities for greater prosperity lost as a result. 
Therefore, I will not discuss them in great detail. Instead, I 
will briefly enumerate the most important of these.
    Income taxes imposed on wages and salaries reduce the 
incentive to work and, conversely, increase the incentive to 
take one's leisure. At very low tax rates, one's incentive to 
work is about equal to one's economic contribution to society. 
At low tax rates the price of leisure is high. At high marginal 
tax rates, one's return to work a few more hour's drops rapidly 
and the price of leisure drops along with it. Reducing marginal 
tax rates directly reduces the disincentive to work.
    This Committee has heard for years that the people of the 
United States save too little. Assuming this is true, the 
federal income tax must bear much of the blame. Despite the 
many slivers of tax relief available to some saving, current 
law continues to heap layer upon layer of tax on additional 
saving. In most cases, income is taxed as earned irrespective 
of what one does with it. If it is saved, it is likely to face 
multiple layers of additional tax in the form of taxes on 
interest, dividends, corporate income, capital gains, and 
estate taxes.
    People respond to incentives and disincentives. Why do 
brokerage houses advertise their strong track records yielding 
value to investors if investors are not influenced by yields? 
Why would car companies advertise price reductions, year-end 
discounts, and low financing rates if they fail to elicit more 
sales? Why do supermarkets advertise their sales in the local 
papers? Because even reductions in relatively low-priced items 
can alter consumer choices.
    The tax code has a highly developed system of tax penalties 
to discourage taxpayers from cheating on their taxes. Why would 
we believe that monetary penalties would be effective in 
discouraging tax cheating, and yet not believe that monetary 
penalties would be effective in discouraging saving? Reducing 
marginal tax rates and thereby reducing the tax on saving 
directly reduces the disincentive to save.
    To demonstrate how widespread would be the benefits of 
marginal tax rate reductions, consider:
     If a major concern is the tax burden on families 
generally, then rate reduction will help.
     If your concern is the marriage penalty, or even 
the single tax filer penalty, then rate reduction will help--
without the complexity inherent in most solutions to this 
problem.
     If your goal is to encourage additional investment 
in plant and equipment, then rate reduction is your answer 
because it would reduce the cost of capital, particularly if 
the rate reduction is extended to the corporate income tax 
rates. Rate reduction reduces the tax on dividend and interest 
income and, if extended to capital gains, it can further reduce 
the tax burden on capital gains.
    The 1997 tax bill was criticized, not entirely unfairly in 
my opinion, for being a hodgepodge of tax provisions, some 
large and some small. Many of the provisions, particularly as 
they relate to individual taxpayers, introduced enormous new 
complexities into the tax code. I have attached to my testimony 
the new rules appearing in this year's tax instructions for. 
These instructions are mind numbing. Indeed, perhaps the 
Committee could use these instructions as a simple test of the 
qualifications of any person seeking employment at the Joint 
Tax Committee: They must be able to explain this procedure, in 
English, after reading it through no more than ten times. I 
suggest few would pass the test.
    I believe last year's tax bill was a tremendous victory for 
taxpayers. The tax cuts slowed, but did not halt the tide of 
rising taxes and may have ushered in a new era of tax cutting. 
However, last year's tax bill also opened the Congress to real 
criticism for reasons beyond complexity. The bill created 
millions of winners, but it also created legions of the 
ignored. In appearance, at least, this was rent seeking at its 
worst. This is not a game I believe the Committee or the 
Congress should be playing.
    The surest way to avoid a similar trap and yet to provide 
significant tax relief is by reducing tax rates. Tax rate 
reduction can be devised so that all taxpayers benefit, and not 
just a select and well-represented few. There are other 
important reasons to favor tax rate reduction:
     It is simple. A great many tax cut proposals would 
increase the tax complexity hurdle for those lucky taxpayers 
who would qualify.
     It's simplicity further enhances a public sense of 
its fairness. The Congress would not be perceived as bestowing 
relief on a select few.
     It is very flexible. Through the lowering of rates 
and raising of bracket points, the Committee has a great 
ability to fine-tune the amount of relief, again without 
complex special rules and effective dates.
     And it is easy to explain and therefore easily 
garners credibility and public support.
    The case for making tax rate reduction a major component of 
any tax relief bill is so compelling it is worth considering 
why it might not be favored in some quarters.
    One valid reason for emphasizing alternate tax cut 
proposals would be if the Committee was to choose to correct 
the tax base instead. As noted above, taxable income is badly 
defined under current law. Working towards an economically 
sound definition of taxable income should always be a policy 
goal of the first order.
    A second source of opposition to across-the-board marginal 
tax rate cuts might arise from special interests who will fight 
to get a bigger piece of any tax cut pie for their own 
constituencies. Even when their objectives are sound, as is 
often the case, they put this Committee in the terrible 
position of playing Santa Claus to a select few. A good example 
of such a special interest is the ``pro-family'' groups whose 
efforts resulted last year in the child tax credit--an item of 
zero consequence for economic growth and one that specifically 
targeted certain beneficiaries to the exclusion of all others. 
This year these same groups are back fighting to eliminate the 
marriage tax penalty. The marriage tax penalty relates to the 
tax burden of some married couples relative to the tax they 
would owe if they were ``single'' filers. It is problematic. 
Yet for every four couples suffering from the penalty, there 
are five couples who pay less tax because of their joint filing 
status than they would had they filed single.
    If the pro-family groups were fightiress the marriage bonus 
families and the marriage tax penalized. To my knowledge, they 
are silent on the bonus, and so they stand self-indicted as 
purely special interests. Across-the-board rate cuts, in 
comparison, would benefit proportionately those subject to the 
marriage penalty, those subject to the marriage bonus, and all 
single tax filers.
    Finally, some might argue that statutory tax rates have 
declined significantly over the past 17 years, and that further 
reductions are therefore not needed. If one opposes tax 
reductions generally, then this argument is at least 
defensible. However, if the question is not whether to cut 
taxes, but how, then this argument is without foundation. The 
high marginal tax rates of the past were found to be counter-
productive and have been roundly repudiated. Today's rates have 
no basis in theory. They are the product of revenue 
requirements and politics. If the politics and revenue 
requirements permit tax reductions, then marginal tax rate cuts 
should be the Committee's primary goal.
      

                                


[GRAPHIC] [TIFF OMITTED] T0897.082

      

                                


    Chairman Archer. Thank you, Dr. Foster.
    Our next witness is Dr. Regalia. And if you'll identify 
yourself, we'll be pleased to receive your testimony.
    Mr. Regalia. Thank you, Mr. Chairman.

STATEMENT OF MARTIN A. REGALIA, PH.D., VICE PRESIDENT AND CHIEF 
              ECONOMIST, U.S. CHAMBER OF COMMERCE

    Mr. Regalia. My name is Martin Regalia. I'm vice president 
and chief economist for the U.S. Chamber of Commerce. And we 
thank you for inviting us here today to testify.
    Well, few people actually like paying taxes. Most of us 
understand the need to pay tax to provide basic services, 
provide roads, infrastructure, national defense. However, we 
believe the government also has the responsibility to tax in a 
simple, efficient, and fair manner and to keep the overall 
burden on individuals and businesses as low as possible.
    Our Federal tax burden is too high. Total Federal receipts 
as a percentage of GDP were 19.8 percent in 1997, up from 17.8 
percent just 4 years ago. We agree with you, Mr. Chairman, that 
Federal taxes as a percentage of GDP need to be reduced. And we 
appreciate your leadership in this area.
    The maximum marginal tax rate for individuals is now a 
stifling 39.6 percent and applies to income derived from sole 
proprietorships, partnerships, limited liability companies, and 
S corporations.
    In addition, the corporate income tax rates vary from 15 
percent to a troubling 39 percent. Tax rates should be lower 
and less steeply graduated for all individuals and businesses.
    Furthermore, the Tax Code contains various hidden taxes 
created by phaseouts of tax benefits and tax floors for certain 
expenses.
    Some benefits phase out at a low level of income, yet are 
justifiable because they are intended specifically to benefit 
low-income taxpayers.
    Other benefits, however, such as itemized deductions and 
personal exemptions, phase out at middle and upper incomes and 
are really done so only to raise more revenue. While doing so, 
they create disincentives for work, savings, and investment. 
And the Tax Code should be adjusted to remove these 
disincentives.
    Social Security and Medicare taxes have climbed 
dramatically since their inception. The combined employer-
employee tax rate for self-employed individuals, which self-
employed individuals bear entirely themselves, is an astounding 
15.3 percent, up from 9.6 percent in 1970 and 3 percent in 
1950. These taxes should be reduced, or at a minimum, made 
deductible for income tax purposes.
    The Federal estate and gift tax is onerous tax which should 
be repealed or significantly reformed by further increasing the 
unified credit, reducing overall tax rates, and expanding the 
family-owned business exclusion.
    Another counterproductive tax is the alternative minimum 
tax. Originally envisioned as a method to ensure that all 
taxpayers pay a minimum amount of tax, the AMT penalizes 
individuals and businesses that save and invest, both 
requirements for economic growth.
    While the 1997 tax act made certain reforms to the 
corporate AMT, it did not fully repeal the depreciation 
adjustment or reform the individual AMT. The AMT should be 
eliminated. If that's not possible, additional reforms should 
be enacted, such as creating an exemption for unincorporated 
businesses, eliminating the depreciation adjustment, increasing 
the individual exemption amounts, and allowing taxpayers to 
offset their current year AMT with accumulated tax credits.
    The 1997 act provided approximately $151 billion of gross 
tax relief over the next 5 years. However, business and 
business-related tax and investment incentives accounted for a 
very small portion of those.
    We urge Congress to continue to reduce the Federal tax 
burden. And we think that there are a number of ways that they 
could do this. We think that permanently extending the research 
and experimentation and the work opportunity tax credits, 
further reforming Subchapter S rules, reforming the foreign tax 
rules, simplifying the worker classification rules, providing 
corporate capital gains relief, and increasing the equipment 
expense allowance are all areas for concern.
    Finally, we think that restructuring the IRS to make it a 
more efficient, accountable, and taxpayer-friendly organization 
is something that needs to be done now.
    Thank you very much.
    [The prepared statement follows:]

Statement of Martin A. Regalia, Ph.D., Vice President and Chief 
Economist, U.S. Chamber of Commerce

    Mr. Chairman and members of the Committee, my name is 
Martin Regalia. I am Vice President and Chief Economist of the 
U.S. Chamber of Commerce--the world's largest business 
federation, representing more than three million businesses and 
organizations of every size, sector and region.
    The U.S. Chamber appreciates this opportunity to express 
our views on how to reduce the federal tax burden of 
individuals and businesses. I will be addressing various 
aspects of this increasingly growing problem, including high 
statutory tax rates, ``hidden'' taxes buried throughout the 
federal tax code, the alternative minimum tax for individuals 
and corporations, and additional tax relief measures which 
would reduce the overall federal tax burden.

                   Our Overall Tax Burden is Too High

    Justice Holmes once commented that taxation is the price we 
pay for civilization. Let's face it, nobody likes paying taxes. 
However, most of us understand that our federal, state and 
local governments need to tax its citizens in order to provide 
basic services which we all want and expect (e.g., roads, 
national defense, schools). I suspect most individuals and 
businesses would not complain so much about taxes if they were 
fair, simple, properly administered, and promoted economic 
growth, saving, and investment. Unfortunately, our existing 
federal tax system fails to meet these basic criteria.
    Simply stated, taxes should be levied for the purpose of 
obtaining those revenues necessary to fund limited government 
expenditures in a way that minimizes their negative impact on 
taxpayers, overall economic growth and the international 
competitiveness of American business. History demonstrates that 
taxation carried to unreasonably high levels defeats its basic 
purpose by doing irreparable harm to the civilization and 
freedom that government is designed to protect. Aggravating the 
problem of overtaxation in America is the notion that the 
federal government wastes a good portion of its revenues on 
unproductive projects, services, and bureaucracies.
    The overall tax burden on American families and businesses 
is too high. According to the Tax Foundation, total taxes 
imposed on individuals as a percent of total income was almost 
35 percent in 1996. Federal taxes accounted for 23 percent, 
while state and local taxes accounted for 12 percent. Based on 
this study, Americans work almost three months every year to 
support the federal government.
    According to the Office of Management and Budget (OMB), 
total federal receipts, as a percentage of Gross Domestic 
Product (GDP), was 19.8 percent in 1997, up from 17.8 percent 
just four years earlier. Federal individual income tax 
receipts, as a percentage of GDP, has risen from 7.7 percent in 
1992 to 9.3 percent in 1997, while the percentage for corporate 
income tax receipts has risen from 1.6 percent in 1992 to 2.3 
percent in 1997. In addition, social insurance and retirement 
receipts, as a percentage of GDP, has increased from 1.6 
percent in 1950, to 4.4 percent in 1970, to 6.8 percent today.

                  Federal Tax Rates Need to be Lowered

    Federal individual income taxes are too high and need to be 
lowered. Generally, an individual's federal income tax 
liability is determined by multiplying his or her taxable 
income, or tax base, by the applicable tax rates, and then 
subtracting various tax credits.
    Overall income tax rates for individuals dropped 
significantly in the 1980's. The Economic Recovery Tax Act of 
1981 reduced the maximum statutory tax rate from 70 percent to 
50 percent, and the Tax Reform Act of 1986 further reduced it 
to 28 percent. However, the Tax Reform Act of 1986 also 
eliminated or limited certain deductions or exemptions, such as 
those relating to personal interest and passive losses, which 
expanded the tax base for many individuals.
    Since 1986, however, the maximum statutory tax rate has 
been increased, first to 31 percent in 1990, and then to 39.6 
percent (36 percent plus a 3.6 percent surcharge) in 1993. 
Deductions and exclusions for individuals, on the other hand, 
have not been increased in equal measure. This is a primary 
reason why the federal income tax burden on individuals has 
increased over the last few years.
    For 1997, a 15 percent tax rate applies to the first 
$24,650 of taxable income for single filers ($41,200 for 
married couples filing joint returns). The marginal tax rate 
then almost doubles to 28 percent for single filers with 
taxable incomes between $24,650 and $59,750 (between $41,200 
and $99,600 for married couples). The rate increases to 31 
percent for single filers with taxable incomes between $59,750 
and $124,650 (between $99,600 and $151,750 for married 
couples), and to 36 percent for single filers with taxable 
incomes between $124,650 and $271,050 (between $151,750 and 
$271,050 for married couples). For taxable incomes above 
$271,050, a maximum statutory 39.6 percent rate applies for 
both single filers and married couples. A taxpayer's effective 
maximum tax rate can be even higher when various phase-outs 
(e.g., certain itemized deductions, personal exemptions) are 
taken into effect.
    These tax rates are not only too high, but apply to most 
types of income, including those derived from a sole 
proprietorship, partnership, limited liability company or S 
corporation. This creates a disincentive for business owners to 
work longer hours and generate additional income since they 
realize that an ever increasing share of their income will be 
going to the federal government. At a minimum, legislation 
should be enacted to lower the maximum income tax rate on the 
reinvested or retained earnings of these business owners.
    Furthermore, the progressive nature of the federal income 
tax system causes many married dual-earner couples to be 
subjected to a ``marriage penalty''--that is, they pay more in 
combined income taxes than they would if they were not married 
and were filing single returns. This is simply unacceptable and 
needs to be remedied.
    The high rates of income tax imposed on corporations are 
just as troubling. The maximum federal corporate income tax 
rate is 39 percent, and applies to taxable income between 
$100,000 and $335,000. Taxable income in excess of $335,000 is 
subject to varying rates of 34 percent, 35 percent and 38 
percent. The taxable income of certain personal service 
corporations, including those that perform health, law, 
consulting, and engineering services, is taxed at a flat rate 
of 35 percent.
    To make matters worse, certain amounts of corporate income 
are subject to double taxation--first at the corporate level, 
and then at the individual level when non-deductible dividends 
are distributed to shareholders. Small or family-owned 
businesses may be able to characterize most or all payments to 
their owners as deductible wages, rather than non-deductible 
dividends. However, such payments would have to be deemed 
``reasonable'' compensation, and could be subject to a maximum 
individual income tax rate of 39.6 percent, as well as Social 
Security and Medicare taxes.
    Social Security and Medicare taxes, perhaps two of the most 
criticized taxes, have climbed dramatically since their 
inception. The combined employer-employee tax rate--which self-
employed individuals must bear entirely on their own--is 
currently 15.3 percent, up from 9.6 percent in 1970 and 3 
percent in 1950. The maximum taxable wage (and self-employment) 
base has also increased steadily, from $7,800 in 1971 for both 
Social Security and Medicare, to $68,400 today for Social 
Security, and an unlimited amount for Medicare.
    These two taxes have become a growing thorn in the side of 
American workers and businesses. Individuals must work harder 
and longer hours to fund these programs, which may or may not 
be fiscally sound when they retire. Regardless of whether 
Social Security becomes fully or partially privatized, we need 
to reduce the growing tax burden of this, as well as the 
Medicare, systems. At a minimum, such taxes should be 
deductible for income tax purposes in order to eliminate double 
taxation on the wage bases.
    The federal estate and gift tax is another tax which needs 
dramatic reform. This tax is extremely onerous, not only 
because it is triggered by death and is based on the value of a 
decedent's accumulated assets, but because its tax rates are so 
high and take affect at such a low threshold. For example, in 
1997, a tax rate of 37 percent applies once a taxable estate 
exceeds $600,000. The rate quickly climbs to 55 percent once 
the taxable estate exceeds $3 million. In fact, a 60 percent 
rate applies to taxable estates between $10 million and $21 
million.
    The estate tax should be repealed. If repeal is not 
feasible, significant reforms should be implemented. Such 
reforms include further increasing the unified credit, reducing 
overall tax rates, increasing and expanding the newly created 
``family-owned business interest'' exclusion to encapsulate 
more businesses, and broadening the installment payment rules.
    There are other federal taxes which have high rates of tax. 
These include the federal unemployment tax (FUTA), alternative 
minimum tax on individuals and corporations, capital gains tax, 
accumulated earnings tax, personal holding company tax and 
various excise taxes (e.g., airline ticket tax, fuels tax).
    All of these federal taxes create an enormous financial 
drain on American individuals and businesses and dampen capital 
formation, job growth and work initiative. While it would be 
difficult for us to state with exact specificity the ideal tax 
rate for each type of federal tax, we do support lower and less 
steeply graduated tax rates for all individuals and businesses.

                 ``Hidden'' Taxes Should be Eliminated

    In addition to the high maximum income tax rates, there are 
numerous provisions in the federal tax code which have the 
effect of increasing the effective marginal rates of tax on 
individuals and businesses. One of the more common forms of a 
``hidden'' tax is the phase-out of various tax benefits (e.g., 
credits, deductions, and exemption amounts).
    Tax credits that phase-out include the earned income tax 
credit, dependent care credit, adoption credit, and the newly-
enacted child and education tax credits. Tax deductions with 
phase-out ranges include those relating to individual 
retirement accounts (both deductible and non-deductible Roth 
IRAs), total itemized deductions, the $25,000 allowance for 
certain ``passive'' losses, and student loan interest expenses. 
Tax exemptions that phase-out include the personal exemption 
for both regular and alternative minimum tax purposes.
    The phase-out ranges for the above-mentioned tax benefits 
vary widely across the income spectrum. Some benefits, such as 
the earned income tax credit, phase-out at relatively low 
levels of adjusted gross income (AGI) (e.g., $30,095 for 
families with two children). Such phase-out levels are 
justifiable because the credits were intended specifically to 
benefit low-income taxpayers.
    Other tax benefits phase-out at middle- and upper-income 
levels. For example, in 1998, married couples who participate 
in employer-provided retirement plans are not eligible to 
deduct IRA contributions once their AGI reaches $60,000. 
Personal exemptions for single individuals begin to phase-out 
once their AGI reaches $121,200 in 1997 ($181,800 for joint 
filers). Certain itemized deductions begin to phase-out (up to 
80 percent) once a single individual's or married couple's AGI 
reaches $121,200 in 1997. There appears to be no direct 
correlation between these benefits and the levels of income at 
which they phase-out. The phase-out ranges make no economic 
sense, and appear designed solely to reduce the benefits' costs 
to the federal government or to act as revenue-raisers for 
other provisions in the tax code.
    In addition, the tax code contains several percentage 
``floors'' which must be exceeded before certain deductions can 
be claimed. For instance, qualified medical expenses are only 
deductible to the extent they exceed 7.5 percent of a 
taxpayer's AGI. Certain miscellaneous deductions, such as 
unreimbursed employee expenses and investment fees, must exceed 
2 percent of a taxpayer's AGI before they can be deducted. 
These floors affect all taxpayers and should be reduced or 
eliminated to allow taxpayers to claim legitimate deductions.

          The Alternative Minimum Tax Must be Further Reformed

    One of the most counter-productive taxes ever created is 
the alternative minimum tax (AMT). Originally envisioned as a 
method to ensure that all taxpayers pay a minimum amount of 
taxes, the individual and corporate AMT penalizes businesses 
that invest heavily in plant, machinery, equipment and other 
assets. The AMT significantly increases the cost of capital and 
discourages investment in productivity-enhancing assets by 
negating many of the capital formation incentives provided 
under the tax system, most notably accelerated depreciation. 
The AMT cost-recovery system is among the worst of 
industrialized nations, placing our businesses at a competitive 
disadvantage internationally.
    To make matters worse, many capital-intensive businesses 
are perpetually trapped in AMT as they are unable to utilize 
their suspended AMT credits. The AMT is essentially a 
prepayment of tax which is substantially unrecoverable for most 
businesses. In addition, those not subject to AMT must still 
expend valuable time and resources in order to maintain several 
depreciation schedules and calculate the AMT.
    Significant reforms of the corporate AMT were enacted in 
the Taxpayer Relief Act of 1997. ``Small'' corporations (those 
with average gross receipts of less than $5 million in 1994, 
1995 and 1996, $7.5 million in years thereafter) are no longer 
subject to the AMT. In addition, for all other corporations, 
depreciation recovery periods (e.g., 5-year property, 10-year 
property) used for AMT purposes are conformed to those used for 
regular tax purposes for property placed in service after 1998.
    The legislation, however, did not eliminate the AMT 
depreciation adjustment for recovery methods (e.g., accelerated 
versus straight-line depreciation). Therefore, depreciation 
will continue to be slower for AMT purposes than for regular 
tax purposes. Furthermore, the repeal of the depreciation 
adjustment for recovery periods only applies to assets placed 
in service after 1998. Therefore, all existing assets of 
corporate businesses will continue to be subject to this 
depreciation adjustment.
    Moreover, the recently-enacted tax law did not reform the 
AMT for individuals. A ``small business'' exemption was not 
created, the depreciation adjustment was not repealed or 
modified, and the AMT tax rates of 26 percent and 28 percent 
were not reduced. Furthermore, the AMT exemption amounts 
($33,750 for single filers, $45,000 for married couples filing 
joint returns) were not increased to keep up with inflation or 
to take into account the new child and education tax credits.
    As a result, many individuals will soon find themselves 
subject to a tax they never even knew existed. Sole 
proprietors, partners and S corporation owners will continue to 
be exposed since their business income flows through to their 
individual income tax returns. According to the Joint Committee 
on Taxation, the number of individual taxpayers subject to AMT 
is expected to increase from approximately 600,000 in 1997 to 
8.4 million in 2007, while the AMT tax burden is expected to 
grow from about $3.6 billion in 1997 to $18.4 billion in 2007.
    The best way to provide individuals and corporations with 
relief from the AMT would be to repeal it outright. If repeal 
is not possible, the AMT should be substantially reformed in 
order to reduce its harmful effects on businesses and 
individuals. Such reforms include: providing a ``small 
business'' exemption for individuals; eliminating the 
depreciation adjustment for both individuals and corporations; 
increasing the individual AMT exemption amounts; allowing 
taxpayers to offset their current year AMT liabilities with 
their accumulated minimum tax credits; and making the AMT 
system less complicated and easier to comply with. We urge you 
to enact these reforms as soon as possible.

                Additional Business Tax Relief is Needed

    The Taxpayer Relief Act of 1997 provided approximately $95 
billion of net tax relief ($151 billion of gross tax relief) to 
families and businesses over the next five years. Gross 
business-related tax cuts, however, only accounted for about 
$19 billion of the total. While we commend Congress for 
enacting the legislation, we urge it to continue reducing the 
overall federal tax burden on the business community. We agree 
with you, Mr. Chairman, that federal taxes, as a percentage of 
GDP, need to be reduced, and appreciate your leadership in this 
area.
    There are many other tax issues of great importance to our 
members, and we look forward to working with you to further 
them in Congress. These issues include:

Capital Gains Tax

    While the new tax law reduces the maximum capital gains tax 
rate for individuals from 28 percent to 20 percent (10 percent 
for those in the 15 percent income tax bracket), it also 
lengthened the holding period for long-term capital gains from 
12 months to 18 months. This holding period should revert back 
to 12 months, and rates should be further reduced, if possible. 
In addition, capital gains tax relief is still needed for 
corporations, whose capital gains continue to be taxed at 
regular income tax rates.
Equipment Expensing

    In 1998, businesses can generally expense up to $18,500 of 
equipment purchased. This amount will gradually increase to 
$25,000 by 2003. This expensing limit needs to be further 
increased, and at a faster pace, in order to promote capital 
investment, economic prosperity, and job growth.

Foreign Tax Rules

    While the new tax law contains some foreign tax relief and 
simplification measures, our foreign tax rules need to be 
further simplified and reformed so American businesses can 
better compete in today's global marketplace.

Individual Retirement Accounts (IRAs)

    While the new tax law expands deductible IRAs and creates 
nondeductible Roth IRAs, both types of IRAs need to be further 
expanded (e.g., increase contribution limits, eliminate phase-
out ranges) in order to promote saving and personal 
responsibility.

Independent Contractor / Employee Classification

    The current worker classification rules are too subjective 
and restrictive, and need to be simplified and clarified. We 
support the creation of a more objective safe harbor for 
independent contractors, while leaving the current 20-factor 
test and Section 530 safe harbors in tact.

Internal Revenue Service Reforming and Restructuring

    The overall management, oversight and culture at IRS needs 
to be changed in order to make it a more efficient, accountable 
and taxpayer-friendly organization. We support legislation 
which the House overwhelmingly passed in November and look 
forward to working with you towards its enactment.

Research and Experimentation (R&E) Tax Credit

    While the new tax law extends this credit through June 30, 
1998, it needs to be extended permanently, and further 
expanded, so businesses can better rely on and utilize the 
credit.

S Corporation Reform

    While the Small Business Jobs Protection Act of 1996 
contained many needed reforms for S corporations, such as 
increasing the maximum number of shareholders from 35 to 75, 
there are many other important reforms which still need to be 
enacted, such as allowing preferred stock to be issued and 
creating family attribution rules.

Self-Employed Health Insurance Deduction

    This deduction is scheduled to increase from 40 percent in 
1997 to 100 percent in 2007. We believe this timetable should 
be accelerated to give self-employed individuals a full 
deduction as soon as possible.

Work Opportunity Tax Credit

    This credit, which encourages employers to hire individuals 
from several targeted groups, needs to be permanently extended 
beyond its June 30, 1998 sunset date.

                               Conclusion

    Our long-term economic health depends upon sound economic 
and tax policies. Our federal tax burden is too high and needs 
to be significantly reduced. In addition, our tax system 
encourages waste, retards savings, and punishes capital 
formation--all to the detriment of long-term economic growth. 
As we prepare for the economic challenges of the next century, 
we must orient our current tax policies in a way that 
encourages more savings, investment, productivity growth, and, 
ultimately, economic growth.
    Thank you for allowing me the opportunity to testify here 
today.
      

                                


    Chairman Archer. Thank you, Dr. Regalia.
    Our next witness is Mr. Michael Mares. We're happy to have 
you here, and you may proceed.
    Mr. Mares. Thank you, Mr. Chairman.

  STATEMENT OF MICHAEL MARES, CHAIR, TAX EXECUTIVE COMMITTEE, 
       AMERICAN INSTITUTE OF CERTIFIED PUBLIC ACCOUNTANTS

    Mr. Mares. Good morning. Good morning, Members of the 
Committee. I am Michael Mares, chair of the AICPA's Tax 
Executive Committee. We appreciate the opportunity to testify 
today on hidden tax rates and the individual alternative 
minimum tax, or AMT.
    Let me begin with the AMT, one of the most complex parts of 
our tax law. The AMT is designed to ensure that taxpayers pay a 
minimum amount of tax on their economic income.
    In many cases absent the AMT, taxpayers taking advantage of 
special deductions and exclusions would pay little or no tax. 
However, since the AMT exemptions and brackets aren't indexed 
for inflation, more and more taxpayers have been snared in the 
AMT's web over the past few years.
    In many cases, it is difficult or impossible to calculate 
the AMT without a great deal of added effort and time. 
Furthermore, the inclusion of adjustments and preferences from 
passthrough entities compounds the problem.
    Aggravating the situation is the AMT impact that the 
Taxpayer Relief Act of 1997 will have on middle-income 
taxpayers. For example, the child credit, the Hope credit, and 
the lifetime learning credit will not be able to reduce AMT.
    The result is that, as our examples in Appendix C show, a 
married couple with less than $70,000 of income can pay an 
alternative minimum tax or, worse, a single parent with only 
$45,000 in income pays an $800 AMT. Can these problems be 
reduced or eliminated?
    We believe so and would offer the following separate 
recommendations: first, index the AMT brackets and exemptions; 
second, eliminate itemized deductions and personal exemptions 
as adjustments for AMT; third, reduce the regular tax benefits 
of AMT preferences for all taxpayers--for example, by 
lengthening the depreciable lives for regular tax purposes, the 
AMT adjustment could be eliminated--fourth, allow certain tax 
credits against AMT, such as the child credit and the tuition 
tax credits; fifth, provide an exemption for low- and middle-
income taxpayers from AMT if their adjusted gross income is 
less than $100,000; and, finally, consider the impact of AMT in 
all future tax legislation.
    Of course, repealing AMT would solve the entire problem for 
all individuals. We are also deeply concerned, as the Treasury 
pointed out, that AMT will apply to more and more taxpayers 
over the next few years, most of whom I could argue were never 
intended to be covered or affected by AMT.
    Since these taxpayers have little or no familiarity with 
the rules, it is likely that the IRS will need to allocate more 
resources to educate them and to answer their questions.
    The AMT also poses a compliance challenge to the IRS since 
many of the underlying adjustments or preferences appear 
nowhere else on a taxpayer's return. This makes verification of 
the calculation difficult.
    Another area of complexity is the hidden tax rate, also 
known as phaseouts of various benefits or credits over a wide 
range of incomes based on a variety of definitions of income. 
There is currently no consistency among phaseouts in either the 
measure of the income, the range of income over which the 
phaseouts occur, or the method of applying the phaseouts.
    Even filing status doesn't consistently affect tax 
phaseouts. For example, the individual retirement account 
deduction phaseouts vary for single individuals versus married 
couples filing a joint return. However, the phaseout range for 
the $25,000 passive loss allowance for certain rental 
activities is the same for both types of taxpayers.
    Further compounding the complexity is the fact that many of 
the phaseout ranges from married, filing separate taxpayers 
versus joint filers are not consistent.
    Simplicity can be achieved by eliminating the phaseouts 
altogether and, if necessary, making the politically difficult 
decision to raise tax rates to generate the needed revenue. 
However, significant simplification can be achieved by 
providing consistency in the measures of income, the range of 
income over which the phaseouts apply, or the method of 
applying the phaseouts.
    We suggest that there be three phaseout ranges: low-, 
middle-, and high-income taxpayers. Our written testimony in 
Appendices A and B contains our proposed ranges.
    We also suggest that the phaseout ranges for married, 
filing separate taxpayers, single taxpayers, and head of 
households be 50 percent of the phaseout range for joint 
filers. This would eliminate the marriage penalty as well.
    Finally, we recommend the deduction or benefit phaseouts 
evenly over the phaseout range. Phaseouts which are merely 
disguised tax rate increases create computational problems and 
frustrations at all levels of income. If they are to be 
retained, they should be standardized and applied consistently.
    This Committee has the opportunity as a result of these 
hearings to help the American taxpayer by eliminating or 
substantially reducing two areas of extreme frustration and 
complexity. The AICPA is willing to assist you in any way that 
we can to help resolve these issues.
    I will be happy to answer any of your questions. Thank you.
    [The prepared statement and attachments follow:]
    [GRAPHIC] [TIFF OMITTED] T0897.083
    
    [GRAPHIC] [TIFF OMITTED] T0897.084
    
    [GRAPHIC] [TIFF OMITTED] T0897.085
    
    [GRAPHIC] [TIFF OMITTED] T0897.086
    
    [GRAPHIC] [TIFF OMITTED] T0897.087
    
    [GRAPHIC] [TIFF OMITTED] T0897.088
    
    [GRAPHIC] [TIFF OMITTED] T0897.089
    
    [GRAPHIC] [TIFF OMITTED] T0897.090
    
    [GRAPHIC] [TIFF OMITTED] T0897.091
    
    [GRAPHIC] [TIFF OMITTED] T0897.092
    
    [GRAPHIC] [TIFF OMITTED] T0897.093
    
    [GRAPHIC] [TIFF OMITTED] T0897.094
    
    [GRAPHIC] [TIFF OMITTED] T0897.095
    
    [GRAPHIC] [TIFF OMITTED] T0897.096
    
    [GRAPHIC] [TIFF OMITTED] T0897.097
    
      

                                


    Chairman Archer. Thank you, Mr. Mares.
    Our final witness is no stranger to the Committee. His 
leaving the Joint Committee was a great loss for the country, 
but we're happy to have him back in a different role.
    Ken Kies, you are now recognized. You need to identify 
yourself in your new role for the record, and you may proceed.
    Mr. Kies. Thank you, Mr. Chairman.

     STATEMENT OF KENNETH J. KIES, MANAGING PARTNER, PRICE 
                         WATERHOUSE LLP

    Mr. Kies. Actually, I think I am here in my role of 
cleaning up work that I did not finish when I left. So I'm here 
in my individual capacity having recently departed my position 
as Chief of Staff of the Joint Committee on Taxation.
    My testimony centers on a study undertaken by the staff of 
the Joint Committee on Taxation on individual taxpayers 
concerning effective marginal tax-rate issues. The study was 
released yesterday.
    The study was requested by you, Mr. Chairman. You 
specifically asked that the Joint Committee staff identify 
situations where a taxpayer's effective marginal tax rate might 
differ from his or her statutory rate and the magnitude and 
impact of these differences.
    At the outset, let me explain what we mean by an 
individual's effective marginal rate. This concept differs from 
the Tax Code's five statutory marginal rates of 15 percent, 28 
percent, 31 percent, 36 percent, and 39.6 percent, which apply 
to a taxpayer's taxable income within a specified range.
    The effective marginal rate seeks to measure the increase 
or decrease in an individual's tax liability that results from 
an additional dollar of income. An effective marginal rate of 
40 percent would mean that a dollar of additional income would 
produce 40 cents of tax.
    In many cases, an individual's effective marginal rate will 
be higher than the so-called advertised statutory rate. This is 
because of various phaseouts, phase-ins, floors, and other 
provisions that limit the availability of deductions, credits, 
or exclusions based on an individual's taxable income. An 
example will help to illustrate.
    Take the case of the tax provisions requiring Social 
Security benefits to be included in taxable income as income 
rises above certain levels. For married taxpayers whose 
modified adjusted gross income exceeds $44,000, up to 85 
percent of Social Security benefits are taxable. When this 
couple reaches the $44,000 threshold, each additional dollar of 
income will cause an additional 85 cents of Social Security 
benefits to be included in taxable income.
    This effectively raises the Federal marginal tax rate to 
185 percent of the statutory rate because each dollar of 
additional income causes income to rise by a dollar while 
taxable income rises by $1.85.
    The Joint Committee study examines numerous provisions in 
the Tax Code that produce similar results. These include: 
phaseouts, phase-ins, and floors applicable to itemized 
deductions, personal exemptions, IRA contributions, and the 
child credits and educational tax credits added by the 1997 act 
among other provisions.
    All told, the Joint Committee study found that 33.2 million 
taxpayers, or one-quarter of all individual taxpayer returns, 
face effective marginal rates that are different from the 
statutory tax rates. Actually, taking into account the number 
of joint returns involved, approximately 50 million adult 
taxpayers are affected.
    The Joint Committee study also found that these differences 
are felt by taxpayers at all income levels. These differences 
have a real impact on individuals, as the Joint Committee study 
suggests.
    A chief concern is that high marginal effective rates can 
provide significant disincentives to work and save. For 
example, a retiree considering whether to take a part-time job 
may conclude that the payoff as subject to an effective tax 
rate that greatly exceeds the statutory rate is insufficient to 
offset the loss of leisure time and effort expended.
    Particularly harsh results can arise when a taxpayer is 
subject to more than one of the phaseouts at the same time. It 
is possible for the interactions of the phaseouts to create 
marginal tax rates that could be considered excessive.
    In one hypothetical example discussed in the Joint 
Committee study, a retiree with two children in college could 
face an effective marginal rate as high as 90 percent. 
Actually, as the footnote to the study indicates, when State 
taxes are taken into account, that taxpayer's effective 
marginal rate exceeds 100 percent. That particular taxpayer, by 
the way, was a taxpayer in the 15 percent marginal rate 
bracket.
    The Code's floors and phaseouts also raise equity issues. 
On the one hand, these provisions in many cases operate to 
increase the progressivity of the Tax Code by increasing 
average tax rates as income rises.
    On the other hand, almost all the provisions reviewed in 
the pamphlet of the Joint Committee create what economists 
refer to as horizontal inequities. Two different taxpayers may 
have the same income. One can be subject to a phaseout while 
the other is not, resulting in significantly different 
effective marginal rates for these otherwise similarly situated 
taxpayers.
    Another cause for concern is complexity. Many of the 
phaseouts and floors require additional computations, 
increasing compliance burdens, and enhancing the likelihood of 
error. These provisions also may make the Code less 
transparent, leading to taxpayer confusion regarding the nature 
of the income tax. The end result may be greater taxpayer 
disillusionment, a sense of unfairness, and reduced compliance.
    I commend the Joint Committee study for your review as you 
continue efforts to refine the tax system and provide tax 
relief. The report lends support to the view that hidden tax 
rates and their impact should be among the primary factors 
weighed by policymakers in evaluating future changes to the 
Code.
    I thank you for the time, and I would be happy to take any 
questions, Mr. Chairman.
    [The prepared statement follows:]

Statement of Kenneth J. Kies, Managing Partner, Price Waterhouse LLP

    Good morning, and thank you for inviting me to testify at 
this important hearing. I am appearing today in my individual 
capacity, having recently departed my position as chief of 
staff of the Joint Committee on Taxation.
    My testimony centers on a study undertaken by the staff of 
the Joint Committee on Taxation on individual effective 
marginal rate issues, which was released yesterday. The study 
was requested last November by Chairman Archer. He specifically 
asked that the Joint Committee staff identify situations where 
the taxpayer's effective marginal tax rate might differ from 
his or her statutory tax rate, and the magnitude and impact of 
those differences.
    At the outset, let me explain what we mean by an 
individual's ``effective marginal tax rate.'' This concept 
differs from the Tax Code's five statutory marginal rates of 15 
percent, 28 percent, 31 percent, 36 percent, and 39.6 percent, 
which apply to a taxpayer's taxable income within a specified 
range. The effective marginal rate seeks to measure the 
increase (or decrease) in an individual's tax liability that 
results from an additional dollar of income. In many cases, an 
individual's effective marginal rate will be higher than the 
advertised statutory rates. This is because of various phase-
outs, phase-ins, ``floors,'' and other provisions that limit 
availability of deductions, credits, or exclusions based on an 
individual's taxable income.
    An example will help to illustrate. Take the case of the 
tax-law provisions requiring Social Security benefits to be 
included in taxable income as income rises above certain 
levels. For married taxpayers whose modified AGI exceeds 
$44,000, up to 85 percent of Social Security benefits are 
taxable. When this couple reaches the $44,000 threshold, each 
additional dollar of income will cause an additional 85 cents 
of Social Security benefits to be included in taxable income. 
This effectively raises the federal marginal tax rate to 185 
percent of the statutory rate, as each dollar of additional 
income causes taxable income to rise $1.85.
    The JCT study examines numerous provisions in the Tax Code 
that produce similar results. These include phase-outs, phase-
ins, and floors applicable to itemized deductions, personal 
exemptions, IRA contributions, and the child tax credits and 
education tax credits added by the 1997 Act, among other 
provisions. All told, the JCT study found that 33.2 million 
taxpayers--or one quarter of all individual taxpayer returns--
face effective marginal rates that are different from their 
statutory tax rates. (Actually, taking into account the number 
of joint taxpayer returns involved, approximately 50 million 
adult taxpayers are affected.) The JCT study also found that 
these differences are felt by taxpayers at all income levels.
    These differences have a real impact on individuals, as the 
JCT study discusses. A chief concern is that high marginal 
effective tax rates can provide significant disincentives to 
work and save. For example, a retiree considering whether to 
take a part-time job may conclude that the payoff--if subject 
to an effective tax rate that greatly exceeds the statutory 
rate--is insufficient to offset the loss of leisure time and 
the effort expended.
    Particularly harsh results can arise when a taxpayer is 
subject to more than one of the phase-outs at the same time. It 
is possible for the interactions of the phase-outs to create 
marginal tax rates that could be considered excessive. In one 
hypothetical example discussed in the JCT study, a retiree with 
two children in college could face an effective marginal tax 
rate as high as 90 percent.
    The Code's floors and phase-outs also raise equity issues. 
On one hand, these provisions in many cases operate to increase 
the progressivity of the Tax Code by increasing average tax 
rates as income rises. On the other hand, almost all of the 
provisions reviewed in the JCT pamphlet create what economists 
refer to as ``horizontal'' inequities. Two different taxpayers 
may have the same income and one can be subject to a phase-out 
while the other is not, resulting in significantly different 
effective marginal rates for these otherwise similarly situated 
taxpayers.
    Another cause for concern is tax complexity. Many of the 
phase-outs and floors require additional computations, 
increasing taxpayer burden and enhancing the likelihood of 
error. These provisions also may make the Code less 
``transparent,'' leading to taxpayer confusion regarding the 
nature of the income tax. The end result may be greater 
taxpayer disillusionment, a sense of unfairness, and reduced 
compliance.
    The issue of effective marginal tax rates becomes even more 
complex--and can produce even greater distortions and 
inequities--when one also takes into account the alternative 
minimum tax, payroll taxes, and State income taxes.
    I commend the JCT study for your review as you continue 
efforts to refine the tax system and provide tax relief. The 
report lends support to the view that ``hidden'' tax rates, and 
their impact, should be among the primary factors weighed by 
policymakers in evaluating future changes to the Tax Code.
    Thank you for your time. I would be glad to answer any 
questions you might have.
      

                                


    Chairman Archer. My compliments to all four of you. I think 
you have all given us superb testimony to focus on a part of 
the Tax Code that we have not looked at enough in the past.
    Allow me to comment on a few points. Dr. Foster, you said 
that over the last 17 years, we have reduced the rates. I guess 
you excuse 1990 and 1993.
    Mr. Foster. Well, we've reduced the rates compared to where 
they were 17 years ago, sir.
    Chairman Archer. Right. We did for a while, but then we 
went back up the ramp again. I wanted to make that very clear.
    Mr. Mares, do you have any estimates of the revenue impact 
of the phaseout recommendation?
    Mr. Mares. No, sir, we do not.
    Chairman Archer. That's going to be very, very important 
within the constraints that we're going to have as to what we 
can do in the way of tax reduction.
    Mr. Mares. Mr. Chairman, I think, though, it's important to 
note that  we  believe  by  establishing  standard  phaseout  
ranges  for low-, middle-, and high-income taxpayers and 
adjusting those ranges to meet the revenue needs, that 
simplicity can be achieved to a large degree without a 
significant revenue detriment.
    Chairman Archer. Well, that's good to hear because the 
Committee should look at that type of simplification provided 
that we do not embrace an awful lot of revenue losses.
    Then you get into the politics of it. If you are trimming 
down the revenue losses, you very possibly are taking away 
something from a particular group.
    Mr. Mares. Yes, sir.
    Chairman Archer. It sounds a lot easier as you present it 
than it may be for the Committee to enact.
    I think you had a very complex recommendation as to what we 
ought to do on AMT. In the end, you said: Well, maybe it's 
better to abolish it. I am not sure that we gain, over the long 
term, an awful lot by simply chipping around the edges in 
implementing the kind, although meritorious, of suggestions 
that you made.
    I am wondering what all of you would think about 
eliminating the AMT and, in the process, carefully looking at 
those items that get thrown back into the formula for the AMT 
to determine whether they are legitimate in a bipartisan way as 
tax policy and then if they are legitimate, to let them 
continue to be used by all taxpayers and not come back in and 
thrown in this alternative minimum tax. It might very well mean 
that we'd have to shave back some of those deductions or apply 
them a little differently but, in doing so, be able to 
eliminate the alternative minimum tax.
    Do you want to comment on that?
    Mr. Mares. I will start, Mr. Chairman. I think when you 
look at the adjustments and preferences that create the 
alternative minimum tax, you can break them into two broad 
categories: what I will call the business deductions; that is, 
the difference in depreciation, the difference between 
percentage of completion versus completed contract and 
construction contracts; and what I will call the individual 
preferences, the elimination of the personal exemption, the 
State income taxes, which were mentioned here frequently, and 
so forth.
    One of the things I think it's important to point out is 
that for individuals, many, many of those individuals driven 
into the AMT find themselves being in AMT because of those 
individual preferences. And if you were to eliminate those 
individual preferences and allow the same deductions for AMT, 
such as interest, taxes, medical expenses, miscellaneous 
itemized deductions, and so forth, I believe you would solve a 
tremendous amount of the individual AMT problems.
    Now, as to modifying the various preferences or adjustments 
that make up the business aspects of AMT, that certainly----
    Chairman Archer. I was speaking more of the individual 
side.
    Mr. Mares. Well, these are. These business preferences 
directly impact individuals. I have a number of individuals who 
operate through partnerships, S corporations that are directly 
affected by these.
    By reducing the regular tax benefits of these various 
preferences--again, depreciation is a good example--you could 
eliminate the need in those specific areas for an AMT to 
address the preferences that Congress believes should be 
addressed.
    Chairman Archer. Well, the Committee should look at that. 
We have a responsibility to continuously look at the Code from 
a policy standpoint and determine what is an appropriate 
deduction and what is not. I really have always felt that our 
responsibility should be devoted to that, rather than this 
arbitrary alternative minimum tax, where we tell people: Well, 
it's all right for you to tax this.
    I sit next to my friend Charlie Rangel from New York. In 
1986, there was a proposal to eliminate the deductibility of 
State income taxes. That was the proposal put before this 
Committee on tax reform.
    The New Yorkers came in and strongly said: ``Well, wait a 
minute. We can't support tax reform if you don't give us 
deductibility of State income taxes.'' That's a major item of 
expense for their people. They succeeded in placing the 
deductibility of State income taxes into the tax reform bill.
    Now you're telling me State taxes are one of the major 
things that cause you to pay more Federal taxes. So, on the one 
hand, the New Yorkers thought they were doing something to give 
an appropriate--and they articulated it very well--deduction 
for income tax purposes. Now we find that it's a major factor 
in snapping back with a tax on those very same people through 
the alternative minimum tax. So they did not succeed.
    Now, that seems rather inconsistent to me. I hope the 
Committee will take a long look at how we can work to have a 
better Tax Code and get completely rid of this extra 
formulation, which is so arbitrary under the minimum tax. So I 
thank you for your input on that.
    Now, Dr. Regalia said that we have a 39.6 top marginal tax 
rate. After you listen to Mr. Kies, that is not so. I think on 
behalf of full disclosure and truth in legislating, we should 
put into every new proposal a requirement that it state the 
true effective tax rate. We do it on many other things. Of 
course, the purpose of these hearings is to dig into what 
really are the effective tax rates.
    One thing none of you mentioned which also gets into play 
on this is that if you have one spouse that is earning 
significant income and the other spouse is not gainfully 
employed and the other spouse decides, ``Well, gee, I want to 
go out and dabble and start my own little business,'' or 
whatever else, ``I want to have my place in the sun,'' the 
first dollar of their income comes in at the highest marginal 
rate of the other spouse. For no extra benefits, they also 
begin to pay the 15.3 percent payroll tax.
    Now, paying that tax when you earn a benefit is one thing, 
but the other spouse will not receive an added benefit. He or 
she will receive the benefits through the other spouse's 
activities.
    So the marginal rate is in an approximate 60 percent range 
for the activities of the second spouse. Now, is that a 
deterrent against somebody trying to gainfully produce 
something?
    Of course, in most instances, the extra spouse would be a 
woman, not always, but in most instances. Is this not denying 
women, married women, a real equal opportunity to earn 
something in their own right? Am I missing something or do 
you----
    Mr. Kies. One of the things that the study of the Joint 
Committee on Taxation did in terms of looking at the marginal 
tax rates, at least indirectly, was to focus on the impact on 
incremental work effort, whether by the primary income earner 
or a secondary income earner.
    Certainly in the case of the second spouse, the 
disincentive to be economically productive, to go out into the 
work force is quite substantial because of the high marginal 
tax rate that may immediately impact the second earner.
    Chairman Archer. Particularly if they're self-employed when 
they go into the workplace.
    I again want to just add to this idea that the top marginal 
rate is 39.6 percent. I wonder if Michael Jordan believes that 
because his Medicare premium is $1 million a year. No matter 
how much he earns, he is going to continue to have to pay an 
additional 2.9 percent. And that's certainly in income tax. 
He's not getting an additional benefit for doing that.
    I thank you very much. I now yield to Mr. Rangel for any 
inquiry he might like to make.
    Mr. Rangel. I have no questions, Mr. Chairman.
    Chairman Archer. Any other Member of the Committee wish to 
be recognized?
    Mr. McCrery.
    Mr. McCrery. Thank, Mr. Chairman.
    I don't have any questions, but in looking over the Joint 
Committee's report, I just want to highlight for the 
Committee's attention some of the numbers that were brought out 
by the report. They were alluded to but not mentioned 
specifically.
    For the AMT, Mr. Chairman, in 1998, it's expected that 
856,000 citizens will file returns that will be affected by the 
AMT. Ten years from now, though, only 10 years from now, that 
number will be 8.8 million Americans, from 856,000 to 8.8 
million in only 10 years. That's an appalling figure to me.
    We're talking about in other forums right now changing the 
Tax Code. The reason that I'm interested in changing the Tax 
Code is because of the huge compliance costs of the current tax 
system and the drag on our economic production that it creates.
    Imagine--and you mentioned, Mr. Chairman, the reformulation 
that we have to go through on our tax returns to figure the 
AMT. Imagine that if we expand it by--I don't know. I can't 
even figure the math it's so high, 10 times perhaps over the 
next 10 years. I mean, that's just a mind-boggling calculation.
    The compliance costs are going to get so much worse in this 
country. It's something that we really need to pay attention 
to. And I'm glad that the Chairman asked these witnesses to 
highlight the AMT in their testimony. I think it's a part of 
the Tax Code that just begs for attention. And we ought to do 
away with it, but, short of that, we certainly ought to raise 
the exemptions or tie the exemptions to inflation so we don't 
catch all of these millions of Americans that aren't affected 
now.
    Chairman Archer. Mr. Kies, would you like to comment?
    Mr. Kies. Mr. McCrery, can I just add one other thing to 
that? To underscore the concern you have raised, it should be 
noted that the growth that's going to occur in the number of 
taxpayers subject to the AMT will occur in what I think has 
traditionally been thought of as relatively middle-income 
classes of taxpayers.
    In 1998, the $50,000 to $75,000 expanded income class--so 
that's not taxable income. That's beyond gross income in many 
cases. The number of taxpayers will go from 68,000 returns or 
0.3 percent of all returns subject to the individual AMT, in 
1998 to 1.3 million returns, or 5.8 percent of all returns in 
2007 subject to the individual AMT. In the $75,000 to $100,000 
income class, it will grow from 1 percent of all returns 
subject to the individual AMT in 1998 to 19.7 percent of all 
returns in 2007. So it's a 20-fold increase in the number of 
taxpayers in those income classes, which has not traditionally 
been thought of as taxpayers that would be the targets of the 
AMT.
    Mr. McCrery. Absolutely. That clearly demonstrates that 
this thing is out of control. It's affecting people that were 
never intended to be affected by the AMT, Mr. Chairman. And I'm 
hopeful that you'll continue in your effort to----
    Mr. Levin. Would the gentleman yield?
    Mr. McCrery. I'd be glad to yield.
    Mr. Levin. Just, Mr. Kies, maybe you know the answer 
because I think that the figures are striking. What's the cost 
of remedying?
    Mr. Kies. Well, Mr. Levin, one approach to solving this 
problem that we've talked about a lot is just indexing the 
exemption amount because that would substantially restrain this 
migration of taxpayers from the regular tax to the AMT. The 
cost we estimated a year ago, or the Joint Committee estimated 
a year ago, over 10 years was $33 billion.
    The key to this, Mr. Levin, is the longer you wait to try 
and correct the problem, the more expensive it will be because 
it's in the out years that there's this very dramatic up turn 
of the number of taxpayers.
    Mr. Levin. So it goes up every year, but it's $33 billion 
over time?
    Mr. Kies. Yes, it goes up every year, but in the out years, 
it's going up much faster.
    Mr. Levin. Right, right, right.
    Mr. Kies. So each year you wait, those out years get more 
expensive.
    Mr. Levin. Thanks for yielding, Mr. McCrery.
    Mr. McCrery. You bet.
    Thank you, Mr. Chairman.
    Chairman Archer. None of you mentioned specifically, but 
last year on a bipartisan basis, the Congress and the President 
gave a significant child credit in the Tax Code to help 
families meet the expenses of rearing their children, $500 per 
child, which they are free to spend and invest in their 
children's education or anything else that they wish.
    It was agreed after considerable deliberation that for a 
joint return, it would be given in full up to $110,000 of 
adjusted gross income a year. It would then begin to phase out, 
depending on the number of children, for AGI up to roughly 
$150,000. The credit would be given in full to families who had 
taxable income of under $110,000 of adjusted gross income on a 
joint return.
    Now, what is the reality of the impact of the alternative 
minimum tax on the ability of those families to be able to get 
what the Congress promised them?
    Mr. Kies. Mr. Chairman, because the child credit cannot be 
used against the AMT, there are millions of taxpayers who will 
either not get the credit or will get less than the full credit 
who are below that phaseout range at the top. This will occur 
because of the fact that either they will be pushed into the 
AMT or they won't be pushed into the AMT but because their 
regular tax liability can't drop below what they would pay 
under the AMT, the credit is useless to them because it cannot 
be used against their regular tax either. So each year it will 
become a larger number, but it's in the millions of taxpayers 
that will be affected.
    The Joint Committee pamphlet does lay out some of the 
statistics on that, but I think as many as 15 million taxpayers 
will receive either a zero child credit or less than the full 
child credit, much of which is because of the AMT effect. By 
the time we get to 2008, There will be 21.7 million taxpayers 
affected by this. So that's going to grow over time as well.
    Chairman Archer. Thank you.
    Mr. Portman.
    Mr. Portman. Thank you, Mr. Chairman.
    I want to start by congratulating the Ways and Means 
Committee for having these hearings and for taking seriously 
the prospect of moving forward with what I consider to be real 
simplification of our current Tax Code that makes sense but 
makes it more honest.
    Mr. Chairman, given your propensity to want to pull the Tax 
Code out by the roots, I want to commend you particularly for, 
despite your strong views on that, looking seriously at this 
and kind of peeling back the layers of the onion to try to 
figure out what the real problems are in our current Tax Code.
    Mr. Mares, as you know, we looked into these hidden taxes a 
lot in the context of the IRS Commission, really from the 
perspective of the IRS, and also, of course, from the 
perspective of the taxpayer. But it's a nightmare for the IRS 
to administer the phaseouts.
    The AMT is the same way. And, as Ken has pointed out 
consistently over the last year or so, as the AMT, as Mr. 
McCrery says, begins to affect more and more middle-income 
taxpayers, that complexity will only be increased, not just for 
the taxpayer but for the IRS. And it's a tremendous challenge.
    We've got a good report here from Joint Tax that I think 
gives us a lot of the intellectual framework to be able to move 
forward with this. And, again, I want to really thank the 
Chairman for bringing this up to the surface.
    The President has given us about 100 to 150 billion 
dollars' worth of new spending. So we're in an interesting 
position, really, for the first time since I've been here, in 5 
years, maybe the first time in a couple of decades, where we 
actually have the ability to talk about some of these tax law 
changes because so many of them are so costly.
    Ken pointed out that it will cost $30 billion over 10 years 
just to index the exemption for personal AMT, not even getting 
to repeal it or adjust the corporate side. So I hope we'll take 
advantage of that, the little bit of a buffer we have now, and 
maybe talk a little less about spending and a little more about 
how to get people real relief.
    My question is: How do we get at this? Does it make sense 
assuming that we can't use that $100-$150 billion in total or 
that it's not enough, which is I think a pretty good 
assumption? Does it make sense, instead of having phaseout, Mr. 
Mares, from your point of view to do something else in terms of 
gaining back some of that revenue such as adjusting rates or is 
that too controversial to get into?
    Mr. Mares. I think clearly that's the Congress' decision as 
to how to spend the budget surplus, whether it's through tax 
deductions, debt reduction, or additional spending----
    Mr. Portman. Let's assume for argument's sake--I mean, I 
agree with that, I hope we can use some of that so-called 
surplus we don't have yet but at least use some of that new 
spending the President has in his budget and put it into tax 
relief through simplification along the lines of what you're 
talking about.
    Let's assume, though, that we don't have all of that to 
use, that we need to come up with new revenue in order, let's 
say, to take care of either the personal AMT or to do something 
with these phaseouts; in other words, to make the Tax Code more 
honest so people are actually paying the rate they're supposed 
to pay. Would you recommend, if necessary, raising marginal 
rates in order to take out the hidden taxes?
    Mr. Mares. That is the most direct and honest way to tell 
the taxpayers what they will be paying. And if that were the 
price of eliminating the complexity within the phaseouts, where 
the taxpayers are already paying the rates----
    Mr. Portman. Some taxpayers are.
    Mr. Mares. Pardon me?
    Mr. Portman. Some are, and some aren't.
    Mr. Mares. A great number of taxpayers are. With the 
alternative minimum tax affecting, even as Mr. Kies pointed 
out, middle-income taxpayers, there are already hidden rates 
built in there.
    By eliminating those phaseouts and putting the rates where 
they need to be to generate the revenue, I think you're telling 
the American public: Here's what we need to operate the 
government. Here's the rate that we feel is appropriate in a 
straightforward manner and at the same time simplifying the tax 
preparation jobs of millions of taxpayers.
    Mr. Portman. Mr. Kies, you're no longer in public service. 
You can now speak honestly. Do you have a comment on that?
    Mr. Kies. I thought I always did speak honestly.
    Mr. Portman. On that specific idea.
    Mr. Kies. Yes, on this one. Raising the marginal rates to 
eliminate the phaseouts.
    Mr. Portman. And AMT.
    Mr. Kies. I think you should----
    Mr. Portman. Be honest about it.
    Mr. Kies. [continuing]. I recommend you proceed very 
cautiously with that solution.
    Mr. Portman. Politically I know that's difficult.
    Mr. Kies. No. But the problem is if you do what is 
proposed, it could invite bringing back the phaseouts later on. 
And all you would do is just get higher effective marginal 
rates in the long run. I think you really need to just 
basically consider whether these phaseout provisions really 
make sense and whether they're necessary and appropriate given 
what they do in terms of creating high hidden marginal tax 
rates.
    And the AMT question is to some extent--it's part of the 
problem, but it's to some extent a separate problem because 
it's really a question of: Who do you want the AMT targeted at?
    Clearly when you have a nonindexed exemption amount, you 
are going to over time sweep in a whole bunch of people that 
really have no business being in the AMT at all, no matter what 
their marginal tax rate is. I see them as, while related, 
somewhat separate issues.
    Mr. Portman. So if your choice was to slightly raise the 
marginal rate and eliminate the AMT or keep the AMT and index 
for inflation, you would take the index?
    Mr. Kies. I think I would take the index.
    Mr. Portman. Thank you, Mr. Chairman.
    Chairman Archer. Mr. English.
    Mr. English. Thank you, Mr. Chairman.
    Mr. Regalia, in your testimony, you talked about the need 
to make further changes in the AMT. You also referenced the 
work opportunity tax credit. I wonder how you or your 
association would feel about placing the work opportunity tax 
credit and/or the welfare-to-work tax credit in a position 
where it would be available for use by AMT companies if we come 
up short of actually abolishing the AMT.
    Mr. Regalia. Well, at the risk of more complexity, I think 
that certainly the more exemptions you bring into the AMT to 
lower the effective rate of that tax by making the type of 
credits that you talk about available to those companies would 
be of benefit.
    I think that as an economist, I would have to look at that 
solution kind of as the second order of smalls. I mean, it 
really is a very modest approach to addressing a problem that I 
think requires a more substantial fix.
    Mr. English. Well, and, as I point out to my wife, 
sometimes modest is affordable, too. I mean, that's another 
angle on it.
    And on the point of harmonizing the phaseouts, Mr. Mares, 
can you summarize for us what effect the phaseouts have on the 
marriage penalty currently in the Code?
    Mr. Mares. We think it has a relatively significant impact 
because not all of the phaseouts for married filing separate 
are 50 percent of the married filing joint. Likewise, the 
phaseouts in many cases--and, again, because there's no 
consistency, it's difficult to sit here and say this phaseout 
is consistent, this one isn't.
    The phaseouts for single and heads of household are often 
but not always about 75 percent of the phaseout for married 
filing joint returns. So by standardizing the phaseouts, by 
making single phaseouts, head of household phaseouts, and 
married, filing separate phaseouts, 50 percent of married 
filing joint phaseouts, you would help reduce the marriage 
penalty and provide consistency.
    Mr. English. Dr. Foster, in your testimony, you said 
something that I think in Washington is considered radical, 
although I think it makes a lot of sense to me, and that is 
that savings rates are to some extent sensitive to tax rates.
    What is the body of scholarly economic opinion on that? And 
are there economic studies that you can offer to this Committee 
to support the notion that when you change the incentives in 
the Tax Code, you can dramatically increase the savings rate?
    Mr. Foster. Yes, sir. The body of scholarly knowledge is 
all over the map. You find a pretty uniform distribution from 
those who think there's almost no effect to those who think 
it's absolute and complete.
    There are a lot of studies that will show that savings do 
respond to changes in effective tax rates on saving. There are 
a lot of studies to show that labor will respond dramatically 
to changes in effective tax rates. And then there are a lot of 
studies that show just the opposite.
    It's amazing to me that much of economics is based on the 
assessment and analysis of the price mechanism and how people 
will react and then so many economists go out of their way to 
find studies to show just the opposite.
    Mr. English. Dr. Foster, let me just say that since I 
support your view on this, I'd welcome any studies that you 
could throw our way that would support the position that I 
intuitively support. And I appreciate your testimony.
    Mr. Kies, I was wondering: Do you have any recent revenue 
estimates on the exemption in the current law for State and 
local taxes since the Chairman brought that up?
    Mr. Kies. I believe, Mr. English, in the tax expenditure 
pamphlet published by the Joint Committee on taxation there is 
some information about the impact of the State and local tax 
deduction, which was published, I believe, this past December. 
So there is some current information on that. And certainly the 
Joint Committee could you provide you with any updated 
information as well.
    Mr. English. Thank you.
    And I want to compliment you in your testimony on your 
explanation of marginal tax rates. Do you feel that marginal 
tax rates have a significant impact on work effort?
    Mr. Kies. Mr. English, my own personal view is that they 
clearly do. As Mr. Foster pointed out, there are people that 
fight over this issue. Some believe that the higher the 
marginal tax rate goes, that some people will work harder to be 
able to hold themselves economically where they were before the 
rate was raised.
    However, clearly at some point, people will prefer leisure 
time over further work if the return from work is so small. The 
one example that's illustrated in the Joint Committee study, 
where an ostensibly 15 percent marginal rate taxpayer could 
actually be subject to an effective marginal tax rate in the 
excess of 100 percent is a pretty graphic example of where it's 
extremely unlikely that such a person is going to try to work 
harder because you can't catch up if you're subject to a tax 
rate of over 100 percent.
    Mr. English. Thank you, Mr. Kies. That's a powerful 
insight. And I appreciate this panel and the perspective you 
have brought.
     Thank you, Mr. Chairman.
    Chairman Archer. Mr. Weller.
    Mr. Weller. Thank you, Mr. Chairman. Again I want to 
commend you for this series of hearings, which is looking at 
ways of not only simplifying the Code but also to find ways to 
allow working, middle-class families to keep more of what they 
earn. I think these hearings continue to work in that 
direction.
    I'd like to direct my questions to Dr. Foster. I was 
looking with interest at your testimony. And you were somewhat 
critical of some who have been involved in the effort to 
eliminate the marriage tax penalty. I noticed in your testimony 
that you are essentially arguing that we should be looking to 
eliminate the bonus or so-called bonuses, which would be a tax 
increase for those couples.
    I find when I talk in the district that I represent and I'm 
out listening to the folks in the portion of Chicago that I 
represent or the south suburbs of Chicago, that sometimes their 
ability to grasp the concept makes it difficult for us to 
explain it.
    The marriage penalty is an issue they relate to. And they 
understand a large number of married couples pay, 21 million 
couples, on average about $1,400.
    When it comes to a discussion of rates and changing the 
rates, they have a harder time understanding how it will affect 
their pocketbooks because their first concern is: If we adjust 
the rates, how will that affect my family? What will we see as 
a net or a negative impact?
    I've used as kind of an example in the district that I 
represent a machinist at Caterpillar and a schoolteacher with a 
combined income of about $61,000 who on average pay a $1,400 
marriage tax penalty when they file jointly.
    I was wondering if you could tell me what type of rate 
reduction would be necessary to eliminate that $1,400 marriage 
tax penalty for that machinist and schoolteacher in my district 
who make about $61,000.
    Mr. Foster. I'm quite sure it's a significant rate 
reduction. The marriage tax penalty is without a doubt a 
terrible thing to have in the Tax Code. And it's a product of a 
number of factors.
    My point with the marriage tax penalty is only that by 
focusing on it to such an extent, we're ignoring vast legions 
of taxpayers. Tax relief I believe ought to be general and not 
specific to specific groups. The marriage tax penalty when you 
focus on it and fix it, you're focusing an awful lot of tax 
relief on a fairly narrow group of people.
    So that's the reason I brought the marriage tax penalty up 
in that discussion, not that we shouldn't address it. We 
should. But you can address it in a lot of ways.
    You may not fix it entirely. In fact, I'll be surprised at 
the end of the day when legislation finally passes if we've 
fixed the marriage tax penalty to the point where that entire 
$1,400 penalty is gone. There will probably be a modest fix to 
it. I'd rather get the modest fix through a rate reduction than 
through something that will further complicate the Tax Code.
    Further, I would be surprised if in general taxpayers have 
any more difficulty understanding a rate reduction than any 
other tax reduction you can imagine. The marriage tax penalty 
is somewhat difficult to calculate for the taxpayers involved. 
If I tell them ``I'm going to reduce your tax rate, statutory 
tax rate, from 15 to 14 percent'' or ``28 to 27'' or perhaps 
even ``eliminate these phaseouts,'' it's hard to imagine 
anything that would be easier to understand.
    Mr. Weller. The question that I get is: What does a change 
in 1 percent mean for me? I mean, that's the type of question 
I'll get in a response, whether I'm at a union hall or the VFW, 
a chamber of commerce, a business and professional women's 
club, the type of response.
    I was just wondering: To eliminate that average marriage 
tax penalty of $1,400, can you give me a projected rate 
reduction that would be necessary to achieve that?
    Mr. Foster. No, I can't. I think Ken probably can.
    Mr. Weller. Mr. Kies, could you?
    Mr. Kies. If the family's gross income is approximately 
$60,000, and assume their taxable income, just to take a rough 
number, might be around $40,000. That family is probably in the 
28 percent marginal rate bracket. Thus, a 1-percent reduction 
from 28 to 27 would save them approximately $400 of income tax. 
So you'd have to take them down about 4 percentage points to 
eliminate at $1,600 marriage penalty, roughly speaking.
    Mr. Weller. Thank you very much. That's the answer I was 
looking for. Thank you
    Chairman Archer. Mr. Nussle.
    Mr. Nussle. Thank you, Mr. Chairman.
    My questions go more toward what I have been learning in 
the town meetings I have been holding over the last 3 months in 
my district. I was pretty proud of the work that we had done as 
a Committee last year on some tax relief.
    When I went home and actually discovered what the 
negotiations and compromises and deals and agreements with the 
White House ended up in meaning as far as complications in the 
Tax Code, I discovered that maybe we could have or should have 
left well enough alone with all of the complaints that I 
received. I don't agree with that. I am very proud of the work 
that we did.
    But my point is this: There's a big difference between 
targeted tax breaks and tinkering. I guess that's what I'm 
concerned about. Targeted and tinkering is what I think we run 
the risk of doing.
    I know that part of the reason why we're having these 
hearings is because we're in the context of a possible budget 
surplus and we're looking for ways to deal with that surplus.
    I'm just wondering from all of you if it's worth the effort 
to go through this again in a very small, targeted, tinkering 
sort of way, as opposed to putting all of our efforts into what 
Mr. Foster described as certainly the ideal world of tax reform 
and total simplification.
    I would much rather see in this endeavor--in a year when 
we're not sure what the surplus is going to be, when unintended 
consequences and complications continue to be the hallmark of 
any reforms that we seem to go through, is it better to just 
leave well enough alone, store away the surplus as a squirrel 
would store away the nuts during winter, and wait for a better 
playingfield to play on, and work more toward tax reform and 
simplification, as opposed to tinkering? That's kind of my 
overall question.
    And I guess, Mr. Kies, since we don't get to pick on you 
anymore behind closed doors, we'll pick on you first in front. 
I just want to congratulate you on your service and wish you 
the best of luck in your new endeavors. And I'll give you the 
hot potato first.
    Mr. Kies. Thank you, Mr. Nussle.
    I think the answer to your question is that there isn't 
only one squirrel. And one squirrel may put the nuts away, but 
there's a bunch of other squirrels that are going to come after 
him. So you'd better be prepared to figure out what you want to 
do with the nuts.
    I guess my recommendation to the extent you're going to 
focus on tax relief is you try to focus on things that either 
address problems like this alarming individual AMT problem, 
which will be a simplification move because to the extent you 
can reduce the number of taxpayers that are going to be pushed 
onto the AMT, that's an improvement.
    And the other recommendation is that you then try and to 
the extent that you're designing tax relief to keep 
simplification in mind. For example, on the marriage penalty, 
one element of the marriage penalty is the fact that the 
standard deduction for a married person is less than twice that 
of a single person. You could increase the standard deduction 
for a married person to equal twice the single person standard 
deduction and add no complexity whatsoever to the Code because 
it would simply increase their standard deduction, no new 
complexity.
    Another obvious example of where you could deliver broad-
based tax relief without adding complexity is to widen the 15 
percent marginal rate bracket, which would be an across-the-
board benefit to all taxpayers generally speaking, but it 
wouldn't add any new complexity.
    I would recommend you consider those types of approaches, 
as compared to the kind of more targeted things that have 
phaseouts associated with them, that have complex new sets of 
rules that the IRS will be required to administer, that 
taxpayers will have to deal with and that tax return preparers 
need to learn and apply. I think it really is time to step back 
and not direct tax relief in that manner because I think people 
need to be able to digest what happened in the 1997 Act.
    Mr. Nussle. My only point--you know, I agree with you. 
There are certainly more squirrels that have different ideas of 
what to do with the surplus.
    My only concern is that we've got the House. We've got the 
Senate. We have the White House. We've got all sorts of 
interest groups and people that have special concerns about the 
Code. And by the time we get done with a very simple idea, 
which could take a page for you to write this, we're off into 
some--and it's amazing to me how many people came up to me in 
my town meetings and just said: Look, folks, thank you for the 
very nice little tax relief you gave us. Certainly it will add 
a lot more paperwork and complication. Please this time, please 
don't simplify it any more than you already have. Keep it. 
Store it. Put it toward the debt. Don't spend it. And let's not 
worry about tax relief. Focus on tax reform.
    I was amazed how many people that would automatically, you 
would think, in a very knee-jerk sort of way move toward tax 
relief. I was very surprised at their comments.
    So I appreciate your testimony today. And I think you're 
right. If we can't keep it simple, we ought to just forget 
about it and store those nuts for the rainy day that we know is 
coming.
    Chairman Archer. We do have to vote. I think we have 
probably pretty well worn you out now. So unless there's 
objection, you're excused. And we will go vote. Then we will 
come back rapidly after we vote on the last 5-minute vote and 
attempt to get the next panel before the Committee.
    The Committee will stand in recess.
    [Recess.]
    Mr. McCrery [presiding]. If we could have everybody's 
attention? We have completed testimony and questions of the 
first panel. If the second panel could come forward and take 
their seats, I believe Chairman Archer will be here 
momentarily. And as soon as he arrives, we can begin. If we can 
get everybody to come forward and have a seat from the last 
panel?
    Thank you all for coming forward and having a seat. We're 
trying to find Chairman Archer or some other Members. I feel 
lonely up here. I don't want to be your only audience.
    We expect more Members to be here momentarily. We just had 
a vote on the floor. We were supposed to have a second vote on 
the floor, but it did not occur because we voice-voted that 
issue. And I'm afraid some Members may be confused on the 
floor. So we're waiting to give them a chance to get back.
    OK. At this time, we'll hear from the last panel on the 
hearing concerning reducing the tax burden. We're pleased to 
have with us today: June O'Neill, the Director of the CBO; 
Stephen Moore, director of fiscal policy for the CATO 
Institute; Abram J. Serotta, partner, Serotta, Maddocks, Evans 
and Co. from Augusta, Georgia--and I believe Congressman 
Norwood is going to further introduce Mr. Serotta in just a 
moment--Robert A. Blair, chairman and president of S 
Corporation Association; Wayne Nelson, president, Communicating 
for Agriculture.
    I'm told that Ms. O'Neill has another engagement this 
afternoon where she has to give testimony. So she may have to 
excuse herself before this panel has completed its testimony. 
And, Ms. O'Neill, certainly feel free to leave to satisfy your 
other obligations.
    At this time, we'll begin with Ms. O'Neill.

 STATEMENT OF JUNE E. O'NEILL, DIRECTOR, CONGRESSIONAL BUDGET 
                             OFFICE

    Ms. O'Neill. Mr. Chairman and Members of the Committee, I 
thank you very much for inviting me to testify on the issue of 
marriage penalties and bonuses today.
    As you know, the Congressional Budget Office published a 
study of marriage and the Federal income tax last summer. This 
morning I will summarize the highlights of the study. I will 
also very briefly summarize the highlights of my prepared 
testimony, which I would like to submit for the record.
    Mr. McCrery. Without objection, all written testimony will 
be submitted for the record.
    Ms. O'Neill. The current U.S. tax system is not marriage-
neutral. More than 20 million married couples pay higher taxes 
than they would if they were single. They incur a marriage 
penalty averaging $1,380 per couple. However, another 25 
million couples get a marriage bonus. As a consequence of 
marriage, they save about $1,300 per couple in taxes.
    In recent years, a growing number of married couples have 
paid marriage penalties, raising questions of fairness. But it 
is also important to consider other issues, such as effects on 
work and marriage, that arise from the tax treatment of 
families and individuals.
    Marriage penalties and bonuses are byproducts of attempts 
by the Congress to balance the tax treatment of families and 
individuals while preserving other desired features of the tax 
system.
    On the one hand, the Tax Code seeks to levy the same tax on 
couples with the same money income. On the other hand, it tries 
to minimize the effect of marriage on a couple's tax liability. 
However, a tax structure with progressive rates cannot attain 
both goals. The incompatibility of progressive rates, equal 
treatment of married couples, and marriage neutrality results 
in a continuing tension within the Tax Code.
    Before 1948, the income tax was levied on individuals, so 
marriage had no effect on tax liabilities. But in 1948, the 
Congress enacted joint filing for married couples, who were now 
taxed on their combined income. Progressive tax rates and 
income splitting served to lower the tax liability of most 
couples at that time. Thus, the marriage bonus was created.
    Two decades later, in 1969--in response to complaints from 
unmarried taxpayers about singles' penalties, the other side of 
the coin--the Congress made the tax schedule more favorable to 
single filers. That action established marriage penalties. 
Changes in tax law since that time have shifted the balance 
between penalties and bonuses.
    In the late seventies, the size and incidence of the 
marriage penalty increased as inflation pushed marginal tax 
rates higher. In 1981, Congress made an explicit effort to 
reduce marriage penalties by enacting the two-earner deduction, 
which allowed two-earner couples to deduct 10 percent of the 
earnings of the low-earning spouse, up to $3,000.
    The Tax Reform Act of 1986 eliminated the two-earner 
deduction, but at the same time it sharply reduced the 
importance of marriage penalties and bonuses by flattening the 
tax rate structure.
    The pendulum swung in the opposite direction with the 
addition of three rate brackets in 1990 and 1993. Those and 
subsequent changes in 1997 had the effect of increasing the 
size of both penalties and bonuses.
    Along with changes in the Tax Code, the dramatic rise in 
married women's work participation and earnings over the past 
two decades has increased both the fraction of couples paying 
penalties and the average size of those penalties.
    Between 1969 and 1995, the fraction of working-age couples 
in which both spouses had paid employment increased by half, 
from 48 percent to 72 percent. Over the same period, the 
incomes of husbands and wives in two-earner couples became more 
nearly equal.
    Greater equality of earnings between spouses makes marriage 
penalties more likely and larger. Three-quarters of all two-
earner couples now incur a marriage penalty. By contrast, 
ninety percent of one-earner couples get a bonus.
    Penalties affect two different sets of taxpayers, but for 
different reasons. At the middle and top of the income 
distribution, the progressivity of the tax rate structure, tax 
rate brackets, and limits on credits and deductions cause most 
penalties. For low-income couples, however, the earned income 
tax credit generates most penalties.
    The EITC, begun in 1975, provides tax relief for low-income 
working families with children, but it is also a source of 
marriage penalties for those families. Subsequent increases in 
the credit have only worsened its impact.
    Much of the current concern about marriage penalties 
revolves around the question of whether it is fair for two 
people to pay higher taxes just because they are married. 
However, marriage penalties affect how much couples choose to 
work and even whether they marry or divorce.
    CBO estimates, for example, that because of the work 
disincentives associated with joint taxation, the total 
earnings of married couples are roughly 1 percent less than 
they otherwise would be.
    Increases in the incidence and size of marriage penalties 
have brought renewed interest in reducing them. The problem is 
difficult to fix, however, and satisfying every goal is not 
possible.
    Furthermore, changes that reduce marriage penalties can 
have unintended impacts. Options to reduce marriage penalties 
range from relatively minor alterations in the current Tax 
Code, such as restoring the two-earner deduction, to more 
significant changes, such as allowing couples to file single 
returns, all the way to comprehensive tax reform.
    Any change that reduces or eliminates marriage penalties 
faces an inevitable tradeoff. Lower taxes for some couples 
entail either reduced Federal tax revenues or higher taxes for 
other taxpayers.
    Revenue-neutral options necessarily redistribute taxes from 
people now incurring penalties to other taxpayers, either 
couples who now receive bonuses or single filers. Avoiding such 
redistribution could result in large revenue losses, but at the 
same time, some options would lower marginal tax rates, thereby 
inducing some couples to work more and pay additional taxes 
that would offset the revenue losses.
    Despite the thorny issues raised, public discussion of the 
subject, such as this Committee's hearings provide, is helpful 
in identifying tradeoffs within the tax system and the 
importance of such considerations in possible designs for 
fundamental tax reform.
    Thank you very much.
    [The prepared statement and attachments follow:]

Statement of June E. O'Neill, Director, Congressional Budget Office
[GRAPHIC] [TIFF OMITTED] T0897.099

[GRAPHIC] [TIFF OMITTED] T0897.100

[GRAPHIC] [TIFF OMITTED] T0897.101

[GRAPHIC] [TIFF OMITTED] T0897.102

[GRAPHIC] [TIFF OMITTED] T0897.103

[GRAPHIC] [TIFF OMITTED] T0897.104

[GRAPHIC] [TIFF OMITTED] T0897.105

[GRAPHIC] [TIFF OMITTED] T0897.106

[GRAPHIC] [TIFF OMITTED] T0897.107

[GRAPHIC] [TIFF OMITTED] T0897.108

[GRAPHIC] [TIFF OMITTED] T0897.109

      

                                


    Mr. McCrery. Thank you, Ms. O'Neill.
    I know you have some time constraints. So at this time, if 
any member has questions for Ms. O'Neill, ask now or let her 
go.
    [No response.]
    Mr. McCrery. Thank you very much, Ms. O'Neill. We 
understand you have----
    Ms. O'Neill. Thank you.
    Mr. McCrery [continuing]. Some more testimony to give at 
another meeting. So you're excused.
    Next we have Mr. Serotta. I'm going to jump Mr. Serotta 
ahead so that Congressman Norwood can introduce his constituent 
and then----
    Mr. Norwood. Thank you very much, Mr. McCrery. I do 
appreciate you and all the Members of the Committee and 
Chairman Archer holding this very important hearing that is 
near and dear to all of the working people of America. And we 
are grateful for you focusing on this today.
    Mr. Chairman, it's a real honor for me to introduce to the 
Committee today one of Augusta, Georgia's finest: Abram 
Serotta. Besides being a very dear friend of mine, Mr. Serotta 
currently serves as the president of Serotta, Maddocks, Evans 
and Co. in Augusta, Georgia. He works in all areas of taxation 
and is in charge of SME's health care services.
    He is a frequent lecturer on college campuses and he has 
published several articles, and is currently a contributing 
writer and editorial adviser to the Practicing CPA, which is 
published by the AICPA.
    Accounting Today elected Mr. Serotta as one of the hundred 
most influential CPAs in the United States. And I'm pleased to 
tell you that they did that before he made that large 
contribution to their magazine.
    Seriously, Mr. Chairman, it is an honor for me to introduce 
my good friend to your Committee this morning. And I am 
confident that his testimony and responses to the panel's 
questions will make everyone in this room today a little wiser.
    And though, Mr. Chairman, I know I need not say this, you 
do know, all of you know, April 15 is coming very soon. And I 
ask you to be very kind and gentle to my CPA. That's the last 
thing I need is a CPA mad at me.
    Thank you, Mr. Chairman.
    Mr. McCrery. Thank you, Mr. Norwood.
    And with that buildup, Mr. Serotta, it had better be good. 
You may proceed.

  STATEMENT OF ABRAM SEROTTA, SEROTTA, MADDOCKS, EVANS & CO., 
                        AUGUSTA, GEORGIA

    Mr. Serotta. I appreciate, Mr. Chairman, the opportunity to 
testify before the Committee today on alternative minimum tax 
and hidden rates. I'm a member of the American Institute of 
CPAs, but I'm here in conjunction with conversations that I've 
had with Congressman Norwood about ideas of tax reform and tax 
simplicity.
    As he stated, I'm a CPA in Augusta, Georgia. We file about 
3,000 tax returns. I consult and teach other CPAs. So my views 
are shared by many other CPAs as well as thousands of taxpayers 
that we represent.
    I'm here today to represent the CPA in the field, not in 
the academic world, the one that's administering, implementing 
the tax laws that you in Congress are passing.
    We all want tax simplification. We all want a less Tax 
Code. We ask that you, the Congress, prioritize simplicity, 
unlike the complex tax laws of 1997. We're happy with the tax 
reduction in these laws. We're not as happy with the 
simplicity.
    The alternative minimum tax was a tax on preferences and 
adjustments to make sure certain taxpayers who had their taxes 
reduced due to tax shelters, heavy depreciation, special 
preferences, like stock options, would pay some tax. It was not 
conceived to penalize taxpayers who had more than two children, 
credits under the 1997 Tax Relief Act, employee business 
expenses, or State income taxes.
    Are taxpayers going to get what Congress promised was a 
statement made earlier? And that's what I'm here to ask. My 
suggestion is to simplify the alternative minimum tax. I'm not 
opposed to doing away with it, by the way, but to simplify it.
    And there are many solutions out there. You could take in 
my attached testimony the alternative minimum tax form, 6251, 
and you could just use lines 8 through 14 and eliminate the 
other lines. And you will eliminate many of the taxpayers that 
Mr. Kies mentioned earlier.
    Tax credits are not computed in alternative minimum tax. 
And they should not be used as a penalty on taxpayers. Those 
single mothers that send a child to college are going to be hit 
with that.
    Mr. Chairman, I do have practical solutions. I've submitted 
those to your staff. I've submitted those to Congressman 
Norwood. In fact, he has sent some forward to the Joint 
Committee to get them scored so that you will have the answers 
to the questions about how much this is going to cost me.
    There are simple solutions, and then there are political 
solutions. I'm here on the practical side and will not address 
the political side. Last year I only had about 50 clients hit 
with AMT. This year I estimate about 250. And next year I 
estimate about 500 clients. However, every one of my clients 
has to compute whether they're subject to the AMT.
    Let's look at those taxpayers that are doing their returns 
by hand, doing them themselves. They're going to get hit with 
the AMT, not know it, send their return in. They're going to 
get a letter back from the IRS with penalty and interest. And 
then they're going to call their Congressman. And I don't want 
to be a party to those calls.
    I've given you an example of a jewelry traveling salesman 
who travels on the road who is on a W-2 of $107,000. He's hit 
with AMT, 50-percent reduction for meals, 2-percent reduction 
for miscellaneous itemized deductions, and so forth. He is 
being hit, and his effective tax rate has just been hit bad.
    The 3 percent of adjusted gross income on the itemized 
deductions was a hidden tax. I've given you testimony as to why 
that happened. It was a way to raise taxes 1 percent with 
hidden rates. Now that's 1.19. But the thing of that, line 28, 
where that number goes, the IRS has refused to put the 
computation on the form. Not only is it hidden, but they've 
refused to disclose it.
    We think that's an affront. We ask that hidden rates be 
disclosed. And I think earlier somebody said we should disclose 
the hidden rates in every tax law. I'm here to say at least do 
that so that I don't get the calls that ``I cannot add up 
itemized deductions'' and I have to tell them that Congress 
passed this 3 percent and didn't want you to know that it was 
an additional rate.
    I have many other examples enclosed from $30,000 to 
$330,000 of hidden rates, of hidden loss of deductions, IRAs, 
tax credits. They're all in my testimony. I ask you and the 
staff to look over it.
    And finally I urge Congress to pass laws that are easy to 
administer that will increase compliance if they're easy to 
administer and decrease frustration.
    [The prepared statement and attachments follow:]

Statement of Abram Serotta, Serotta, Maddocks, Evans & Co., Augusta, 
Georgia

    I want to thank you for the opportunity to testify before 
you today on alternative minimum taxes and hidden tax rates.
    I am a CPA in a firm in Augusta Georgia. I represent 
approximately 3,000 tax return filers. I consult with other CPA 
firms and also teach taxation. My views are shared by many 
other CPAs representing many thousands of taxpayers. I 
represent the CPAs ``in the field'' who must comply with the 
complex tax laws you are passing.
    We all want tax simplification. We want a less complex Tax 
Code. We ask that you, the Congress, prioritize simplicity, 
unlike the complex laws you passed in 1997.
    Since you have heard testimony from others on alternative 
minimum tax, let me expand on it from a hidden rate standpoint.
    The alternative minimum tax with preferences and 
adjustments was created to make sure taxpayers who had their 
taxes reduced due to tax shelters, heavy depreciation, and 
special preferences, such as stock options, etc., would pay 
some tax. It was not conceived to penalize taxpayers who had 
more than two children, credits under the Taxpayer Relief Act 
of 1997, employee business expenses, or state income taxes.
    My suggestion is to simplify the alternative minimum tax 
(or do away with it) by limiting it to just special preference 
items, especially those items from line 8 to 14 (post 1986 
depreciation, adjusted gain or loss, incentive stock options, 
passive activities, beneficiaries of estates and trusts, tax-
exempt interest from private activity bonds, and other) of the 
Form 6251. Tax credits should be allowed for alternative 
minimum tax purposes and should not be a penalty to taxpayers.
    I had approximately 50 individual clients in 1996 who were 
affected by this tax, but I had to compute it for all of my 
clients. I predict that in 1998, over 250 of my clients will 
pay alternative minimum tax--several who make under $60,000.
    Enclosed is a 1997 tax return summary for a traveling 
salesman, who earns just over $107,000. His business expenses 
totaled $32,215. Because of: (1) his alternative minimum tax of 
$4,778, (2) his 50% loss of meals of $2,838, and (3) the 2% 
adjustment to miscellaneous itemized deductions of $2,218, he 
loses a total of $9,834 of deductions (more than 30% of his 
expenses), which at a 28% rate is $2,754 of lost tax savings.
    The 3% of adjusted gross income in excess of a base amount 
for itemized deductions was a planned hidden rate. Congress 
debated between a 31% and 33% tax rate. The compromise was a 
31% rate with a 3% adjustment for itemized deductions (31% 
times 3%) and a hidden rate of .93%. Today with a 39.6 rate, 
the hidden rate is (39.6% times 3%) 1.19%. The 3% adjustment 
for adjusted gross income does not appear on the itemized 
deduction form, Schedule A. Line 28 of Schedule A has no place 
for the mathematical computations. I receive many calls a year 
from clients saying that I cannot add correctly because their 
total deductions on the form do not match the total allowed 
deductions at the botom of the page. The IRS's answer; there is 
not a big demand to have this shown on the return.
    I have enclosed other examples of hidden rates, showing the 
loss of exemptions, and phase-outs based on adjusted gross 
income. In my opinion, any phase-out serves as a hidden rate.

                              CONCLUSION:

    I urge Congress to pass laws that are easy to administer; 
and will therefore, increase compliance and decrease 
frustration.
[GRAPHIC] [TIFF OMITTED] T0897.110

[GRAPHIC] [TIFF OMITTED] T0897.111

[GRAPHIC] [TIFF OMITTED] T0897.112

[GRAPHIC] [TIFF OMITTED] T0897.113

[GRAPHIC] [TIFF OMITTED] T0897.114

[GRAPHIC] [TIFF OMITTED] T0897.115

[GRAPHIC] [TIFF OMITTED] T0897.116

[GRAPHIC] [TIFF OMITTED] T0897.117

[GRAPHIC] [TIFF OMITTED] T0897.118

[GRAPHIC] [TIFF OMITTED] T0897.119

[GRAPHIC] [TIFF OMITTED] T0897.120

[GRAPHIC] [TIFF OMITTED] T0897.121

[GRAPHIC] [TIFF OMITTED] T0897.122

[GRAPHIC] [TIFF OMITTED] T0897.123

      

                                


    Mr. McCrery. Thank you, Mr. Serotta. I assure you we share 
your goals. And we appreciate very much your bringing to the 
Committee practical common sense solutions to some of these, 
and we will take a look at them.
    Now Stephen Moore, the director of fiscal policy for the 
CATO Institute.
    Mr. Moore.
    Mr. Moore. Thank you, Mr. Chairman.

   STATEMENT OF STEPHEN MOORE, DIRECTOR, FISCAL POLICY, CATO 
                           INSTITUTE

    Mr. Moore. I'm grateful for the opportunity to testify this 
morning. Let me say that the CATO Institute gets no government 
grants or contracts, and neither do I personally.
    I was very much pleased with Chairman Archer's proposal 
that was released last week for a roughly $200 billion tax cut 
over the next 5 years. I'm very much in favor of a very large 
tax cut being enacted this year precisely because we're looking 
at very large budget surpluses. And those surpluses should be 
returned to the taxpayers.
    I would simply have two caveats. First, if we're going to 
do a tax cut this year, which we should, it should be 
consistent with the idea of simplicity and fairness. It should 
move us in the right direction, either toward a consumption tax 
or a flat tax. Unfortunately, I have to say, Mr. Chairman, that 
last year's tax bill did not pass that test. We made the tax 
system more complicated.
    What I want to talk to you this morning about is an idea 
that we have been promoting, which is the idea of expanding the 
15-percent tax bracket so that it applies to more middle-income 
workers.
    As way of background, let me say that one of the tax acts 
that's passed in this Committee over the last 15 years that was 
probably one of the single best pieces of legislation in my 
opinion was the Tax Reform Act of 1986. We cleaned out a lot of 
the pollution in the Tax Code. We got those rates down. We got 
them to 15 and 28 percent. And I'm with Jack Kemp on this. If 
we could move back to that system we had back in 1986, I think 
the economy would grow much faster and we'd be moving 
significantly in the right direction.
    We actually have a plan at the CATO Institute called the 
alternative maximum tax idea that would say that no taxpayer 
should have to pay more than 25 percent of their gross income 
in Federal combined payroll and income tax and if they want to 
short-circuit this complicated 9,000-page Code, they could 
simply fill out a postcard, return, pay 25 percent of their 
gross income in taxes, and be done with it. This would in a 
sense because of the 15 percent payroll tax creates a two-rate 
system of 10 and 25 percent.
    If we can't do that this year, then let's move toward this 
system of at least providing broad middle-class tax relief in a 
way that actually reduces tax rates. And what I'm talking about 
here is expanding the 15 percent tax bracket.
    Now, if you look back at the 1986 Act, what you find is 
that the intent of Congress was that we would create two rates. 
The 15-percent rate would be applicable to all low-income 
workers and to all earners that were in the middle class. And 
the 28-percent rate would apply to wealthier taxpayers.
    Unfortunately, because of real income growth over the last 
12 years or so, we have seen a system where more and more 
middle-income taxpayers are now being forced into the 28-
percent and in some cases the 31-percent tax bracket.
    This is a simple matter of tax fairness. There are now 21 
million Americans in America today that make between roughly 
$25,000 and $50,000 income. And, believe it or not, Mr. 
Chairman, these are the Americans who pay the highest combined 
payroll and income tax bracket of any Americans in the entire 
economy. That is to say, a $40,000 single worker pays a higher 
marginal tax rate than Bill Gates does.
    To demonstrate this point, I want to, if I could, show you 
a couple of charts to demonstrate this point. What this chart 
is essentially showing you, this is essentially showing the 
combined payroll tax and income tax rates that are applicable 
to Americans at various income levels.
    What it shows is that if you look at the people who--this 
is for single filers, incidentally--make over $25,350--that's 
where the 28-percent bracket kicks in for single workers--those 
folks are paying the highest rates.
    And so what I am suggesting is that we take this line here 
and we bring this over like this so that those middle-income 
workers are paying 30 percent, 15 percent on their income and 
15 percent on their payroll, not a combined 43 percent, which 
is what they are paying now.
    Again, this would apply to roughly 21 million working 
Americans. If we want to provide broad-based tax relief to the 
middle class and we'd want to do it in a way that is in a 
supply side progrowth direction, let's bring rates down for 
those folks. Eventually I'd like to have that 30-percent rate 
go across the board, but at least start with those middle-
income workers.
    Quickly, this, Mr. Chairman, is the same rate chart but for 
married couples. Now, you can see the situation is a little 
better for married couples, but again you see that big hump, 
camel hump, there. Again, let's flatten that out. Let's get rid 
of that 28-percent bracket for folks in that income range 
between roughly $42,350 and $64,000.
    That is the proposal, Mr. Chairman. I think it's consistent 
with sound progrowth tax policy, but it also would provide very 
significant tax relief for voters in that income range.
    Thank you.
    [The prepared statement and attachments follow:]

Statement of Stephen Moore, Director, Fiscal Policy, CATO Institute

    In 1986 Congress passed and President Reagan signed a 
landmark and heroic piece of legislation: the 1986 Tax Reform 
Act. The 1986 TRA closed economically inefficient tax loopholes 
and dramatically reduced income tax rates for all Americans.
    The result of the 1986 Tax Reform Act was to create a 
simple two-rate income tax system: 15 percent and 28 percent. 
It should be emphasized that the 1986 TRA was a bipartisan 
measure and was sponsored by Democrats Rep. Richard Gephardt 
and Senator Bill Bradley and Republicans Rep. Jack Kemp, and 
Senator Bob Packwood, with important contributions from the now 
Chairman of this Committee, Bill Archer.
    A major objective of the 1986 Act was for the 15 percent 
income tax bracket to apply to all low income and the vast 
majority of middle income workers. The 28 percent bracket was 
primarily to apply to wealthier workers.
    In the post-1986 TRA era, we have passed several bad tax 
bills, most notably the 1990 budget deal and the 1993 budget 
deal, both of which unraveled tax simplification and created a 
new multitude of tax rates climbing to a high of 39.6 percent. 
I agree wholeheartedly with Jack Kemp and others that a very 
good start to tax reform would be to get us back to the two 
bracket system of 15 and 28. We have a plan that we are 
promoting at the Cato Institute called the MAXTAX that would be 
even more pro-growth. It would create two income tax rates at 
10 and 25 percent wrapped around the payroll tax. I have 
attached to my testimony an explanation of that plan, which 
involves giving taxpayers the freedom to choose between this 
low rate gross income tax or the complex current system.
    Another pernicious trend since 1986 should be rectified by 
this Committee to restore tax fairness for the middle class. 
More and more middle income workers have now been pushed into 
the 28 percent tax bracket--and some are now paying the 31 
percent bracket. This phenomenon is occurring because the tax 
brackets are not indexed for real income growth, just nominal 
income growth.
    Today, there are roughly 21 million workers with earnings 
between $30,000 and $50,000 a year most of whom pay marginal 
income tax rates of 28 percent.
    Believe it or not, these workers pay the highest marginal 
tax rates under our federal tax system. Why? Because they pay a 
28 percent federal income tax rate on top of a 15 percent 
payroll tax. The combined rate of 43 percent is higher than the 
top income tax bracket for even the wealthiest Americans at 
39.6 percent. The two charts that I have attached to my 
testimony show the problem graphically. The middle class 
workers--particularly single workers--face punitive tax rate 
burdens. And as Reagan taught us: taxes matter most at the 
margin.
    Nixon once called these neglected citizens the ``silent 
majority.'' Both parties lay claim to speaking for these 
working class Americans, but neither party seems to be 
listening to them.
    Ever since the sweeping Reagan tax cuts of 1981, neither 
political party has done much to directly benefit the middle 
class in the pocketbook. The latest figures from the 
nonpartisan Tax Foundation highlight that since 1980, despite a 
Republican in the White House for 12 of those 17 years and a 
Republican-controlled Congress for 3 of the 5 others--the tax 
bite on median-income families has continued to ratchet upward 
to 38.5 percent. Federal taxation is now at its highest 
peacetime level, as a share of Americans' incomes, since the 
height of World War II.
    Much of the escalating tax burden has, of course, been 
attributable to hikes in the regressive payroll tax. For most 
Americans, payroll tax increases have canceled out, nearly 
dollar for dollar, the benefits of the Reagan income tax cuts. 
Meanwhile, the federal gas tax has been tripled since 1980, 
state and local property taxes continue to climb and so does a 
multitude of obnoxious fees and assessments.
    Last year Rep. Dick Armey (R-Tex.) called this plight of 
American workers, ``the middle class squeeze.'' Exactly the 
right diagnosis. But what is either party doing about it? Last 
year Republicans passed a niggling tax cut about one-third as 
large as what they had promised in 1994.
    Yes, for families with young kids this is blessed relief--a 
$1,000 tax cut for a family of four. There are still millions 
of middle-class households without kids at home and without 
capital gains income that will angrily learn come April 15th 
that they get essentially nothing out of this tax bill.
    Jack Kemp and Ronald Reagan taught us that tax rates 
matter, too. Combining payroll tax, federal income tax, and 
state income taxes, many middle income families are approaching 
a 50 percent marginal tax burden. If a stay-at-home mother 
wants to get back in the workforce, full- or part-time, she's 
paying nearly 50 percent tax on her first dollar of income 
earned. Counting the costs of child care, she may only bring 
home 20 cents on the dollar. Often she can't afford to work.
    Republican Senator Paul Coverdell of Georgia has proposed 
relieving the middle-class squeeze. He would raise the income 
threshold on the 15 percent income tax bracket. I understand 
that Mr. Archer will propose to do so as well.
    Under current law the 28 percent tax bracket creeps up on 
single workers at an income level of $25,350 and on married 
couples at $42,350. The 15 percent bracket should be stretched 
to $35,000 income for singles and $50,000 for married couples. 
This would reduce federal revenues on a static basis by $25 
billion a year--or roughly the amount of the budget surplus now 
being projected. The principle here is simple: all middle-class 
families in America should be in the 15 percent tax bracket--
not the 28 percent bracket. In fact, eventually, Congress 
should expand the 15 percent tax bracket to apply to all 
Americans with earnings below $65,000 a year--the income level 
where people stop paying payroll taxes.
    This is not a plan that is vulnerable to attacks as a ``tax 
cut for the rich.'' It is designed to benefit the workers who 
earn between $30,000 to $50,000 a year.
    This plan would provide middle-class workers, not symbolic, 
but meaningful tax relief. A single filer with an income of 
$32,000 a year would receive an $864 tax cut. A married couple 
with taxable income of $48,000 a year would receive a tax cut 
of $734. Preliminary estimates indicate that the plan would 
result in a static revenue loss of $20 to $25 billion annually. 
This is less than the projected budget surplus. Dynamic 
analysis would suggest that as much as one-third of the static 
revenue loss would be recouped through more work and savings.
    Newt Gingrich and Trent Lott have announced that 
Republicans will cut taxes again in 1998. The bigger the tax 
cut, the better. But I urge this committee that whatever is 
done: cut taxes and aim to simplify. No more ``targeted'' 
education tax credits, no more loopholes and complexities. The 
President's tax plans are deeply flawed in this area. H&R Block 
is the primary beneficiary of the White House proposal. Tax 
cuts in 1998 should make the tax code simpler and the tax 
burden lighter.
    Consistent with these principles, I am very much in favor 
of two other ideas that have been presented before this 
Committee: indexing capital gains for inflation and relieving 
Americans from the burden of the Alternative Minimum Tax. 
Inflation is a thief. It is not fair to tax Americans purely on 
phantom gains. In this low inflation environment, indexing 
capital gains would not impose much of a cost on the Treasury, 
but would provide investors an insurance policy against a 
return to a high inflation regime.
    Bill Archer and Paul Coverdell's ideas are sound. Marginal 
rate cuts are necessary to improve American competitiveness in 
the global economy. It is noteworthy that almost all nations in 
the world have been cutting tax rates since 1981--see tables. 
We should broaden the 15 percent tax bracket this year. In 1999 
or 2000 we should vastly simplify the tax system by flattening 
the income tax, or better yet, by adopting a national 
consumption tax.
      

                                


[GRAPHIC] [TIFF OMITTED] T0897.124

[GRAPHIC] [TIFF OMITTED] T0897.125

[GRAPHIC] [TIFF OMITTED] T0897.126

[GRAPHIC] [TIFF OMITTED] T0897.127

[GRAPHIC] [TIFF OMITTED] T0897.128

      

                                


    Mr. McCrery. Thank you, Mr. Moore, for that very 
interesting proposal.
    Now we'll hear from Robert Blair, chairman and president of 
the S Corporation Association.
    Mr. Blair.
    Mr. Blair. Thank you, Mr. Chairman. Thank you, Members of 
the Committee.

     STATEMENT OF ROBERT A. BLAIR, FOUNDER AND CHAIRMAN, S 
                    CORPORATION ASSOCIATION

    Mr. Blair. My name is Robert Blair. I am the founder and 
chairman of the S Corporation Association, an association that 
I established because I found that many entrepreneurs 
throughout the United States found themselves unrepresented 
here in Washington. We are about 45,000 companies strong among 
the 2 million S corporations that exist in the United States. 
It's a small beginning, but 45,000 strong is a strong voice.
    I want to talk today about the inequity that applies to the 
S corporations owners of the United States, and I applaud this 
Committee for looking at inequities that apply across the 
spectrum, whether to married couples or to others.
    The essential issue that I am here to talk about is 
entrepreneurship. In our youth, all of us studied in our books 
the great entrepreneurs of yesteryear. Whether it was Eli 
Whitney or Robert Fulton, we looked back, and we saw great 
vision, people taking great risks, and succeeding against the 
odds.
    The modern media bombard us with the great successes of 
today's entrepreneurs. Bill Gates or Mary Kay or Ted Turner. 
These people not only took risks and achieved greatness, but in 
many instances, they created whole new industries.
    Of course, behind all of those big stories that hit the 
front pages of the newspaper, regrettably, are the many more 
unreported stories of entrepreneurs who took the risks but did 
not achieve great success. For every great success, there are 
many failures.
    I know of which I speak. I come from a family of 
entrepreneurs. At the time of the Great Depression, my father, 
Tom Blair, had to leave the employment of his father's road 
construction company because jobs were stripped away.
    With an eighth-grade education and a passel of kids--I'm 
number 11 of 13--he moved from the North Carolina region to 
where there might be work. He found that work in Virginia.
    He went there seeking work, and what he also took with him 
was an entrepreneurial spirit that has flowed through our 
family at least since the 1850s. He created with his eighth-
grade education a road construction company, intending to do 
what all of us want to do: have great success.
    I wish I could tell you my father's version of the Bill 
Gates success story now. I can't. Success did not come easy. He 
went up, and he went down. He suffered through two 
bankruptcies. He suffered when I was 15 years old a complete 
disability that took him completely out of commission for 5 
years when he simply could not work.
    By that time, in his early sixties, what did he face? He 
had 13 children. He had to put food on the table. He was 
receiving a mere $30 a week in disability insurance. Times were 
not exactly pretty.
    But he eventually got up from his bed and he worked. And 
from that work, many of his sons, myself not included, and his 
grandsons have gone off to create other road construction 
businesses which are prospering today.
    Why do I tell you a family story? Because, while it makes 
me feel terrific, the burdens and the obstacles that life puts 
in your path--whether it's the Great Depression or whether it's 
simply a tough technical hurdle--an entrepreneur, even one with 
seemingly endless spirit and zeal, doesn't need the U.S. 
Government placing additional burdens and obstacles in his way.
    In 1954, the Congress saw the wisdom of creating something 
called the S corporation, or Subchapter S of the Internal 
Revenue Code. By doing this, Congress permitted American 
entrepreneurs who created their small and family businesses to 
operate at least under the shield of limited liability from 
plaintiffs' attorneys, who obviously were scouring the 
landscape for opportunities on behalf of their clients. 
Congress permitted these S corporation owners to be taxed at a 
partnership tax rate. That was the good news of what the 
Congress saw and did in the fifties.
    As a result of that vision, Congress spawned 
entrepreneurship throughout the country, in every sector of the 
economy, be it rent-a-car companies or florists or heavy 
manufacturers. You name the industry, and I will bring you an S 
corporation. That's success, job-creating success, people 
taking risks, but fair and reasonable risks of the market, 
rather than risks that are imposed artificially by the 
government.
    To understand what I mean by that, let's revisit 1993, 
about which the 1993 distinguished Chairman of this Committee 
spoke earlier. In the 1993 Omnibus Budget Reconciliation Act, 
tax increases went up to 39.6 percent.
    Why do I speak of that in the context of S corporations? 
Because those individual rates apply to the S corporation 
owners who had seized on and in him, build on the platform 
established by Congress in the fifties.
    With that as a backdrop, the tax hike of 1993 was 
disastrous. Allow me to flesh this out with another real-life 
example. A dear friend of mine started a company in 1975 with a 
handful of employees. By the early nineties, he had grown to 
6,000 employees, succeeding against great odds, in a tough 
business with narrow margins of profit of perhaps 3 percent. 
What happens in a company where you've self-capitalized, where 
you have to put most of your money back in your business? You'd 
better watch that margin, or there will be nothing left to 
reinvest.
    So along comes the huge tax increase of 1993. Now my friend 
has to take more money out of the company to pay his higher tax 
bill to the U.S. Treasury. He needs money to continue to 
capitalize, but he doesn't have it anymore. So he goes into the 
debt markets, and he borrows.
    Now he has higher taxes debt, which comes with the added 
costs of debt service. By 1995, his back is against the wall 
because, as an entrepreneur who operates in the form of an S 
corporation, he faces the fact that he must personally apply to 
every financial institution which lends him money, and 
personally guarantee what is becoming unmanageable debt.
    For my friend whose story is all too common among S 
corporations today, it became too much. Back against the wall, 
facing the prospect of personal bankruptcy because the debt 
would overwhelm him, he did the opportune thing. He sold out to 
a public company.
    And what did that public company proceed to do? Not 
surprisingly, it downsized the business, reversing the job-
creating machine my friend had established, sweated to grow, 
and worked to sustain.
    That's the personal side of what has happened to S 
corporations. Let's look at the more empirical evidence now. 
National Association of Manufacturers' polls discovered that, 
in the aftermath of the 1993 tax hike, 43 percent of their S 
corporation members, a significant portion of the trade 
association, would not increase capital investment as a direct 
result of the higher tax rates and other obstacles placed on 
them by the government. Forty-seven percent of those surveyed 
said they would not hire more employees as a result. And 23 
percent said they would actually have to engage in layoffs. 
These are real numbers and they are numbers that only tell us 
how common my dear friend's dilemna now.
    What is the solution? The beginning of the answer has been 
submitted by Mr. Crane, who has introduced a bill, the Small 
Business Investment and Growth Act (H.R. 2884), to try to 
rectify part of the problem. I thank Mr. English for being one 
who has recently come on as a cosponsor of this important 
legislation.
    What does Mr. Crane's bill recognize? It recognizes that 
yes, the S corporation companies of America deserve not a major 
break, but certainly not the illogic of the tax ``penalty'' 
placed on them in 1993. Mr. Crane's bill recognizes the 
entrepreneurial spirit which is in their veins, and helps 
ensures that it will continue to be the job-creating force that 
this country historically has been able to depend upon.
    The Crane bill says: If you are going to reinvest in your 
company, Mr. or Ms. S corporation owner, or if you have to take 
money out of your business in order to pay these increased 
taxes, we'll stop penalizing you for doing what we need you to 
do. We'll roll back the 39.6-percent rate you pay to the 
highest C corporation rate, provided you leave that money in 
the company. When and if you take any of that reinvestment out 
at a future point, you then would have to pay the highest 
applicable individual rate.
    While this is unquestionably a reasoned approach, we 
limited it so that the lower rate would only apply to $5 
million of the company's Federal taxable income. And that cap, 
together with strong antiabuse provisions, ensure that we keep 
this proposal not only fair and logical, but also at a 
reasonable cost to the Treasury. Needless to say, we are 
confident that whatever small investment is made ``up front'' 
by the Treasury will be repaid many times over, because 
Congress would simply be facilitizing reinvestment--not 
penalizing it--spurring even more growth, productivity and job 
creation from the entrepreneurs who have proven themselves 
capable of delivering throughout the economical history of our 
Nation.
    Mr. Chairman, I will wrap up by saying that the S 
Corporation Association has made this its top priority on 
behalf of its own members and affiliates, as well as two 
million S corporations around the United States.
    I am pleased to report that the National Association of 
Manufacturers' Small Manufacturers' Group has also made this 
one of their top priorities. And the numerous trade 
associations with whom we work have made or are making this one 
of their major goals as well.
    We hope that you will work with us to pass that 
legislation. We thank you for holding this hearing today.
    [The prepared statement and attachment follow:]

Statement of Robert A. Blair, Founder and Chairman, S Corporation 
Association

    Good morning, Mr. Chairman and Members of the Committee. My 
name is Robert Blair, and I am the founder and Chairman of the 
S Corporation Association, or S-CORP as we are known, a group 
which speaks for more than 45,000 S corporations in virtually 
every industry nationwide. On behalf of our members and our 
affiliates, I wish to thank the Chairman for taking time today 
to address some of the tax rate inequities facing key segments 
of the U.S. population, and to explore some of the ways in 
which we can begin to rectify them. I applaud the Chairman's 
leadership in pursuing this important topic, and am grateful 
that you have allowed me to come before this body today to 
share my views with the Committee. I am certain that today's 
proceedings will help lay the critical groundwork for focusing 
on strategic and reasonable means by which we can redirect the 
tax system, through the legislative process, to encourage the 
type of economic activities that we as Americans have long 
valued.

                      Recognizing the Entrepreneur

    The essential issue that I will talk about today is a value 
that is more a part of American economic history and tradition 
than perhaps any other: that value is entrepreneurship. We 
have, as a society, long heralded and embraced the 
entrepreneur, and our culture reflects this value in every way 
imaginable. Our children are taught from grade school about the 
vision of entrepreneurs like Eli Whitney, Robert Fulton, 
Alexander Graham Bell, and Henry Ford, and how these men took 
risks that changed the way America competes in and leads the 
world. Our magazines, films and television news shows regularly 
trumpet the genius of entrepreneurs like Bill Gates, Warren 
Buffet, Mary Kay and Ted Turner, and remind us of the personal 
and professional risks that they took to literally create 
industries like computer software, investment banking, 
cosmetics and broadcast media. Quite simply, America is in love 
with the entrepreneur, and for good reason. Ours is the one 
country in the world where the Horatio Alger story can come 
true, where one person can have a vision, take a risk, and make 
that vision into a monumental reality, all within a single 
lifetime.
    But all entrepreneurs do not achieve the great success of a 
Bill Gates or a Ted Turner. Most fail. Many who fail pick 
themselves up and try again. I know of which I speak. I am the 
eleventh of thirteen children. My father was forced to leave 
his father's road construction company when the great 
Depression stripped away many of the jobs that my father and 
others had. With an eighth grade education, he traveled to 
southeast Virginia to find employment and then to start his own 
road construction company. But success did not come easy. Over 
a period of three decades he rose...and he fell. He went 
bankrupt twice--he was disabled from a construction accident 
for more than five years. But he never quit. The 
entrepreneurial blood that flowed in his veins flows today in 
the veins of his sons, several of whom started their own road 
construction businesses. While some may say that I got lost 
along the way and became a Washington lawyer, I can assure you 
that that entrepreneurial blood flows in my veins as well. My 
creation of the S Corporation Association is a testament to the 
entrepreneurial spirit of Tom Blair, to my grandfather, Thomas 
Blair, who went from building railroads to building roads for 
cars, to my great grandfather, William Robert Blair, who left 
Ireland and found work building the railroads of the Midwest. 
But why, do you ask, do I raise a family story? Because the 
spirit of the entrepreneur is challenged enough without the 
government placing burdens and obstacles in the path. I watched 
the Congress do just that when it passed the Omnibus Budget 
Reconciliation Act in 1993.
    Congress had a decidedly different view in 1954.

       S Corporations: Congress Seeks To Foster Entrepreneurship

    In 1954 the Congress knew a good thing when it saw it. The 
Congress recognized the value of entrepreneurship and sought to 
create a way to encourage and promote the economic spirit on 
which our country was built by creating the concept of the S 
corporation. The S corporation was launched as a means of 
ensuring that when a person has a business vision, takes 
personal risk to launch that vision and helps to fuel the 
economy by making that vision into economic reality, he or she 
does not get penalized by the tax system while they are doing 
something fundamentally good and important for the American 
economy. Because for an S corporation, where the shareholders 
are the business, these companies were permitted by Congress to 
limit the personal liability of the owners, but be taxed like 
partnerships.
    What did Congress do when it created special companies in 
1954? The answer is simple: It spawned entrepreneurship. In 
1978, S corporations made up only about 20 percent of U.S. 
corporations. By 1995, there were 2 million S corporations 
operating in virtually every industry and in every state across 
America, and these businesses accounted for half of all 
corporations in America. While a small handful of these 
companies have realized truly great success, the IRS tells us 
that the vast majority of these companies are small businesses, 
with average assets of less than $10 million. But while 
principally small, these companies account for about 40 percent 
of the U.S. tax base. These are not the IBM's and Microsofts of 
the world; they are mostly family businesses, or companies 
started by small groups of families or by friends from the same 
school or town. They are corner stores and the kinds of 
businesses that employ significant segments of entire 
communities. They are the businesses that create local wealth 
as well as national wealth.
    In order to launch these businesses, we should remember, 
their owners have risked large amounts of their own personal 
assets, often putting up all of their savings to see whether 
they can make their vision work. Most of them, no matter how 
successful their company has become, still must guarantee 
personally every penny of debt that their businesses take on.
    These businesses are not concentrated in any geographic 
region, nor are they aggregated in a particular industry. 
Rather, they are evenly spread across the U.S. industrial base, 
with about a third operating in the service sector, a third in 
the retail trade and financial sectors, and a third in 
manufacturing, mining, agriculture and other traditionally 
``heavy'' industries. Some of these businesses have been lucky 
enough to grow and employ a few hundred workers, while others 
have stayed small but productive, and just as critical a part 
of the national economic landscape.
    In short, in 1954 Congress had its own vision--it wanted to 
create a way to enable businesses to organize, reasonably limit 
the liability of the individuals who started the company, 
acknowledge the extraordinary risks and challenges these 
individuals faced, and impose taxes fairly and appropriately. 
Congress sought to promote entrepreneurship, and it succeeded. 
The S corporations of today stand for entrepreneurship, the 
most basic American economic ideal, and they have fulfilled 
their mission by becoming the engines of economic growth and 
job-creation that Congress hoped that they would be.

                          The Disaster of 1993

    Then, of course, came the disaster of 1993. That was the 
year that Congress may have forgotten about its S corporations, 
and its desire to foster and support entrepreneurship.
    Congress most certainly did not intend the consequences 
that struck many S corporations, but intent is not relevant 
when you are the entrepreneur fighting in a viciously 
competitive market, who must also overcome government improved 
burdens and obstacles. What am I talking about?
    When Congress raised tax rates to 39.6% in individuals, it 
forced S corporation owners, most of whom self-capitalize, to 
take substantial additional monies out of their businesses 
simply to pay taxes. A dear friend took his S corporation from 
a handful of employees to over 6,000 employees in just twenty 
years. His margin of profit was at best 3 to 4 percent. That 
big 1993 tax increase took dollars that he would have re-
invested in his corporation and deposited them with the IRS. 
Short on capital, he was forced to go to the capital markets to 
borrow large sums of money. Now he had debt service and higher 
taxes to pay. By the end of 1995, he was on the verge of losing 
everything--after all, as the owner of an S corporation, he had 
to guarantee his corporation's debt. He saved himself by 
selling to a public company which immediately downsized his 
twenty-year-old creation.
    A simple example will further illustrate my point: Let us 
say that an owner's share of her S corporation is $250,000 this 
year. Of that amount, the owner pays herself $125,000 in salary 
and non-wage distributions, and invests the remaining $125,000 
to buy one new machine and hire one new employee. With the tax 
hike of 1993, she will pay federal income taxes at an 
astonishing rate of 64 percent of her actual take-home pay. 
More importantly, she will pay the same tax bill as another 
business owner of a standard or ``C corporation'' who took home 
$250,000 in salary and distributions and chose to reinvest 
nothing in his business. I cannot conceive of a greater 
disincentive for reinvestment and economic growth for this 
critical class of businesses.
    In polls of S corporations since their shareholders' tax 
rates increased, these companies regularly report that the 
added tax burden is the primary reason they cannot reinvest as 
much money into their companies as they did before their taxes 
went up, and that they would put more money back into their 
businesses and into the economy if they were freed up by tax 
laws to do so. In recent surveys by the National Association of 
Manufacturers of their small manufacturers, about 40 percent of 
which are S corporations, the increase in tax rates on S 
corporations was a key reason that 43 percent of these 
businesses said they would not increase capital investment, or 
that they would reduce investment in their businesses. During 
this time of great economic expansion, in fact, 47 percent of 
these companies said that the higher tax burden on S 
corporations, together with other government mandates, would 
keep them from hiring more employees. Twenty-three percent said 
they planned to lay off workers as a direct result. If we 
believe that the economic good times of the past few years have 
been universal, imagine what gains we could have realized if S 
corporation tax policies were not so misdirected as they now 
are.

                  The Crane Bill: A Critical Beginning

    In November 1997, Congressman Phil Crane introduced the 
Small Business Investment and Growth Act, a bill to encourage 
the entrepreneur and to help our economy derive the benefits 
from that entrepreneur's work and risk. On behalf of all S 
corporations, I hope that the Committee will advance 
Congressman Crane's important measure as a means of trying to 
bring fairness for the entrepreneur back into the tax code on a 
permanent basis.
    The Crane bill has a simple objective: to reduce the 
inequities imposed on S corporations as a result of the tax 
rate increase of 1993, and to begin to help America's S 
corporations to put money back into their companies so they can 
continue to expand and create more U.S. jobs. Congressman 
Crane's bill acts on what history--not to mention our own 
business owners--tells us to be true: If we empower our 
entrepreneurs with sound policy, rather than punish them for 
investing and for growth, if we recognize the risk these 
entrepreneurs take every day rather than make it even riskier 
for them to stay in business, we will reap the benefits of 
these policies through more corporate spending, more jobs, and 
more productivity. Congressman Crane's bill is an investment in 
a proven entity--the entrepreneur--for our own economic future 
and that of our children.
    To accomplish these important objectives, Congressman 
Crane's bill would lower the federal tax rate paid by S 
corporation shareholders to no more than the highest applicable 
C corporation rate when the shareholders reinvest their 
earnings in their businesses, and/or when the company 
distributes earnings for the sole purpose of making tax 
payments. To ensure that virtually every S corporation in every 
sector benefits from this measure, companies of every size 
would be able to participate, but the reduced rate would be 
applicable only to the first $5 million in federal taxable 
income of the S corporation. This ensures that the Congress 
supports and promotes entrepreneurship, but does not do so at a 
level that adversely affects the federal treasury.
    The Crane bill extends to S corporations in every industry 
group imaginable, but it also has limitations to protect 
against abuses. For example, the measure only allows so-called 
``personal service corporations'' to benefit from the reduced 
tax rate to the extent that they are not only reinvesting in 
their businesses, but making demonstrable investments in true 
capital expenditures such as plant, property and equipment. And 
as I mentioned, because we want to see this critical change be 
made available to all S corporations rather than a select 
handful, we support the notion that the rate reduction can only 
be made widely available if it is limited in its amount, in 
this case to $5 million of the S corporation's taxable income.
    I am proud to say that the S Corporation Association, 
together with the National Association of Manufacturers, has 
worked closely with Congressman Crane and his office on this 
important measure, and our Association will make this our top 
priority for 1998. I know that this is also a priority for NAM, 
whose Small Manufacturers reported last year that eliminating 
the S corporation ``shareholder penalty'' is their second-most-
pressing legislative priority. I need hardly tell the Committee 
that many other trade associations--and particularly those 
whose members are typically small and/or family businesses--are 
eager to see this proposal advance.
    Thank you, Mr. Chairman, and Members of this Committee, for 
permitting me to come here today.
      

                                


The Small Business Investment and Growth Act, (H.R. 2884)

                        Need for the Legislation

     As a result of the tax increases of 1990 and 1993, 
S corporation shareholders are unfairly burdened by a higher 
tax rate than is applied to any other corporate entity in 
America. S corporations--which represent more than 2 million 
businesses in virtually every sector and in every state 
nationwide--are especially penalized when they reinvest in the 
growth and preservation of their businesses, and when they 
distribute earnings for the sole purpose of paying taxes. S 
corporations, which are predominantly small and traditionally 
family-owned businesses, have originally been the engines of 
America's economic growth. But because of the disincentives of 
current tax laws, these entrepreneurial establishments are 
hindered from reinvesting in their businesses and continuing 
their strong tradition of economic expansion and job creation.

                        Goals of the Legislation

     The Small Business Investment and Growth Act 
promotes investment among America's S corporations in jobs and 
business growth; provides for targeted rate reduction for all S 
corporation owners, regardless of industry or size, when they 
invest in their businesses; allows certain personal service 
corporations which make substantial investments in capital 
improvements to benefit from the targeted rate reduction; and 
ensures against potential abuses by certain companies.

                             Key Provisions

     The bill would lower the federal tax rates paid by 
S corporation shareholders to no more than the highest 
applicable C corporation rate when the S corporations reinvest 
earnings in their businesses (rather than distribute the 
profits) and/or when they distribute earnings for the sole 
purpose of making tax payments.
     The lower tax rate would be applicable only to the 
first $5 million in federal taxable income of the S 
corporation. Any combination of reinvested earnings and 
earnings distributed solely for making federal tax payments 
would qualify.
     To avoid potential abuses of the reduction, an 
exclusion applies to some personal service corporations (PSCs). 
In general, PSCs (defined by IRC 448) would be eligible for the 
rate reduction only to the extent that their reinvested 
earnings are offset by capital expenditures. The $5 million 
taxable income cap would still apply, though a PSC would be 
allowed to use a three-year carry forward account for 
reinvestment to offset its capital expenditures.
      

                                


    Mr. McCrery. Thank you, Mr. Blair, for excellent testimony.
    Mr. Nelson, I'm told that our clock and the lights are 
broken. So if you'd try to summarize your written testimony in 
about 5 minutes, we'd appreciate it. Thank you.
    Mr. Nelson. I sure will. Thank you, Mr. Chairman, and 
Members of the Committee, for our invitation to testify on 
important tax issues.

    STATEMENT OF WAYNE NELSON, PRESIDENT, COMMUNICATING FOR 
                          AGRICULTURE

    Mr. Nelson. My name is Wayne Nelson. I'm president of 
Communicating for Agriculture, an association of farmers, 
ranchers, and rural small business people with members in all 
50 states. our national headquarters are in Minnesota.
    CA's worked on tax fairness issues affecting farmers, 
ranchers, and small business for many years. And we want to 
commend Congress for taking several positive steps last year on 
tax reform. We also believe that with the U.S. economy and the 
Federal budget appearing to be in better shape than at any time 
in recent memory, there is an opportunity to do more. We 
believe that a balance can be achieved that would allow for 
Federal debt reduction, maintaining a balanced budget, and 
providing for tax reduction.
    Mr. Chairman, I operate a farm in southern South Dakota. It 
seems that every year, income taxes get more complicated with 
most farmers and small businesses unable to do their own tax 
returns. Simplification of the Tax Code would go a long way 
toward helping farms and small businesses. Communicating for 
Agriculture supports the IRS reform measures presently moving 
through Congress.
    Recently it seems that the IRS has been using the TAM, 
technical advice memorandum, in a more frequent manner and in a 
manner that seemingly skirts or goes beyond the intent of the 
tax laws that Congress has previously enacted. It seems unfair 
that when Congress works hard to deliberate and pass tax 
legislation that a new interpretation growing out of one court 
case can change the outcome for thousands of taxpayers.
    An example has been the deferred payment contract problem 
for farmers last year. The IRS issued a technical advice 
memorandum that said farmers could no longer use deferred 
payment contracts to sell grain and livestock in one tax year 
and receive the proceeds in the next year. Thankfully, Congress 
fixed this with the legislation last year.
    We are concerned that one of the most recent TAMs again 
seeks to reinterpret tax policy to go beyond the intent of 
Congress. It involves self-employment taxes for farmers on 
rental income. In 1996, the IRS issued a TAM that effectively 
repealed the longstanding law that allowed farmers to choose 
whether their rental income would be subject to self-employment 
taxes now set at 15.3 percent.
    Congress allowed farmland owners to make the election by 
arranging their affairs to intentionally pass or fail a three-
part test. Farmland owners accomplished this election through 
the use of their farm lease agreements. The election has been 
offered since the fifties when Social Security benefits were 
first offered to farmers, enabling retired farmers to choose to 
pay self-employment taxes on cash rental income to become 
eligible for Social Security.
    The recent memorandum now reverses this option and states 
that farmland owners that also materially participate in the 
farming activity and rent to a farmer or a family farm business 
entity, they must pay the 15.3 percent tax on their rental 
income.
    It doesn't seem fair that farmland owners are now being 
singled out to pay self-employment taxes on certain cash rental 
income. The self-employment taxes should apply to income from 
labor. And the cash rent income is value and equity in the land 
and does not represent labor.
    It seems extremely unfair to allow an owner of an apartment 
complex or other commercial people to be able to not pay self-
employment tax on their cash rental income but farmers still 
have to do this.
    On my farm in South Dakota, we also have problems, as with 
many farms in America, with weather and with prices. So we have 
ups and downs in farm income.
    In the seventies and the early eighties, income-averaging 
was available to help level out this income from year to year. 
This last year in the budget bill, income-averaging for farmers 
in a limited basis was included. It is sunsetted in the year 
2000, and we would like to see that extended.
    Additionally, another useful self-help tool has been 
proposed. This is called the FARRM, or the farm and ranch risk 
management, accounts. These accounts would let qualified 
individual farmers and ranchers set aside up to 20 percent of 
their farm income each year. These individuals would have to 
materially participate in farming with the amount to be set 
aside calculated from their Schedule F portion of their tax 
return.
    The contribution would be tax-deferred, but any interest 
earned on the account would be included in the individual's 
annual gross income. The distributions would be treated as 
taxable income in the year that they were received. Any money 
left in the account over the 5-year limit would be subject to a 
10-percent penalty. Individual farmers that don't meet the 
participation guidelines for 2 consecutive years would have to 
immediately distribute the funds in the account.
    We think this and other ideas are ones that are fair from a 
tax standpoint. And they provide a useful financial management 
tool.
    Mr. Chairman and Members of the Committee, thank you for 
letting us share our views with you, we appreciate it.
    [The prepared statement follows:]

Statement of Wayne Nelson, President, Communicating for Agriculture

    Chairman Archer and members of the Committee, thank you for 
the invitation to testify on important tax issues. My name is 
Wayne Nelson and I am President of Communicating for 
Agriculture, an association of farmers, ranchers and rural 
small business people with members in all 50 states with our 
national headquarters in Minnesota. Communicating for 
Agriculture celebrated its 25th anniversary last year, and CA 
has worked on tax fairness issues affecting farmers, ranchers 
and small businesses throughout nearly all of those years. We 
want to commend Congress for taking several positive steps last 
year, notably on estate tax reform.
    We believe, with the U.S. economy and the federal budget 
appearing to be in better shape than anytime in recent memory, 
there is opportunity to do more. We share the view that 
Americans are paying more overall in taxes than they'd like to, 
and more than is necessary, for our government systems to run 
as efficiently as it can. We understand that taxes are 
necessary to maintain our country's infrastructure, our 
educational systems, and provide services citizens depend on. 
However, we believe a balance can be achieved that would allow 
for federal debt reduction, maintaining a balanced budget, 
providing for tax reduction, and still improving services.
    Mr. Chairman, I operate a farm in southern South Dakota so 
I deal with taxes on a frequent basis. It seems that every year 
income taxes get more complicated with most farmers and small 
businesses unable to do their own tax returns. I know on my 
farm I spend a good deal of time and money with my accountant 
who does a good job of charting a course through the maze of 
complex rules to prepare a tax filing on my operation. 
Simplification of the tax code would go a long way toward 
helping farms and small businesses and Communicating for 
Agriculture supports IRS reform measures presently moving 
through Congress. Hopefully, this reform can be quickly enacted 
to not only offer better understanding of the laws but also to 
put tax payers in a stronger position when disputes arise with 
the IRS.
    Recently, it seems, the IRS has been using the Technical 
Advice Memorandum (TAM) in a more frequent manner, and in a 
manner that seemingly skirts or goes beyond the intent of the 
tax laws that Congress has previously enacted. It seems unfair 
when Congress works hard to deliberate and pass tax 
legislation, which is interpreted and applied by the IRS for 
many years, only to have it changed for thousands of taxpayers 
by a new interpretation growing out of one court case. An 
example is the deferred payment contract problem for farmers 
last year. The IRS issued a Technical Advice Memorandum that 
said farmers could no longer use deferred payment contracts to 
sell grain and livestock in one tax year and receive the 
proceeds in the next tax year. Thankfully, Congress fixed this 
with legislation last year, but it should not have been 
necessary to fix a long standing law that had been interpreted 
by the IRS to allow deferred contracts in the years past only 
to have the interpretation changed by the TAM.
    We are concerned that one of the most recent Technical 
Advice Memorandums again seeks to reinterpret tax policy to go 
beyond the intent of Congress. It involves self employment 
taxes for farmers on rental income. In 1996 the IRS issued a 
TAM that effectively repealed the long standing law that 
allowed farmers to choose whether their rental income would be 
subject to self employment taxes now set at 15.3 percent.
    Congress allowed farmland owners to make the election by 
arranging their affairs to intentionally pass or fail a three 
part test. The law provides that if a farmland owner receives 
cash rental receipts from: (1) an ``arrangement'' whereby the 
farmland is used to produce farm commodities, (2) when the 
arrangement requires material participation by the farmland 
owner in the production or management of the farm commodities, 
and (3) when the farmland owner actually materially 
participates in the production or management of the farm 
commodities, then the farm land owner becomes liable for the 
self employment tax and participates in the social security 
system. Farm land owners accomplished this election through the 
use of their farm lease agreements. The election has been 
offered since the 1950s when social security benefits were 
first offered to farmers enabling retired farmers to choose to 
pay self employment taxes on cash rental income to become 
eligible for social security.
    The recent IRS memorandum now reverses this option and 
states that farmland owners that also materially participate in 
the farming activity and rent to a farmer or family farm 
business entity must pay the 15.3 percent tax on the rental 
income. The tax code does not require commercial or residential 
property owners to pay self employment tax on cash rents. It is 
not fair that farmland owners are now being singled out to pay 
self employment taxes on certain cash rental income. Self 
employment taxes should apply to income from labor. Cash rent 
income shows the value of the equity in the land and does not 
represent labor. It seems extremely unfair to allow the owner 
of a large apartment complex to not pay self employment taxes 
on the cash rental income but the farmland owner who might only 
rent a few acres has to pay 15.3 percent self employment taxes 
on their cash rental income.
    Legislation has been introduced in both the Senate and 
House to remedy this matter. H.R.1261 and S.529 would reinstate 
Congressional intent by restoring the election by farmland 
owners. Communicating for Agriculture is working toward the 
enactment of this legislation, and we encourage you to include 
it in a tax package this year.
    On my farm in South Dakota, as well as farms and ranches 
all over America, it is common for there to be wide swings in 
income from year to year. Agriculture is inherently a volatile 
business. The weather plays such a critical role in production, 
and most farmers are at the mercy of mother nature. Weather 
problems, coupled with uncertain prices for most farm 
commodities, makes for widely varied income levels that can 
push farmers to a high income tax bracket one year yet leave 
them with no income or even a loss the next year when mother 
nature and the markets don't cooperate. In the 1970s and early 
80s income averaging was available to help level the income 
taxes paid by farmers from year to year. Last year's Budget 
Bill brought back income averaging on a limited basis for 
farmers and ranchers and only until the year 2000. This useful 
tool needs to be extended past the next three years.
    Additionally, another useful self-help tool has been 
proposed that would enable farmers and ranchers to even out tax 
payments. The proposal is called FARRM or Farm and Ranch Risk 
Management accounts. FAARM accounts would essentially allow 
farmers and ranchers to set aside tax deferred income in good 
years and draw money back out of the FARRM account in the lower 
income years offering a reasonably balanced income from year to 
year. These accounts would let qualified individual farmers and 
ranchers set aside up to 20 percent of their farm income each 
year. These individuals would have to materially participate in 
farming with the amount to be set aside calculated from their 
schedule F portion of their tax return. The contribution would 
be tax deferred but any interest earned on the account would be 
included in the individual's annual gross income. There would 
be a 5-year limit on deposits to the account so a distribution 
would have to be made. Distributions would be treated as 
taxable income in the year they were received. Any money left 
in the account over the 5-year limit would be subject to 10 
percent penalty. Individual farmers that don't meet the 
participation guidelines for two consecutive years would have 
to immediately distribute the funds in the FARRM account. We 
think the FAARM account proposal is a good idea--one is fair 
from a tax standpoint, and one that provides a useful financial 
management tool that would help producers contend with the 
risky, volatile farm economy they face every day.
    We thank you for inviting Communicating for Agriculture to 
share our ideas and views with you.
      

                                


    Mr. McCrery. Thank you, Mr. Nelson.
    And thank all of you for your testimony today. I'm sorry we 
got a little behind schedule. We do have another meeting going 
on at the Capitol. And, for that reason, we're going to suspend 
questions. But if any Member has a question, I would invite 
them to submit those questions to witnesses in writing.
    Mr. Johnson has a comment, though, that he would like to 
make before we move on.
    Mr. Johnson of Texas. Thank you.
    I just can't resist making a comment. You know, Mr. Blair 
mentioned Amarillo. And the agricultural community is talking, 
but don't forgot our Nation's cattle growers who are currently 
dealing with Oprah Winfrey.
    Mr. Serotta, I'm glad you're with us today. And I agree 
that the individual alternative minimum tax ought to be 
reformed, if not abolished. And I think our Chairman and the 
one sitting in the chair now agree with that because the AMT 
now is starting to affect hardworking families by penalizing 
them for having children. That's the middle-income bracket that 
Mr. Moore talked about.
    Today after this hearing, I'm going to introduce a bill to 
allow families to deduct their personal exemptions when 
calculating the AMT, which they can't do under current law 
today. It makes no sense to me that Congress granted families 
an exemption for their children but then took it away to 
calculate the AMT. It was imposed to make the rich pay some 
taxes, as you know, and it wasn't meant to penalize middle-
income American parents and children.
    With your permission, I will introduce the rest of my 
remarks into the record. Thank you all for being here today.
    [The prepared statement follows:]

Statement of Hon. Sam Johnson, a Representative in Congress from the 
State of Texas

    Mr. Serotta--I'm glad you're with us today and I agree the 
individual alternative minimum tax (AMT) should be reformed, if 
not abolished. The AMT is starting to affect our hard working 
families by penalizing them for having children.
    Today, after the hearing, I am going to introduce a bill to 
allow families to deduct their personal exemptions when 
calculating the AMT which they cannot do under current law.
    It makes no sense to me that Congress gives families an 
exemption for their children but then take it away when they 
calculate the AMT. The AMT was imposed to make sure rich people 
paid some taxes. It was not meant to penalize middle-income 
America.
    So I want to make sure our families are not penalized by 
the AMT for having children. The message of my bill is simple--
children should not be taxed. Families with children must be 
recognized as the future of America and should not be 
penalized.
    Families should continue to receive personal exemptions 
when they calculate their taxes. While I think the best thing 
to do would be to eliminate the entire AMT provision, I believe 
that, until we can do that, we should protect our parents and 
children from higher taxes.
    Congress must take a close look at the tax code and make it 
as simple as possible, removing provisions like this one that 
only make it harder to save and plan for their families'future. 
We granted certain personal exemptions to lower the tax burdens 
on families. This was the right thing to do because hard 
working Americans pay too much in taxes.
      

                                


    Mr. McCrery. Without objection. Thank you, Mr. Johnson. And 
thank all of you very much.
    The meeting is adjourned.
    [Whereupon, at 12:30 p.m., the hearing was adjourned.]


                        REDUCING THE TAX BURDEN

                              ----------                              


                      THURSDAY, FEBRUARY 12, 1998

                          House of Representatives,
                               Committee on Ways and Means,
                                                    Washington, DC.
    The Committee met, pursuant to notice, at 10:13 a.m., in 
room 1100, Longworth House Office Building, Hon. Bill Archer 
(Chairman of the Committee) presiding.
    Chairman Archer. The Committee will come to order.
    Today we are holding the third in a series of hearings on 
proposals to reduce the tax burden on the American people. 
Taxes as a percentage of gross domestic product are currently 
at their highest peacetime level in history, and I am committed 
to bringing that rate down.
    High taxes represent a moral and a social challenge to 
families that are struggling to make ends meet. High taxes on 
savings and investment represent a direct economic challenge, a 
challenge that especially threatens people who are planning for 
their retirements. When the government taxes away people's 
savings, they'll have nowhere to turn but to the government, 
creating even more pressure on the Social Security system. If 
you want to save Social Security and help people realize their 
retirement dreams, you have to stop the government from taxing 
away people's savings. This is why tax relief is a vital part 
of saving Social Security.
    I believe that we can make changes to the current income 
tax and create incentives to save and invest. While we should 
not tax capital gains at all, the least we can do is simplify 
the current capital gains rule by eliminating the 18-month 
holding period. For 16 million Americans, capital gains is a 
capital headache. Eliminating the 18-month holding period would 
be a major simplification. When this Committee begins its 
consideration of the Taxpayer Relief Act of 1998, I plan to 
include an elimination of the 18-month holding period in my 
mark, making assets held for more than 1 year eligible for the 
10-percent and 20-percent rates.
    I would refer, now that we head into the income tax 
preparation time, the people of this country to the new 
Schedule D form. As everyone knows, I continue to do my own 
income tax, and I have not begun to try to come to grips with 
the complexities in this new Schedule D form on capital gains. 
But, believe me, it is going to pose a real headache for the 
American people, and we need to change that and simplify it by 
reducing the holding period from 18 months to 12 months.
    We also need to look at reducing taxes on investment 
income, especially for middle-class families. An exemption for 
interest and dividend income, such as the one proposed by Mr. 
Hulshof, is of particular interest. It would help turn people 
who don't save into people who do and encourage those who save 
only a little bit to save a little more. It would be a huge 
simplification for those 30 million taxpayers who would no 
longer have to keep track of 1099 and other investment records.
    Finally--I've said this before, and I'm going to say it 
again--as the Committee weighs the merits of various tax 
proposals, I will be conservative, and I do not intend to over-
promise. I will never, I repeat, tip the budget out of balance.
    And now, I am pleased to recognize Mr. Rangel for any 
opening statement that he might like to make.
    Mr. Rangel.
    Mr. Rangel. Thank you so much, Mr. Chairman.
    I share your concerns about complexities that we have to 
deal with in whole or in part in the Tax Code. I'm very 
concerned as to whether or not the Committee is just going to 
focus on possible simplifications as relates to capital gains 
or how much of the Committee's time is actually going to be 
examining taxes or sales taxes or pulling up the Tax Code by 
the roots and putting in a new Tax Code.
    Because if we are not going to do it in the short time that 
we have, I think that the Committee would be better able to 
concentrate on the schedule that you drafted rather than the 
rhetoric that we hear with those that are on the bus rides 
around the country. Certainly, if there is going to be a 
serious consideration of replacing the Code, I want to be a 
part of that. But it is difficult to do when we have so many 
different opinions in the Minority, as well as in the Majority, 
as to the best way that we can do that.
    Having said that, I will add to complexity by introducing 
legislation with Mr. Ensign that would increase the State 
volume limit on low-income housing tax credits. Also, I'll be 
introducing legislation that the President has suggested, 
hoping that we can get bipartisan support in a variety of other 
areas that I hope that our staffs can work on together. So that 
when we are in agreement with the President's recommendations, 
we can do it in a bipartisan way, and so that in areas that 
there are disagreements or that the issue will not reach our 
calendar, that we would know that.
    But most of all, I'm concerned with how much time, since I 
understand that we have such a short legislative period, we 
would be concentrating on a new system or whether we would just 
move forward in trying to make it less complicated than it is 
in view after the last tax bill, and wait until the next 
session to deal with a broader attempt to substitute or reform 
the Tax Code.
    Thank you, Mr. Chairman.
    [The opening statements follow:]

Opening Statement of Hon. Charles B. Rangel, a Representative in 
Congress from the State of New York

    Mr. Chairman, I would like to inquire about our Committee 
agenda and whether we will see a proposal on tax restructuring 
this year. I keep being asked about tax restructuring. Until I 
see some details, it is very difficult to respond.
    The President has proposed that we use any potential budget 
``surplus'' to Save Social Security First. The Democratic 
Members of this Committee will introduce legislation today to 
act on the President's wise counsel and reserve any surplus for 
Social Security. It is important that we maintain the fiscal 
discipline that has led to our improved budget outlook. In 
addition, the President's budget recommendations contain a 
variety of tax provisions which are fully offset and for which 
there is fairly broad bipartisan support. I believe that we 
should also hold hearings on those issues and have an 
opportunity to legislate on those issues this year. For 
example:

Low-Income Housing Tax Credit

    Mr. Ensign and I have introduced legislation to increase 
the State volume limitation on the low income housing tax 
credit. I was very pleased that the President's budget 
contained a similar increase. There is much bipartisan support 
for the low income housing credit.

Education

    The President's budget includes an expansion of the 
education zone program that we were able to include in last 
year's Taxpayer Relief Act. This expansion would provide needed 
assistance to State and local governments in meeting the need 
to repair and construct public schools. I intend to introduce 
legislation soon that includes the President's education tax 
incentive and hope there will be bipartisan support for 
addressing the issue of school construction. Addressing this 
issue through an expansion of last year's Act will minimize 
bureaucracy which should alleviate some of the Republican 
concerns. Some have argued that the Federal government has no 
role in this area. I would point out that the Federal 
government has historically assisted school construction 
through low-interest rates on tax-exempt bonds. The President's 
proposal is another way of assisting local governments in 
raising low-cost capital.

Child Care

    The President's budget includes tax provisions to assist 
working families in meeting child care expenses. Again I 
believe there will be bipartisan interest in this issue and I 
hope we will be able to have hearings to develop a bipartisan 
response.

Extenders

    The President's budget proposes an extension of expiring 
provisions such as the research credit, work opportunity 
credit, welfare-to-work credit, and brownfields tax incentives. 
I am hopeful we can work together to address these issues.
    Mr. Chairman, I would also like to inquire as to whether 
this Committee will consider tobacco legislation this year. 
Many of the proposals being discussed have fees that look a lot 
like an excise tax. This Committee has a strong jurisdictional 
claim on those aspects of the proposed legislation and we 
should assert our jurisdiction. In addition, our authority to 
establish trust funds enables us to have a voice in how the 
proceeds of those taxes will be spent. We should have hearings.
    Finally, Mr. Chairman, I would like to say a few words 
about the issue of today's hearing. In our rush last year to 
provide benefits for capital gains and savings, we lost track 
of the need to have simple tax laws.
    The capital gain tax reductions in last year's bill are 
unnecessarily complex. Eliminating the 18-month holding period 
requirement as suggested by the Chairman will not eliminate any 
line of the very complex capital gains schedule. Eliminating 
that requirement would reduce the amount of gains in the 28-
percent capital gains category but it would not eliminate that 
rate category.
    The really distressing aspect of the capital gains 
provisions of last year's bill, is that they will get worse in 
the future. In 2001, another rate category will be added. The 
complexities of that new rate will make the calculations 
taxpayers are struggling with now look simple.
      

                                


[GRAPHIC] [TIFF OMITTED] T0897.198

      

                                


    Chairman Archer. The Chair would be most pleased if the 
gentleman from New York would give his suggestions on how we 
might simplify the Code or how we might, as he said, ``tear it 
up by its roots,'' and any recommendations that you have will 
be received and thoughtfully considered. The Chair knows of 
none so far, but the Chair would certainly welcome them at any 
time.
    Our first witness today is Mr. Hulshof, a Member of the 
Committee----
    Mr. Rangel. May I respond to that, Mr. Chairman?
    Chairman Archer. Mr. Rangel.
    Mr. Rangel. Am I to believe from your remarks that, unless 
I introduce a reform bill, we will not be considering one? 
Because that's not the first time that you have responded that 
way.
    Chairman Archer. What I said to the gentleman, I think is 
clear: that whether you introduce a bill or whether you make 
informal suggestions as to how we might simplify the Code or 
completely reform the Code, the Chair will give them full 
consideration, whether they be done privately or publicly and 
in whatever form. I would be more than happy to receive any 
suggestions that you might have.
    Mr. Rangel. The Chair is not responsive to my question as 
to whether or not the leadership was coming forth with a bill, 
but I appreciate your answer that you will entertain any 
recommendations that I have, and I thank you for that.
    Chairman Archer. The Chair will always be in a position to 
prepare a mark for the Committee, and that mark will take into 
consideration any suggestions that you might have. As the 
gentleman knows, this need not be in formal legislative form. 
The mark that the Chair presents to the Committee 
traditionally, is not a statutory-language, pre-prepared bill, 
but one that is put together after consultation with Members of 
the Committee. The Chair would like to include the Minority in 
those consultations, but so far has received no suggestions or 
recommendations from the Minority.
    Mr. Hulshof.

    STATEMENT OF HON. KENNY C. HULSHOF, A REPRESENTATIVE IN 
              CONGRESS FROM THE STATE OF MISSOURI

    Mr. Hulshof. Thank you, Mr. Chairman, Mr. Rangel, Members 
of the Committee, thanks for the opportunity to testify before 
you today about a piece of legislation that you, Mr. Chairman, 
alluded to, and that is the SAVE Act, and that is the Savings 
Advancement and Enhancement Act, legislation that my friend 
from Ohio, Mr. Kucinich, and I plan to introduce today.
    I also appreciate the chance to have these series of 
hearings. You mentioned several times, Mr. Chairman, that the 
percentage of taxes of GDP, now nearly 20 percent, is at the 
highest rate since World War II, and I have appreciated the 
chance to participate in the series of hearings that we've had 
on reducing the Federal tax burden on the American people.
    As you alluded in your opening comments, as a general 
principle, individuals and families in this country need to be 
encouraged to save and invest. In fact, the U.S. national 
savings rate, as you know, ranks among the lowest of the 
industrialized countries, especially among the G-7 countries. 
Many economists believe that the reason for this low rate of 
savings is because of tax laws that discourage saving in favor 
of consumption.
    Mr. Kucinich and I believe that this bill is something that 
will remedy, at least for the small investor, that bias. As 
families sit around the kitchen table this coming April to do 
their tax returns, money that they have earned on their 
interest-bearing savings account, interest-bearing checking 
accounts, money-market accounts, or even wise investments are 
included in income for tax purposes. And many of these 
individuals who have been slugging away their nickels and their 
dimes each year find themselves subject to this tax. Many of 
them are middle- and low-income taxpayers. We should be 
rewarding their thrift rather than punishing their thrift.
    The bill is very simple, and I would invite other Members 
of the Ways and Means Committee to cosponsor this legislation. 
I think we have 5 Members on right now. But the SAVE Act is 
very simple. It would allow an individual taxpayer to exclude 
$200 of interest and/or dividend income for tax purposes, or 
for joint filers, $400. This exclusion could be made up of a 
combination of interest income and/or dividend income. You 
know, many of the constructive comments that I heard back in 
Missouri in the Ninth District after our tax-relief act of last 
year, people were very happy that we enacted the first tax 
relief in 16 years, but one of the constructive comments was 
the targeted nature of the tax relief, and, as we've already 
heard this morning, the discussion about the simplification 
issue. The SAVE Act, I think, accomplishes both of those two 
goals.
    In the tax year of 1995 there were 66 million individual 
tax returns that included interest income for tax purposes. In 
that same taxable year, 26 million returns included a small 
amount of dividend income, and most of those were small 
investors. This is not a bill where those on the other side 
would say that we're simply giving tax breaks for the wealthy. 
Twenty-three percent of those who would get the benefit of this 
SAVE Act have incomes between $1 and $15,000, and clearly two-
thirds have incomes between $1 and $50,000. So, we're really 
trying to focus on the small investor in the low- to middle-
income families.
    If this modest proposal were enacted--and I think that it 
is very doable, Mr. Chairman--in total over 30 million tax 
returns would no longer have a tax on savings and investment. 
Thirty million taxpayers would not be taxed on their thrift 
with this $200-$400 exclusion.
    As is customary, Mr. Chairman, I would like to have my 
entire statement in the record. I have an example that you can 
look at particularly as it is compounded interest and certainly 
the savings would be modest in the short term, but, again, I 
think if you are looking over the long term--and Mr. Chairman, 
you mentioned in your opening remarks, as we look at retirement 
plans and Social Security and ways that we can help the 
American people plan for their retirement, this is the way to 
do that especially if we reduce the tax burden over the long 
term.
    The other point that I'd like to make as far as the across 
the board relief is the simplification measure. For a majority 
of working men and women, their taxable income consists of 
their wages and a small amount of interest or dividend income. 
Allowing this $400 exclusion for joint filers eliminates the 
need for many individuals below the interest and dividend 
thresholds to include this income when they fill out the 
returns reducing the number of calculations and also the hassle 
of gathering all the 1099 forms from multibanking and checking 
accounts--all of that would be greatly reduced with the 
introduction and passage of this bill.
    And finally, I think that it is consistent with--as was 
discussed--major, fundamental tax reform. I know the Chairman's 
feelings as far as the consumption tax. This is consistent with 
that philosophy as well as even the flat-income tax, 
encouraging savings and investment. Again, taxpayers should be 
encouraged, not punished for being thrifty. And I think that 
this proposal falls right in line with the major tax reforms 
that we have been considering.
    To anticipate a question from my colleagues as far as the 
cost, Joint Tax tells us that the 5 year cost of this 
particular provision would be $15.2 billion. Again, so I think 
it is very doable.
    We would urge other Members to cosponsor this legislation. 
Thank you, Mr. Chairman, for giving me and Mr. Kucinich the 
opportunity to talk about this bill.
    [The prepared statement follows:]

Statement of Hon. Kenny C. Hulshof, a Representative in Congress from 
the State of Missouri

    Mr. Chairman, I would like to thank you for the opportunity 
to testify on behalf of the Savings Advancement and Enhancement 
Act (SAVE Act), legislation that Representative Dennis Kucinich 
(D-OH) and I plan to introduce today. Likewise, I would like to 
thank you for holding the series of hearings on the need to 
reduce the federal tax burden. With federal taxes making up 
19.9% of Gross Domestic Product in 1998, taxes are now higher 
than any point since World War II. These hearings have helped 
highlight this fact, and I appreciate the ability to share with 
the committee one of my ideas on how to let taxpayers to keep 
more of their hard-earned money.
    As a general principle, individuals should be encouraged to 
save and invest. However, every April, when a family gathers 
around the kitchen table to do their tax returns, the money 
they have earned from an interest bearing savings or checking 
account or from a wise investment is included in their income 
for tax purposes. Many of the individuals who find themselves 
subject to this tax are low and middle-income taxpayers. It is 
wrong to punish these people for their thrift.
    That is why Representative Kucinich and I are introducing 
the SAVE Act. The bill is quite simple. It allows an individual 
taxpayer to exclude the first $200 in interest and dividends, 
$400 for joint filers, from their income for tax purposes. The 
exclusion could be made up of any combination of interest and 
dividends.
    Consider the following. In the 1995 tax year, over 66 
million tax returns reported interest income. 26 million 
returns reported dividend income. All of these individuals 
would receive relief under the SAVE Act. Likewise, the Joint 
Committee on Taxation estimates that 19 million joint returns 
have less than $400 in interest and dividend income. For these 
families, their tax on savings and investment would be 
eliminated. In total, over 30 million tax returns would no 
longer include a tax on savings and investment.
    Let me give you a real-life example of how the SAVE Act can 
help a family save for the future. Lets assume that a family in 
the 28% tax bracket receives a $4,000 gift upon the birth of a 
child. They deposit this money in a savings account earning 5% 
annually in interest. Under current law, after 18 years, the 
family would earn $4,944.78 in interest on their $4,000 in 
savings. Likewise, they would pay $1,384.54 in tax on the 
interest they earn.
    However, under the SAVE Act, the same family under the same 
set of circumstances would earn $5,625.51 in interest, $680.73 
more than under current law. More importantly, instead of 
paying $1,384.54 in tax, the SAVE Act would limit the family's 
tax on savings to $30.74 over the course of the 18 years, and 
the family would not incur a tax on thrift until the 16th year 
of the 18 year time span.
    Overall, under the SAVE Act, this family would save 
$2,034.53 when compared to the current law tax treatment of 
interest and dividend income. For the average family in 
Missouri's Ninth District, this $2,034.53 is a significant 
amount of money.
    The SAVE Act also simplifies the tax code. For the vast 
majority of taxpayers, taxable income consists of wages and 
minimal amounts of interest income. Allowing the $400 interest 
and dividend exclusion for joint filers, $200 for single 
filers, eliminates the need for individuals below these 
interest and dividend thresholds to include this income when 
filling out a tax return. Reducing the number of calculations 
that a taxpayer must make when completing their tax return is 
certainly a step in the right direction. Also, the hassle of a 
taxpayer gathering various 1099 forms from multiple banking and 
checking accounts when filling out a tax return will be greatly 
reduced.
    The SAVE Act is also consistent with the major fundamental 
tax reform proposals currently under consideration. Under the 
Flat Tax proposed by Majority Leader Dick Armey (R-TX), the 17% 
Flat-Tax would apply only to wage, salary and pension income. A 
national sales tax would tax consumption, not income. Whether 
you support a Flat-Tax or a consumption tax, there is a 
consensus. Taxpayers should not be punished for being thrifty.
    Mr. Chairman, I thank you for the opportunity to testify 
before the committee on behalf of the SAVE Act. As I mentioned 
earlier, I stand ready to help you relieve the American people 
of their crushing tax burden. I would be willing to answer any 
questions members of the committee may have at this time.
      

                                


    Chairman Archer. Thank you, Mr. Hulshof.
    Our next witness is Congressman Dennis Kucinich of Ohio. 
We're happy to have you before the Committee. I think that this 
may be the first time you have testified before----
    Mr. Kucinich. Yes, it is.
    Chairman Archer [continuing]. This Committee, and I hope 
that you will feel welcome, and you may proceed.

   STATEMENT OF HON. DENNIS J. KUCINICH, A REPRESENTATIVE IN 
                CONGRESS FROM THE STATE OF OHIO

    Mr. Kucinich. I do, and thank you very much, Mr. Chairman, 
for the opportunity to come before the Committee.
    I am pleased to be here with Congressman Hulshof because I 
believe that together we have laid the groundwork for a bill 
that can be supported on both sides of the aisle. I am 
certainly pleased to work with you on this because I think that 
the opportunity is here to come up with a Tax Code that will 
benefit millions and millions of Americans and at the same time 
simplify the tax process. Those are two tests that I think that 
the Chairman would certainly appreciate--I would hope so.
    I represent a substantial part of the city of Cleveland and 
its southern and western suburbs. In the past I have challenged 
the wisdom of certain tax cuts. Last year I opposed tax cuts 
because I believe they were designed primarily to--to benefit 
primarily the wealthiest while shrinking vital government 
services and guarantees.
    But this SAVE Act is different and it has a lot going for 
it. The SAVE Act is fair, it benefits a lot of people, and it 
can be offset with other improvements to the Tax Code.
    Now, consider the SAVE Act's fairness. The SAVE Act exempts 
from taxation an individual's first $200 in dividend and 
interest income, $400 for couples filing jointly. Obviously it 
is most valuable to those people whose interest from earnings 
and dividends are below the exemption threshold. These are 
small savers, and they tend to be people with middle and lower 
incomes. Sixty-seven percent of the returns claiming taxable-
interest income were filed by taxpayers with adjusted gross 
incomes below $50,000. And 57 percent of returns reporting 
dividend income were filed by taxpayers with adjusted gross 
incomes below $50,000.
    For many small savers, the SAVE Act will exempt all of the 
earnings of their savings from taxation. For many others, the 
SAVE Act will exempt a large portion of the earnings of their 
savings from taxation.
    Through the SAVE Act, they can keep what they save. The 
SAVE Act will benefit many people. Now, according to the Joint 
Committee on Taxation report I have here, half of all taxpayers 
reporting taxable interest income in 1995 would not have had to 
pay any tax on their interest if the SAVE Act had been in 
place. That is a substantial number of people. Now, JCT 
calculates, as Mr. Hulshof pointed out, that 30 million 
taxpayers would have earned a tax-free rate of return on their 
interest and dividend-yielding assets. Again, the majority of 
these people are small or modest savers earning low or middle 
incomes.
    Finally, the SAVE Act can and should be an element in 
improving the Tax Code, a project which should find offsets by 
closing persistent, unfair tax loopholes. I would hope the 
Committee would consider it--closing loopholes that create the 
wrong incentives on trade, job creation, and job retention in 
the United States. For example, there is a loophole that 
exempts U.S. corporations from paying taxes when they move out 
of the United States and then ship their goods back to the 
United States for sale. That loophole could be closed.
    The President has also recommended closing several 
loopholes. For instance, the loophole for hybrid transactions 
that created unfair advantage for U.S. companies to make 
foreign investments rather than domestic investments in job, 
plants, and equipment. The President also recommends that this 
Committee prepare the country for justice and environmental 
cleanup by reinstating superfund taxes so as to make polluters 
pay for the cost of cleaning up rather than innocent taxpayers. 
Closing these loopholes adds greater fairness to our Tax Code.
    In conclusion, Mr. Chairman, the SAVE Act is viable, fair, 
and will benefit middle- and low-income savers the most. The 
SAVE Act is perfect for my constituents on the west side of 
Cleveland and in the surrounding suburban communities who save 
for a car, tuition, and vacation. They have saved now in order 
to consume later. The SAVE Act gives them a little more of 
their savings' earnings, so they can purchase that car a little 
sooner or afford a little more tuition. The SAVE Act rewards 
them for their thrift.
    So, I appreciate the opportunity to work with Mr. Hulshof 
and others in this, and am hopeful that you, Mr. Chairman, will 
give this favorable consideration and that we can move this 
bill forward in this session.
    Thank you.
    [The prepared statement follows:]

Statement of Hon. Dennis J. Kucinich, a Representative in Congress from 
the State of Ohio

    Mr. Chairman, Ranking Member Rangel, and members of the 
Committee. Thank you for the opportunity to come before you to 
speak in favor of the Savings Advancement and Enhancement Act 
(SAVE act).
    I represent a substantial part of the City of Cleveland and 
its southern and western suburbs.
    In the past, I have challenged the wisdom of certain tax 
cuts. Last year, I opposed tax cuts that were obviously 
designed to benefit primarily the wealthiest, while shrinking 
vital government services and guarantees. But the SAVE act is 
different, and it has a lot going for it. The SAVE act is fair, 
it benefits a lot of people, and it can be offset with other 
improvements to the tax code.
    Consider the SAVE act's fairness. The SAVE act exempts from 
taxation an individual's first $200 in dividend and interest 
income; $400 for couples filing jointly. Obviously, it will be 
most valuable to people whose earnings from interest and 
dividends is below the exemption threshold. These are ``small 
savers'' and they tend to be people with middle- and low-
incomes. Sixty-seven (67) percent of returns claiming taxable 
interest income were filed by taxpayers with adjusted gross 
incomes below $50,000. And 57 percent of returns reporting 
dividend income were filed by taxpayers with adjusted gross 
incomes below $50,000. For many small savers, the SAVE act will 
exempt all of the earnings of their savings from taxation. For 
many others, the SAVE act will exempt a large portion of the 
earnings of their savings from taxation. Through the SAVE act, 
they can keep what they save.
    The SAVE act will also benefit many people. According to 
the Joint Committee on Taxation, half of all taxpayers 
reporting taxable interest income in 1995 would not have had to 
pay any tax on their interest if the SAVE act had been in 
place. That is a substantial number of people. JCT calculates 
that 30 million taxpayers ``would have earned a tax-free rate 
of return on their interest and dividend yielding assets.'' 
Again, the majority of those people are small or modest savers 
earning low-or middle-incomes.
    Finally, the SAVE act can and should be an element in 
improving the tax code, a project which should find offsets by 
closing persistent, unfair tax loopholes. The Committee should 
consider closing loopholes that create the wrong incentives on 
trade, job creation and job retention in the U.S. For instance, 
there is a loophole that exempts U.S. corporations from paying 
taxes when they move out of the U.S. but then ship their goods 
back to the U.S. for sale. That loophole should be closed. The 
President has also recommended closing several loopholes. This 
Committee can prepare the country for justice in environmental 
clean-up by reinstating Superfund taxes so as to make polluters 
pay for the cost of cleaning up, rather than innocent 
taxpayers. Closing those loopholes adds greater fairness to our 
tax code.
    In conclusion, the SAVE act is viable, fair and will 
benefit middle- and low-income savers the most. The SAVE act is 
perfect for my constituents on the West Side of Cleveland and 
surrounding communities, who save for a car, tuition, and 
vacation. They save now in order to consume later. The SAVE act 
gives them a little bit more of their savings' earnings, so 
they can purchase that car a little sooner, or afford a little 
more tuition. The SAVE act rewards them for their thrift.
      

                                


    Chairman Archer. I compliment both you gentlemen for your 
work on this SAVE Act.
    Mr. Kucinich, are you aware of the fact that if we 
reinstate the superfund tax that all that money will have to go 
to cleanup waste sites?
    Mr. Kucinich. Well----
    Chairman Archer. How could that be used to offset your tax 
suggestion?
    Mr. Kucinich. I would say that if you did reinstate that to 
clean up waste sites, that would create further offsets in 
other areas that would benefit the taxpayers.
    Chairman Archer. That is new spending, additional spending 
that's not going on right now. The tax is earmarked and 
designed specifically for the purpose of cleaning up. I'm 
surprised that you would suggest that as an offset for a tax 
reduction when it is already committed to and earmarked for 
other spending.
    Mr. Kucinich. The suggestion was made in the spirit 
ofpointing out how we can force more accountability in the Tax 
Code and at the same time achieving some benefits for the 
constituents.
    Chairman Archer. Well, I would simply say to the gentleman 
that before this Committee we really have to be very precise as 
we talk about offsets. If the gentleman would like to submit a 
list of the specific offsets--not including the superfund tax 
which clearly is committed to a specific spending program that 
the people of this country believe is needed--we'll be happy to 
receive them. If the gentleman is referring to the list that 
the President has set up----
    Mr. Kucinich. I am.
    Chairman Archer. Then I would simply tell him that even the 
Washington Post had an article last week that says it slams the 
middle class, hits widows with annuities and taxes savings 
which are inside buildup of life-insurance policies which hit 
the holders of those policies--and those are the major areas of 
revenue raising. If you call those loopholes, I think that you 
are going to find an awful lot of people in this country, 
including widows with annuities, will come out and say, ``Hey, 
wait a minute, that's not a loophole.''
    Mr. Kucinich. I don't think that I disagree with you on 
that, but when I spoke to superfund, I was relating directly to 
the President's comments on the--on revenue suggestions.
    Chairman Archer. Well, those are most certainly revenues, 
but they are committed and spoken for revenues that will have 
to go into the payment for the cleanup which will not occur 
without those revenues. Certainly the gentleman would not want 
to see those moneys go for tax reduction and not cleaning up 
the waste sites?
    Mr. Kucinich. Well, I have been a strong supporter of that, 
Mr. Chairman, and at the same time, I think that the 
President's revenue suggestions would not deny the concerns 
that you have, but at the same time there is a suggestion that 
the revenue would be there with those offsets.
    Chairman Archer. Well, let me be sure that I understand 
you. If we get a superfund reform bill that structurally cleans 
up waste sites instead of putting money into the hands of 
lawyers, then we will consider reinstating the superfund taxes 
so that money can then be spent to cleanup waste sites. Now, do 
you think it can be spent twice? Do you think it can be also 
spent to pay for tax reduction in the SAVE Act?
    Mr. Kucinich. I'd be willing to consider the Chairman's 
views on this.
    Mr. Hulshof. I think, Mr. Chairman, you point out the very 
difficult prospect that we face as a Committee. And I think 
that the American people don't understand the fact that if, in 
fact, we have true, honest surpluses, that those surpluses 
can't be used for tax reduction. And I think that certainly, 
under current budget laws being as they are with PAY-GO, and 
coming up with revenue offsets, that's the difficulty. When we 
try to craft and cobble together additional tax relief for the 
American people under present budget laws it is very difficult, 
and I think it is a misnomer because folks in my district 
believe that if there is a surplus that those moneys can be 
immediately used to reduce taxes. And we need to help make that 
case to the American people--if that is the way that we want to 
go--that the budget rules would have to be changed. But 
certainly--I hope that whatever we decide as far as revenue 
offsets and additional tax reductions and where that money 
should come from, I don't think that it in any way prejudices 
the idea of the SAVE Act.
    And again, we think that as we focus on savings and 
investment, particularly for the small investor, that the 
concept of the SAVE Act is good. It is doable in the sense that 
it is a $15 billion--over 5 years, which is, granted, 
significant, but I think it is still an attainable goal. And I 
certainly would hope that if we are able to put together a tax 
bill in this session, that you would look favorably, Mr. 
Chairman, and include this in the mark.
    Chairman Archer. Well, I think that the gentleman's 
response is a good one, and certainly, as I have said in my 
preliminary comments, I compliment both of you for what I think 
is a constructive proposal. But I'm not sure that it is 
realistic to say that we're going to pay for this by closing 
loopholes and reinstating the superfund tax. That just doesn't 
mesh. Hopefully when we do have a tax bill we will be able to 
offset it by using surplus, which is a result of people paying 
in more taxes. But the only reason that we will have a surplus 
is the dramatic increase in tax we take out of the American 
people's pockets. And surely they should be entitled to get 
some of that back since they are the ones providing the surplus 
in the first place.
    Let me ask you one specific technical question, and then 
I'll move on to recognizing other Members of the Committee. Is 
it your intention to give an exemption to everyone irrespective 
of the amount of interest and dividends that they have, or will 
it only apply to those with under $200 and $400?
    Mr. Hulshof. No, sir. Our intent is for this to be 
complete, across-the-board relief, no phaseouts. And so 
certainly those that recognize great amounts of investment 
income would be allowed to have this exclusion as well, but 
clearly those on the low-income spectrum are the ones that 
proportionally gain. And the $400 exclusion for an investor who 
derives great amounts of investment income, it would not be 
that significant. It would be less significant to that 
investor.
    Chairman Archer. Thank you.
    Does any other Member wish to inquire?
    Mrs. Johnson.
    Mrs. Johnson of Connecticut. Just briefly.
    Thank you for your testimony. Do you protect this from the 
alternative minimum tax, or is it given preference under the 
alternative minimum tax, so that the alternative minimum tax 
can't deny people this protection of their savings?
    Mr. Hulshof. Mrs. Johnson, that is a great question, and as 
it is presently drafted, no, there is no particular protection 
against the alternative minimum tax, but I would be happy to 
look at that because I think----
    Mrs. Johnson of Connecticut. I think we have to be much 
more conscious of that in future legislation. I thank you for a 
very thoughtful proposal.
    I would, Mr. Kucinich, I would just share with you that 
some of the proposals in the President's tax bill this time are 
proposals that he made last time, and they have no support by 
Members of either party because some of them, in fact, would 
force jobs offshore. His proposal to tax annuities this time is 
particularly destructive to middle-income women for whom it is 
a key component of retirement security. So, unfortunately, we 
cannot look at his tax proposals to fund proposals like this 
that frankly are very thoughtful and in our interest. And I 
appreciate your proposing them.
    Thank you.
    Chairman Archer. Mr. Ramstad.
    Mr. Ramstad. Mr. Chairman, just very briefly.
    First of all, I want to thank you, Mr. Chairman, for your 
leadership in calling this hearing on these critical savings 
and investment-tax issues, and I want to compliment my 
colleagues at the witness table for what is really a straight 
forward proposal with twin benefits as I see it. A broad-base 
tax relief without complexity that encourages savings and 
investments.
    However, I must say to Mr. Kucinich--I do share my 
colleague's concerns about what the administration calls 
``unwarranted benefits.'' I know in your testimony you state 
that the cost of the SAVE Act could be offset with improvements 
in the Tax Code. You allude to the loopholes. But I think that 
we all have to take heed of the study not too long ago by 
Professor Feldstein at Harvard--former chairman of the Council 
of Economic Advisors. He very carefully and very studiously, 
after exhaustive research, documented the fact that were we to 
convert all of our current savings to plant and equipment, our 
savings rate is so abysmally low that we could not sustain any 
long-term economic growth. That is a frightening indictment of 
our savings rate in this country which rates, as we all know, a 
distant last among our G-7 trading partners.
    So, I certainly share the Chairman's concern and Mrs. 
Johnson's concern about the administration's proposals which 
really attack long-term savings vehicles that are so important 
to the middle class and those who are trying to save in this 
country.
    So, I hope that you will review, Mr. Kucinich, all of these 
so-called ``unwarranted benefits'' because I believe that they 
are very counterproductive to our goal of encouraging savings 
in this country.
    Chairman Archer. Mr. Collins.
    Mr. Collins. Thank you, Mr. Chairman, and thank you two 
gentlemen for this proposal. I've always been opposed to taxing 
interest earned on savings. I think it is a disincentive to 
save.
    Mr. Kucinich, Mr. Hulshof mentioned some real problems that 
we face when it comes to the budget law and restraints there 
based on the fact that that the PAY-GO versus the fact that we 
can't use savings in discretionary areas for tax relief. Do you 
have a position or any input on the suggestions that Mr. 
Hulshof has indicated need to be addressed or looked at in the 
budget law itself?
    Mr. Kucinich. As part of this process of working on this 
bill, I am getting more and more into some of these issues the 
kind that Mr. Hulshof has addressed. And I think that these are 
issues that are worthy of discussion. I keep an open mind on 
it. The Chairman has made some comments which I am grateful 
for. I have some of my own ideas about how we come to a 
situation where--for example, on the superfund, if you will--
which is something that I am very concerned about--how the 
taxpayers' money ends up--taxpayers end up paying a substantial 
amount of money for the bailout, and I happen to come from the 
persuasion that we should have done more to have the industries 
pay more for that instead of taxpayers.
    Now, I have a different--you know, I come to this 
recommendation with a different point of view than some of you 
may. But through my presence here, I demonstrate that though we 
may be on different sides of the aisle there are issues that we 
might be able to agree on even though we may have different 
conclusions as to why--or different reasons why we would take 
this particular position. And so, as I work in a bipartisan 
manner, I am understanding a little bit more of your point of 
view about some of these issues, and I hope that this will be 
an opportunity to present my point of view as well. And through 
that dialog, perhaps, maybe we can both--certainly on my part, 
maybe I can learn a little bit more about your views.
    Mr. Collins. Well, it's always good to have an open dialog 
and debate, but I do recommend that you heed closely the 
concerns that Mr. Hulshof mentioned in the area of restraints 
that we have when it comes to budget law, and how we can--as we 
save funds through different programs, we are not allowed to 
use those funds for tax relief to the taxpayer.
    Mr. Kucinich. I understand it----
    Mr. Collins. I urge you to pay close attention to that.
    Mr. Kucinich. I will do that, and I appreciate your word of 
caution on that.
    Chairman Archer. Mr. Weller.
    Mr. Weller. Thank you, Mr. Chairman, and again, I want to 
commend you for your leadership on this series of hearings on 
reducing the tax burden on middle-class families.
    I also want to commend Representatives Hulshof and Kucinich 
for your initiative here. When I was in legislature, I had a 
similar piece of legislation at the State level, so I think 
that any incentive to increase savings, particularly for 
retirement--I know that Representative Hulshof and I have had 
conversations, and one of the concerns that I have is that so 
many Americans have so little in savings for their retirement. 
I saw a statistic this past fall where the average 55-year-old 
had less than $10,000 in savings for retirement. And frankly, 
that is scary when you think about it. And that is why ideas 
such as this legislation are good ones that we should be 
looking at.
    I also want to commend the sponsors, too, for recognizing 
the need to avoid the marriage-tax penalty. Because, in your 
legislation, by doubling the exemption for a married couple by 
$200 to $400, you avoid any marriage-tax penalties, and that 
has been one of the problems with the President's ideas of 
targeted tax cuts because every time he proposes a targeted tax 
cut, he always seems to create another marriage-tax penalty. 
So, I want to commend you for that.
    And I have a question that I would like to address to Mr. 
Kucinich, as part of, I guess, my friend from Georgia, Mr. 
Collins had mentioned. You know, this--your proposal here, of 
course, is an idea that we hope will encourage people to be 
able to save for their retirement. And the President, in his 
budget this past week, proposed a new tax on a retirement 
vehicle used by many middle-class Americans, annuities, which 
are, of course, an insurance product that many Americans 
purchased for their retirement plan.
    I was wondering, how do you feel? Do you support the 
President's new tax on annuities?
    Mr. Kucinich. I have--from what I have read about it and 
understand about it, I haven't advocated that position. I'm--
I'd like the chairman to understand that in this last budget I 
was one of the people from the other side of the aisle. I voted 
against that last budget and the last tax proposal because I 
didn't agree with it. And I'm not in favor of this particular 
point that Mr. Weller is bringing out. I--while I consider 
myself supportive of many of the President's proposals, I don't 
agree with him on that one, and I'm willing to say so publicly.
    Mr. Weller. So, you oppose his tax on annuities?
    Mr. Kucinich. The one that you just talked about, I would 
say that I'm not in favor of it at this time; I don't favor it.
    Mr. Weller. Thank you.
    Thank you, Mr. Chairman.
    Chairman Archer. Does any other Member wish to inquire?
    Mr. Collins. Mr. Chairman, if I could----
    Chairman Archer. Mr. Watkins.
    Mr. Collins [continuing]. Just make one quick statement.
    I was in Japan 3 weeks ago with a group, and the parliament 
members of the Japanese Government as well as some of the other 
officials reiterated several times that the personal savings in 
Japan is equivalent to between $10 and $11 trillion, far 
exceeding what we save here in this country. So, I appreciate 
what your doing.
    Chairman Archer. Mr. Watkins.
    Mr. Watkins. I'd like to thank the Members. We just got 
back from a retreat some would say that they like to think of 
it as being an advance--and I think that one of the advance 
things that we've got to do is increase savings. We're the 
lowest industrialized nation in the world with regard to 
savings, I think about 3.5% or so. And one of my closing 
remarks down at the retreat, or advance, was the fact that if 
we didn't increase our savings, it was going to be hard for us 
to maintain and sustain the economic growth that we have. And I 
think the Chairman talked about a couple of ways that might be 
considered along with other things that could be done. And what 
concerns me is--the gentleman from Georgia just mentioned 
Japan. The Asian countries, Japan specifically, has 
underwritten a lot of our government securities over the last 
few years, in the early eighties, and they have somewhere 
between $150 billion and a $200 billion invested already in 
some of the other Asian areas. If a serious problem develops 
there, they will be pulling their investments and moneys out of 
our country and trying to shore up, I think, a lot of their 
other investments. I think they won't have much choice.
    And we've seen what the depressed real estate values in 
Thailand did to Hong Kong. It dropped that market by 10 
percent, and it is dropping our GDP, all estimates would be, 
about a half percent of the GDP. And so that doesn't encompass 
the entire Asian problem.
    And we have got to increase, I think as rapidly as we can, 
the savings of this country so we can be in control of our own 
destiny, so to speak, a lot more.
    So, I commend everyone for trying to work on that area.
    Thank you.
    Chairman Archer. Thank you, gentlemen.
    Mr. Hulshof. Thank you, Chairman.
    Mr. Kucinich. Thank you.
    Chairman Archer. We appreciate your presentation.
    Our next panel, Mr. Bloomfield, Mr. Entin, and Mr. 
Stevenson, would you come to the witness table?
    Welcome, gentlemen. The rules of the Committee are as 
follows. We would be pleased if you would limit your oral 
presentation to 5 minutes or less. The lights in front of you 
will tell you--when the yellow light comes on, it will be 1 
minute to go, and when the red light comes on, it is 5 minutes.
    Your entire written statements, without objection, will be 
included in the record. And we are very pleased to have all 
three of you before the Committee. If you will identify 
yourselves at the beginning of your testimony for the record, 
then you may proceed.
    Mr. Bloomfield, would you lead off, please?

 STATEMENT OF MARK BLOOMFIELD, PRESIDENT, AMERICAN COUNCIL FOR 
 CAPITAL FORMATION, ACCOMPANIED BY MARGO THORNING, SENIOR VICE 
                 PRESIDENT AND CHIEF ECONOMIST

    Mr. Bloomfield. Mr. Chairman, my name is Mark Bloomfield. I 
am president of the American Council for Capital Formation, and 
I'm accompanied by Dr. Margo Thorning, our senior vice 
president and chief economist.
    Let me make five brief points today.
    First, an overview: The ACCF strongly supports the emphasis 
Ways and Means Chairman, Bill Archer, has placed on the 
significant impact of tax policy on savings and investment that 
is so critical for our continued economic growth. Although the 
current economic news is good, I share the concerns of the new 
GAO report that even though Federal budget deficits have 
declined recently, total national savings and investment remain 
significantly below the average of the sixties and seventies 
and continue to compare unfavorably with our that of 
international competitors.
    Tax policy should be supportive of capital formation if 
real wages of U.S. workers are to increase, living standards 
are to advance at a faster pace, and the United States is to 
maintain the economic strength necessary to sustain its lead in 
world affairs.
    Second, the impact of tax policy on savings and investment 
and economic growth. This Committee is to be commended for its 
role in the capital formation provisions in the Taxpayers' 
Relief Act of 1997. In particular, we need to build on the 
recent progress in capital gains, IRAs, pension, and estate tax 
relief and reform of the alternative minimum tax. We must now 
move forward to further prosaving and proinvestment tax policy 
initiatives in order to maintain strong economic growth. As we 
move into the 21st century, we need to address new challenges 
such as demographic changes, more stringent environmental 
regulations, and the inadequate level of U.S. savings and 
investment.
    Third, Mr. Chairman, the impact of fundamental or 
structural tax reform on economic growth. In my testimony 
today, I have summarized several analyses that suggest that 
substituting a broad-based consumption tax for the current 
Federal income tax could have a positive impact on economic 
growth and living standards.
    I am particularly intrigued by a relatively new study, 
Taxation and Economic Growth, by Professor Jonathan Skinner of 
Dartmouth and Eric Engen of the Federal Reserve who examined 
the correlation between the type of tax system--income versus 
consumption tax--levels of economic growth over the period of 
1965 to 1991 for a large sample of countries. The conclusion 
was that income taxation is more harmful to growth than a 
broad-based consumption tax.
    The key question, of course, is whether it would be worth 
the inevitable disruption, cost, and confusion that switching 
to a totally new tax system would create. I believe that the 
answer is yes. More reliance on consumption tax could have a 
profound, positive effect on long-term economic growth. And 
even small changes in economic growth rates can make a big 
difference to living standards.
    Fourth, the short-term agenda before this Committee. While 
the long-term goal of U.S. Federal tax policy should be the 
shift toward a broad-based consumption tax under which all 
income that is saved is exempt from tax, in the short term 
there are steps forward that the Committee should take and 
steps backward that the Committee should avoid.
    Steps forward: We applaud Chairman Archer for his 
announcement today that the Chairman's mark will propose to 
eliminate the 18-month holding period. We also urge the 
Committee to further cut individual capital gains tax rates, 
cut the corporate capital gains rate to restore the historic 
parity between the individual and corporate capital gains, 
expand further IRAs, and strengthen the pension system.
    We also want to strongly commend Congressman Hulshof for 
his proposal to restore the dividend-interest exclusion. And I 
also want to take note of the Individual Investment Accounting 
Act of H.R. 984, introduced by Mr. McCrery, which is an 
unlimited IRA.
    I also want to stress that all of these initiatives must be 
made in a fiscally responsible manner.
    Steps backward: We urge the Committee to weigh carefully 
the proposals, including the revenue raisers, President Clinton 
has made to ensure that any negative impact on savings and 
investment is avoided.
    Fifth, long-term goals. Voter discontent with the income 
tax, recognition that today's balanced budget is likely to be 
short-lived, growing awareness that the U.S. Tax Code is biased 
against savings and investment, increasing concern with tax 
impediments to the ability of U.S. firms to compete in the new 
global marketplace and the growing expert opinion that tax 
reform could raise total output, all argue that fundamental tax 
reform should be a key long-term goal of U.S. policymaking.
    In conclusion, Mr. Chairman, you have served on the Ways 
and Means Committee for some 28 years. We, at the American 
Council for Capital Formation, are celebrating our 25th 
anniversary. We want to take this opportunity to thank you for 
many years of trying to fix the income tax, whether it was the 
Archer-Wagner capital cost recovery initiative in the early 
years or the Archer capital gains tax initiative or the capital 
formation measures in last year's tax bill. We now look forward 
to working with you and this Committee on more basic, 
structural changes in U.S. tax policy to enable this country to 
face the economic challenges of the 21st century.
    Thank you.
    [The prepared statement follows:]

Statement of Mark Bloomfield, President, American Council for Capital 
Formation

                              Introduction

    My name is Mark Bloomfield. I am president of the American 
Council for Capital Formation (ACCF). I am accompanied by Dr. 
Margo Thorning, our senior vice president and chief economist.
    The ACCF represents a broad cross-section of the American 
business community, including the manufacturing and financial 
sectors, Fortune 500 companies and smaller firms, investors, 
and associations from all sectors of the economy. Our 
distinguished board of directors includes cabinet members of 
prior Republican and Democratic administrations, former members 
of Congress, prominent business leaders, and public finance 
experts.
    The ACCF is now celebrating its twenty-fifth year of 
leadership in advocating tax and regulatory policies to 
increase U.S. saving, investment, and economic growth. Our 
testimony today begins with a discussion of trends in U.S. 
capital formation and the impact of tax policy on economic 
growth. Next, we outline a short-term tax policy agenda, 
including shortening the 18-month capital gains holding period, 
reducing individual and corporate capital gains tax rates, 
expanding saving incentives such as Individual Retirement 
Accounts (IRAs), restoring the dividend and interest exclusion, 
and strengthening the pension system. We conclude with options 
for long-term, fundamental tax reform. These policies will 
promote increased U.S. saving and capital formation and lead to 
strong and sustainable economic growth as our nation enters the 
twenty-first century.
    We vigorously support the emphasis that Chairman Archer has 
placed on the significance of saving and investment for 
economic growth. Tax policy should be supportive of capital 
formation if real wages for U.S. workers are to increase, 
living standards are to advance at a faster pace, and the 
United States is to maintain the economic strength necessary to 
sustain its leading role in world affairs.

  The Impact of Tax Policy on Saving, Investment, and Economic Growth

    The Ways and Means Committee is to be commended for its 
role in the pro-capital formation provisions in the Taxpayer 
Relief Act of 1997, including the reduction in individual 
capital gains tax rates, expansion of IRAs, estate and gift tax 
relief, and reform of the corporate alternative minimum tax.
    We must now move ahead to further pro-saving and pro-
investment tax policy initiatives. Although the short-term 
outlook for the U.S. economy suggests continued growth, long-
term strength and economic stability require well-thought-out 
changes in tax policy. In order to maintain strong economic 
growth as we move into the twenty-first century, the United 
States must address new challenges such as the demographic 
changes that will leave the United States with a smaller ratio 
of workers to retirees, more stringent environmental 
regulations, and inadequate levels of U.S. saving and 
investment over the long term. Without sufficient saving and 
investment and cost-effective regulatory policies, the United 
States cannot continue indefinitely to enjoy one of the highest 
living standards in the world.
    Investment spending in the United States in recent years 
compares unfavorably with that of other nations as well as with 
our own past experience. From 1973 to 1995, gross 
nonresidential investment as a percent of gross domestic 
product (GDP) was lower for the United States than for any of 
our major competitors (see Table 1). The U.S. net saving rate 
during the same period is also low relative to that of most 
other industrialized countries, averaging 5.9 percent compared 
to 18.8 percent in Japan, 10.4 percent in West Germany, and 8.0 
percent in Canada. Though the U.S. economy is currently 
performing better than the economies of most other developed 
nations, in the long run our low saving and investment rates 
will inevitably result in a growth rate far short of our true 
potential.
    International comparisons aside, even more disturbing is 
the fact that net business investment in this country has in 
recent years fallen to less than 60 percent of the level of the 
1960s and 1970s. Net private domestic investment averaged 8.9 
percent of GDP from 1960 to 1980; since 1991, it has averaged 
only 5.6 percent (see Table 2). The U.S. net private domestic 
saving rate, a key determinant of U.S. investment, has also 
fallen sharply from an average of 8.1 percent in the 1960-1980 
period to only 5.7 percent of GDP in the 1990s.
    Numerous scholarly studies by top-flight experts such as 
Harvard University's Dale Jorgenson, University of California's 
J. Bradford De Long, Treasury Deputy Secretary Lawrence Summers 
and others conclude that investment in plant and equipment is 
the key factor in increasing productivity and economic growth. 
Thus, tax policy to promote higher levels of saving and 
investment is critical to the United States' future prosperity.

    Recent Evidence on the Impact of Tax Policy and Economic Growth

    To those who favor a truly level playing field over time to 
encourage individual and business decisions to save and invest, 
stimulate economic growth, and create new and better jobs, 
savings (including capital gains) should not be taxed at all. 
This view was held by top economists in the past and is held by 
many mainstream economists today.
    This is primarily because the income tax hits saving more 
than oncefirst when income is earned and again when interest 
and dividends on the investment financed by saving are 
received, or when capital gains from the investment are 
realized. The playing field is tilted away from saving and 
investment because the individual or company that saves and 
invests pays more taxes over time than if all income were 
consumed and no saving took place. Taxes on income that is 
saved raise the capital cost of new productive investment for 
both individuals and corporations, thus dampening such 
investment. As a result, future growth in output and living 
standards is impaired.
    While fundamental reform of the U.S. federal tax code 
continues to interest policymakers, the public, and the 
business community, the key question is whether it would be 
worth the inevitable disruption, cost, and confusion that 
switching to a totally new or substantially revised system 
would create. Several new analyses by academic scholars and 
government policy experts suggest that substituting a broad-
based consumption tax for the current federal income tax could 
have a positive impact on economic growth and living standards. 
The macroeconomic models used by the scholars in the studies 
described below incorporate feedback and dynamic effects in 
simulating the impact of adopting either a broad-based 
consumption tax or a ``pure'' income tax.
    For example, in Simulating U.S. Tax Reform, Professors Alan 
Auerbach of the University of California and Laurence J. 
Kotlikoff of Boston University, Drs. Kent A. Smetters and Jan 
Walliser of the Congressional Budget Office (CBO), and David 
Altig of the Federal Reserve Bank of Cleveland analyze the 
impact of fundamental tax reform on equity, efficiency, and 
economic growth.'' \1\
    The authors use a general equilibrium model developed by 
Professors Auerbach and Kotlikoff to examine five tax reforms 
spanning the major proposals now under discussion. Each of the 
reforms replaces the federal personal and corporate income 
taxes, and each is simulated assuming the same growth-adjusted 
levels of government spending and government debt. The reforms 
are a ``clean'' income tax and four types of consumption taxes. 
These consumption taxes are: a) ``clean'' consumption tax; b) a 
Hall-Rabushka flat tax; c) a Hall-Rabushka flat tax with 
transition relief; and d) Princeton University Professor David 
Bradford's ``X tax.''
    The clean income tax eliminates all personal exemptions and 
deductions, and taxes labor and capital income at a single 
rate. The clean consumption tax differs from the clean income 
tax by permitting expensing of new investment (meaning that the 
total cost of the investment is deducted in the first year). 
This tax is implemented as a tax on wages with all saving 
exempt from tax at the household level, and as a cash-flow tax 
on businesses.
    The Hall-Rabushka flat tax differs from the consumption tax 
by including a standard deduction against wage income and by 
not taxing the rental value of owner-occupied housing and the 
value of services provided by consumer durables. The flat tax 
with transition relief permits continued depreciation of 
capital in existence as of the reform. Finally, the Bradford X 
tax combines a progressive wage tax with a business cash-flow 
tax where the business cash-flow tax rate equals the highest 
tax rate applied to wage income.
    Auerbach et al. conclude that switching to a consumption 
tax can offer significant economic gains. The Bradford X tax, 
to which the authors give the highest marks for its impact on 
equity, efficiency, and economic growth, raises long-term 
output by 7.5 percent and provides no transition relief from 
its expensing provisions. It also hits the rich with higher 
marginal tax rates than the poor. It is not surprising, then, 
that in the long run the X tax helps those who are poor by more 
than it helps those who are rich, the authors note. Still, 
under the X tax there are no long-run losers; even the rich are 
better off. Transition relief and adjustments that prevent 
adverse distributional effects lessen the positive impact of 
tax reform on the economy.
    Another recent study, the Joint Committee on Taxation's Tax 
Modeling Project and 1997 Tax Symposium Papers, summarizes the 
results of a number of scholars who compared the macroeconomic 
consequences of a broad-based unified income tax (a ``clean'' 
income tax in Auerbach's terminology) to those of a broad-based 
consumption tax.'' \2\ Participants included Roger E. Brinner, 
DRI/McGraw-Hill; Eric M. Engen, Federal Reserve Board of 
Governors; Jane G. Gravelle, Congressional Research Service; 
Dale W. Jorgenson, Harvard University; Laurence J. Kotlikoff, 
Boston University; Joel L. Prakken, Macroeconomic Advisers; 
Gary Robbins, Fiscal Associates; Diane Lim Rogers, CBO; Kent A. 
Smetters, CBO; Peter J. Wilcoxen, University of Texas; Jan 
Walliser, CBO; and John G. Wilkens, Coopers & Lybrand.
    The economic impact of a ``pure'' income tax compared to a 
``pure'' consumption tax is shown in Table 3. The effects of 
the consumption tax proposals on GDP are generally positive 
over the medium and long terms, although the magnitude of these 
effects varies widely. For example, the Jorgenson-Wilcoxen 
model predicts that under a consumption tax, real GDP would be 
3.3 percent higher each year in the long run compared to 1.3 
percent higher under a unified income tax. The Auerbach, 
Kotlikoff, Smetters, and Walliser model predicts even greater 
gains in the long run (7.5 percent) under a consumption tax and 
losses (-3.0 percent of GDP) under a unified income tax. 
Similarly, the Engen-Gale analysis shows that the capital stock 
would be 9.8 percent higher in the long run under a consumption 
tax but 1.6 percent smaller under a unified income tax compared 
to current law. The consensus seems to be that the economy 
would fare better under a ``pure'' consumption tax than under a 
``pure'' income tax or under current law.
    In still another new report, The Economic Effects of 
Comprehensive Tax Reform, the CBO analyzes the effect of 
switching from the federal income tax to a comprehensive 
consumption-based tax using a general equilibrium model 
developed by University of Texas's Don Fullerton and Diane Lim 
Rogers of CBO.'' \3\
    CBO's analysis shows that substituting a broad-based 
consumption tax for an income tax would probably increase 
national saving and ultimately raise the living standards of 
future generations. It would increase the capital stock and 
raise the level of national output by between 1 percent and 10 
percent, although CBO concludes that increases at the upper end 
of that range are unlikely.
    The reform might be expected to increase economic 
efficiency as well as output for a number of reasons, according 
to the CBO study. First, the switch to a consumption base would 
eliminate the influence of taxes on the timing of consumption. 
Second, the new system might treat different sources' uses of 
income more uniformly by including more of them in the tax base 
and subjecting all of them to similar tax rates. Third, a 
broader base would allow lower overall marginal tax rates, 
reducing the amount by which taxes affect relative prices and 
hence all kinds of economic decisions. CBO notes, however, that 
efficiency is not the only criterion to use in judging the 
desirability of tax reform. Administrative and compliance costs 
are other important factors. If a consumption tax offered 
substantial gains from reduced complexity, then even a minimal 
gain in economic efficiency would be an added bonus.
    Another relatively recent study, Taxation and Economic 
Growth, by Professor Jonathan Skinner of Dartmouth College and 
Eric M. Engen of the Federal Reserve Board of Governors, 
examines evidence on taxation and growth for a large sample of 
countries.'' \4\ The type of tax system a country chooses 
significantly affects that nation's prospects for long-term 
economic growth, according to Skinner and Engen. Figures 1 and 
2 show the correlation in the OECD countries between income 
taxes and economic growth and between consumption taxes and 
economic growth over the period 1965-1991. These scatter plots, 
largely confirmed in regression analysis, suggest that income 
taxation is more harmful to growth than broad-based consumption 
taxes, the authors note. Skinner and Engen's study also 
suggests that tax policy does affect economic growth and that 
lower tax rates do enhance economic growth. For example, a 
major tax reform plan which reduces marginal tax rates by 5 
percentage points will increase growth by 0.2 to 0.3 points.
    Even modest growth effects can have an important long-term 
impact on living standards, Skinner and Engen note. For 
example, suppose that an inefficient structure of taxation has, 
since 1960, retarded growth by 0.2 percent annually. 
Accumulated over the past 36 years, the lower growth rate 
translates to a 7.5 percent lower level of GDP in 1996, or a 
net reduction in output of more than $500 billion annually. 
Thus, the potential effects of tax policy, although difficult 
to detect in the time-series data, can have potentially very 
large effects over the long term.
    The new studies described above reach the same conclusion 
about the beneficial effect on economic growth of switching to 
a broad-based consumption tax as earlier research by scholars 
such as John Shoven and Lawrence Goulder of Stanford University 
and Dale Jorgenson of Harvard University and Joel Prakken of 
Macroeconomic Advisers in St. Louis, Missouri.'' \5\

      Unfinished Business in Tax Policy Reform: Short-Term Agenda

    The long-run goal of U.S. federal tax policy should be to 
shift toward a broad-based consumption tax under which all 
income that is saved is exempt from tax. In the short term, 
there are steps forward the Ways and Means Committee could take 
and steps backward the Committee should avoid. With regard to 
the latter, President Clinton has made proposals, including 
revenue raisers, that the Committee must weigh carefully to 
ensure that they minimize any negative impact on saving and 
investment. As to the former, we will comment on new saving and 
investment incentives and modifications to the capital gains 
law, as requested in the notice of this hearing.

Shorten the Eighteen-Month Holding Period for Capital Gains

    The 1997 tax act contained a substantial reduction in 
individual capital gains tax rates. For example, The Taxpayer 
Relief Act of 1997 reduced the top capital gains rate from 28 
to 20 percent on assets held for 18 months or longer. Under 
prior law, the holding period for a long-term gain was only 12 
months. While the capital gains tax rate reduction with a 12-
month holding period was estimated by Allen Sinai of Primark 
Decision Economics and David Wyss of DRI/McGraw-Hill to reduce 
capital costs by three to four percent, the requirement that 
assets be held for 18 months rather than 12 months as under 
prior law tends to diminish the effectiveness of the tax cut. 
The longer the required holding period before an investor can 
realize a capital gain, the greater the risk. A higher risk 
premium means a higher cost of capital; thus less investment 
will be planned than if the holding period were 12 months. The 
18-month holding period also adds an unnecessary layer of 
complexity to the code. For example, prior to the Taxpayer 
Relief Act of 1997, Schedule D, the IRS form for reporting 
capital gains and losses, had only 23 lines. The Schedule D for 
1997 contains 54 linesmore than double the previous number.
    In addition, most of our international competitors have a 
holding period for long-term capital gains of one year or less 
(in fact, many exempt long-term gains from tax). Restoring the 
12-month holding period would be a positive step toward 
lightening taxes on saving and investment.

Individual Capital Gains Tax Rates

    Additional capital gains tax reductions would help move the 
U.S. tax code toward a consumption tax base and enhance 
economic growth. Previous studies by Allen Sinai and David Wyss 
show that individual capital gains tax rates in the 14 percent 
to 15 percent range have stronger positive effects on capital 
costs, saving, and investment than does a top rate of 20 
percent. Further reductions in the individual tax rate reduce 
the cost of capital and increase investment, GDP, productivity 
growth, and employment. In addition, such a tax cut would 
essentially be revenue neutral, when unlocking and 
macroeconomic consequences are included.
    In addition, a 1997 CBO report documents the widespread 
ownership of capital assets among middle-income taxpayers. 
According to the CBO report, in 1989, 31 percent of families 
with incomes under $20,000 held capital assets (not including 
personal residences) and 54 percent with income between $20,000 
and $50,000 held capital assets.

Reduce Corporate Capital Gains Tax Rates

    The 1997 tax reforms failed to include a reduction in the 
corporate capital gains tax from the 35 percent rate in effect 
since the 1986 Tax Reform Act, although such a measure was 
included in the bill reported out by this Committee and later 
passed by the House. Reducing corporate capital gains tax rates 
would also help move the U.S. tax code toward a consumption tax 
base by lightening the burden on income from investment. It 
could also help increase the Federal revenues needed to assure 
projected budget surpluses, according to reputable econometric 
analyses.
    The failure to reduce corporate capital gains tax rates in 
conjunction with the 1997 individual rate cuts heightens the 
inequities already inherent in the double taxation of corporate 
profits under current law, leading to excessive tax planning, 
and may accentuate the trend away from the traditional 
corporate form of organization.
    Compared to other industrialized nations, the United States 
taxes corporate capital gains very harshly. The United States 
taxes corporate capital gains at the ordinary income rate of 35 
percent, does not provide for indexation of such gains for 
inflation, and does not allow capital losses to be used to 
offset ordinary income. These last two factors increase the 
risk, and therefore the cost of capital, for corporate 
investments expected to yield capital gains. Fourteen out of 
sixteen countries surveyed tax corporate capital gains more 
favorably than does the United States, either through lower tax 
rates, by allowing capital losses to offset ordinary income, or 
by indexing gains for inflation. For example, Germany, the 
Netherlands, Japan, and Korea permit corporate capital losses 
to be deducted from ordinary income, and France taxes corporate 
capital gains at 18 percent. In several of the Pacific Basin 
countries such as Hong Kong, Singapore, and Malaysia, corporate 
capital gains are exempt from taxes.
    We therefore urge the committee to restore the historic 
parity between individual and corporate capital gains tax 
rates.

Expand Individual Retirement Accounts

    Under the Taxpayer Relief Act of 1997, the traditional 
``front-loaded'' (tax-deductible) IRAs were substantially 
expanded and were made more flexible through the addition of 
penalty-free withdrawal options. In addition, two new types of 
``back-loaded'' IRAs were created--the Roth IRA PLUS and the 
education IRA. Specifically, income limits on the traditional 
deductible IRAs were phased-up over time. The income limits for 
the $2,000 IRA deduction, which under prior law phased out 
between $40,000 and $50,000 of adjusted gross income for joint 
returns and $25,000 and $35,000 for individuals, are increased 
gradually beginning in 1998 when the income phase-out range 
will be between $50,000 and $60,000 of adjusted gross income 
for joint returns and $30,000 and $40,000 for individuals, 
until 2007, when the income phase-out range will be between 
$80,000 and $100,000 for joint returns and $50,000 and $60,000 
for individuals.
    Further expansion of the income limits and contribution 
ceilings for both front and backloaded IRAs--in particular the 
education IRA, which is limited to only $500 per yearwould help 
move the U.S. tax system toward a consumption tax base by 
lightening the tax burden on saving. Prominent public finance 
economists and scholars, including former Council of Economic 
Advisers Chairman Martin Feldstein; Treasury Deputy Secretary 
Lawrence Summers; and Professors David A. Wise of Harvard 
University; James M. Poterba of Massachusetts Institute of 
Technology; Steven E. Venti and Jonathan Skinner of Dartmouth 
College; and Richard A. Thaler of Cornell University, have 
concluded that IRAs--especially tax-deductible IRAs--do result 
in new saving.
    More than a dozen scholarly studies, using a variety of 
data sources and employing several different statistical 
approaches, have examined whether targeted saving vehicles such 
as IRAs impact saving. For example, Professor Steven Venti's 
testimony before a Senate Finance Subcommittee in 1994 examined 
saving data from a Survey of Income and Program Participation 
for three different age groups (families reaching age 60-64 in 
1984, 1987, and 1991). Professor Venti found a striking 
increase in saving the longer the family has been exposed to 
the targeted retirement programs: IRAs, 401(k)s, and Keoghs.
    The growth in IRA asset balances is astounding, Professor 
Venti noted. The typical member of the youngest age group 
family--with nine years of exposure to targeted retirement 
saving programs--has nearly three times the targeted retirement 
assets of the oldest group. There is a comparable increase in 
total assets as well. In contrast, among families without IRAs, 
the youngest families have only about 75 percent the financial 
assets of the older families ($1,691 vs. $2,247 in constant 
dollars). Professor Venti concluded that since total financial 
assets, including balances in IRAs, are much larger for the 
younger group in 1991 than for the older group that reached age 
60-64 in 1984, targeted retirement saving programs did 
stimulate new saving over the period.

Restore the Dividend and Interest Received Exclusion

    The Tax Reform Act of 1986 repealed the deduction for the 
first $100 of dividends received by individual shareholders 
($200 by a married couple filing jointly) on the grounds that 
the provision did little to reduce the double taxation of 
corporate income because its monetary limit was so low. In 
addition, the Joint Committee on Taxation concluded that the 
deduction benefited high-bracket taxpayers more than those in 
low brackets.
    The 1984 Deficit Reduction Act repealed the 15 percent 
interest-received exclusion that allowed a taxpayer to exclude 
up to $3,000 of net interest ($6,000 on a joint return). The 
reason for the change was that revenue losses under the IRA 
provisions were higher than expected and also that the 
provision might direct saving away from equity investment and 
toward debt.
    Restoration (and expansion) of the dividend and interest 
received deductions would be a positive step toward shifting 
the tax base from income to consumption. By reducing the double 
tax on corporate income, even if only by a small amount, those 
provisions would tend to reduce capital costs and encourage 
saving and investment.

Strengthening the Pension System

    With over $3 trillion in accumulated retirement assets, the 
employment-based pension system provides a critical part of 
national savings. But the effectiveness of that system as a 
savings generator continues to be hampered by layer-upon-layer 
of unnecessary regulation. Regulations limit who can save, 
where and when they can save, how much they can save, and when 
and how they must withdraw savings.
    Over the last two years--with the creation of a new SIMPLE 
plan for small business and the repeal of a variety of pension 
rules--Congress has begun the process of peeling away some of 
those unnecessary layers of regulation. There is still a long 
way to go. A good place to start would be continued 
simplification, including especially the limits on the amount 
that can be saved and the rules that force withdrawal of 
existing savings.

        Unfinished Business in Tax Policy Reform: Long Run Goals

    Fundamental reform of the U.S. federal tax code remains a 
key goal for many policymakers. I want to take advantage of 
this opportunity to express special thanks to Chairman Bill 
Archer for his dedication and valuable leadership in this 
regard.
    Other prominent members of Congress, including House 
Majority Leader Richard Armey (R-TX) and Senator Richard Shelby 
(R-AL); Senator Pete Domenici (R-NM); and Representatives Dan 
Schaefer (R-CO) and Billy Tauzin (R-LA), have all introduced 
legislation to replace the federal income tax with a broad-
based consumption tax. House Minority Leader Richard Gephardt 
(D-MO) has proposed broadening the current income tax base 
while lowering rates. In addition, other reform plans are being 
developed. For example, Senator John Ashcroft (R-MO) has 
proposed reforming the income tax by reducing marginal rates 
and providing a deduction for payroll taxes. Also, Americans 
for Fair Taxation, a private group based in Texas, has proposed 
replacing the federal income, social security, medicare, and 
estate taxes with a 23 percent national sales tax.
    In addition to political factors such as voter discontent 
with the income tax, several factors contribute to the current 
interest in tax reform:
     The recognition that today's balanced federal 
budget is likely to be a relatively short-lived phenomenon. A 
new study by the General Accounting Office (GAO) predicts that, 
absent improvement in GDP growth rates or policy changes such 
as reduced social security benefits, budget deficits will 
reemerge by 2012 as baby boomers begin to retire. Tax reform, 
by encouraging more saving and investment, could be an 
important tool as we seek to ensure a strong economy in the 
twenty-first century.
     A growing awareness that the U.S. federal tax code 
is biased against the saving and investment that is crucial to 
improving U.S. economic growth. The new GAO study observes that 
even though federal budget deficits have declined recently, 
total national saving and investment remain significantly below 
the average of the 1960s and 1970s (see Table 2). In addition, 
the United States has one of the highest tax rates on new 
investment in the industrialized world. According to a 1994 
study by the Progressive Foundation, the think tank affiliate 
of the Progressive Policy Institute, the effective combined 
corporate and individual federal tax rate on new investment in 
the United States is 37.5 percent, compared to an average of 
31.1 percent in other G-7 countries (see Figure 3).'' \6\
     U.S. multinationals' goal of competing in the 
global marketplace. Fundamental tax reform could enhance the 
ability of U.S. firms to compete in global markets by reducing 
the competitive disadvantage that they face. For example, as a 
1997 study sponsored by the ACCF Center for Policy Research, 
the public policy affiliate of the ACCF, showed, U.S. financial 
service firms face much higher tax rates than do their 
international competitors when operating in a third country 
such as Taiwan (see Figure 4).'' \7\ A twelve-country analysis 
shows that U.S. insurance firms are taxed at a rate of 35 
percent on income earned abroad compared to 14.3 percent for 
French-, Swiss-, or Belgian-owned firms. As a consequence of 
their more favorable tax codes, foreign financial service firms 
can offer products at lower prices than can U.S. firms, thereby 
giving them a competitive advantage in world markets. Under the 
broad-based consumption tax reform proposals discussed above, 
all foreign-source income is exempt from tax.
     The conclusions of new economic studies by 
academic and public-sector tax policy experts that fundamental 
tax reform could raise rates of saving, investment, and output. 
As discussed earlier in this statement, a number of new 
academic and government studies conclude that switching to a 
consumption-based tax system would increase national saving, 
reduce the cost of capital, and lead to higher levels of 
capital formation and GDP.

                              Conclusions

    Persistent low U.S. saving rates, despite recent good 
economic growth and low unemployment, suggest the need for 
short-term policy measures to reverse this pattern. In 
particular, we need to build on the recent progress in capital 
gains taxation, IRAs, pension and estate tax relief and the 
AMT. The restoration of an exclusion for dividends and interest 
received would also further the goal of lightening the taxation 
of saving. In addition, a substantial body of research suggests 
that fundamental tax reform and more reliance on consumption 
taxes could have a profound positive effect on long-term 
economic growth. Even small changes in economic growth rates 
can make a big difference in living standards. As the United 
States faces the economic challenges of the twenty-first 
century, fundamental tax reform that moves the U.S. tax system 
toward greater reliance on consumption taxes can be an 
important policy lever for achieving stronger economic growth 
and higher living standards.

                                Endnotes

    1. Alan J. Auerbach, David Altig, Laurence J. Kotlikoff, Kent A. 
Smetters, and Jan Walliser, ``Simulating U.S. Tax Reform,'' NBER 
Working Paper No. 6248 (Cambridge, Mass.: National Bureau of Economic 
Research, October 1997).
    2. Joint Committee on Taxation, Tax Modeling Project and 1997 Tax 
Symposium Papers, November 20, 1997.
    3. Congressional Budget Office, The Economic Effects of 
Comprehensive Tax Reform, July 1997.
    4. Eric M. Engen and Jonathan Skinner, ``Taxation and Economic 
Growth,'' NBER Working Paper No. 5826 (Cambridge, Mass.: National 
Bureau of Economic Research, November 1996).
    5. Dale W. Jorgenson, ``The Economic Impact of Taxing 
Consumption,'' testimony before the Committee on Ways and Means of the 
U.S. House of Representatives, March 27, 1996. Joel L. Prakken, ``The 
Macroeconomics of Tax Reform,'' The Consumption Tax: A Better 
Alternative? (Cambridge, Mass.: Ballinger Publishing Company, 1987). 
Lawrence H. Goulder, ``Deficit Reduction through Energy, Income, and 
Consumption Taxes: Impacts on Economic Growth and the Environment,'' 
Tax Policy for Economic Growth in the 1990s (Washington, D.C.: American 
Council for Capital Formation Center for Policy Research, March 1994).
    6. Enterprise Economics and Tax Reform, Progressive Foundation, 
Progressive Policy Institute, Washington, D.C., October 1994.
    7. The Impact of the U.S. Tax Code on the Competitiveness of 
Financial Service Firms, (Washington, D.C.: American Council for 
Capital Formation Center for Policy Research, July 1997). 
[GRAPHIC] [TIFF OMITTED] T0897.129

[GRAPHIC] [TIFF OMITTED] T0897.130

[GRAPHIC] [TIFF OMITTED] T0897.131

[GRAPHIC] [TIFF OMITTED] T0897.132

[GRAPHIC] [TIFF OMITTED] T0897.133

[GRAPHIC] [TIFF OMITTED] T0897.134

      

                                


    Chairman Archer. Thank you, Mr. Bloomfield.
    Our next witness is Stephen Entin. After you identify 
yourself, you may proceed.

  STATEMENT OF STEPHEN J. ENTIN, EXECUTIVE DIRECTOR AND CHIEF 
 ECONOMIST, INSTITUTE FOR RESEARCH ON THE ECONOMICS OF TAXATION

    Mr. Entin. Thank you, Mr. Chairman.
    My name is Stephen J. Entin. I am executive director and 
chief economist of the Institute for Research on the Economics 
of Taxation.
    Thank you for the opportunity to discuss the tax treatment 
of saving with you today. The issue has taken on an added 
importance as baby boomers approach retirement with inadequate 
savings and as the Social Security system totters toward 
insolvency.
    As the Committee is well aware, the income tax is heavily 
biased against saving. Income is taxed when first earned. If it 
is used for consumption, it is free of additional Federal 
income taxes. If it is saved, however, the returns on the 
saving are taxed again. This is the basic tax bias against 
saving. In addition, the corporate income tax and the Federal 
transfer tax compound the problem.
    Removing the basic bias and eliminating the added layers of 
tax should be a key goal of fundamental tax reform. I am glad 
to see, Mr. Chairman, that you are still very determined to 
proceed in that area.
    The Taxpayer Relief Act of 1977 eased the basic income tax 
bias against saving somewhat by liberalizing the restrictions 
on deductible IRAs and adding the Roth and education IRAs. But 
more needs to be done. Two proposals, in particular, would 
improve the tax treatment of saving for low income or young 
households that have relatively few current assets.
    Senator Breaux and Representative McCrery have introduced 
the Individual Investment Account Act. The bill would permit 
taxpayers to defer taxes on saving without restrictions as to 
the amount of saving, the time of withdrawal, or the income 
level of the saver. All saving would be covered by the 
proposal, so all savers would receive incentives, at the 
margin, to save more.
    My colleagues and I at IRET are preparing a paper on the 
total overhaul of the tax system incorporating this approach. I 
would like to share the paper with the Committee when it is 
finished.
    Representatives Hulshof and Kucinich are preparing a bill 
that would exclude the first $200 to $400 in interest and 
dividends from taxable income for single and joint filers, 
respectively. The Joint Tax Committee estimates that, as of 
1995, the exclusion would have covered all interest and 
dividend income on returns filed by more than 32 million 
households. Those returns involved more than 50 million 
taxpayers.
    At a 5-percent rate of interest or dividend, the exclusion 
would protect all the income from up to $4,000 or $8,000 in 
financial assets of individuals or married couples. Households 
with larger amounts of assets would receive no incentive, at 
the margin, to add to their savings. However, tens of millions 
of low income or young households have less than these levels 
of savings.
    These proposals are better than other saving incentive 
plans for low-income households because they have no strings 
attached--no tax penalty for withdrawal regardless of how long 
the saving has been held or the age of the taxpayer or the 
purpose of the withdrawal. By contrast, most saving provisions 
of the current law apply to retirement income and impose a 
penalty as well as a tax for most withdrawals before age 59\1/
2\. People need some amount of savings they can tap into in an 
emergency such as unemployment or a medical problem. The rich 
can utilize provisions--the restrictive provisions such as IRAs 
and pensions and still have money to set aside for instant 
access. The working poor, however, are often unable to save for 
retirement in one account and for emergencies in another. 
Rather than risk a tax penalty, they put their savings in bank 
accounts that are fully subject to the income-tax bias against 
saving.
    Efforts to lock people into retirement savings have had the 
opposite effect of frightening low-income households away from 
retirement-saving plans. Consequently, their assets are 
overtaxed and build slowly. Therefore, many households never 
achieve the levels of precautionary savings that they need 
before they can set money aside for retirement. If low-income 
households could receive the same tax-deferred or tax-exempt 
treatment of saving available to our affluent citizens, without 
restrictions, they could more quickly build their rainy-day 
funds to acceptable levels and have more money to set aside for 
long-term investment.
    A complete rationalization of taxation of savings and 
investment, including elimination of the transfer tax and the 
double taxation of corporate and individual income, would 
probably require total restructuring of the tax system. Until 
then, small steps in the right direction would help individual 
households and the economy.
    Saving incentives must be part of the inevitable reform of 
Social Security. To ensure that the added saving is used to 
increase domestic business investment to boost U.S. 
productivity, wages, and employment, Congress should also enact 
faster writeoff of plant, equipment, and structures. Such steps 
are affordable. Their dynamic effect on the economy and on 
saving should ease budget concerns and should be counted. 
Projected budget surpluses should also ease the adoption of 
progrowth tax initiatives and, if necessary, the Budget Act 
should be revised. Promotion of a more productive economy is 
the best way to use projected budget surpluses to raise incomes 
for retirees and the rest of the Nation.
    Thank you.
    [The prepared statement follows:]

Statement of Stephen J. Entin, Executive Director and Chief Economist, 
Institute for Research on the Economics of Taxation

    The public and this Committee have long been concerned 
about the adequacy of saving in the United States, with regard 
to both the financial well-being of individuals and households 
and the health of the national economy. The subject takes on 
added importance as the baby boomers approach retirement with 
clearly inadequate financial resources.
    The tax treatment of saving affects the ability and 
willingness of people to save for emergencies, for education, 
homebuying, and retirement. The ordinary income tax is heavily 
biased against saving and in favor of consumption uses of 
income. Income is taxed when first earned. If it is used for 
consumption, it is free of additional federal income taxes. If 
it is saved, however, the returns on the saving are taxed 
again. This is the fundamental bias of the income tax against 
saving. In addition to this basic bias, the tax system piles on 
several additional layers of tax on income that is saved, in 
the form of the corporate income tax and the federal transfer 
(estate and gift) tax, compounding the problem.\1\
    These multiple layers of tax on saving and capital increase 
the cost of saving, leading to a smaller stock of capital than 
would otherwise prevail. A smaller capital stock means lower 
labor productivity, real wages, employment, and income than 
could otherwise have been achieved.
    A neutral tax code would not penalize saving relative to 
consumption. There are two ways to make the taxation of saving 
and consumption neutral. Either income that is saved should be 
exempt from tax and the earnings of the saving and the 
principal taxed upon withdrawal, or the amounts saved should be 
taxed when earned but the earnings should be tax exempt. The 
saving-deferred approach is embodied in deductible IRAs and in 
401(k), 403(b), Keough, and employer-sponsored retirement 
plans. The returns exempt approach is embodied in tax exempt 
securities and the recently enacted ``back-ended'' Roth IRA.\2\
    The tax bill enacted in 1997 liberalized existing 
provisions that offset some of the tax bias against saving for 
retirement, and added several vehicles to encourage saving for 
education. Nonetheless, there is still much work to do to 
provide saving with the neutral tax treatment that would be 
most beneficial for taxpayers and the national economy.\3\
    I should like to refer specifically today to two proposals 
that would improve the tax treatment of saving particularly for 
low income households and for young households who have 
relatively few current assets.
    Senator John Breaux (D-LA) and Representative Jim McCrery 
(R-LA) have introduced the Individual Investment Account Act in 
the 105th Congress as S. 330 and as H.R. 984. The bill would 
permit taxpayers to defer taxes on saving without restrictions 
as to amount of saving or time of withdrawal or income level of 
the saver. It would allow unlimited tax deduction of amounts 
saved, tax-free investment growth until withdrawal, no penalty 
tax on withdrawal at any age, and no forced distribution at any 
age. There would be no income tax at death; heirs could 
maintain the deferral of the saving until they chose to 
withdraw it.
    Representatives Kenny Hulshof (R-MO) and Dennis Kucinich 
(D-OH) are preparing to introduce a bill that would exclude the 
first $200 or $400 in interest and dividends from taxable 
income for single and joint filers, respectively. Figures 
provided to the sponsors by the Joint Tax Committee from the 
1995 tax year indicate that 30 million tax returns reported 
interest and dividend income of less than $200. About 19 
million joint returns reported interest and dividends income of 
less than $400. Altogether, the $200/$400 exclusion would cover 
all interest and dividend income on returns filed by more than 
32 million households, covering more than 50 million taxpayers. 
About 67 million households (about 57 percent of all taxpayers) 
would receive partial or total relief from tax on their saving 
under the proposal.
    Assuming a 5% rate of interest or dividends, a $200 
exclusion would protect all of the income from up to $4,000 in 
financial assets held by an individual, and up to $8,000 in 
financial assets held by a married couple. Many households have 
assets in excess of these levels, and would receive no 
incentive at the margin to add to their saving as a result of 
the exclusion. However, tens of millions of households have 
less than these levels of savings. They are concentrated among 
the lowest income households in the country.
    Both of these proposals for reducing the tax bias against 
saving have an important advantage over other saving plans for 
low income households. They are free of any tax penalty for 
withdrawals, regardless of how long the saving had been held, 
or the age of the taxpayer, or the purpose for the withdrawal.
    By contrast, most of the provisions in current law that 
protect a portion of saving from the biases in the income tax 
apply to retirement income, and impose a penalty as well as a 
tax for most early withdrawals. Unfortunately, people need 
ready access to some amount of savings in the event of an 
emergency, such as a spell of unemployment or a medical 
problem; the tax code now provides only a few, narrow 
exemptions to the early withdrawal penalty. The rich can save 
for retirement in pensions and IRAs, and still have plenty of 
income to set aside in ordinary saving for instant access. The 
working poor, however, are often unable to save for retirement 
in one account and for emergencies in another. They are afraid 
to risk the tax penalty for early withdrawal from retirement 
saving plans, and must put their saving in bank accounts and 
money market funds that are fully subject to the income tax 
bias against saving.
    By allowing maximum flexibility for the taxpayer/saver, the 
Breaux-McCrery and Hulshof provisions would be more useful and 
attractive to low income households, and would encourage them 
to do more saving, than existing tax provisions.
    The restrictions that encumber most saving incentives in 
current law are intended to increase long term saving, and, in 
particular, to prevent people from drawing down their saving 
before retirement age. It is unclear if the intent is to 
protect irresponsible people from themselves, lest they waste 
their retirement nest eggs, or to protect the federal 
government, which does not want to support destitute senior 
citizens on the dole. In either case, the idea seems to be that 
it is necessary to lock savers into their retirement plans to 
increase the amount of assets available to them in old age.
    Not only is this dim view of the intelligence of the 
population insulting and misguided, the tactic probably 
backfires. The efforts to force people to save for retirement 
have had the opposite effect of frightening low income 
households away from the retirement saving plans. Consequently, 
their assets build painfully slowly, and many never achieve the 
levels of precautionary savings they need before they can 
consider the luxury of setting money aside for retirement.
    If the saving of low income households received the same 
tax-deferred or tax exempt treatment available to retirement 
accounts of more affluent citizens, their assets would build 
faster, they would more quickly build their rainy day funds to 
acceptable levels, and they would have more money available to 
put into longer term saving vehicles, including retirement 
plans. If all saving were to receive the same neutral tax 
treatment, there would be more saving in total, less incentive 
to withdraw and spend down saving at all ages, and, 
consequently, more saving for retirement, than under current 
law.
    Most of the provisions in current law that protect a 
portion of saving from tax bias have to do with retirement 
saving. The bias in the income tax extends to all taxable 
saving, not just that for retirement. Consequently, to create a 
neutral tax system, all saving, whether for retirement, buying 
a house, college tuition, a new car, a vacation, or protection 
against a rainy day, should receive the same treatment as in a 
tax-deferred income plan.
    A complete rationalization of the taxes imposed on saving 
and investment will probably have to wait for a total 
restructuring of the tax system with one of three approaches:

A saving-deferred tax for individuals.

    Allow savers to defer tax on all their net saving and tax 
all net withdrawals of non-reinvested returns on capital on 
individuals' tax forms, with no additional tax at the business 
level. (Example: an integrated cash-flow tax, such as a 
modification of the individual side of the (Nunn-Domenici) USA 
Tax.)

A neutral business level tax.

    Allow businesses an immediate write-off of all investment 
outlays and tax all returns of capital on business tax returns, 
with no additional tax at the individual level. (Example: the 
Armey-Shelby Flat Tax.)

A retail sales tax.

    Tax income when it is spent on final consumption goods and 
services. (Example: Tauzin-Shaefer.)
    Until such time as the country and the Congress are ready 
for a totally new tax system, small steps in the right 
direction would do a great deal to improve the performance of 
the economy and the well-being of individuals and families.

                                Endnotes

    1. After income has been earned and taxed, personal taxes on 
returns on non-corporate investments, such as interest, rents, and 
earnings of unincorporated businesses, constitute a second round of 
taxation--double taxation--of income that is saved. Similarly, personal 
saving invested in corporate ownership is subject to a second round of 
taxation--the corporate income tax on the corporate earnings on that 
saving. A third round of income tax--triple taxation--is imposed if the 
corporation distributes its after-tax income as dividends to 
individuals. If the corporation retains its after-tax earnings for 
reinvestment, the resulting increase in the share price constitutes a 
capital gain, also resulting in a third layer of tax on the retained 
earnings if the shares are sold.
    Capital gains may also occur when a business's earnings outlook 
improves for reasons other than reinvestment. A new product or patent, 
a rise in sales, anything that would lead to a jump in anticipated 
income (income that the business has not even received yet) may boost 
the current valuation of the shares or business. If the higher expected 
business earnings come to pass, they will be taxed as corporate income 
and/or personal business or dividend income. To tax the increase in the 
current value of the business, either upon sale, gift, or bequest, is 
to triple-tax the future income.
    If the saving outlives the saver, the federal unified transfer 
(estate and gift) tax may impose yet another layer of tax on the 
saving. In addition to the federal income and transfer taxes, state and 
local income, estate, and gift taxes impose multiple layers of tax on 
saving and its returns. There are property taxes as well.
    2. A neutral tax code would raise revenue without distorting 
economic activity. The tax would do this by increasing the cost of all 
private sector activities equally. The income tax, because it is 
assessed on both income that is saved and the returns on that income, 
taxes saving and investment more heavily than consumption.
    Suppose that, in the absence of taxes, one could buy $100 of 
consumption goods or a $100 bond paying 4% interest, or $4 a year. Now 
impose a 20% income tax. One would now have to earn $125, and give up 
$25 in tax, to have $100 of after-tax income to consume. The cost of 
$100 of consumption in terms of pre-tax income has risen 25%. To get a 
$4 interest stream, after taxes, one would have to earn $5 in interest, 
pre-tax. To earn $5 in interest, one would have to buy a $125 bond. To 
buy a $125 bond, one would have to earn $156.25 and pay $31.25 in tax. 
The cost of the after-tax interest stream has gone up 56.25%, more than 
twice the increase in the cost of consumption.
    There are two general approaches to restoring neutrality. One is to 
exempt returns on capital from tax. One would then have to earn $125 to 
buy a $100 bond, earning $4 with no further tax. This is akin to the 
tax treatment accorded state and local bonds. The other method is to 
allow a deduction for income that is saved, while taxing the returns. 
One would have to earn $125 to buy a $125 bond, earning $5 in interest 
pre-tax; after paying $1 in tax on the interest, one would have $4 
left. This is akin to the deductible IRA, or qualified 401(k) or 
company pension plans.
    3. There are many shortcomings in the existing tax provisions. 
IRAs, 401(k) plans, and other deferred compensation plans that moderate 
the tax bias against saving, as currently constituted, have several 
shortcomings. In spite of the changes enacted in last year's tax bill, 
there are still limits on the amounts that can be deducted. IRAs give 
no added incentive to save to those who are already doing long-term 
saving in amounts above the limits. (Senator Ashcroft has proposed 
doubling the amounts that may be contributed to deductible IRAs, giving 
more savers incentive ``at the margin''.)
    Another drawback is that withdrawals from most plans before age 
59\1/2\ are frequently subject to a penalty in addition to tax. This 
often makes these saving plans unattractive to lower income savers who 
cannot afford to save separately for emergencies and other near-term 
goals, as well as a more distant retirement. Commendably, the tax bill 
approved in 1997 waives the early-withdrawal penalty on IRA 
distributions used to buy a first home or to pay qualified higher-
education expenses.
    Two other liberalizations in the 1997 legislation are also steps in 
the right direction, but they do not go far enough. The new Roth IRAs 
permit savers to deposit after-tax money into custodial accounts in 
which the earnings are tax free. But Roth IRAs also have income limits 
on participants (higher than the income thresholds for non-Roth IRAs), 
and limit the amounts that may be contributed. Further, assets must be 
held five years or more in Roth IRAs and the individual must have 
attained age 59 (or qualify for one of several exceptions) in order to 
make withdrawals without a tax penalty. The non-deductible education 
IRA in the same legislation also addresses the tax bias against saving 
but is subject to contribution and income limits and is only penalty 
free if used for eligible education outlays.
    Another problem is that there is a mandatory age (70\1/2\) for 
beginning to withdraw from non-Roth IRAs to force commencement of 
recapture of the tax deferral, yet the saving done by the elderly is as 
economically valuable as saving done by the young. Indeed, all saving 
contributes to capital formation, productivity, and national income, 
regardless of the motive behind it. There is no economic reason for the 
government to discriminate against or discourage any type of saving.
    Tax exempt bonds receive the same ``back-ended'' tax treatment as a 
Roth IRA. The saver gets no deduction, but the returns are not taxed. 
There is no holding period or tax penalty for early withdrawal to 
frighten away low income savers. However, tax exempt bonds offer a 
lower rate of return than ordinary bonds or stocks. The difference 
reflects the marginal tax rates of the upper income taxpayers who 
invest in the tax exempt securities. The issuing states, counties, and 
cities capture the tax advantage through the lower interest rate paid 
on such bonds, leaving the taxpayers only slightly better off than if 
they had invested in taxable securities. Because of their relatively 
low interest rates, these securities are not a good investment for 
taxpayers in low tax brackets.
      

                                


    Chairman Archer. Thank you, Mr. Entin.
    Mr. Stevenson, you may proceed.

  STATEMENT OF WILLIAM STEVENSON, CHAIRMAN, FEDERAL TAXATION 
  COMMITTEE, NATIONAL SOCIETY OF ACCOUNTANTS; AND PRESIDENT, 
                 NATIONAL TAX CONSULTANTS, INC.

    Mr. Stevenson. Thank you. My name is William Stevenson. I 
am representing the National Society of Accountants in which I 
am the Federal tax committee chairman. I am also president of 
National Tax Consultants Inc. in Merrick, New York.
    Good morning, Mr. Chairman and Members of the Committee. 
We're really pleased to testify today on this issue of Federal 
tax burden, and when I'm finished everyone's going to think 
that you planted me here.
    The National Society of Accountants represents interests of 
over 30,000 practicing accountants who provide accounting, tax 
services, management advisory services to about 6 million small 
businesses and individuals. In the past 10 years, I personally 
prepared 5,000 tax returns, probably more.
    Our comments today are going to focus on one area, namely 
the complexity of the 18-month holding period for the new 10- 
and 20-percent capital gains rate. We're also going to 
demonstrate to you the problems this has caused many taxpayers 
including tax preparers like myself.
    The mind-boggling complexity in the new capital gains rate 
and the reporting of it really needs to be eliminated. In 
particular, the National Society endorses the elimination of 
the 18-month holding period and in its place, we recommend what 
Chairman Archer announced in his opening comments that a 20-
percent gains rate should be effective for capital assets held 
for a year or more.
    And here's why--and incidentally, this is not theory. This 
is practicality as compared to some of the much broader issues 
that we have been discussing. In 1996, the Schedule D had 19 
lines on it, and it had 3 pages of instructions with a little 
worksheet. This year, those 19 lines have grown to 54 lines and 
4 pages of instructions. The complexity of the new capital 
gains laws are particularly burdensome for owners of mutual 
funds. Before 1997, taxpayers could report their mutual fund 
distributions directly on the 1040 and then bypass the Schedule 
D. In 1997, taxpayers must report the tiniest capital gains 
distribution on Schedule D, and, according to one national 
press report, the mutual fund trade industry estimates that the 
1997 act's mandate regarding this change alone could affect 5 
million of the 63 million investors in mutual funds. I really 
think that it is a lot more than that based on my own personal 
experience.
    One of the publications referred to the 1997 tax law as 
``the tax-preparation industry full employment act,'' and I 
suppose I should thank you for it. But it is making me crazy, 
too.
    Each January, taxpayers owning mutual funds are inundated 
by their annual reports and Form 1099-Div--Div means Dividend--
and they get these from all their different mutual funds. Even 
tax-free funds often generate a statement containing capital 
gains. Deciphering the Form 1099-Div has always been difficult, 
but this year, for the average taxpayer and average investor, 
it is particularly incomprehensible, it is indecipherable.
    For the benefit of the Committee, we've submitted, as an 
attachment to our written statement, a real-life example. This 
is an actual client of mine. I have just taken one of his 
mutual funds that he held for 2 years--and in this example, 
I've pointed out to you the needless complexity of our new 
capital-gains laws. When you get a chance to look at the 
report, you will see that this taxpayer, Michael J.--I blanked 
out his last name and Social Security number--he just invested 
$39,000 in a mutual fund in March 1996. He added $20,000 over 
the last 2 years and made a couple of withdrawals, and in 
addition to that, we will assumed he sold it on December 15. In 
that scenario, I had to go through 15 steps, first to determine 
his holding period, his gain percentages, his gain and loss 
profit--all of this prior to reporting it on the Schedule D, 
and when you take a look at the D, you will think that he had 
100 different transactions. This is just to report this.
    And the same complexity applies to an investor whether they 
had $1 million in the fund. Frankly, Congress has given us a 
law that is almost impossible to follow.
    We recognize that this also created a burden for the IRS. 
So much so that they couldn't even process electronically filed 
returns of Schedule D until today. What most people don't 
realize is that farmers and fishermen, they have to file their 
returns by March 2, so it is causing an enormous burden.
    So, I see my time is up. Providing your questions aren't 
too complex, I will be glad to respond to them at the end.
    [The prepared statement and attachments follow:]

Statement of William Stevenson, Chairman, Federal Taxation Committee, 
National Society of Accountants; and President, National Tax 
Consultants, Inc.

    The National Society of Accountants (NSA) is pleased to 
testify on the issue of reducing the federal tax burden. NSA 
commends Chairman Archer and the other members of the Committee 
on Ways and Means for holding this most important hearing on 
proposals designed to eliminate complexities or perceived 
inequities in the Internal Revenue Code.
    My name is William Stevenson, and I am testifying today in 
my capacity as Chairman of the National Society's Federal 
Taxation Committee. I have been an Enrolled Agent for many 
years and have served on the Commissioner of Internal Revenue's 
Advisory Group. I am president of National Tax Consultants, 
Inc., a firm that concentrates on taxpayer representation 
before the United States Tax Court, and also am president of 
Financial Services of Long Island, a mutifaceted tax 
preparation and accounting firm that services individuals and 
small businesses on Long Island, in Merrick, New York.
    NSA is an individual membership organization. Through our 
national organization and affiliates in 54 jurisdictions, we 
represent the interests of approximately 30,000 practicing 
accountants. Our members are for the most part either sole 
practitioners or partners in moderate-sized accounting firms 
who provide accounting, tax return preparation, representation 
before the Internal Revenue Service, tax planning, financial 
planning, and managerial advisory services to over six million 
individual and small business clients. The members of NSA are 
pledged to a strict code of professional ethics and rules of 
professional conduct.
    The National Society's comments today will focus on the 
complexity of the 18-month holding period for the new 10 and 20 
percent capital gains rates, and proposals for an exclusion for 
interest and dividend income.

                             Capital Gains

    The National Society strongly supports the proposition that 
a low capital gains rate is critical to spurring capital 
formation and prosperity for the American work force. However, 
the mind-boggling complexity in the new capital gains rates and 
reporting should be eliminated. In particular, NSA endorses 
elimination of the 18 month holding period involved with the 
new maximum 20 percent capital gains rate. Instead, we 
recommend that the top 20 percent capital gains rate become 
effective for capital assets held for one year or more.
    The technical impediments imbedded in the Internal Revenue 
Code create the complexity which makes it difficult for 
individual taxpayers to comply with the law and for the 
Internal Revenue Service to administer it. We believe the 
current 18 month holding period for capital gains, enacted as 
part of the Taxpayer Relief Act of 1997, is an excellent 
example of needless complexity.
    According to IRS statistics, approximately 50 percent of 
all federal tax returns are prepared by tax professionals. The 
August 13, 1997 issue of Money Daily states the capital gains 
measure of the 1997 law is likely to spur even more individuals 
to take their tax reporting obligations to professionals for 
assistance. Indeed, one tax professional quoted by Money Daily 
called the 1997 law the ``Tax Preparation Industry Full 
Employment Act.''
    The National Society of Accountants supports the reduction 
in the top capital gains rate to 20 percent. However, in order 
to qualify for the 20 percent rate under the 1997 tax law, an 
individual must now hold his or her capital asset for 18 months 
or longer. Assets held for more than a year, but for less than 
18 months, will be taxed under the new tax act at a maximum 
capital gains rate of 28 percent. The Schedule D (Capital Gains 
and Losses) for the 1996 Form 1040 contained 19 lines on the 
schedule, accompanied by a 13 line worksheet in the instruction 
book. The instructions for the form were three pages. Due to 
the capital gains provisions of the 1997 tax act, the Schedule 
D for the 1997 individual tax return contains 54 lines. The 
instructions for the form have increased to four pages. Thy 
considers to be needless.
    The blame for such complexity can not be placed on the IRS. 
The agency was given a mandate, based on enactment of the 1997 
Tax Act, to design a tax form to provide accounting for at 
least six capital gains tax brackets for 1997. The 54 line 
Schedule D and the four pages of instructions were the 
necessary result. And the complexity of the Schedule D will 
only get worse by the year 2000 when the IRS will be faced with 
designing a form which accounts for nine tax brackets.
    The complexity of the new capital gains law will be 
particularly burdensome for owners of mutual funds. Before 
calendar year 1997, a taxpayer who had only taxable capital 
gains distributions from mutual funds was permitted to report 
those distributions directly on the Form 1040 and was not 
required to file Schedule D. This now will be different. For 
1997, taxpayers must report all capital gains, including mutual 
fund distributions, on Schedule D. According to one national 
press report, the mutual fund trade industry estimates that the 
1997 tax act's mandate regarding this change alone could affect 
5 million of the approximately 63 million Americans who own 
mutual funds.
    Each January, taxpayers owning mutual funds are inundated 
by annual reports and Forms 1099-DIV from their mutual fund 
companies. Taxpayers are bewildered by the statements and often 
do not read the tax reporting instructions enclosed with them. 
The Form 1099-DIV reports the amount of long-term capital gains 
distributions and short-term capital gains distributions made 
to taxpayers. However, the short-term capital gains are lumped 
together with dividends on the Form 1099-DIV as one figure. No 
wonder taxpayers are confused.
    As indicated, deciphering a Form 1099-DIV has been a 
difficult task for the average taxpayer. For 1997 tax returns 
these forms are likely not only to be indecipherable, but 
incomprehensible to mainstream Americans. For the benefit of 
the House Ways and Means Committee, we have attached an example 
of mutual fund capital gains reporting to illustrate the 
needless complexity in the new capital gains law. In March, 
1996, taxpayer ``Michael J.'' invested $39,000 in a mutual 
fund. During the two years he held the fund, he invested an 
additional $20,000, had two small liquidations of $1,500 and 
$4,000, and reinvested quarterly dividends. For purposes of 
illustration, we will assume he sold his entire investment 
December 15, 1997. It sounds simple, but this scenario requires 
15 different steps to determine holding periods, gain 
percentage categories, and gain or loss in order to report the 
transactions on Schedule D. Reporting capital gains this year 
requires multiple steps; the average taxpayer who merely types 
mutual fund purchase and sale dates into a tax software program 
may not have an accurate result on the tax return.

                     Capital Gains and Farm Returns

    The National Society of Accountants believes the complexity 
of the calculations for 1997 capital gains has created a burden 
for the IRS which impacts adversely on individual taxpayers. At 
the same time the IRS is trying to encourage more taxpayers and 
tax practitioners to use electronic filing, it has announced it 
may have problems processing electronically filed returns 
containing Schedule D. Taxpayers and tax practitioners who have 
made a commitment to convert to electronic filing now are being 
told by IRS that they may not be able to transmit their returns 
electronically. The complexity in the tax law is causing 
cascading problems at the IRS with respect to return processing 
and electronic filing.
    As we stated before, the blame for this cannot be placed on 
the IRS. Some issues related to capital gains in the Taxpayer 
Relief Act of 1997 were not resolved unchnical Corrections 
Bill. With the resolution of the issues, the IRS was able to 
finalize the Schedule D and to begin modifying its return 
processing software. The time required to implement the 
programming means that the IRS will not be able to process any 
returns with Schedule D until mid-February 1998. A taxpayer who 
files a paper return with a Schedule D before mid-February may 
experience a delay in the processing of his or her return. 
However, a taxpayer who files an electronic return containing 
Schedule D may not even transmit it until February 12, because 
IRS computers cannot accept it until then.
    While the IRS estimates that only two percent of taxpayers 
who report capital gains or losses will be affected by this 
processing issue, farmers, fishermen and practitioners who 
prepare their returns may experience particular difficulties. 
Farmers and fishermen must file their returns and pay their 
taxes by March 2 or be subject to estimated tax penalties. Yet 
those taxpayers cannot even transmit their electronic returns 
until February 12. Once the electronic pipeline is open, 
practitioners will have a very short span of time to correct 
errors in rejected returns. Electronic transmission is not 
flawless, and often returns fail to transmit for various 
reasons. Practitioners working the rejected returns must 
correct errors, contact clients to verify information, and 
retransmit the return. Practitioners who transmit large numbers 
of electronic farm returns containing Schedule D could be 
facing extremely heavy workloads related to reworking those 
rejected returns at the height of their busiest season.
    The National Society of Accountants applauds the IRS for 
recognizing this problem and agreeing not to impose the 
estimated tax penalty on any farmer or fisherman whose 
electronic return is filed and accepted by March 9, 1998, which 
reflects a one week extension. The IRS has every reason to 
demonstrate its flexibility to practitioners enrolled in its e-
file program. To reach the goal of 80% of returns to be filed 
electronically by 2007, as stated in the restructuring 
legislation, the Service needs the enrollment of large number 
of practitioners in its electronic filing program. ``Glitches'' 
such as the capital gains processing delay are disincentives 
for tax professionals to embrace the electronic filing program. 
Practitioners who make the commitment to invest time, money and 
staff training to convert to the electronic filing program do 
not want to switch gears in the middle of their busiest season 
and revert to filing paper returns because IRS computers cannot 
accept electronic transmissions. The National Society of 
Accountants recommends that Congress reduce the complexity in 
tax law, especially capital gains reporting, before serious 
damage is done to beneficial IRS programs, such as the 
electronic filing program.

              Exclusion for Interest and Dividend Income.

    Before the Tax Reform Act of 1986, the Internal Revenue 
Code provided for a modest exclusion for interest and dividend 
income. This exclusion was revoked by the 1986 Tax Act. The 
National Society of Accountants recommends restoration of the 
exclusion. While the stated objective by Congress for its 
previous elimination of the provision in 1986 was to simplify 
the tax law, our members never viewed the previous interest and 
dividend exclusion as being a complex measure. NSA members 
welcome a vigorous debate by Congress over the issue of whether 
restoration of the exclusion has positive capital formation 
benefits for the U.S. economy.

                               Conclusion

    The National Society of Accountants is pleased to provide 
these comments on reducing taxpayer burden. I hope that the 
Society's insights have been helpful today and, on behalf of 
all of the members, I thank you for your interest. I hope you 
will feel free to contact NSA at any time for assistance with 
any additional information you might need.
      

                                


Attachment

    On March 19, 1996, ``Michael J.'' invested $39,000 in the 
Franklin Rising Dividend Fund. During each of the two years he 
held the fund, he invested an additional $10,000. In 1996, he 
had two small liquidations of $1,500 and $4,000. We will assume 
that he sold his entire position on December 15, 1997.
    In order for him to prepare an accurate Schedule D, he must 
identify each investment including the reinvested dividends and 
determine which of the three holding periods applies to each 
one (12 months or less; more than 12 months but less than 18 
months; over 18 months).


------------------------------------------------------------------------
              ITEM
------------------------------------------------------------------------
1..............................  The initial investment was purchased on
                                  March 19, 1996 and was held for over
                                  18 months. The number of shares sold
                                  during that year should be subtracted
                                  from the original amount purchased.
                                  The remaining shares fall into the 20%
                                  category.
2..............................  The reinvested dividend was made on
                                  June 3, 1996. It was held for over 18
                                  months and falls into the 20%
                                  category.
3..............................  A second investment of $10,000 was made
                                  on June 20, 1996. Since it was sold on
                                  December 15, 1997, it falls into the
                                  28% category since it was held for
                                  more than 12 months but less than 18
                                  months.
4..............................  The reinvested dividend was made on
                                  September 3, 1996. It was held for
                                  less than 12 months and falls into the
                                  28% category.
7 & 8..........................  The reinvested dividends and capital
                                  gains were made on December 2, 1996.
                                  These amounts are in the 28% category.
9, 11, 12 & 13.................  The quarterly reinvested dividends were
                                  all made in 1997 and sold in 1997.
                                  Therefore, they are short term capital
                                  gains and taxed at ordinary income tax
                                  rates.
10.............................  The new investment of $10,000, made on
                                  March 10, 1997, will be taxed at
                                  ordinary income tax rates.
14.............................  The Fund's capital gain earnings has
                                  been identified on Form 1099-DIV as
                                  simply Capital Gain Distribution. On
                                  the actual statement it shows up as a
                                  Long Term Capital Gain (LT Cap Gain).
                                  Therefore, we will presume it to fall
                                  in the 20% category. However, in most
                                  cases, this amount will be divided
                                  into the middle and long-term groups
                                  based on a percentage provided by the
                                  mutual fund.
15.............................  The Fund's other earnings or dividends
                                  will be taxed at the ordinary income
                                  tax rates.
14.............................  The funds from the capital gain
                                  distribution of $8,168.84 were applied
                                  to ``Michael J.'s'' account on
                                  December 1 and sold on December 15.
                                  Therefore, the amount falls into the
                                  short-term category.
15.............................  The short-term capital gain
                                  distribution which was applied to
                                  ``Michael J.'s'' account on December 1
                                  will also fall into the short-term
                                  gain category.
------------------------------------------------------------------------


    Now that each transaction has been identified, the taxpayer 
can begin to complete Schedule D. Once each transaction has 
been placed into its proper category, the next step is to 
determine the loss or gain for each item.
    If we assume that the liquidation price of the fund on 
December 15 was $25.25, then the calculation for the Schedule D 
would show a gain on every transaction with the exception of 
item 12. These transactions require 13 different entries on 
Schedule D, and for each entry, calculations to determine the 
proportion of sales price allocated to the entry.
    A review of the attached documents shows this to be an 
actual case. It is also a very simple and common example. 
Imagine the difficulty of tax reporting for a taxpayer who has 
several mutual fund holdings and transfers funds between them 
at varying times during the year. Some funds attempt to be 
helpful by providing the investor with figures that can be 
directly entered onto a tax return, but an experienced tax 
professional knows these entries are not always correct. Also, 
many taxpayers have funds from different organizations, and 
each mutual fund company has its own style of reporting 
transactions. It is easy to see why capital gains reporting is 
very complex and confusing to taxpayers.
      

                                


[GRAPHIC] [TIFF OMITTED] T0897.135

[GRAPHIC] [TIFF OMITTED] T0897.136

[GRAPHIC] [TIFF OMITTED] T0897.137

[GRAPHIC] [TIFF OMITTED] T0897.138

[GRAPHIC] [TIFF OMITTED] T0897.139

[GRAPHIC] [TIFF OMITTED] T0897.140

      

                                


    Chairman Archer. Mr. Stevenson, the questions are never 
complex, but the results and the law create complexities often 
that are unintended. I appreciate your input particularly 
because, as I mentioned, I am now beginning to prepare my 
return for this year, and it is not a very happy prospect.
    Other than the reduction of the 18-month holding period to 
12 months, what other areas of simplification might we consider 
in the capital gains area alone?
    Mr. Stevenson. Well, one of the things that is kind of a 
corollary to it are the small amounts of foreign tax that is 
withheld. You will have a taxpayer that will have a mutual 
fund, and there will be a distribution--an index distribution 
because there is some foreign-owned stock. That will throw up a 
$5 or $15 foreign tax credit, and in that we have to prepare a 
Form 1116 which is a very complicated calculation just to get 
this guy back his $5 to a foreign country. You might want to 
take a look at that. It is somewhat of a nuisance. It is not 
too bad for us who prepare tax returns on a computer, but for 
the people who do it manually it is----
    Chairman Archer. Do you have a suggestion for the Committee 
as to how we might change that?
    Mr. Stevenson. Yes, just give--just say that if the 
foreign-tax credit is under $50 just make it a credit--an 
automatic credit without all kinds of complications. I just 
used $50, make it $25 or whatever number it is. You don't 
really need that----
    Chairman Archer. Any other suggestions? In any event, if 
you and your organization have got suggestions that you would 
like to submit to us in writing, we would be most happy to 
receive them.
    Mr. Stevenson. Well, I feel like a mosquito in a nudist 
colony because I don't know where to begin when you ask a 
question like that. I mean there are so many things that we do, 
and we'll be prepared to submit something----
    Chairman Archer. Once you get into the entire Code it gets 
to be massive, but just in the capital gains area alone, try to 
find the best possible ways to simplify it. Will we be able to 
handle the 18-percent rate with a 5-year holding period without 
any great difficulty in the next century? Is that going to pose 
the same sort of difficulties that we have today?
    Mr. Stevenson. Congressman, I suspect that if there are no 
changes in the law that there will be very few correctly 
calculated Schedule D tax returns either done by preparers or 
by taxpayers.
    As far as the holding period, I think you are going to find 
that also difficult to monitor because people just don't save 
their records that long of a time. I mean the law says you only 
have to keep them for 3 years unless you feel that you 
fraudulently prepared your tax return, and now you are going to 
require people to hold onto their records for a much longer 
period of time.
    Chairman Archer. So, if we correct the holding period from 
18 months to 1 year for the 20-percent rate, we leave in the 
law the 18-percent rate for the 5-year holding period beginning 
in the year 2001. Clearly the 18-percent rate is a very 
attractive thing because it reduces the tax by 10 percent if 
you have held an asset for 5 years. On behalf of savings, that 
is very attractive.
    Mr. Stevenson. Yes, but what you don't realize is that that 
20 percent, 18-percent rate, that can turn out to be a bogus 
rate particularly if there is a significantly large capital 
gain that throws off a State tax. That State tax, which could 
be large, throws a taxpayer into the alternative minimum tax 
situation and the capital--I mean I have a calculation where I 
can show you that it is 21 percent. So, when Congress tells the 
public that ``your rate is such--well, we're doing this for 
you, and your rate is 20 percent and 18 percent,'' when you get 
down to do the tax returns, it is really not that rate, quite 
often.
    Chairman Archer. But is that the result of reducing the 
rate to 18 percent with a 5-year holding period? Or would that 
problem exist relative to the 20-percent rate?
    Mr. Stevenson. No, it's a failure to see the relationship 
between the alternative minimum tax and how the tax return is 
calculated on a much broader scale.
    Chairman Archer. But that would apply also to the 20-
percent tax, would it not?
    Mr. Stevenson. That is correct----
    Chairman Archer. OK.
    Mr. Stevenson [continuing]. Yes. I have somebody in my 
office and we just did her return, and she wound up with at 21-
percent rate.
    Chairman Archer. Well, in my opinion, the alternative 
minimum tax has outlived its usefulness and should be repealed. 
We should be very careful that the provisions in the Code make 
sense. And once we decide they do make sense, if people can 
take advantage of them, they should be able to take advantage 
of them and not have a ``snapback'' in some broad, unintended 
way hit them through the alternative minimum tax.
    Mr. Stevenson. Well, you will have a huge--if you don't do 
something about the alternative minimum tax next year, when the 
middle class starts looking for all their credits, there is 
going to be a human cry across this country that will make 
Congress quite uncomfortable because a lot of people will not 
get these credits because the AMT only allows you to take 
credits up to the amount of the AMT tax. You can't go below 
that. The same thing is true of low-income housing credits.
    Chairman Archer. It's not been stated today, but it should 
be stated, as a part of this hearing, that if we do reduce the 
holding period for the 20-percent rate from 18 months to 1 
year, it actually raises revenue over the 5-year period during 
which we budget here in the House of Representatives. So, it is 
not a revenue loser, and that makes it even more attractive for 
the Committee.
    Does any other Member wish to inquire?
    Mrs. Johnson and then Mr. McCrery.
    Mrs. Johnson of Connecticut. Thank you.
    Your testimony has been very interesting and very helpful. 
I would like any of you who have the time to look at the SAVE 
bill that I put in about a year ago with Earl Pomeroy with the 
intent of helping small businesses provide a defined benefit 
option to their employees. This Committee passed what we called 
SIMPLE--it didn't turn out to be quite so simple--but any 
suggestions you would have to simplify this SIMPLE plan now 
that we have some experience or your comments on the SAVE bill, 
we will be looking at that in the Subcommittee later on as well 
as some of these other options.
    And then, last, let me just say, the Hulshof bill is very 
interesting because it just rewards savings. The Tax Code on 
the whole rewards savings for specific purposes, retirement, 
home buying, what ever. And I'm just wondering where you stand 
on that. Should we have pursued targeted approaches to 
incentivizing savings on the theory that there was a far 
greater urgency to help people save for retirement and that 
home buying has an inherent, structural benefit for society 
than we have across-the-board savings. Would you comment on 
where you think we ought to go--particularly in light of the 
fact that we just passed the Roth IRA and some of those things. 
Should we hold, see how those are going to do? What is your 
advice on this targeted versus general savings incentives where 
we are now?
    Mr. Entin. I mentioned in my statement that a provision 
with no strings is better than a provision with strings.
    Mrs. Johnson of Connecticut. I noticed that.
    Mr. Entin. The retirement-saving restrictions tend to chase 
people away from retirement-saving plans.
    Any time you try to micromanage the public you are going to 
have a lot of trouble, because you don't know what their 
circumstances are, and they react to what you do. Across the 
board is always better. All saving should receive some sort of 
relief, either front-end or back-end, deductible or Roth-style, 
and not just saving for retirement, because all saving is 
subject to the tax bias.
    The income tax is biased against saving. It is not neutral 
as between saving and consumption.
    So, when you provide pension-type treatment, you are 
eliminating a bias. You are not giving a favor. And, of course, 
if having a bias is bad for one form of saving, it is also bad 
for any other, and it should be removed.
    There are really two sides to the situation. You want to 
encourage saving--or not discourage saving as under current 
law. But there is also the treatment of investment in plant and 
equipment. To get a double whammy from your saving incentives, 
you really need to see an improvement in the creation of plant 
and equipment in the country for labor to work with, so labor 
may become more productive and get higher wages. If people add 
to their saving as a result of incentives, they put it into the 
global saving pool, and who knows where it will ultimately end 
up triggering more investment in plant and equipment--it could 
be here, it could be in China, it could be in France. Wherever 
the saving goes, it is good for the saver. The saver will have 
more retirement income, and will be earning money from the 
return on the capital that he helped to create, and he will be 
able to buy more goods and services in his old age.
    But if you would also like to see U.S. workers getting the 
benefit of the higher saving rate, and see more plant and 
equipment in the United States, and boost U.S. wages so that 
people are benefiting when they are young as well as when they 
are old from their saving and that of their neighbors, then you 
need to do something to improve the tax treatment of U.S. 
domestic investment. We need expensing, not depreciation of 
plant, equipment, and structures. All of the fundamental tax-
reform plans, in effect, move us from depreciation to 
expensing. That is true for a saving-deferred tax that falls on 
individuals and does not put an added layer of tax at the 
business level, or for an Armey-style plan which allows for 
expensing, or for a national retail sales tax which does not 
fall on investment goods. They are all a distinct improvement, 
and they give you the double whammy of higher wages as well as 
higher assets for retirement.
    Mrs. Johnson of Connecticut. Thank you.
    Mr. Bloomfield. Mrs. Johnson, we took note of the SIMPLE 
plan in our testimony, I would be pleased to go back to some of 
our members----
    Mrs. Johnson of Connecticut. Thank you.
    Mr. Bloomfield [continuing]. And see how it operates in 
person.
    The second question about moving forward incrementally, 
strings attached, no strings attached, retirement savings 
versus education savings--my sense is that these incremental 
changes, by and large, are good. Some may be better than 
others, but I think that you are a heck of a lot better moving 
toward a consumption tax where you don't differentiate.
    Third, Chairman Archer, again I would like to commend you 
for your initiative today to reduce the holding period and 
comment more on its economic impact than its simplification 
impact. CBO, in a 1997 report, indicated that now about one-
half of all U.S. families hold assets such as stocks, bonds, 
real estate and businesses that might produce capital gains or 
losses. And that proportion ranges to three-quarters of 
families if homes are included. Since this is a problem for a 
lot of Americans, I think your step will be helpful.
    In an economic sense, if you look at a survey of 
industrialized countries and Pacific rim countries and what 
their holding periods are, you see that only one country, 
Sweden, has a holding period longer than a year. And obviously, 
with a longer holder period, there is more risk, it increases 
the cost of capital, and you don't get the economic bang, that 
the Committee, I think, thought it would get when you heard 
expert witnesses like Alan Sinai who testified about the 
economic benefits of capital gains tax cuts. The benefits are 
reduced because of the holding period, and we would be a heck 
of a lot more competitive according to this chart with a 
shorter holding period.
    Mr. Stevenson. May I respond for a second?
    Chairman Archer. Yes, sir.
    Mr. Stevenson. I'd like to suggest that Congress consider 
eliminating the 10-percent penalty for early withdrawal. I 
think that is one of the cruelest taxes. It does not prevent 
anybody from taking money out of their retirement, because by 
the time they do that they are desperate, and they have to give 
away 10 percent of the money that they take out. I think that 
that would also encourage some more younger people to make an 
investment in their retirement plan. Whether or not they keep 
it all the way to retirement, they will be saving it without 
fear of having to be penalized 10 percent if they have to take 
it out for emergencies.
    Chairman Archer. Thank you.
    By the way, Mr. Stevenson, I have just refreshed my memory, 
and in the bill that we passed last year under the 
simplification section we provided for a $300 exclusion for the 
foreign-tax credit limitation. And it does not take effect 
until this year. It had a prospective effective date. But I 
guess we heard you in some way through ESP last year and put it 
into the Code in our 1997 Tax Relief Act.
    On the issue of savings--and on the issue of simplification 
for the Code, would you or would you not agree with me that in 
today's parlance that whenever we hear the targeted--the word 
``targeting,'' or ``targeted'' tax relief used that it is a 
code word for complications in the Code. Would you or would you 
not agree with that?
    Mr. Stevenson. Yes, it creates another category that you 
have to deal with separately.
    Chairman Archer. Because we're hearing that a great deal 
out of the White House now. It is fascinating, too, that 
Secretaries of the Treasury under both the Republican 
administrations and Democratic administrations have been 
enamored with staggered holding periods. I have always been 
very concerned about it, and you have given us some very good 
input today as to why my concerns were with some degree of 
support.
    Mr. McCrery.
    Mr. McCrery. Thank you, Mr. Chairman.
    First I want to thank Mr. Entin and Mr. Bloomfield for 
their kind references to H.R. 984. And I want to talk about 
that in just a minute.
    First, though, Mr. Bloomfield, in your testimony, you urge 
the Committee to weigh carefully the President's proposals to 
make sure that we minimize their effect on investment. But you 
have that little phrase labeled as a step backward. Could I 
take that to mean that you don't favor most of the President's 
proposals for revenue raisers?
    Mr. Bloomfield. Well, as you know, there is a long list in 
the old parlance ``to raise revenue you go after cats and 
dogs.'' Now they are going after puppies and kids of puppies. 
So, some of those things are so minuscule and beyond my 
comprehension. But there are some issues that are raised today, 
like annuities, like inside buildup.
    The headline of the New York Times----
    Mr. McCrery. Those are not puppies, are they?
    Mr. Bloomfield. Those are not puppies.
    After the President's budget came out, there was a 
headline, I think in the New York Times, that said, 
``Administration Sends Mixed Signals on Savings and 
Investments.'' So, when I'm talking about steps backward, I'm 
saying that there may be things in there because there are so 
many of them, but I would look very carefully at all of them 
and look at the fundamental question of what is their impact on 
savings and investments. It is clear that some of the 
``puppies'' could severely impact negatively on savings and 
investments.
    Mr. McCrery. I was also interested in, Mr. Bloomfield, your 
admonition that we make sure that anything that we do with 
respect to tax reform is done in a fiscally responsible way. I 
suppose by that that you mean let's not create another large 
deficit in fiscal terms.
    And it is in that context that I want to examine, for a 
moment, H.R. 984 because the primary criticism that we hear 
about H.R. 984 is, ``Oh gosh, it will just cost billions and 
billions of dollars.'' And I'm a little stumped by that 
analysis because take H.R. 984 and strip all the fancy words 
and basically what you have is an unlimited savings account, 
and anything that you put in the savings account you don't get 
taxed on, but when you pull it out you get taxed on it. Well, 
obviously, if you pull money out of a savings account, you do 
it because you are going to buy something, you are going to 
consume. Then you get taxed. Explain to me how that is 
different from a national sales tax. I don't think that it is 
any different, but if I am right, and it is not any different, 
then why can we rationalize a national sales tax, in terms of 
its fiscal responsibility and not an unlimited savings account?
    Mr. Bloomfield. Let me, if I could, respond in two ways.
    First, I would make a difference--distinguish between 
progrowth tax measures and general tax relief. I agree with the 
Chairman that our tax levels may be too high. He's talked about 
a long-term goal about reducing tax receipts as a percentage of 
GNP, and I also understand the pressures that people are under. 
But there is a difference, a fundamental difference in terms of 
long-term economic growth between those two different tax 
measures. And so let's put that, and let's put Mr. Hulshof's 
and others in one category, and other measures in another.
    The second question addresses fundamental tax reform. 
Obviously your proposal is basically a consumption or consumed 
income tax. There are three generic types of tax reform 
proposals. There is the Hall-Rabushka plan and the Armey 
proposal, which is a flat tax. There is the retail sales tax, 
and the value-added tax. There's the unlimited IRA, which you 
proposed. In many ways those proposals are more similar than 
dissimilar because they only tax savings once. As Mr. Entin 
pointed out, we're exempting investment from the tax.
    And I would refer you to our testimony where we discuss the 
views of some of the best economists in the country, the Joint 
Committee work, Jane Gravelle, you know who testifies before 
this Committee on many occasions, on the impact of tax policy 
on economic growth. If you look at table 3, at the long-run 
effect of a consumption tax--which is one of the three generic 
ones--versus a unified income tax, you will see that the 
economy is a heck of a lot better off under a consumption tax.
    So, if you are concerned about Federal revenue, obviously, 
if you have a stronger economy you are better off in the long 
term. When you do revenue estimating, you don't look at the 
macroeconomic impact, and that is a decision, obviously, that 
the Congress has to make.
    Mr. McCrery. Mr. Entin, would you like to comment on my 
question?
    Mr. Entin. We are preparing a total tax overhaul paper that 
incorporates your approach, which I will share with you as soon 
as it is available. It is one of the three approaches that does 
get to the same tax base.
    You must look at the growth consequences of it to get a 
good feel for what it would do, what it would cost, and what 
the rate structure would have to be. If you use static revenue 
estimation, it all looks much harder to do than it really is. 
As a result, all of the hundreds of billions of dollars of 
additional income for the population is lost because of the 
fear of proceeding. I hope you can cut through that Gordian 
knot and proceed anyway.
    While you are tearing out the income tax by the roots and 
doing these major overhauls, you may find you will have to tear 
out many of the provisions of the Budget Act by the roots in 
order to get a fair hearing. I would certainly support you in 
that activity.
    Mr. McCrery. Mr. Chairman, I didn't get a satisfactory 
answer, really. If I could pursue it for just a moment.
    I appreciate everything that both of you said, and I agree 
with you, but just from a common sense standpoint, if you 
institute a national sales tax at 17 percent that is supposed 
to equal the revenues in the current system, I don't understand 
what is different about that and my proposal which, if you 
impose a flat rate of 17 percent on anything consumed, anything 
not saved, what is the difference in terms of revenue to the 
government?
    Mr. Entin. The sales tax is a substitute for the individual 
income tax, the corporate income tax and, one would also hope, 
the transfer tax (the estate and gift tax). If the universal 
IRA proposal is passed as a substitute for all three, then a 
rate structure similar to the sales tax should yield you the 
same revenue. If you simply add it on to the current personal 
income tax and leave the corporate tax the way it is and the 
estate tax where it is, and then don't adjust the income tax 
rates, you would get a different result. But if you make it do 
the whole job, then both of those taxes are, in effect, 
consumed-income taxes. They would have the same tax base and 
you would get the same revenue for the same rate structure.
    Mr. McCrery. Right. So, Mr. Chairman, my point is I think 
we can look at this concept that's embodied in H.R. 984 as an 
alternative to creating a new bureaucracy to collect a national 
sales tax or a value-added tax. It's the same effect. It's a 
consumption tax. It's just, to me, it seems like it would be 
easier to convert--and easier to sell, frankly, to the American 
public--than a national sales tax or something like that. 
That's the only point that I'm making.
    Mr. Bloomfield. Mr. McCrery, conceptually, in terms of the 
economic impact, they're the same, so I would encourage you to 
join the road show of Mr. Armey and Mr. Tauzin.
    Mr. McCrery. I would be glad to.
    Mr. Bloomfield. What is at issue here, though, is when 
you're talking about fundamental reform, what is that reform? 
As you know, there is one sales tax proposal--the 23 percent--
which not only replaces the individual and corporate taxes, it 
also replaces Social Security, estate and gift taxes. Some of 
these tax reform proposals deal with Social Security; the Nunn-
Domenici proposal does. Others do not. So, the rate structure--
that's one of the questions--depends on what you're replacing 
with what.
    Mr. McCrery. Absolutely. My only point is I think this 
approach is worth looking at in terms equal to the sales or VAT 
approach and the flat tax approach.
    Chairman Archer. I would just jump in and say the Chair 
welcomes all types of alternatives for consideration that will 
get us to the same desired goal, and the Nunn-Domenici approach 
gets us basically to most of the goals. But the attributes of 
Nunn-Domenici, and I believe from your proposal as I understand 
it, leave the IRS in everybody's life. Every individual still 
has to file a return, and the IRS still survives, exists, and 
is alive and well. And that is a big, big difference from the 
standpoint of freedom and privacy and what value people might 
attach to that.
    In addition, the Nunn-Domenici and the Armey and your 
proposal, as I understand them, will not get at the underground 
economy because they're not going to file an income tax with 
the IRS. As a result, the underground economy continues to 
flourish without paying their fair share of the cost to 
government. That is another difference, and I think an 
important goal.
    I don't think that your proposal, or Nunn-Domenici, would 
qualify for border adjustability and all of the advantage that 
would give us in reducing the price of our exports and seeing 
more factories built in this country for export. So, the goals 
of greater savings are there; the goals of simplification are 
there, although Nunn-Domenici has significant complexities in 
it also. Investment incentives, and so forth, are there, so I 
congratulate you on that part of it.
    Mr. McCrery. Thank you, Mr. Chairman. You and I certainly 
don't want to do a road show right here, but I would say to the 
Chairman that there are problems with an underground--a so-
called underground--economy with the national sales tax, as 
well. In fact, most economists will tell you there's very 
little difference in the impact to revenues between the two, so 
I don't think that's a particular obstacle.
    Chairman Archer. Sure, there are problems with leakage in 
any tax system.
    Mr. McCrery. Absolutely.
    Chairman Archer. Any tax system is going to have leakage. 
The question is, What kind of leakage and how is it perceived 
by the public and how willing is the public to be to accept it? 
The fact that drug dealers can escape is abhorrent to the 
public, and the public understands that drug dealers will, when 
they buy the expensive items in the marketplace--if you have a 
spending sales tax, will pay.
    Mr. McCrery. We're going to follow the Speaker's lead, 
though, and get rid of those drug dealers over the next few 
years, so we don't have to worry about them buying Cadillacs 
anymore.
    Chairman Archer. Well, let's hope so.
    Mr. Watkins.
    Mr. Watkins. Thank you, Mr. Chairman, Members of the 
Committee, and the panel. We all know we're truly in a global 
competitive economy, and I guess one of the great interests I 
have sitting on this Committee is, I think we must analyze the 
entire tax policy and how it affects our economy and allows us 
to be able to compete in that competitive, global economy.
    Mr. Bloomfield, you discussed the time periods regarding 
selling, capital gains, for taxes and all. I know we must 
increase our savings. We know we have the lowest percentage of 
savings of any industrialized country in the world. I might add 
I'm personally not worried about what's happening for my 
future, but I'm worried about the future of my children and my 
grandchildren, and the children and grandchildren of all the 
people here. We've got to, in my opinion, shape and mold our 
tax policy to let us have at least a fair and competitive--and 
maybe even an advantage--tax policy, instead of being a 
hindrance and detrimental.
    I know some countries do not even have a corporate capital 
gains tax. Now we, I think, moved in the right direction by 
lowering the capital gains tax for individuals. But it seems to 
me it would make good, sound policy for us to be able to 
compete in that global economy to lower or drop, as much as we 
can, the corporate capital gains tax, like we have with the 
individual rates.
    Now, I've got a couple of questions. Mr. Bloomfield, could 
you provide, possibly, to me and maybe the panel, the countries 
that do not have a corporate capital gains tax? And also, I 
know it makes economic sense, but do you feel like this would 
be good, something that is very much needed as far tax policy 
to let us compete in this 21st century?
    Mr. Bloomfield. Mr. Watkins, I will submit that for the 
record, but I would like to, while I'm here, also respond to 
your question.
    [The following was subsequently received:]
    [GRAPHIC] [TIFF OMITTED] T0897.141
    
      

                                


    Mr. Bloomfield. It makes no sense to differentiate between 
individual and corporate capital gains rates for several 
reasons. First, there is precedent. We've always had an 
alternative capital gains tax rate in the Code from 1942 until 
the Tax Reform Act of 1986. Number two, we tax corporate 
capital gains much more harshly than do all our competitors. We 
have a survey that I will submit that shows that 14 out 16 
countries tax corporate capital gains more favorably than the 
United States.
    [The information follows:]
    [GRAPHIC] [TIFF OMITTED] T0897.142
    
    [GRAPHIC] [TIFF OMITTED] T0897.143
    
      

                                


    Mr. Bloomfield. Third, there's the efficiency of capital 
markets. Capital is less mobile and you lose economic 
efficiency because of the lock-in at the high rates that you 
have with the corporate rate now at 35, as opposed to the lower 
rate we have for individuals.
    Fourth, the structure of U.S. business: The current 
imbalance between individual and corporate capital gains rates 
heightens inequities already inherent in what Mr. Entin talked 
about--the double taxation of current profits--and you have 
excessive tax planning that may accentuate a movement away from 
the traditional corporate form of organizations.
    Fifth, corporations provide a heck of a lot of venture 
capital, as well as spinning off and funding their own venture. 
So, if you're talking about the economic case for low capital 
gains taxes--the impact on capital costs, capital mobility, 
entrepreneurship--it makes absolutely no sense to differentiate 
between individual and corporate capital gains if low capital 
gains tax rates make economic sense.
    Mr. Watkins. It sounds like you were loaded for my 
question. [Laughter.]
    Mr. Bloomfield. I try to be prepared.
    Mr. Watkins. I just am concerned about making sure we do 
not overburden, or that we have an overburden in some cases, 
especially in a lot of our startup, entrepreneur-type 
companies, with other corporations around the world. In fact, 
96 percent of the consumers of the world live outside of the 
United States. That's one heck of a big market, and as 
businessmen tell me, ``I want to be able to be in that market, 
and I want to be out there trying to penetrate that market, and 
I don't want to be overburdened with regulations and with taxes 
and with other things.'' And, I think this is something we've 
got to do if we're going to be allowing our children and 
grandchildren to be competitive in this world.
    Mr. Entin, would you like to add to that?
    Mr. Entin. I would add two points. Corporations are owned 
by people. It's wrong to tax capital gains received by 
shareholders directly from a corporation; it's also wrong to 
tax capital gains that one corporation receives from another 
corporation. That receiving corporation is owned by 
shareholders. It's the shareholders' money, and if it's wrong 
to tax it when they receive it, it's wrong to tax it in mid-
stream as well. Taxation of capital gains is double taxation 
wherever you find it.
    As for the competitiveness of U.S. companies abroad, it's 
not just the taxation of capital gains at the corporate level 
that does the damage. Our whole structure of international 
taxation, of tax treatment of multinational corporations, puts 
our firms at a competitive disadvantage in third countries--in 
foreign countries--vis-a-vis other corporations from third 
countries. What you really need to do is totally restructure 
that whole treatment of U.S. corporations that earn income 
abroad, and go from a global treatment of foreign source income 
to a territorial system.
    Mr. Watkins. Can you give me the facts on that?
    Mr. Entin. Yes.
    Mr. Watkins. I'd like to have the materials and information 
in my office.
    Mr. Entin. We really should not be trying to reach globally 
to tax our people on incomes they earn in other countries, when 
other countries are taxing that income. A territorial tax would 
be a heck of a lot simpler and make our firms a lot more 
competitive abroad.
    Mr. Watkins. Thank you, Mr. Chairman.
    Chairman Archer. Thank you. Any further questions of the 
panelists?
    All right, thank you very much, and we'll have our next 
panel, please. Dean Kleckner, president of the American Farm 
Bureau Federation; David A. Hartman, chairman of the Institute 
for Budget & Tax Limitation; Thomas Kelly, president of the 
Savers & Investors League.
    Thank you.
    Mr. Kleckner.

  STATEMENT OF DEAN KLECKNER, PRESIDENT, AMERICAN FARM BUREAU 
                           FEDERATION

    Thank you, Mr. Chairman. I am Dean Kleckner. I am a farmer 
from north Iowa, raising corn, soybeans, and hogs. I'm also the 
elected president of the American Farm Bureau Federation, which 
is not only the country's, but the world's, largest farmer 
organization. Our members grow everything commercially that's 
grown in the United States.
    I commend this Committee for calling this hearing. I'm here 
today to speak in just two areas--although you've covered a lot 
already--the FARRM Accounts and capital gains tax relief. FARRM 
is spelled F-A-R-R-M, Farm and Ranch Risk Management Accounts. 
We support the creation of those to allow farmers and ranchers 
to manage business risks better through savings.
    FARRM Account legislation will soon be introduced, and I 
just received a copy of the bill this morning by Representative 
Hulshof, who is here, and Congresswoman Thurman. Under the 
bill, farmers and ranchers would be allowed to put up to 20 
percent of their net farm income--pretax--into a special 
savings account. Money could remain in the account for no more 
than 5 years, and then whenever it came out it would be taxed 
at the going rate.
    Last month Congressman Hulshof traveled to the American 
Farm Bureau annual meeting to speak to farmers and ranchers 
from around the country about this--and let me tell all of you, 
he was enthusiastically received.
    Let me explain why the idea of a pretax savings account for 
farm income is so popular. Like other small business people, 
farmers and ranchers have predictable expenses. I'm one; I 
know. Each month we must pay for fuel, animal feed, repairs, 
maintenance, insurance, utilities, and meet a payroll. And in 
addition, we plan for seasonal expenses like taxes, seed, heat, 
and fertilizer, and then budget for major purchases, often done 
yearly or even less than that, like equipment, land, and 
buildings.
    While many expenses can be predicted and to some degree 
controlled, farm income is neither predictable nor 
controllable. The prices that farmers and ranchers receive for 
their products are determined by forces we can't control: 
markets and the weather. We don't know from 1 year to the next 
if our business will earn a profit, break even, or be in the 
red.
    Few other industries face the challenge that farmers do 
year after year after year. What all farmers and ranchers hope 
for--I know I do--is that good years will outnumber the bad 
ones. Believing that better times are coming, we get through 
the tough times by spending our retirement savings, borrowing 
money, refinancing debt, putting off capital improvements, and 
too often, lowering our standard of living. None are good for 
the business or the family that operate it.
    FARRM Accounts--with the two ``R's''--will furnish a very 
valuable risk management tool for farmers and ranchers and 
provide a meaningful incentive to save for that rainy day. The 
Farm Bureau commends Congressman Hulshof for his leadership on 
this profarmer, prosaving legislation, and we ask each Member 
of the Committee to cosponsor the Hulshof-Thurman FARRM Account 
bill and urge its passage during this Congress.
    Another subject: We also commend this Committee on Ways and 
Means for capital gains tax relief that was passed last year as 
part of the Taxpayer Relief Act of 1997. Lower capital gains 
taxes that resulted from that bill are providing real benefit 
to America's farmers and ranchers. The Farm Bureau believes it 
is simply wrong to tax earnings twice. The capital gains tax 
does that, first as earned income and then as investment 
income. This double taxation results in inefficient allocation 
of scarce agriculture resources and less net farm income.
    Farmers and ranchers need capital gains tax relief to 
ensure the cost and availability of investment capital. The tax 
reduces the amount available for reinvestment. When borrowing 
from banks or other institutions, the impact of the tax on farm 
profitability can affect loan eligibility. Capital gains taxes 
are a deterrent for new and expanding farms and ranches.
    Some older farmers and ranchers want to sell their farms, 
but they don't. I'm approaching that myself. We don't because 
we don't want to pay the capital gains tax rate, even at the 
lower 20 percent level. When we do sell, young farmers and 
ranchers must pay a premium to cover the capital gains tax 
assessed on the seller.
    We, frankly, believe that capital gains taxes should not 
exist, but until repeal is possible we support cutting the rate 
to no more than 15 percent, regardless of the length of time 
that assets are held, and believe that assets should be indexed 
for inflation. We also recommend that the $500,000 exclusion 
that you passed last year for the sale of a primary residence, 
should be expanded to include farms and ranches. It's a matter 
of equity, we believe, and of fairness.
    Last year's reduction in capital gains taxes improved the 
financial environment in which farmers and ranchers operate our 
businesses.
    We urge Congress to enact FARRM Accounts--with the two 
``R's''--Congressman Hulshof's bill--and further reduce capital 
gains taxes without delay. The result will benefit farmers, 
consumers, and the economy. I thank you for this opportunity to 
present this testimony.
    [The prepared statement follows:]

Statement of Dean Kleckner, President, American Farm Bureau Federation

    My name is Dean Kleckner. I am a hog and grain farmer from 
Rudd, Iowa, and who serve as the elected president of the 
American Farm Bureau Federation. AFBF is a general farm 
organization of 4.7 million families whose members produce 
every commodity commercially marketed in this country.
    Farm Bureau commends the Committee on Ways and Means for 
calling this hearing to focus attention on the importance of 
saving and investment incentives. I am pleased to be here today 
to speak on behalf of several initiatives that would be 
beneficial to farmers and ranchers.

                             FARRM ACCOUNTS

    Farm Bureau supports the creation of Farm and Ranch Risk 
Management Accounts (FARRM), to help farmers and ranchers 
manage risk though savings. Using Farm and Ranch Risk 
Management Accounts, agricultural producers would be encouraged 
to save money in good economic times for the ultimate lean 
economic years.
    Like other small businessmen, farmer and ranchers have 
predictable expenses. Each month they must pay for fuel, animal 
feed, equipment repairs, building maintenance, insurance, 
utilities, and meet a payroll. They must plan for seasonal 
expenses like taxes, seed, heat, and fertilizer they must also 
budget for major purchases like equipment, land and buildings.
    While many expenses can be predicted and to some degree 
controlled, farm income is neither predictable nor 
controllable. The prices that farmers and ranchers receive for 
their commodities are determined by forces over which they have 
no control, markets and the weather. Farmers and ranchers do 
not know from one year to the next if their businesses will 
earn a profit, break even, or operate in the red. Few other 
industries must face such a challenge year after year after 
year.
    What all farmers hope for is that the good years will 
outnumber the bad ones. Believing that better times are coming, 
farmers and ranchers get through tough times by spending their 
retirement savings, borrowing money, refinancing debt, putting 
off capital improvements and loweriing. All of these activities 
damage the financial health of a farm or ranch and the well-
being of the family operating the business.
    The 1996 farm bill phased out government price and income 
supports to farmers through the year 2002. Farmers and ranchers 
supported this phase-out because of the promise of expanding 
market opportunities and assurances by Congress that new ways 
would be found to help farmers and ranchers manage their 
financial risks.
    FARRM accounts would encourage farmers and ranchers to save 
by allowing them to put up to 20 percent of their net farm 
income, pretax, into a Farm and Ranch Risk Management (FARRM) 
Account. Money would be allowed to remain in the account for no 
more than five years and would be subject to taxation at 
withdrawal.
    Farm Bureau asks each of you for your support for FARRM 
accounts. Their creation will give farmers and ranchers a 
meaningful incentive to save for a rainy day and provide a very 
valuable tool for managing financial risk. We urge you to 
cosponsor legislation to create FARRM accounts and to pass it 
into law during the 105th Congress.

                            INCOME AVERAGING

    Farm Bureau compliments Congress for including income 
averaging for farmers and ranchers in the Tax Relief Act of 
1997. This action added a much needed dose of fairness to the 
tax code. Unfortunately, this important section of the bill 
sunsets after 2000.
    As explained earlier, farm and ranch income varies greatly 
from year to year due to unpredictable markets and 
uncontrollable prices. It is common for a typical farmer from 
my state of Iowa to see his taxable income vary by 50 percent 
over the course of a marketing cycle. During that same period, 
his income tax rate can vary from 0 percent to over 30 percent. 
This means that the farmer ends up paying more in taxes than 
his nonfarm neighbor who earns the same aggregate income in 
equal installments.
    In addition to being unfair, a tragic result of a tax code 
without income averaging is that it makes it more difficult for 
farmers and ranchers to reinvest in their businesses and to 
prepare for bad years. Farmers and ranchers can only save money 
when the money they earn is available to invest. Without income 
averaging, inflated tax rates produce high taxes that eat up 
farm or ranch profits rather td for difficult financial times.
    Beginning next year, income averaging will work by allowing 
farmers and ranchers to reduce their farm income in a given 
year by treating a portion of that income as if it was earned 
in the three previous years. While the farmer's or rancher's 
tax liability for the current year would be reduced, the amount 
of taxes due for the previous two years could increase. This 
creates fairness in the tax code and would allow farmers and 
ranchers to save what they have earned instead of paying 
overstated taxes.
    Farm Bureau calls upon Congress to make income averaging a 
permanent part of the tax code. The provision could by be 
improved by allowing farmers and ranchers to allocate a greater 
portion of current income to the lowest income year rather than 
dictating that it be reallocated in equal installments.

                          CAPITAL GAINS TAXES

    Farm Bureau commends the Committee on Ways and Means for 
capital gain tax relief passed as part of the Taxpayer Relief 
Act of 1997. Lower capital gains tax rates that took effect 
last summer are providing real benefit to America's farmers and 
ranchers.
    Farm Bureau believes it is wrong to tax earnings twice. The 
capital gains tax does that, first as earned income and then as 
investment income. For farmers and ranchers the tax is 
especially burdensome because it interferes with the sale of 
farm assets and causes asset allocation decisions to be made 
for tax reasons rather than business reasons. The result is the 
inefficient allocation of scarce capital resources, less net 
income for farmers and reduced competitiveness in international 
markets.
    Farmers also need capital gains tax relief in order to 
ensure the cost and availability of investment capital. Most 
farmers and ranchers have limited sources of outside capital. 
It must come from internally-generated funds or from borrowing 
from financial institutions. The capital gains tax reduces the 
amount of money available for reinvestment by farmers and 
ranchers. Financial institutions look closely at financial 
performance, including the impact of the capital gains tax on 
the profit-making ability of a business when deciding loan 
eligibility.
    Capital gains taxes affect the ability of new farmers and 
ranchers to enter the industry and expand their operations. 
While many think of the capital gains tax as a tax on the 
seller, in reality it is a penalty on the buyer. Older farmers 
and ranchers are often reluctant to sell assets because they do 
not want to pay the capital gains taxes. Buyers must pay a 
premium to acquire assets in order to cover the taxes assessed 
on the seller. These higher costs for asset acquisition 
negatively impact the ability of new and expanding farmers and 
ranchers.
    Farm Bureau believes that capital gains taxes should not 
exist. Until repeal is possible, we support cutting the rate of 
taxation to no more than 15 percent regardless of the length 
the assets are held. We also recommend that the recently 
increased exclusion on the sale of a primary residence, now set 
at $500,000, should be expanded to include farms and ranches 
and that rate relief should also be provided to incorporated 
farmers and ranchers.
    Farm Bureau also supports adjusting capital gains for 
inflation so that only real gains in the value of assets would 
be taxed. Under current law, many farmers and ranchers pay an 
effective tax rate that is extreme and sometimes end up paying 
more in capital gains taxes than the increase in the real value 
of the assets. For assets held for long periods of time, 
adjusting their value for inflation is a matter of fairness.
    Farmland provides a good example. Farmers and ranchers on 
average hold farmland for about 30 years. In 1967, farmland in 
my state of Iowa was valued at an average of $257 per acre. In 
1997, the average was $1,680. A farmer who bought 300 acres of 
average land in 1967 for $77,100 and sold it in 1997 would have 
a taxable gain of $426,400 and owe $85,380 at a 20 percent tax 
rate. Average prices in the U.S. economy are now 4.26 times 
what they were 30 years ago. This means that the real increase 
of value on those 300 acres was $175,554, making the effective 
tax rate on the real capital gain 48.6 percent.

                               FARMER IRA

    Farm Bureau also supports allowing receipts from the sale 
of farm and ranch assets to be placed directly into a pretax 
individual retirement savings account (IRA). Withdrawals would 
be taxed at the regular applicable income tax rate. Farm and 
ranch assets accumulated over a lifetime are often the 
``retirement plan'' for farmers and ranchers. Allowing these 
funds to be placed into a pretax account would treat farmers 
and ranchers in the same manner as other taxpayers who 
contribute to IRAs throughout their working life.

           EXEMPTION FOR THE FIRST $1,000 OF INTEREST INCOME

    Farm Bureau believes that there should be no income tax on 
the first $1,000 of interest income for individuals. While the 
exemption would provide a great savings incentive for taxpayers 
of all income levels, it would be especially beneficial to 
middle and lower income taxpayers. It would be of special value 
to young people trying to get into the farming business, to 
students saving for college and to workers saving to buy their 
first home. The savings incentive would also help young people 
establish a pattern of saving leading to a lifetime of saving 
and investing that would be good, not only for the individual, 
but for the economy.

                               CONCLUSION

    American farmers and ranchers are the most productive in 
the world, allowing U.S. citizens to spend only less than 11 
percent of their income on food, the lowest percentage in the 
world.
    Last year's reduction in capital gains taxes greatly 
improved the financial environment in which farmers and 
ranchers operate their businesses. In order for them to 
continue their high level of productivity and improve on their 
record, Farm Bureau urges Congress to make further improvements 
in capital gains tax law, to enact FARRM accounts and to extend 
income averaging without delay. The results will benefit 
farmers, consumers and the economy.
    Thank you again for the opportunity to testify today on 
these matters of importance to our nation's farmers and 
ranchers and their families.
      

                                


    Mr. Herger [presiding]. Thank you, Mr. Kleckner.
    Mr. Hartman, please.

STATEMENT OF DAVID A. HARTMAN, CHAIRMAN, INSTITUTE FOR BUDGET & 
   TAX LIMITATION, AND CHAIRMAN AND CHIEF EXECUTIVE OFFICER, 
              HARTLAND BANKS, N.A., AUSTIN, TEXAS

    Mr. Hartman. Thank you. Mr. Chairman, Members of Congress, 
ladies and gentlemen, my name is David Hartman, chairman of the 
Hartland Banks and chairman of the Institute for Budget & Tax 
Limitation, both of Austin, Texas.
    My testimony today presents the institute's proposals for 
closing the U.S. capital formation gap. Before I commence, I 
would like to applaud the efforts of you, Mr. Chairman, and 
your Committee, to reduce, simplify, and make more efficient 
our Tax Code.
    Our Nation, which throughout most of this century was a net 
exporter of financial capital to the rest of the world, has 
recently been importing one-half of its net new capital 
formation each year from abroad. This is no Marshall Plan. The 
earnings which we pay to foreigners will drain our national 
income in the future, and we cannot rely on endless importing. 
The problems of insufficient capital formation have come from 
four sources: the Federal deficit, taxing the corpus of our 
existing capital, insufficient personal savings, and double 
taxation of corporate income.
    The Federal deficit has diminished, and the budget now 
projects a current cash flow surplus. However, under our 
present circumstances of a huge deficit in capital formation 
and a pending Social Security crisis, a surplus of at least the 
difference between the current inflows and outflows of Social 
Security and Medicare should be the minimum for responsible 
fiscal policy. Nearly that scale of surplus is projected for 
fiscal year 2002--the sooner the better. Moving up rear-loaded 
spending cuts could provide room to circumvent PAY-GO.
    It is further proposed that the following changes be made 
to the Internal Revenue Code in order to remedy the problems 
that limit capital formation. First, allow rollover of capital 
gains which are reinvested in any capital assets or accounts, 
without taxation. Two, tax any capital gains not reinvested at 
ordinary rates, after indexing, for inflation, which ironically 
comes out pretty close to 20 percent.
    Allow estates the same rollover as for capital gains with 
continuity of ownership, including taxation at the prevailing 
ordinary tax rates after indexing for inflation those assets 
not reinvested. Allow all individuals the right to save and 
invest up to a total of 15 percent of their income, with 
exclusion from income taxation, without limitation of income or 
nature of investment.
    Fifth, end double taxation of dividends by exempting 
dividends from income taxation, and by excluding increases in 
retained earnings from capital gains on stocks. We note here 
that we would consider that the interest should continue to be 
taxed when received as income and when paid for productive 
purposes, exempted as a factor cost.
    The first four proposals, which should be considered the 
most important for capital formation are estimated to cost $78 
billion per year and are presented in order of priority. The 
elimination of double taxation, while the most unjustifiable 
and confiscatory, is of lesser priority due to its estimated 
revenue cost of $99 billion and the fact that it will be in 
part consumed rather than reinvested.
    The right to exclude up to 15 percent of income should 
promote a personal savings increase of $96 billion. The 
reductions in capital gains and estate taxations due to 
rollovers would fully translate into increased capital 
formation.
    Should Congress resolve to budget sooner a $98 billion 
surplus equal to the net cash inflow of Social Security and 
Medicare, the combined effect would be additional new domestic 
capital formation equal to $240 billion. The net result, as 
estimated, would return the United States once again to a 
capital surplus in control of its economy's future.
    The proposals presented for the first four items should 
prove to be self-funded over the course of time. The additional 
supply of capital that results would lead to a return to 
interest rates comparable to those in the early sixties, 
resulting in a reduction of $72 billion per year in Federal net 
interest costs, prospectively and into the future. A 
productivity increase dividend of perhaps a half a percent a 
year could yield an additional $64 billion in taxes by 5 years 
hence. The benefits would accrue to all Americans--a $100 
billion-plus in mortgage interest and a $100 billion-plus 
dividend in growth of personal income.
    In summary, it is of critical importance that we adopt the 
following measures to increase capital formation: rollover of 
capital gains, indexing of capital gains for inflation, 
rollover of estate assets, exclusion of 15 percent of personal 
income saved, and run a responsible budget surplus. Hopefully, 
the double taxation of corporate income could be included as 
well in the future.
    I conclude by reminding you that Federal Government 
spending consumes an excessive portion of the Nation's 
resources at the expense of the productive private sector and 
capital formation. Nothing could brighten the future of this 
country more than a commitment to less government and lower 
taxation to enable closing the capital formation deficit.
    Mr. Chairman, I have offered an additional exhibit, which I 
would like to have included in the record. It shows the 
comparison of a 20-percent capital gains tax compared to 
indexed capital gains. And I would also like to request, if it 
would be possible, that we offer the Institutes just released 
assessment of the marriage tax penalty.
    Mr. Herger. Without objection, that will be done.
    [The prepared statement and attachments follow:]
Statement of David A. Hartman, Chairman, Institute for Budget & Tax 
Limitation, and Chairman and Chief Executive Officer, Hartland Banks, 
N.A., Austin, Texas
[GRAPHIC] [TIFF OMITTED] T0897.145

[GRAPHIC] [TIFF OMITTED] T0897.146

[GRAPHIC] [TIFF OMITTED] T0897.147

[GRAPHIC] [TIFF OMITTED] T0897.148

[GRAPHIC] [TIFF OMITTED] T0897.149

[GRAPHIC] [TIFF OMITTED] T0897.150

[GRAPHIC] [TIFF OMITTED] T0897.151

[GRAPHIC] [TIFF OMITTED] T0897.152

[GRAPHIC] [TIFF OMITTED] T0897.153

[GRAPHIC] [TIFF OMITTED] T0897.154

[GRAPHIC] [TIFF OMITTED] T0897.155

[GRAPHIC] [TIFF OMITTED] T0897.156

[GRAPHIC] [TIFF OMITTED] T0897.157

[GRAPHIC] [TIFF OMITTED] T0897.158

      

                                


    Mr. Herger. Thank you, Mr. Hartman.
    Mr. Kelly.

  STATEMENT OF W. THOMAS KELLY, PRESIDENT, SAVERS & INVESTORS 
                LEAGUE, VILLANOVA, PENNSYLVANIA

    Mr. Kelly. Thank you, Mr. Chairman. My name is W. Thomas 
Kelly. I am the president of the Savers & Investors League in 
Villanova, Pennsylvania.
    I am here to discuss the Individual Investment Account Act, 
H.R. 984, which has been favorably commented upon by some of 
the other presenters here today. These accounts operate like 
IRAs, and they can be described in just three sentences. Every 
person can make unlimited tax deductible contributions to their 
individual investment account. These assets are invested tax-
free until withdrawn by the owner or the beneficiary. There are 
no penalty taxes, no forced distributions, and no estate tax at 
death.
    Now I'd like to describe just some of the attributes of 
this legislation. First, it is fiscally sound. It produces tax 
revenue gains, not losses. Also, it is bipartisan in 
sponsorship, both in the House and the Senate. It has been 
voter-taxpayer tested and enthusiastically endorsed. There are 
few, if any, transition problems. It promotes new saving by 
lowering the cost of savings. In effect, it converts an income 
tax to a form of consumption tax so that savings are only taxed 
once, as they should be.
    Permit me to comment upon the cost. Static revenue 
estimates show costs as being high and continue to grow 
continuously over the years. However, when proper analysis of 
this proposal is made through dynamic revenue estimates, they 
show that costs are low, they stay low for a few years during 
the transition period, then the static scoring shows that tax 
revenues gain and grow and grow. Static scoring shows major tax 
revenue losses, whereas dynamic scoring shows major tax revenue 
gains. It is appropriate to state that static scoring has major 
flaws in its inception and use. Static scoring must be changed. 
Static scoring creates major tax policy mistakes.
    What would be the effect of this legislation? First, I'd 
like to comment on just two major effects--on jobs and on the 
aftertax income of our taxpayers. Jobs, with this tax proposal, 
will start to increase immediately. In less than 3 years, 
400,000 new jobs will be created. That is about the same number 
of jobs which are held in the city of Detroit currently, to 
give a frame of reference. In less than 10 years the number of 
jobs will increase by 1,300,000. That is approximately the 
employment currently in the city of Chicago. In less than 15 
years, the number of jobs will increase by 2,100,000, and that 
number of new jobs is about two-thirds of the number of jobs in 
New York City.
    Talking about the aftertax income of our taxpayers, they 
will increase in less that 10 years by about 10 percent. This 
is through the income capital growth that this proposal 
produces. The lowest quintile of those taxpayers have their 
aftertax income increased by 15 percent. Obviously, they 
increase more because they pay less in taxes, being in the 
lowest quintile, and many of them pay no taxes; therefore, they 
enjoy more of the gain that flows from the economic growth.
    In conclusion, Mr. Chairman, H.R. 984 is most worthy of 
Full Committee report, and further, this Committee, in my 
judgment, must insist upon correcting the fundamental flaws of 
static scoring.
    Thank you. I'll be glad to respond to any questions.
    [The prepared statement follows:]
    [GRAPHIC] [TIFF OMITTED] T0897.159
    
    [GRAPHIC] [TIFF OMITTED] T0897.160
    
    [GRAPHIC] [TIFF OMITTED] T0897.161
    
    [GRAPHIC] [TIFF OMITTED] T0897.162
    
    [GRAPHIC] [TIFF OMITTED] T0897.163
    
      

                                


    Mr. Herger. Thank you very much, Mr. Kelly. Mr. McCrery, I 
know you have to leave. Would you like to inquire?
    Mr. McCrery. Yes, thank you, Mr. Chairman. Unfortunately, I 
do have to leave for an important meeting that started 3 
minutes ago, but I did want to stay for all of your testimonies 
and I thought all of them were excellent.
    Mr. Kelly, I particularly want to thank you for your 
contribution to H.R. 984. It was Mr. Kelly that originally 
brought the idea to me, and I think it's--as you can see, Mr. 
Kelly--gaining some favor in important circles around the 
country, and we have more and more people looking at some sort 
of savings-exempt type of income tax as an approach that makes 
a lot of sense.
    So, thank you very much for helping us with H.R. 984. As 
you know, we're making some refinements to it now and hope to 
have that completed in the near future. So I just wanted to 
thank you, Mr. Kelly, and thank all of you for your testimony 
today.
    Mr. Herger. Thank you, Mr. McCrery. Mr. Kleckner, if I 
could ask a question of you. In 1986, Congress did away with 
income averaging for farmers. We brought it back again last 
year, at least to extend through the year 2001. Could you tell 
me, how would your recommendation of being able to put away 20 
percent of any one year's income compare with income averaging?
    Mr. Kleckner. In many ways they are comparable in the end 
result, but we don't see them as being in opposition to each 
other or interfering with each other. We support both. The 
income averaging, if I recall correctly, was passed for 3 
years; it would have to be authorized again. I think that's 
necessary. Income averaging really affects us farmers mostly 
when we have a spike in income. If you have a sudden spike in 
income, income averaging allows you to go back over 3 years to 
refigure your taxes. That's somewhat expensive. But, again, 
it's good to have.
    We see the FARRM Accounts, if they're enacted, as allowing 
farmers to make up their own minds to set aside up to 20 
percent. I think many farmers might only set aside 5 or 10 
percent, but they have the option of 20 percent.
    It's highly unlikely in my view that farm income would stay 
high for 5 years, so few people would come to the place where 
they were forced to take money out. Farm income goes up and 
down. If I have 2 good years in a row, I'm happy; the third 
year I'll probably pull some out. So the chances of money being 
in there for 5 years are virtually nil in my view. We don't see 
them as antagonistic toward each other; they're really 
complementary.
    Mr. Herger. Good. I thank you very much.
    Mr. Hulshof to inquire.
    Mr. Hulshof. Thank you, Mr. Chairman. First of all, Mr. 
Kleckner, thank you for your testimony. Thanks for your kind 
words, and I really want to thank the Farm Bureau for your 
support and your interest, whether it's the national American 
Farm Bureau Association or whether it's the 88,000 Missouri 
Farm Bureau members, of which I am one. When all of you are 
singing together in the same chorus, when you're voices are 
singing the same refrain, it's a loud voice. And, certainly, 
when you speak, we listen here in Washington.
    I, too, as you know, Mr. Kleckner, am a farm boy and know 
first hand of many of the things that you've talked about, and 
I'm proud to have that background. As you alluded to, farm 
incomes vary not only with market conditions and yield and 
weather, but sometimes with the political decisions we make 
here in Washington affect--especially on trade issues. 
Certainly through the farm bill of 1996, it places more risk 
management on farmers and ranchers, as far as future 
responsibility.
    You talked about--and Mr. Chairman, you mentioned--income 
averaging; yes, it's due to sunset. Hopefully, we can allow 
some more permanence in income averaging. But if I could 
perhaps answer your question, Mr. Herger, as to how these two 
work together. I guess they're somewhat--income averaging and 
the FARRM Account would be sort of like distant cousins to one 
another, although income averaging looks back, FARRM Accounts 
look forward, and I do see them complementing one another.
    One of the criticisms, if you want to call it that--that's 
probably too strong of a word about income averaging--is that 
it's useful only in a high year. As Mr. Kleckner says, when you 
spike up you can take certain amounts of that income and 
deflect it back in the preceding 3 years to help stabilize and 
reduce the amount of taxation that would have occurred in that 
high year.
    Many of us in Missouri, in fact in the Midwest, recall all 
too well 1993, with the great flood, and again in 1995. What do 
you do in a down year? Income averaging only benefits farmers 
and ranchers when they see a spike up and, hopefully, through 
the FARRM Account, it would be a way for them to prepare for 
the future in those third years, as you mentioned, Mr. 
Kleckner, that invariably come when there are drought 
conditions or too much rain or circumstances beyond farmers' 
and ranchers' control to allow them to put aside. In fact, we 
envision, perhaps, income averaging and FARRM Account 
contributions. But, again, just some of the technical points, 
and Mrs. Thurman and I are trying to work out the details and 
expect this legislation to be introduced next week.
    But an eligible farmer can take an above-the-line deduction 
up to 20 percent of net farm income. The FARRM Account is 
actually a trust. It's really not like an IRA, but it is income 
that's tax-deferred, put into this trust account for up to 5 
years--and I can't envision, Mr. Kleckner, 5 good years in a 
row--but if, in fact, no distributions were taken from that 
account, that in the fifth year you would have to take a 
distribution. And it would then be taxed, of course, at the 
time that it's removed and would be included as taxable income.
    It would be similar to first-in, first-out rules, and that 
is the money that you put in the first year would be the money 
you would take out in the sixth year, and we have some other 
technical aspects to the legislation to make sure that it's 
mainly for individual farmers.
    So, the long way around to answer your question, along with 
what Mr. Kleckner said to you, Mr. Herger, is that we see these 
as working together. Income averaging is good; it's a good, 
useful tool. But the FARRM Account, I think, is another 
management tool to help farmers spread the risk, and we 
certainly appreciate the efforts of the Farm Bureau in helping 
us promote the idea, and I yield back.
    Mr. Kleckner. Mr. Chairman, I really think--and I'm trying 
to remember back in my 30-plus years of farming--I really only 
think I've used income averaging, when it was allowed, twice. 
You don't very often have those spikes where it really is 
effective to use. Something like FARRM, I can see a number of 
farmers using it fairly often.
    Mr. Herger. Thank you very much, and thank you for the sake 
of the record, particularly, in clarifying that. I'm also from 
agriculture country myself, and this is something that's very 
important to all of us. Thank you.
    Mrs. Johnson to inquire.
    Mrs. Johnson of Connecticut. Thank you. Mr. Kelly, why 
would you need this other FARRM trust approach if the approach 
that you advocate was adopted?
    Mr. Kelly. Could you repeat that?
    Mrs. Johnson of Connecticut. Yes. Why would we need IRAs or 
Roth IRAs or this new FARRM trust proposal if the approach that 
you advocate is adopted?
    Mr. Kelly. Well, certainly the approach which I am 
suggesting does not remove those. Any corporation can and will 
continue with their pension plans. As a matter of fact, if this 
were introduced and passed, corporations could now return to 
the proper approach that they've taken and install defined 
benefit plans, as contrasted with defined contribution plans. 
It's only what I'll describe as the insane way in which our 
Nation taxes tax-qualified plans that has, in a sense, forced 
corporations to gradually get away from defined benefit plans 
and then lead others to install in lieu thereof defined 
contribution plans or 401(k)s, or 401(k)s to supplement instead 
of increasing defined benefit plans.
    There's nothing that would keep corporations from doing 
that which they wish. This merely offers another alternative, a 
very fine alternative, where corporations can utilize this 
approach also, and I might also add it helps solve the serious 
problem of terminated employees and the portability of 
pensions. You can go right down the list, and there are all 
kinds of advantages as to why corporations would utilize and 
encourage this kind of approach.
    Mrs. Johnson of Connecticut. In your testimony you suggest 
that if this approach were adopted there would be no need for 
special IRAs, for education, for retirement.
    Mr. Kelly. Yes, that's true, and I say that in this 
context. Today we see IRAs popping up all over the place: the 
education IRA, the medical savings accounts. But in the main--I 
guess the Chairman commented earlier--when you see those kinds 
of plans they become targeted plans, and they typically have 
phaseouts, which means that you can join in at one stage of 
life, then you're thrown out because you've moved up in 
compensation. It's sort of a shell game; you're in or you're 
out, and you can't figure out where you are.
    Mrs. Johnson of Connecticut. Well, certainly the complexity 
that we've created in the IRA laws, the complexities that we've 
created both with targeting IRA privileges and phaseouts does 
make it complex.
    Mr. Kelly. Yes.
    Mrs. Johnson of Connecticut. And it is becoming 
extraordinarily complex, so the idea of simplifying this 
dramatically, as you offer, is an interesting idea.
    I do think, though, that you really need to give some 
thought to the social consequences and the policy consequences 
of letting people contribute as much as they want to and not 
being taxed until they take it out and spend it, with no estate 
tax at no time until they spend it, because compensation 
schedules have an element of arbitrariness to them.
    I know people who work extremely hard and get paid $30,000 
a year, and I know people who get $250,000 a year and, frankly, 
I don't think they do anything. So, compensation is not well-
related, necessarily, to contribution to our society. So this 
kind of a tool, that's quite open-ended without any phaseout, 
does allow, frankly, the rich to get richer, and it allows the 
rich to get really a lot richer. I don't think you can really 
justify that, so I think you have to deal with the issue of at 
what point does society really need to encourage you to save? 
And at what point should you be carrying your own weight in 
providing support for government services?
    So, I do worry about the lack of any phaseout, though I 
understand perfectly well that the nondiscrimination rules in 
the pension area have completely eliminated small pensions and 
I'd like to get rid of a lot of that complexity.
    But I think the option you offer is desirable because it 
makes all of these other tools unnecessary, including the one 
that Kenny was just talking about. But I don't see why we would 
need any of these vehicles, really, if we did this right. But 
at some point, I think, you do have to phase out that sort of 
reward for savings at, in a sense, government expense.
    Mr. Kelly. I certainly appreciate your views, and you're 
not alone, but let me hasten to say that there is no reason, 
absolutely no reason why a cap, such as you're suggesting, 
should be imposed other than the fear or the feeling that 
people might save too much. Saving is----
    Mrs. Johnson of Connecticut. No, it doesn't go to that and 
I think that's the important point here. My concern is not that 
people might save too much. My concern is that by foregoing 
taxes on income because it is saved, as desirable as that is, 
we do reduce tax income for current expenses and invite that 
income when you spend the money. Now you say this would 
generate so much activity that it would offset that--I'd have 
to see that. But the general concept is that if you save this, 
we won't have you pay taxes on it until it comes back into the 
stream. And at a certain point, you rob one generation for the 
benefit of another generation, and there is a limit to how far 
we can go in that regard.
    Mr. Kelly. No; I'm sorry--and I will be glad to give you 
the full report which better explains your questions--but let 
me go on a second. When you have an upsurge in new savings, as 
I think everyone here will agree will happen, you are certainly 
going to have, through new saving, a reduction in the cost of 
saving.
    When you reduce the cost of computers, you get more 
computers. Reduce the cost of savings, and savings go up. When 
you have more savings, you have more capital. When you have 
more capital, you have more production, you have more jobs, you 
have a higher standard of living, and from that global 
increase--and increased corporate taxes--from that whole global 
increase, after a transition period from 8 to 10 years, our 
Federal Government starts to collect more taxes then under the 
existing system of taxation. You just have no comprehension--
and when I say you, I don't mean----
    Mrs. Johnson of Connecticut. I understand.
    Mr. Kelly [continuing]. I'm just talking about generally.
    Mrs. Johnson of Connecticut. But it could also include me.
    Mr. Kelly. Sitting here, people really don't appreciate the 
power of compound rates of return. You don't want to thwart 
that. Our income tax today kills it, and the higher your tax 
bracket, the more it kills it, the more it cuts it down. That's 
stupid, from just tax principles, and it really is stupid from 
the government's viewpoint because the more you tax away a rate 
of return, there's less capital to be invested thereafter.
    You just have to study the report--I think you already 
received the report in an earlier submission I made to every 
Member of this Committee earlier this month. And I urge 
everyone here, from both sides of the aisle, to study that 
report. It was produced by a very fine economist group here in 
Washington, DC. Fiscal Associates, Inc. Study that report; 
understand what we're dealing with here. This is serious 
business. The way we've taxed our capital as a nation has 
really thwarted, really stunted our economic growth. We could 
be far better off than we are today. So, anyway--[Laughter.]--
you hit a hot button.
    Mr. Hartman. Mrs. Johnson, could I comment on that point a 
moment?--because it bears directly on exactly what the 
Institute for Budget & Tax Limitation is proposing as well. 
There are some public misconceptions that exist as to how the 
wealth process gets distributed and how it actually works. For 
all that we put individuals, privately held corporations and 
assets through in this country, and the huge amount of time 
spent with accountants and attorneys and so forth, out of about 
$1.7 trillion, we collect $20 billion of estate taxes. We stand 
people on their heads; we force companies to be closed; we tend 
to promote the breakdown of estates that give our country's 
best interest, should distribute that wealth for reinvestment 
and for consumption, passing down our capital. We sell farms 
and turn them over to being subdivided, or whatever.
    The point--but we don't look at what the real truth is. The 
highly wealthy find a way to get around such circumstances. The 
guy you snare in this situation is the poor soul that has been 
building up a farm or a business, hasn't had time to play all 
the wrinkles, didn't know he should be giving the business away 
from the first year he got it to his kids, and he's the guy 
that can least afford to pay those $20 billion in estate taxes. 
The rest skate by and have done it forever. You won't stop it 
and I won't stop it. If you look at lifecycles, you'll find 
that this rich wealth described by income statistics is, in 
fact, quite illusory. The fact of the matter is, people tend to 
have, on average, little in savings when they're young. After 
the kids are gone they save heavily, and they disgorge those 
savings in retirement. And what you find is that the rich, as 
shown by income statistics, are largely a figment of 
statistical imagination.
    We would all be better off, as the gentleman said, if we 
would get rid of the spirit of envy and social manipulation and 
let people work, profit, save, and invest, and let them keep 
the money they work for to do those things.
    Mr. Herger. Mr. Hartman, I want to thank you. We have about 
5 minutes until the vote. I'm very excited by your energetic 
close, Mr. Kelly. As a matter of fact, I want to run out and 
save some money after listening to you.
    Mr. Kelly. Sign up.
    Mr. Herger. But we--I think it's very clear in this Nation 
that we have a need to create an incentive to save; we know 
that compared to other industrial nations we rank very low. And 
I want to thank you very much for the very good testimony from 
each of you and each of our panelists this morning on this very 
important issue. And with that I adjourn the hearing. Thank 
you.
    [Whereupon, at 12:21 p.m., the hearing was adjourned 
subject to the call of the Chair.]
    [Submissions for the record follow:]

Statement of Section of Taxation, American Bar Asssociation

    Mr. Chairman and Members of the Committee:
    This statement is presented on behalf of the American Bar 
Asssociation and supplements earlier testimony presented by the 
Section of Taxation of the American Bar Association.
    Under the U. S. income tax system, married couples with the 
same income pay the same tax, no matter what the source of 
their income. This result is the consequence of Congressional 
action in 1948 that permitted married couples to aggregate 
their incomes on one joint return and compute their tax 
liability as if each spouse had received one-half of their 
joint income.\1\
---------------------------------------------------------------------------
    \1\ Before 1948, each taxpayer reported his or her income and paid 
tax as an individual. Married couples could file joint returns, but the 
tax was computed using the same rate schedule as that applicable to 
individuals. Joint returns were then an advantage only when one spouse 
had deductible losses to offset the other spouse's income or when one 
spouse had no taxable income.
---------------------------------------------------------------------------
    Before the 1948 Act, married taxpayers living in community 
property states each reported one-half of community property 
income for tax purposes under the decision in Poe v. 
Seaborn.\2\ Under a progressive income tax, the effect of Poe 
v. Seaborn was to shift earned income in community property 
states \3\ from the higher marginal tax rate of the taxpayer 
who earned it to the lower rate of the spouse who did not, even 
when each files a separate return. The 1948 income-splitting 
legislation made the result in Poe v. Seaborn immaterial in 
determining tax liability, and eliminated the differences in 
the tax liabilities of married couples based on where they 
lived. After the 1948 change, however, income tax was still 
calculated according to one basic rate schedule. Consequently, 
the income levels at which marginal rates increased in a 
progressive tax (``rate-breaks'') for an unmarried taxpayer 
were exactly 50% of the rate-breaks for married taxpayers 
filing joint returns. A taxpayer who married an individual with 
less taxable income would, as a result, pay less tax. Thus, the 
``marriage bonus'' was created.
---------------------------------------------------------------------------
    \2\ 282 U.S. 101 (1930).
    \3\ Earned income is always classified as community property. The 
very high marginal income tax rates in the 1940's caused some separate 
property state legislatures to enact community property rules.
---------------------------------------------------------------------------
    In 1969, Congress responded to concerns of single taxpayers 
that their tax burden was disproportionately large compared to 
the tax liability of a married couple with the same income by 
enacting an entirely new rate schedule for unmarried taxpayers. 
This schedule reduced the tax a single individual would pay by 
increasing the rate-breaks to levels which were 60% of those 
for married taxpayers filing joint returns. The result of this 
rate structure is that two taxpayers with approximately the 
same taxable income who marry will pay more income tax than the 
aggregate amount they paid as single individuals. Thus, the 
``marriage penalty'' had been created.
    Over the thirty years which followed enactment of the 
individual tax schedule in 1969, a great deal has been written 
about the marriage penalty. It has been studied by the GAO, the 
CBO, the Treasury Department and the Joint Committee and this 
Committee has received volumes of testimony relating to it. 
Somewhat lost in the current deluge of criticism of the 
``marriage penalty'' is one essential fact. IT IS IMPOSSIBLE TO 
HAVE A MARRIAGE NEUTRAL TAX in a tax system that has a 
progressive rate structure and in which couples with equal 
family incomes pay the same tax. This proposition was 
demonstrated with elegant mathematical simplicity by Assistant 
Treasury Secretary Edwin S. Cohen in testimony before this 
Committee in 1972.\4\ As he concluded then, and as remains the 
case today, ``no algebraic equation . . . can solve this 
dilemma . . . . All that we can hope for is a reasonable 
compromise.''
---------------------------------------------------------------------------
    \4\ Case 1 is a single person who earns $20,000.
    Case 2, two single persons each earn $10,000.
    Case 3, a husband earns $20,000 and a wife earns zero.
    Case 4, a husband and wife each earn $10,000.
    If we want no penalty on remaining single--a large group insists 
upon this--Case 1 must pay the same tax as Case 3. A single person 
earning $20,000 pays the same tax as a married couple earning $20,000.
    If we want no penalty on marrying, Case 2 must pay the same tax as 
Case 4. Two single persons earning $10,000 each pay the same tax as a 
married couple each earning $10,000.
    If we want husband and wife to pay the same tax however they 
contribute to the family earnings, Case 3 pays the same tax as Case 4.
---------------------------------------------------------------------------
    Until now, Congress has chosen to tinker with the effect of 
marriage on tax liabilities, but has not changed the basic 
relationship between the rate schedules that produces the 
result. The revenue statistics reveal why the problem is 
difficult. The CBO has reported that, under a ``basic measure'' 
of the penalty and bonus, 25.3 million joint returns received a 
marriage bonus costing nearly $33 billion in revenue compared 
to 20.9 million joint returns which paid a marriage penalty 
increasing revenues by nearly $29 billion. Efforts to mitigate 
the penalty without reducing the bonus (causing a tax increase 
for some couples) are very expensive.
---------------------------------------------------------------------------
    To summarize the tax results:
    Case 1 equals Case 3.
    Case 2 equals Case 4.
    Case 3 equals Case 4.
---------------------------------------------------------------------------
    It is, of course, true that one way to solve the problem is 
to depart from the principle that all married couples with the 
same income should be taxed alike. Some proposals already do 
that by identifying characteristics which would justify a 
different tax liability, principally a deduction or credit 
based on the earnings of the lower earning spouse, but these 
proposals continue to rely on the underlying principle that 
married couples with similar incomes should bear the same tax 
burden.
---------------------------------------------------------------------------
    Based on the fundamental mathematical principle that things equals 
to the same thing must be equal to each other, the result should then 
be that Case 1 equals Case 2, or, in other words, that the tax on a 
single person earning $20,000 equals the tax on two single persons each 
earning $10,000.
    But that cannot be so if we are going to have a progressive income 
tax structure, and progressive taxation is a basic tenet of our income 
tax system. The tax on a single person earning $20,000--Case 1--must be 
greater than the total tax on two single persons each earning $10,000 
if we are to have a progressive rate structure . . . .
    It becomes apparent from this analysis that you cannot have each of 
these principles operating simultaneously, and that there is no one 
principle of equity that covers all of these cases.
    Hearings on Tax Treatment of Single Persons and Married Persons 
where Both Spouses are Working, before the House Ways and Means 
Committee, 92nd Cong., 2nd Sess (1972).
---------------------------------------------------------------------------
    Some have suggested a more radical solution--that each 
individual taxpayer should be liable for tax on his or her own 
income.\5\ Individual filing would eliminate differences in the 
tax burden between married and unmarried couples having the 
same income. A single individual and a married couple, only one 
of whom had income, with the same income would, potentially at 
least, pay the same tax.\6\ Because there are many who advocate 
a return to filing as individuals, it is important to explore 
some of the difficulties that would have to be faced were this 
approach to be seriously considered.
---------------------------------------------------------------------------
    \5\ Most of the current tax scholarship to consider this question 
concludes that a return to individual filing is the best way to achieve 
tax neutrality with respect to marriage. See e.g., L. Zelenak, Marriage 
and the Income Tax, 67 S.Cal. L. Rev. 339 (1994).
    \6\ It would be possible, in theory, to adopt a different 
definition of the appropriate tax paying unit. Any such definition 
would have to have a simple characteristic so that all taxpayers would 
know what the boundaries of the unit are and the IRS could enforce it 
with the least possible intrusion into the personal lives of taxpayers. 
However, there does not appear to be any alternative definition of 
taxpaying unit, other than the individual or marriage, which has the 
same simplicity and more relevance to tax paying characteristics.
---------------------------------------------------------------------------

                   Issues Raised by Individual Filing

    Supporting families. It is said that the marriage penalty 
discourages two individuals with earned income from marrying. 
The marriage bonus might also be said to encourage marriage 
because of the tax advantage which a high earning individual 
could obtain after marriage with a low earning spouse. While 
there does not appear to be conclusive evidence for either 
proposition, adoption of an individual filing system would 
eliminate the marriage bonus. If Congress decided that there 
should be a tax advantage for marriage despite adoption of an 
individual filing system, it might consider whether to confer 
tax benefits on spouses who stay home, for example, to care for 
children. The child credit is one form of relief for families 
with children that might be expanded as the married filing rate 
schedule is eliminated. This would focus the effect of tax 
advantages on a different characteristic, such as minor 
children in the household, rather than the formal status of 
marriage.
    Assigning income between spouses. One problem that is 
solved by a joint filing system is the assignment of income 
from one spouse to the other without any shift of economic 
benefit. The principal issue here is posed by Poe v. Seaborn, 
under which community property income is divided equally 
between spouses no matter which one earned or has control over 
it. Requiring individuals to pay tax on their own incomes will 
again raise the problem that the income-splitting joint return 
was enacted to solve.
    Individual filing is not practical unless this problem is 
resolved. If Congress decides to return to individual filing as 
the basic principle in the income tax, it would probably be 
constrained to also provide that community property law will be 
disregarded in determining federal income tax liability. Such a 
decision would also require rules to allocate community 
property income and deductions between spouses. These issues 
are discussed below.
    An alternative solution would permit voluntary assignments 
of income. In Lucas v. Earl,\7\ the Supreme Court refused to 
give effect for tax purposes to a binding contract under which 
husband and wife agreed to share the husband's earnings. This 
principle has been the bedrock of the income tax doctrine 
forbidding the assignment of personal earnings to another 
taxpayer for tax purposes, and any relaxation has been widely 
viewed as seriously undermining the U. S. income tax. Voluntary 
assignments of income between spouses should continue to be 
treated as ineffective for tax purposes. A rule permitting 
voluntary assignment, even when limited to interspousal 
transactions, ignores ownership principles under which the 
spouse who has the closest relationship to the income in 
question could retain control over it. This would be 
inconsistent with the principle underlying individual filing.
---------------------------------------------------------------------------
    \7\ 281 U.S. 111 (1930).
---------------------------------------------------------------------------
    A return to individual filing will put pressure on 
assignment of income principles in any event as taxpayers seek 
to reduce tax burdens by shifting incomes within marriage.\8\ 
This will, in turn, cause potential compliance problems for the 
Internal Revenue Service in the exercise of its responsibility 
to assure that real transfers have occurred before income 
shifting is permitted.\9\
---------------------------------------------------------------------------
    \8\ Married taxpayers who do pool their resources would be 
encouraged to make interspousal transfers of property in order to 
allocate income for tax purposes. Interspousal transfers would not be 
taxable because married taxpayers are treated as a single taxpaying 
unit for this purpose. IRC Sec. Sec. 1041; 2523. It might seem ironic 
to some that present system of joint filing is attacked on the ground, 
among others, that it is based on an inaccurate premise--to wit, that 
married taxpayers universally pool their resources, when it is asserted 
that they do not. In a system of individual filing, required for all 
taxpayers, those who do pool may have an advantage in the allocation of 
income to achieve the best possible outcome in determining tax 
liability. Family law scholars might welcome such a result as 
encouraging real transfers to spouses who would otherwise be in an 
economically inferior position.
    \9\ Audits of interspousal transfers to determine the appropriate 
income tax consequences seem contrary to the purpose of section 1041, 
which is to reduce the tax significance of these transfers. At some 
level, this type of audit can become more intrusive than desirable or 
even perhaps sustainable when viewed in light of the IRS' current 
problems.
---------------------------------------------------------------------------
    Determining how income should be allocated between spouses. 
Allocation issues, as distinct from the filing burden discussed 
below, are difficult. Many allocation issues may turn out to be 
straightforward for most taxpayers and where the supporting 
records for an allocation are lacking, arbitrary default rules 
can be adopted. Nonetheless, there are some problems.
    Business income. Spouses may participate in the same 
business as owners, operators or employees. Business income may 
not be clearly the income of either, or may be arbitrarily 
allocated by them, potentially for tax effect. One possible 
approach would be to allocate business income to the spouse 
with control over the business.
    Jointly owned property. The most administrable and 
reasonable rule for jointly owned property would be for title 
ownership to control how income from that property is allocated 
for tax purposes.
    Deductions. An itemized deduction expense might be paid by 
one spouse, or from joint funds. In order to measure the 
taxable income of each spouse most accurately in an individual 
return system, the spouse who pays the expense should receive 
the deduction (e.g., the spouse makes the payments on a joint 
mortgage on the couple's jointly owned personal residence). 
Payments from a joint account, or made under circumstances 
where the identity of the payor cannot be shown from supporting 
records, could be divided equally.
    Personal exemptions or credits. These are rate reduction 
devices for families with dependents. The spouse could allocate 
these as they decide; any alternative approach seems unduly 
burdensome and complex.
    The filing burden. Both the Treasury Department (in its 
report on joint and several liability) and the Internal Revenue 
Service have asserted that separate filing for spouses would 
cause an enormous processing burden for the IRS. Some states 
now require married persons to pay tax individually and permit 
spouses to file a single return on which the income and 
deductions of the spouses are allocated between them. For most 
taxpayers, this is not difficult. But it is also true that 
state allocation requirements are probably simpler than those 
that would apply to a federal allocation regime. States' 
allocation systems begin with amounts reported on the federal 
return, and rely on the federal system for substantiation. 
Allocations for state purposes, moreover, carry less 
significance because marginal rates are lower and effective 
rates are lower still due to the deductibility of the state 
income tax for federal purposes. It is a different matter if 
allocation were permitted for federal purposes. Review of the 
allocation decisions also adds administrative burdens.
    Rates. Eliminating the joint return rate schedule will 
change the allocation of the tax burden and the overall revenue 
yield of the individual income tax. The tax burden would 
increase on married couples in which one spouse earns most of 
the income, absent broader changes in rate schedules. A shift 
to an individual filing system would accordingly raise broader 
issues of the appropriate rate schedule.

                         Intermediate Proposals

    As the foregoing demonstrates, the costs of moving to a 
system of individual filing are significant. The marriage 
penalty can be alleviated but not eliminated, with less 
comprehensive revisions.
    Reducing the tax rate on earned income. The system of joint 
filing in place since 1948 has had an impact on married persons 
which is independent of marriage neutrality. When both spouses 
have earned income, the income of one spouse (the ``secondary 
earner'') is ``stacked'' on top of the income of the other (the 
``primary earner'') for purposes of determining the marginal 
rate of tax applicable to the secondary income. The secondary 
income will then be perceived to have been taxed more heavily 
than will the income of the primary earner. While there is no 
obvious answer to which income is ``primary,'' the rational 
choice is to treat the spouse with the larger income as the 
primary earner.
    One way to address the disproportionate tax burden imposed 
on the second earner is to reduce the tax burden on the second 
income through a mechanism like an earned income deduction. 
From 1981 through 1986, a married couple filing a joint return 
was allowed to deduct 10% of the earned income of the lower 
earning spouse up to a maximum of $30,000. A similar provision, 
adjusted to meet revenue requirements, would reduce the tax 
burden on the income of the lesser earning spouse and could do 
so at moderate cost. This proposal is more beneficial to higher 
income married taxpayers because this is where the incentive 
effect of the stacking problem is likely to be the greatest.
    Another way to address the issue is through a tax credit. 
The Tax Section adopted a Legislative Recommendation in 1978, 
subsequently passed by the ABA House of Delegates, that would 
permit a credit for married individuals equal to the taxes paid 
on the earned income of the spouses in excess of the sum of the 
taxes each spouse would pay on the separate income of each if 
unmarried. The effect of the proposal is to assure that no 
married individual will pay a greater tax on earned income due 
to marital status.
    Adjusting rate breaks for higher income taxpayers. The 
marriage penalty was exacerbated by the 1993 tax changes, 
particularly at upper income levels where the rate breaks for 
the higher marginal rates for single individuals were placed at 
a higher percentage of the similar rate breaks for joint 
returns. This effect could be reduced by raising the rate 
breaks for the joint return rate schedule. For example, the 
rate breaks for the basic marginal rates (15, 28 and 31%) for 
singles are approximately 60% of those for joint returns; thus, 
the 28% marginal rate for 1997 for single returns begins at 
$59,750, which is 60% of $99,600, the 28% rate break for joint 
returns. On the other hand, the rate break for the 36% rate is 
$124,650 for singles, which is 82% of the comparable rate break 
for joint returns ($151,750); and the 10% surcharge begins at 
the same income level for both singles and joint returns. The 
effect is to produce a very large marriage penalty at the 
highest incomes. That marriage penalty could be reduced by 
reducing the income level at which singles begin to pay the 
higher marginal rates, by raising the income level at which 
joint filers begin to pay at the comparable marginal rate, or 
by some combination of the two. This simple measure would 
address the most striking examples of marriage penalties.
    In 1969, the Congress decided to calibrate the brackets for 
single taxpayers as 60% of the brackets for married taxpayers 
filing jointly. A reduction in this relationship, which could 
be accomplished by reducing the tax on married couples without 
increasing the tax currently imposed on unmarried individuals, 
would reduce the ``penalty'' on two earner couples who marry 
but would, in the long run, cause a redistribution of a portion 
of the income tax burden from married couples to single 
individuals. Although related to the ``marriage penalty'' 
issue, the relative tax burden of single and married 
individuals is a different issue, which ought to be considered 
on its own merits.
    The earned income tax credit. For taxpayers at the opposite 
end of the income scale, there are also marriage penalty 
effects. The most serious involves the earned income tax credit 
and results from the application of the earned income tax 
phase-out rule.
    When the phase-out amount for an individual taxpayer is 
more than half of the amount allowed for a married couple, 
married taxpayers will have a smaller exemption (the phaseout 
will begin earlier) than would be true for two individual 
unmarried taxpayers. More generally, however, a married 
taxpayer is required to aggregate his or her income with the 
income of a spouse in order to apply the phase-out rule. This 
is accomplished by requiring married couples to file a joint 
return in order to obtain the benefit. The earned income tax 
credit, for example, is phased out as the taxpayer's adjusted 
gross income (or earned income if greater) rises above a 
phaseout level ($11,930 for 1997).\10\ This level is the same 
whether the taxpayer files as an individual or jointly with his 
or her spouse, but she is required to file jointly if 
married.\11\
---------------------------------------------------------------------------
    \10\ IRC Sec. Sec. 32(a)(2)(B); -(b)(2).
    \11\ See IRC Sec. 32(d).
---------------------------------------------------------------------------
    In these cases, as with other means-tested welfare 
benefits, the apparent purpose is to limit a benefit based upon 
household resources, where marriage is used to define the 
household. The difficulty with the definition is that many 
households include individuals who are not married, and in some 
instances, households do not include both spouses. Because of 
the definition, however, and the relative importance of the 
EITC to taxpayers in that income level, there is a strong 
incentive not to marry. There may be sound programmatic reasons 
for aggregating household incomes, but an adjustment in phase-
out levels for two income producing taxpayers in the same 
household could significantly affect the impact of this 
provision on marriage decisions.
    Other phaseouts. Differential taxation of married couples 
results also from other provisions in the Internal Revenue Code 
which provide different levels of benefits depending on whether 
the taxpayers are married or single. Some of these effects are 
artifacts of the rate schedule, such as the amounts allowed as 
standard deductions.\12\ In 1998, after indexation, an 
unmarried taxpayer is allowed a standard deduction of $4,250, 
which is more than half the $7,100 amount allowed to married 
taxpayers filing a joint return. Taxpayers who marry are 
limited to a standard deduction which is $1,400 less than the 
amounts they could otherwise claim by not marrying and filing 
separately.
---------------------------------------------------------------------------
    \12\IRC Sec. 63(c).
---------------------------------------------------------------------------
    Phase out provisions for personal exemptions and itemized 
deductions. Personal exemptions are subject to a phase out 
beginning at specified adjusted gross income levels for which 
the ratio between single and married filers is 67%.\13\ 
Itemized deductions are subject to a limitation imposed after 
the specified adjusted gross income level for both joint 
returns and returns of an unmarried individual.\14\ These 
provisions are revenue raising devices at high income levels 
and thus contribute to the marriage penalty at the top end of 
the scale. Shifting the bracket levels to diminish the marriage 
penalty could be effective to reduce the marriage penalty 
effect of these phase-out provisions.
---------------------------------------------------------------------------
    \13\IRC Sec. 151(d)(3). The ``threshold amount'' is indexed. For 
l998, the threshold amount is $186,800 for joint returns and $124,500 
for single returns. Two individuals who marry will lose $62,200 of the 
otherwise available threshold, depending on the relative amounts of 
income earned by each.
    \14\IRC Sec. 68(b). The ``applicable amount'' is $124,500. Two 
taxpayers who marry will lose one full ``applicable amount.''
---------------------------------------------------------------------------

                               Conclusion

    Individual filing is the only way to eliminate the marriage 
penalty but it would require abandoning the fifty year old 
objective of tax neutrality among married couples. A case can 
be made in favor of that approach. However, it would entail 
significant compliance, filing and administrative costs. On 
balance, these costs appear to outweigh the potential benefits 
of individual filing.
    This statement has suggested other ways to reduce the 
increased tax burden imposed on two income families in the 
context of the present system. These alternative approaches 
seek to minimize the impact of changes on the distribution of 
the tax burden on all types of filers, a matter which will have 
to be considered more fully as the Committee debates this 
issue.
      

                                

[GRAPHIC] [TIFF OMITTED] T0897.164

[GRAPHIC] [TIFF OMITTED] T0897.165

[GRAPHIC] [TIFF OMITTED] T0897.166

[GRAPHIC] [TIFF OMITTED] T0897.167

      

                                


Statement of Bond Market Association

    The Bond Market Association is pleased to provide comments 
on the subject of alternative minimum tax (AMT) relief for 
individuals. The Association represents securities firms and 
banks that underwrite, trade, and sell municipal, corporate, 
government and federal agency bonds, mortgage- and asset-backed 
securities and money-market instruments in the U.S. and 
international markets. Our members account for over 95 percent 
of the nation's municipal bond market activity. As such, we 
take an active interest in tax provisions like the AMT that 
affect savings, investment and the cost of capital. We commend 
Chairman Archer for his leadership on AMT reform generally and 
for focusing the committee's attention on individual AMT relief 
in this hearing.
    The municipal bond market is dominated by individual 
investors, who hold bonds either directly or through mutual 
funds. As of September 30, 1997, individual investors held 
almost 64 percent of all outstanding municipal debt. They are 
the single most important source of demand in the municipal 
bond market. Most municipal bond interest earned by individual 
investors is exempt from the ordinary income tax. As a result, 
investors are willing to earn a lower rate of return on their 
municipal bond holdings, and state and local governments are 
able to benefit from a lower cost of borrowing. The lower pre-
tax return on municipal bond interest can be thought of as an 
implicit tax paid by investors not to the federal government 
but to state or local government bond issuers in the form of 
reduced borrowing costs. Unfortunately, not all municipal bond 
interest is entirely exempt from income taxation. Since 1986, 
the interest on so-called ``private-activity'' bonds has been 
subject to the individual AMT.
    Private-activity bonds include any debt issued by states or 
localities where more than 10 percent of the proceeds is used 
by a private business and more than 10 percent of the debt 
service is secured by a private business or where more than 
five percent of the proceeds are lent to a private party. In 
general, private-activity bonds may not be tax-exempt. This 
restriction exists in order to prevent private parties from 
unjustifiably benefiting from the federal tax exemption. 
However, when imposing the limitation on private use of the 
tax-exemption, Congress recognized that certain uses of 
private-activity bonds are important in implementing public 
policy goals. As a result, certain uses of private-activity 
bonds are eligible for the tax-exemption subject to numerous 
restrictions and limitations. Among these is a provision which 
fully subjects private-activity bond interest to the individual 
and corporate AMTs.\1\ The application of the individual AMT to 
private-activity bond interest has resulted in some peculiar 
market conditions which negatively affect the ability of states 
and localities to borrow at the lowest possible cost.
---------------------------------------------------------------------------
    \1\ In addition, 75 percent of non-private-activity bond interest 
is subject to the corporate AMT under the adjusted current earnings 
provision.
---------------------------------------------------------------------------
    With careful planning, taxpayers are able to predict with 
reasonable certainty whether in any given year they will be 
subject to the ordinary income tax or the AMT. The interest on 
most private-activity bonds is subject to the AMT but not to 
the ordinary income tax, and interest on other municipal bonds 
is exempt from both the ordinary income tax and the individual 
AMT. As a result, ``AMT bonds'' tend to yield 20-30 basis 
points (0.2-0.3 percentage point) higher than comparable bonds 
which are not subject to the AMT. This increased yield 
compensates AMT bond investors for the risk they face that 
their bonds may be taxable if, as a result of poor planning or 
an unforeseen change in circumstances, they unpredictably fall 
under the AMT.
    Municipal bond investors who anticipate that they will fall 
under the AMT simply buy bonds which are not subject to the 
AMT. Investors who believe they will pay the ordinary income 
tax are able to buy AMT bonds at yields higher than they can 
obtain by buying non-AMT bonds. Indeed, it is unlikely that the 
federal government collects much, or even any, tax revenue as a 
result of subjecting private-activity bond interest to the 
individual AMT. Virtually all interest on AMT bonds is likely 
paid to investors who fall under the ordinary income tax. 
Unfortunately, the losers in this scenario are state and local 
governments that issue AMT bonds, who face an unnecessarily 
high cost of borrowing as a result of the tax treatment of 
their interest. Clearly, the AMT was never designed with the 
goal of increasing borrowing costs for state and local 
governments.
    As you know, the staff of the Joint Committee on Taxation 
(JCT) concluded in a 1996 analysis that the number of 
individual AMT taxpayers will rise dramatically in the coming 
years because the ordinary income tax brackets are indexed for 
inflation, but the income thresholds for the AMT are not 
indexed. In 1996, the JCT staff predicted that the number of 
AMT payers would increase from 600,000 returns in 1997 to 6.2 
million returns in 2006.\2\ We agree with Chairman Archer, who 
has wisely recognized that the AMT was never designed to apply 
to a large number of taxpayers and that the AMT income 
thresholds should be indexed for inflation. If they are not, 
the negative effects on state and local borrowing that ensue 
from the application of the individual AMT to private-activity 
bond interest will be exacerbated. As more and more taxpayers 
find themselves under the AMT, the market for AMT bonds will 
shrink. The ``spread'' between AMT bonds and non-AMT bonds--the 
differential in interest rates that state and local issuers of 
AMT bonds must pay relative to other municipal bond issuers--
will widen. And, ironically, the federal government will 
continue to collect little or no revenue from applying the AMT 
to private-activity bond interest.
---------------------------------------------------------------------------
    \2\ Memorandum from Kenneth J. Kies, Joint Committee on Taxation, 
to John L. Buckley, House Committee on Ways and Means, regarding the 
``Dole Tax Proposal,'' September 13, 1996.
---------------------------------------------------------------------------
    In addition to indexing the AMT ``brackets,'' we also urge 
the committee to reconsider the wisdom of applying the AMT to 
private-activity bond interest. This provision of the tax code 
serves no useful purpose. Its only perceptible effect is 
unnecessarily inflated borrowing costs for state and local bond 
issuers.
    We appreciate the opportunity to present our views on the 
individual AMT and the municipal bond market. We look forward 
to continuing to work with committee members and staff on 
issues of mutual interest.
      

                                


Statement of Kevin M. Williams, Chief Executive Officer, Distribution & 
LTL Carriers Association, Alexandria, Virginia

    The Distribution & LTL Carriers Association submits this 
statement on the need to reform one of the most unfair 
provisions in the tax code, namely the estate and gift tax 
laws. These code provisions impose an unconscionable tax rate 
of up to 55 percent on an estate. They often cause severe 
hardships to family businesses by forcing the sale of assets to 
satisfy the taxes. The law penalizes lifelong savings and 
investments based on antiquated social welfare goals.
    The Federal government receives from these taxes about $15-
17 billion, less than 1 percent of its $1.7 trillion in annual 
revenue. The main beneficiaries of these laws are accountants, 
tax attorneys and charities who implement complex asset 
transfer arrangements to legally reduce or avoid these onerous 
taxes. These costly tax avoidance practices are employed 
because the tax is perceived as unfair. Unfortunately, the 
result is often that less sophisticated persons, who do not 
employ these strategies, face the full brunt of these taxes.
    While a strong case can be made for the repeal of the 
estate and gift tax laws, our Association recognizes that may 
not be politically feasible. We concur with Senate Majority 
Leader Trent Lott, who stated:


          ``The estate tax is a monster that must be exterminated. If 
        it were up to me, we would simply repeal the estate tax in its 
        entirety. Unfortunately, our budget process does not allow us 
        to completely repeal this tax all at once. We must do it in 
        stages.'' Cong. Rec. S. 2566 (March 19, 1997).

    Therefore, we recommend that, as this Committee addresses 
the issue of reducing the tax burden, it seriously consider--as 
a first step--making the estate and gift taxes simpler, more 
equitable, and consistent with our other tax rates. As will be 
discussed more fully, we recommend the following:
    1. There should be no tax when the taxable estate is $10 
million or less. Essentially, the unified credit, which now 
allows a husband and wife to transfer $1.2 million, should be 
raised to $10 million;
    2. This nontaxable estate of $10 million should be adjusted 
annually for inflation;
    3. The graduated top rate on taxable estates should be 
reduced from 55 percent to either 27.5 percent or preferably to 
20 percent, which is the capital gains rate. Ideally a fixed, 
but even lower, rate should apply to the taxable estate;
    4. The annual gift tax exclusion of $10,000 per year, per 
donee should be increased to $20,000; and
    5. The double taxation which results when a capital gains 
or income tax penalty is incurred because estate assets must be 
sold to pay these death taxes should be eliminated by some 
means.
    The Distribution & LTL Carriers Association represents 
trucking companies engaged in the warehousing, distribution and 
transportation of freight in small shipments. This so-called 
less-than-truckload segment of the industry generates 
approximately $18 billion in annual revenue from interstate 
transportation services. However, the overwhelming majority of 
these firms are private, family-owned businesses. They are 
entrepreneurs. Some involve several generations of families, 
whose goal, like for all Americans, is to pass on to their 
children the fruits of their labor. Estate tax reform is a top 
priority for these companies, since these laws can effectively 
bar or hinder their ability to transfer their business, which 
is often the largest asset in an estate.
    A 1995 Gallup survey found that one-third of the owners of 
family businesses expect that some or all the company will have 
to be sold to satisfy estate tax liabilities. The survey 
further found that 37 percent of the business inheritors had to 
shrink or reconstruct the enterprises solely to meet estate tax 
obligations. This is because of the lack of liquidity or cash 
to pay the estate tax. See, Cong. Rec. S. 2647 (March 20, 
1997).
    Last year, Congress merely tinkered with the estate tax 
laws in the Tax and Budget Agreement. Essentially, the general 
estate tax exemption of $600,000, which had remained static 
since 1987, will be increased incrementally over ten years to 
$1 million. As Senator Grassley stated in his remarks last 
year, the $600,000 exemption needed to be increased by over 
$200,000 just to remain current with inflation. Cong. Rec. S. 
2565 (March 19, 1997). This change is too little, too slow.
    Several bills have been introduced in Congress that would 
raise to $10 million the amount of an estate which would be 
exempt from taxes. (See, S.479 & S.482) There is no magic to 
the $10 million level. It is generally based on the belief that 
this level of lifelong savings is not inordinate wealth, which 
the government should tax again and redistribute through its 
spending programs. This Committee surely recognizes that the 
beneficiaries of most estates are the spouse and children of 
the decedent. It is a transfer of assets among family members. 
Since the estate taxes do not apply when a spouse is the 
beneficiary, the taxes are really punitive when the children 
are the beneficiaries. As Senator Grassley aptly said, ``The 
important thing to keep in mind about estate tax reform is that 
estates do not pay taxes, surviving families pay taxes.''
    It is ironic and sad when both the Administration and 
Congress are attempting to promote education, child care, 
medical coverage and savings and investments, they allow the 
estate tax laws to undermine those goals. These assets are 
often used by the family to provide for their children 
(estimated cost to be $200,000 until age 21); to pay for 
college (which can exceed $100,000 for four years at a private 
university); to provide money for a down payment on a home or 
pay off an existing mortgage; to cover catastrophic medical 
expenses; or to provide a supplement for retirement beyond what 
social security will pay. In sum, a lifetime of savings of $10 
millionnchmark for Congress to consider as a dividing line 
between taxable and nontaxable estates. This estate reform 
should not be limited to qualified family businesses, but 
should be available to all taxpayers.
    Moreover, to avoid the annual creep upward of taxation, 
there should be an indexation of the gross estate exemption for 
inflation. The existing exemption level of $600,000 per 
individual, established in 1987, lost over 25 percent of its 
value to inflation in 1997 dollars. An erosion of the new 
exemption level should be avoided through an annual inflation 
adjustment.
    In a similar manner, the annual exclusion, which permits 
gifts of $10,000 per year, per donee that are not subject to 
the unified credit, should be increased and preferably doubled. 
The value of this gifting allowance has similarly been eroded 
by inflation.
    The tax rate for taxable estates should also be 
substantially reduced. One has to go back to the old 70 percent 
tax rate, imposed on so-called unearned interest income, to 
think of a more confiscatory rate than the 55 percent estate 
tax rate. Moreover, the total death tax burden can exceed 73 
percent, according to Senator Susan Collins, when assets have 
to be sold to pay estate taxes and capital gains are realized 
from the sale. Cong. Rec. S. 2647 (March 20, 1997). This is 
unconscionable!
    The estate tax rate should be reduced and brought in line 
with the much lower personal or capital gains tax rates. Senate 
bill, S. 482, would reduce it by half, to 27.5 percent. This is 
about the mid point range between the highest personal income 
tax rate of 39.6 percent and the capital gains rate of 20 
percent. We believe the property in an estate should be treated 
like other real or personal property and taxed at the lower 
capital gains rate of 20 percent.
    Finally, Congress should devise a method to avoid the 
double taxation that occurs when assets must be sold to satisfy 
the estate tax requirements. One means would be to provide that 
assets receive a stepped-up basis to fair market value when 
they are devised or bequeathed by will, other legal 
instruments, or by statutory law upon the death of the maker. 
Conditions could be placed on this to limit the stepped-up 
basis to family members or to that portion used to pay estate 
taxes. There may be superior means to achieve this objective of 
avoiding dual taxation.
    We have not attempted to quantify the revenue loss to the 
Federal government if our recommendations were adopted. The 
loss would certainly be less than the full amount of $15-$17 
billion now collected annually. Moreover, the net revenue loss 
(revenue minus expenses savings) would be considerably less. 
According to Senator Breaux, the Federal government incurs 65 
cents in expenses for every dollars it receives under the 
estate tax laws. Cong. Rec. S. 2566 (March 19, 1997). 
Therefore, the net revenue loss under these reforms might be 
$3-$5 billion annually. This is an extremely nominal cost to 
the government, yet will provide significant benefits to many 
taxpayers. It could be readily paid for with only a fraction of 
the now projected $18 billion federal budget surplus.
    The Distribution & LTL Carriers Association appreciates this 
Committee's consideration of our views. Reform of the gift and estate 
tax laws is an area where, with relatively modest impact on Federal 
revenue, Congress can help many families and small businesses continue 
to provide for their children and grandchildren through the 
preservation of the business and personal assets that they created 
through hard work, savings and investments.

            Respectfully submitted,
                                          Kevin M. Williams
                                            Chief Executive Officer
      

                                


Statement of Institute for Research on the Economics of Taxation (IRET)

PHASE-OUTS ARE BAD TAX POLICY, Economic Policy Bulletin No. 71, by 
Michael Schuyler

    The tax code is littered with rules that phase out various 
deductions, exemptions, and credits as taxpayers' incomes rise. 
Some of the items that taxpayers lose with higher incomes are 
the deductibility of individual retirement account (IRA) 
contributions, the earned income tax credit (EITC), the 
exclusion of social security benefits from taxable income, a 
portion of itemized deductions, even the personal exemption. 
The Taxpayer Relief Act of 1997 (TRA-97) adds significant new 
phase-outs. Its two largest provisions, the child credit and 
tax subsidies for college students, are both conditioned by 
phase-outs.
    Phase-outs create troubling problems in the areas of 
economic efficiency, simplicity, and fairness. Phase-outs raise 
marginal tax rates throughout the phase-out zone and, thereby, 
reduce incentives to work, save, and invest. Phase-outs make 
the tax code more complicated, which raises tax enforcement and 
compliance costs, both by making the tax code harder to 
understand and by making tax liabilities harder to compute. The 
instruction book that accompanies an individual's yearly tax 
forms includes an obstacle course of special instructions and 
worksheets testing whether various phase-outs affect the 
taxpayer and, if so, how much each relevant phase-out restricts 
the deductions, exemptions, or credits the taxpayer may claim. 
Further, although phase-outs are often called fair because they 
tend to increase tax progressivity, the arbitrariness and 
surreptitiousness of most phase-outs violates any reasonable 
standard of fairness.

                         A Flock of Phase-outs

    Prior to this year's legislation, the individual income tax 
eliminated or restricted the following deductions, exemptions, 
and credits when taxpayers' incomes grew: the tax exemption for 
social security benefits, the EITC, the deduction for IRA 
contributions, the personal exemption, the medical deduction, 
the miscellaneous business deduction, the total of itemized 
deductions, the deduction for losses on rental real estate, the 
dependent care credit, the adoption credit, the exclusion for 
interest income from U.S. Savings Bonds used for higher 
education expenses, and the alternative minimum tax exempt 
amount.\1\ In addition, some tax provisions impose tougher than 
normal requirements on taxpayers above various income 
thresholds. An example is the increased amount of estimated tax 
a person must pay to avoid underpayment penalties if the 
person's adjusted gross income exceeds $100,000.\2\
---------------------------------------------------------------------------
    \1\ The limitations on the deductions for medical costs and 
miscellaneous business expenses are properly classified as phase-outs 
because, as a taxpayer's income rises, the taxpayer is required to 
disregard for tax purposes increasing amounts of expenses in those 
areas.
    \2\ Compared to prior law, TRA-97 eases the differential in most 
later years, and it suspends the differential for one year (tax year 
1998). The differential in the stringency of the safe harbor amount of 
estimated payments between taxpayers with AGIs above and below $100,000 
is particularly inappropriate because higher-income taxpayers often 
have difficult-to-predict incomes that make it very hard for them to 
estimate their end-of-year tax liabilities accurately.
---------------------------------------------------------------------------
    To this already long list, TRA-97 has added a welter of 
complicated new phase-outs. The benefits created in TRA-97 that 
taxpayers lose as their incomes rise are: the $500 child 
credit, the HOPE Scholarship tax credit, the lifetime learning 
tax credit, the education IRA, the Roth IRA, the deduction for 
certain interest on student loans, and the $5,000 tax credit 
for first-time home buyers in the District of Columbia. TRA-97 
did not remove any of the existing phase-outs. But in a few 
cases (e.g., deductible IRA contributions), it raised the 
income threshold at which a phase-out begins or otherwise eased 
a phase-out.
    Other federal taxes also have phase-out provisions. The 
corporate income tax, for instance, imposes two surtaxes to 
phase out the tax savings from the graduated corporate rate 
schedule. The first surtax is 5% of every dollar of taxable 
corporate income above $100,000 and below $335,000 and raises 
the 34% statutory tax rate in that corporate income range to an 
effective marginal tax rate of 39%; the second surtax is 3% of 
each dollar of taxable income between $10,000,000 and 
$18,333,333 and boosts the 35% statutory tax rate to an 
effective marginal tax rate of 38%. Corporations with incomes 
above $18,333,333 pay an effective flat tax rate of 35% on 
total taxable income. The estate and gift tax phases out the 
benefits of the unified credit and the graduated estate and 
gift tax schedule with a 5% surtax. Although the top statutory 
estate and gift tax rate is 55%, the surtax lifts the marginal 
tax rate in the phase-out zone to 60%. The individual 
alternative minimum tax (AMT) also has a phase-out. A certain 
amount of income may normally be disregarded when computing the 
AMT, but, as income increases, that exempt amount must be added 
back to the tax base. (The individual AMT is, in effect, a 
parallel individual income tax: people must pay either the 
standard income tax or the individual AMT--whichever is 
larger.)
    Appendix I identifies the phase-out provisions in the 
standard individual income tax. For each of these phase-outs, 
it reports the income threshold at which the phase-out begins, 
the income range over which the phase-out continues, and the 
maximum number of percentage points by which the phase-out may 
boost the marginal tax rate of people within its phase-out 
zone. Appendix II covers the major phase-outs mentioned above 
in the corporate income tax, the estate and gift tax, and the 
individual AMT.
    Chart 1 shows the income ranges over which most of the 
individual income tax phase-outs occur. The tax code generally 
designates phase-outs in terms of adjusted gross income 
(AGI).\3\ For example, the new HOPE Scholarship tax credit is 
phased out over the $10,000 AGI range from $40,000 to $50,000 
for single filers and over the $20,000 AGI range from $80,000 
to $100,000 for joint filers. The complexities of the Chart 
drive home the large number and haphazard variety of income-
based phase-outs.
---------------------------------------------------------------------------
    \3\ In contrast, the schedule of progressive tax brackets is based 
on taxable income. AGI differs from taxable income because AGI is 
measured before subtracting personal exemptions and most deductions. 
For example, if a couple with an AGI of $50,000 in 1997 has two 
dependent children, claims the standard deduction, and files jointly, 
the couple's taxable income would be $32,500--$17,500 less than the 
couple's AGI. Because a given AGI corresponds to a taxable income that 
is thousands of dollars lower (with the exact difference depending on 
filing status, number of exemptions, and deductions claimed), phase-out 
ranges would begin at much lower stated dollar amounts if they were 
expressed in terms of taxable income instead of AGI.
---------------------------------------------------------------------------
    The relative heights of the lines are roughly based on the 
potential of the various phase-outs to raise marginal tax 
rates. For example, the partial phase-out of the dependent care 
credit for 1 child increases the marginal tax rate by 1.33 
percentage points, on average, for taxpayers with AGIs between 
$10,000 and $28,000 who would otherwise qualify for the maximum 
credit.\4\ The partial phase-out of the dependent care credit 
for 2 or more children increases the marginal tax rate by 2.67 
percentage points, on average, for taxpayers with AGIs between 
$10,000 and $28,000 who would otherwise qualify for the maximum 
credit. The phase-out of the tax credit for first-time District 
of Columbia homebuyers would affect few taxpayers, but for 
those taxpayers who would qualify except for being in the 
phase-out range, the effective increase in their marginal tax 
rates would be a whopping 25 percentage points.
---------------------------------------------------------------------------
    \4\ The partial phase-out of the dependent care credit actually 
occurs in a series of steps, each covering $2,000 of AGI. Rather than 
trying to report that complicated pattern, in which AGI changes within 
a step do not affect the amount phased out but small AGI changes from 
one step to the next have a very big impact, it is assumed throughout 
this study that phase-outs proceed smoothly over the phase-out range. 
Also, if the taxpayer could not claim the maximum credit for reasons 
unrelated to the phase-out (e.g., dependent care expenses below that 
permitted by the credit, lack of taxable income), either the phase-out 
would not cause as much of a jump in the marginal tax rate or the 
phase-out range would be shorter.
---------------------------------------------------------------------------
    Adding more complexity, many phase-outs use modified 
definitions of AGI, and the modifications often differ from one 
phase-out to another. For instance, the phase-out of the 
social-security-benefit exemption adds to modified AGI half of 
social security benefits and all tax exempt interest, and the 
phase-out of deductible IRA contributions modifies AGI by 
including IRA contributions and certain foreign earned income 
and foreign housing allowances normally excluded from AGI.\5\ 
Because of these differences in the definition of modified AGI, 
taxpayers need to follow very carefully the specific 
instructions for the particular phase-out in question.
---------------------------------------------------------------------------
    \5\ Because the definition of modified AGI differs among the phase-
out provisions, the horizontal positions of the lines in the Chart are 
not always strictly comparable.
[GRAPHIC] [TIFF OMITTED] T0897.172

                Money for the Treasury and Progressivity

    Phase-outs have two properties that lawmakers have found 
very appealing: they increase the government's tax revenues and 
they heighten tax progressivity. Acting Assistant Treasury 
Secretary Donald Lubick referred to both these features when he 
defended in Congressional testimony the Clinton 
Administration's wish that the child credit be ``targeted,'' 
that is, phased out with rising income. ``A targeted child 
credit is an efficient way to address the increase in relative 
tax burdens faced by larger families...The relief is directed 
to low- and middle-income taxpayers because of the limited 
resources available for tax reduction and higher-income 
taxpayers' relatively greater ability to pay current levels of 
income taxes.'' \6\ Earlier in his testimony, Mr. Lubick had 
associated phase-outs with fiscal responsibility. ``Given the 
need for fiscal discipline, one of our principles throughout 
President Clinton's tenure has been that tax relief should be 
concentrated on middle-income taxpayers.''
---------------------------------------------------------------------------
    \6\ Statement of Donald C. Lubick, Acting Assistant Secretary (Tax 
Policy), Department of Treasury, Testimony before the House Ways and 
Means Committee, March 5, 1997.
---------------------------------------------------------------------------
    Although phase-outs limit the revenue cost to the 
government of the deductions, exemptions, and credits being 
phased out, whether that is desirable or undesirable depends on 
circumstances. Taking more tax dollars from wage earners, 
savers, and entrepreneurs is not necessarily a good thing. If 
the tax revenues are used to finance wasteful or otherwise 
inappropriate government spending programs, it would be better 
to cut the spending and not collect the revenues. If the 
spending represents the best use of the resources it consumes, 
on the other hand, it is reasonable to seek revenues. Still, 
that does not justify a particular phase-out rule unless the 
phase-out has fewer undesirable side effects regarding economic 
efficiency, simplicity, and equity than any alternative means 
of increasing tax collections.
    Standard estimation models, furthermore, usually exaggerate 
the revenue savings. The problem is that the increased marginal 
tax rates produced by phase-outs worsen anti-growth tax biases, 
and those biases slow the economy. When the economy slows, tax 
collections suffer. Standard revenue estimation models, though, 
are static in the sense that they ignore those antigrowth 
effects. Hence, a phase-out that weakens the economy tends to 
save less revenue for the Treasury than advertised.
    Similarly, unless one believes that the tax system is never 
progressive enough and should always be more progressive 
(logically culminating in complete, government-enforced 
equality of incomes despite differences in people's 
industriousness, skills, and saving behavior), greater 
progressivity through the tax system is not necessarily a good 
thing. Too often, proposals are made for increasing the tax 
system's progressivity without inquiring whether it is 
sufficiently progressive already or, perhaps, overly 
progressive, given the problems created when the government 
takes income from those who earned it and gives it to other 
people. Moreover, if greater progressivity is sought, a 
particular phase-out is the proper way to do it only if that 
phase-out causes fewer problems than any other means of 
redistributing the income.

               How Phase-outs Increase Marginal Tax Rates

    Over the income range in which a deduction, exemption, or 
credit is being phased out, additional income adds to a 
person's tax bill in two ways. First, the extra income is 
subject to regular income tax. Second, the extra income reduces 
the amount of the deduction, exemption, or credit that is being 
phased out. A lower deduction or exemption raises taxable 
income further, and further increases the tax. A lower credit 
reduces the amount subtracted from tax, and again the person's 
tax bill is higher than otherwise. In either case, the higher 
tax is, in effect, a penalty on the extra income that triggered 
the phase-out.
    For instance, suppose that a person is in the 28% tax 
bracket. Also suppose that the person had been claiming a 
credit that is being phased out at a rate of 15 cents for each 
$1 of added income. First, then, an extra $1 of income 
increases the person's pre-credit tax liability by 28 cents. At 
this point, the person's marginal tax rate is 28%. Second, 
though, the extra $1 of income increases the person's tax 
liability by another 15 cents because it reduces by that amount 
the credit the person can subtract from his or her tax bill. 
Thus, the additional tax triggered by an extra $1 of income is 
43 cents (28 cents plus 15 cents). In this case, the person's 
effective marginal tax rate is 43%, of which the phase-out is 
responsible for 15 percentage points. The hike in the marginal 
tax rate due to the phase-out extends over the income range in 
which the deduction, exemption, or credit is being phased out. 
At incomes above and below the phase-out range, the phase-out 
does not affect the marginal tax rate.
    As a concrete example, consider the phase-out of the HOPE 
Scholarship tax credit. Suppose that a single parent has one 
dependent child entering college, and suppose that tuition 
costs are sufficient for the parent to claim the maximum $1,500 
HOPE Scholarship tax credit in 1998 (ignoring for a moment the 
income limitation attached to the new credit). The HOPE 
Scholarship tax credit is phased out ratably over the $10,000 
modified AGI range from $40,000 to $50,000. This taxpayer loses 
15 cents of credit per dollar of income in the phase-out 
range.\7\ Accordingly, if the parent's modified AGI is between 
$40,000 to $50,000, each extra $1 of income will increase the 
parent's tax bill in two ways. First, the regular tax on the 
extra $1 of income will raise the parent's tax liability by 
either 15 or 28 cents, depending on the parent's tax 
bracket.\8\ Second, the extra $1 will reduce the HOPE 
Scholarship tax credit by 15 cents, which raises the parent's 
tax bill by 15 cents. Thus, in the phase-out zone for this 
credit, the single parent's effective marginal tax rate on each 
additional $1 of income will be either 30% (if the parent is in 
the 15% tax bracket) or 43% (if the parent is in the 28% tax 
bracket). Note further that modified AGI includes income from 
saving as well as wages. Thus, parents who save for their 
children's education are penalized with a reduction in the tax 
credit designed to encourage education.\9\
---------------------------------------------------------------------------
    \7\ If the pre-phase-out credit were smaller, the loss per dollar 
of income in the phase-out range would also be smaller. For example, if 
tuition costs were sufficiently low that the taxpayer's maximum credit 
was only $1,000, the taxpayer would only lose 10 cents of credit per 
dollar of income in the phase-out range.
    \8\ Tax brackets depend on taxable income, not AGI. At the start of 
the phase-out, the taxpayer in the example will probably have a taxable 
income within the 15% rate bracket. At about the mid-point of the 
phase-out range, the taxpayer's taxable income will most likely cross 
over into the 28% rate bracket.
    \9\ Some parents may be able to avoid this penalty on saving for a 
child's education by putting some of the saving in the child's name. 
That way, returns on that portion of the saving would not restrict the 
parents' eligibility to claim the credit. (This assumes it is the 
parents who claim the credit and that they pay enough of the education 
costs to do so.) Giving the saving to the child would mean that yearly 
tax returns might have to be filed for the child on interest income. 
Also, until the child reaches age 14, interest income might be taxed at 
the parent's marginal rate because of the ``kiddie tax'' introduced as 
part of the 1986 tax act.
---------------------------------------------------------------------------
    As another example, this one involving a deduction, 
consider the 2% AGI threshold for the miscellaneous business 
expense deduction. The tax code allows individuals to claim 
miscellaneous business expenses only to the extent that they 
exceed 2% of AGI. Suppose that a taxpayer itemizes, has 
miscellaneous business expenses of $1,500, and an AGI of 
$60,000. Because 2% of that AGI is $1,200, the person can only 
claim miscellaneous business expenses of $300 ($1,500 of valid 
deductions--$1,200 income-based disallowance). For this 
taxpayer, an extra $1 of AGI would lower his or her 
miscellaneous business expense deduction by 2 cents and raise 
his or her taxable income by an additional 2 cents, for a total 
of $1.02. If the taxpayer is in the 28% rate bracket, this 
increases his or her tax liability by 28.56 cents (28% of 
$1.02). The taxpayer's effective marginal tax rate on the added 
$1 of income is 28.56%, of which the phase-out contributes 0.56 
percentage points.\10\
---------------------------------------------------------------------------
    \10\ The size of the marginal tax rate increase depends on the 
individual's tax bracket. For a person in the 15% tax bracket who 
claims the miscellaneous business expense deduction, the boost in the 
marginal tax rate due to the phase-out of this deduction would be 0.3 
percentage points; for the person in the example in the 28% tax 
bracket, it was 0.56 percentage points; for a person in the 31% tax 
bracket, it would be 0.62 percentage points; for a person in the 36% 
tax bracket, it would be 0.72 percentage points; and for a person in 
the 39.6% tax bracket, it would be 0.792 percentage points.
---------------------------------------------------------------------------

                   Phase-outs Worsen Tax Distortions

    As explained above, when taxpayers lose deductions, 
exemptions, or credits because their incomes are increasing, 
the losses produce a spike in the taxpayers' marginal tax rates 
throughout the range of income over which the phase-out occurs. 
The tax rate spike hurts the economy because it aggravates tax 
biases against work, saving, and a variety of specific products 
and activities that the tax code treats more harshly than 
others. By compounding tax biases, phase-outs urge people to 
work less, save less, and be less productive.
    Consider, for instance, a single individual of age 62 or 
over who takes the standard deduction, has yearly social 
security benefits of $12,000, and receives private pension, 
interest, and dividend income of $30,000. This taxpayer would 
normally be in the 28% tax bracket. Due to the income-based 
phase-out of the exemption for social security benefits, each 
additional dollar of income requires the individual to add 85 
cents of social security benefits to taxable income, for a 
combined increase in taxable income of $1.85. At the margin, 
therefore, each extra dollar of income from private saving 
raises the person's tax bill by 51.8 cents: 28 cents due to 
regular tax and 23.8 cents due to the phase-out of the 
exclusion for social security benefits. Note that the tax is 
effectively imposed on the income from saving that triggered 
the tax hike, not on the social security benefit itself. This 
very high tax bite is a powerful inducement for the person to 
save less and consume more. As a result, some people receiving 
social security and some younger people planning ahead for 
their retirement years will decide to save less than they 
otherwise would because of the tax penalty. The tax-induced 
drop in saving leaves those people less financially secure and, 
because saving and investment are major contributors to 
productivity, leaves society as a whole less productive.
    Wage and salary income of people who continue working after 
they begin receiving social security benefits can also trigger 
taxation of benefits (as well as being subject to payroll 
taxes). For those who fall in the phase-out zone for the 
exclusion of benefits from income, the penalty against work 
effort is at least as bad as against saving. If working 
beneficiaries also run afoul of the social security earnings 
test, the tax penalty will be even harsher, exceeding 100% of 
added wage income in some cases.\11\
---------------------------------------------------------------------------
    \11\ Social security beneficiaries may earn limited amounts of 
wages without losing social security benefits. However, for each dollar 
of wages above the exempt amount, beneficiaries age 62-64 lose $1 of 
benefits for every $2 in wages (a 50% tax rate); beneficiaries age 65-
69 lose $1 of benefits for every $3 in wages (a 33.33% tax rate). The 
loss of benefits reduces the amount of benefits subject to tax, 
resulting in a bit less of a tax spike than would be indicated by 
simply adding up all the income, payroll, and penalty tax rates, but 
effective marginal tax rates of 85% plus for people age 65-69 or 100% 
plus for people age 62-64 are routinely possible.
---------------------------------------------------------------------------

                               Complexity

    Phase-outs worsen the complexity of the tax system. When a 
deduction, credit, or exemption is phased out, taxpayers have 
two additional administrative burdens. They must start by very 
carefully reading the tax instructions to learn if the phase-
out might apply to them. Then, if the phase-out could affect 
them, they must work through the actual phase-out computations.
    The phase-out computations are generally not difficult, but 
they are tedious and come, of course, on top of all other tax 
calculations. In the Form 1040 Instructions for 1996, for 
instance, the worksheet for calculating the phase-out of the 
social security benefit exemption required 18 lines, the 
worksheet for the personal exemption's phase-out had 9 lines, 
and the worksheet for the phase-out of the IRA deduction took 
10 lines (19 lines if there was a contribution to a nonworking 
spouse's IRA). Many other phase-outs did not have separate 
worksheets, leaving taxpayers to slog through the steps on 
their own.
    IRAs illustrate the complexity attributable to phase-outs. 
From 1981 to 1986, IRAs did not have a phase-out, and each 
worker could make yearly deductible contributions of up to 
$2,000, subject to a few qualifications. Contributing was a 
simple matter, and IRAs became hugely popular. The 1986 tax act 
suddenly changed that. The IRA deduction was reduced or 
eliminated if a taxpayer's modified AGI exceeded $25,000 
($40,000 for a couple filing jointly) and if the worker or the 
worker's spouse was an active participant in an employer-
sponsored pension plan.\12\ With this restriction, many workers 
found themselves barred from making deductible IRA 
contributions, and many others had to perform detailed 
computations to ascertain if they could still contribute and, 
if so, how much.\13\ No longer was making a deductible IRA 
contribution a simple matter. Not surprisingly, IRA 
contributions plummeted. Although this was mostly because so 
many workers were now ineligible, the fact that people who 
remained fully eligible also reduced their contributions 
suggests that some workers found the new rules sufficiently 
confusing and intimidating that they avoided IRAs for that 
reason alone.
---------------------------------------------------------------------------
    \12\ This year's tax bill raises the threshold, introduces a new 
type of nondeductible IRA (with its own phase-out), and makes other 
changes.
    \13\ Workers barred in some years from making deductible IRA 
contributions may make nondeductible contributions, but that entails 
still more paperwork, including an additional tax form to be filed and 
a greatly complicated tax situation in the future as they make 
withdrawals from the IRA. Withdrawals must be attributed proportionally 
to deductible contributions and non-deductible contributions; the 
former are taxable upon withdrawal, the latter are not.
---------------------------------------------------------------------------
    The phase-outs are probably somewhat more confusing than 
otherwise because there are so many different phase-out 
thresholds, as can be seen in Chart 1. One suggestion that has 
been floated for easing the compliance burden is to establish 
just a few phase-out thresholds, perhaps a low-income one, a 
middle-income one, and a high-income one. Unfortunately, while 
this suggestion is not without merit, coordinating phase-out 
thresholds would reduce complexity only slightly; the bulk of 
the problem would remain. A taxpayer would still have to 
investigate the rules governing each phase-out that might apply 
to him or her--the income level at which the phase-out begins 
is one of the rules but there are many others--and then perform 
all the calculations for that specific phase-out. Even worse, 
the bunching of phase-outs would increase the odds that 
taxpayers would be subject to more than one phase-out at the 
same time. Multiple phase-outs occurring over the same income 
range could create an extremely sharp spike in a taxpayer's 
marginal tax rate and a quantum leap up in complexity of 
calculations.

                                Fairness

    Tax-policy debates about fairness often center on the 
relationship between people's tax liabilities and their 
incomes. What fairness really means in this context, however, 
has proven extraordinarily subjective and controversial. Some 
contend that people's tax bills should increase more rapidly 
than their incomes. This relationship, which is known as tax 
progressivity, demands, for instance, that if a person's income 
doubles, the amount of taxes the person pays to the government 
more than doubles. If one believes in progressivity, an 
essential follow-up question--but one that advocates of 
progressivity rarely address--is how much progressivity is 
enough. Should taxes rise slightly more rapidly than income? 
Should taxes rise much more rapidly?
    A competing standard of fairness is that people's tax bills 
should rise at the same rate as their incomes. With what is 
known as a proportional tax, if a person's income doubles, the 
person's tax bill also doubles. A good case can be made for a 
proportional system. For the most part, a person's income 
represents payments for labor and capital services offered to 
the market, and the person's income is proportional to the 
person's efforts and contributions to economic output. It is 
only fair that a person making twice the effort and generating 
twice the output should receive, after tax, twice the 
compensation, which implies a proportional tax system.
    The income tax system is already progressive because of its 
exempt amounts and ascending schedule of marginal tax rates in 
the various income brackets. If one believes that the current 
rate structure does not provide enough progressivity, the most 
direct and visible way to increase progressivity would be to 
steepen the rate schedule or to increase the standard deduction 
and/or personal exemption. Either method would be a clearer, 
simpler way to increase progressivity than phase-outs.
    On the other hand, suppose one believes in progressivity 
but thinks that the income tax is already progressive enough. 
In that event, the use of phase-outs to inject additional 
progressivity would be unfair. And if one believes that 
people's tax liabilities should be proportional, rising in step 
with their incomes, phase-outs would certainly have to be 
judged unfair.
    Although discussions of fairness in the context of tax 
policy often mention only the relationship between tax 
liabilities and income, another very important criterion of 
equity, surely, is according people equal treatment under the 
law. Specifically, if a particular deduction, exemption, or 
credit based on the nature of an expense is available to 
taxpayers in general, it is unfair to take it away from a 
particular group of taxpayers because of a characteristic 
unrelated to the rationale for the deduction, exemption, or 
credit. The child care credit and miscellaneous business 
expense deduction provide good examples. These costs of earning 
income are as real for high income earners as for low income 
earners. The true measure of income--revenue less the cost of 
earning the revenue--suggests that everyone should be allowed a 
full deduction for such expenses.
    Some policymakers defend the phase-out of the child credit 
and other phase-outs by insisting that tax policy ought to 
favor the poor and middle class. For example, early in 1997, 
President Clinton said, ``Over the last four years, we have 
provided tax relief to millions of working Americans and to 
small businesses. But I want to go further by helping middle-
income Americans raise their children, send them to college, 
and save for the future.'' \14\ At one level this message is 
plausible: middle-income Americans may be overtaxed relative to 
the services they receive from the government.\15\ But hidden 
in the President's message is the very disturbing idea that tax 
rules should be based on what groups a policymaker wants to 
help or hurt, not on what rules would produce a less 
distortionary and less complicated tax system. For example, the 
phase-out of the child and education credits are a form of tax 
discrimination against the upper middle class and wealthy.
---------------------------------------------------------------------------
    \14\ Budget Message Of The President in Office Of Management And 
Budget, The Budget Of The U.S. Government, Fiscal Year 1998 
(Washington, DC: Government Printing Office, 1997), p. 6. Although the 
President claimed that his tax proposals were targeted towards the 
middle class (he even labelled the main provisions a ``Middle Class 
Bill of Rights''), the actual proposals defined the middle class as 
ending at such low income levels that millions of households who regard 
themselves as solidly middle class would be excluded. The 
Administration, for example, recommended that the child credit begin 
phasing out at a modified AGI of $60,000. By any objective measure, 
that is hardly upper income. A two-earner couple would bump into that 
phase-out if each has gross wages of just $30,000.
    \15\ If some government services are not worth the money, the 
appropriate response is both to cut taxes and to rein in government 
spending.
---------------------------------------------------------------------------
    At the other end of the income scale are credits aimed at 
discriminating in favor of the poor. One of the largest credits 
subject to a phase-out is the EITC, a program of government aid 
to the working poor. The EITC is, in essence, a welfare 
program, but it differs from most welfare programs because it 
has the commendable feature of pegging aid to work, at least up 
to a certain level of income. Because one expects low-income 
assistance to be reserved for the poor or near poor, means 
testing of the EITC does not violate most people's personal 
standard of fairness. The EITC phase-out is still troubling on 
other fronts, though. It increases the EITC's complexity, and, 
even more damaging, it creates a powerful disincentive against 
additional work effort within the phase-out range.
    Consider a single filer with 2 eligible children, wages in 
1998 of $20,000, and no other income. This worker would qualify 
for the EITC but be in the middle of its phase-out zone. The 
phase-out rate for an individual with two or more children is 
21.06%. Thus, an additional dollar of wages would increase the 
worker's income tax by 15 cents (the person is probably in the 
15% tax bracket) and reduce the credit the person can subtract 
from tax by approximately 21 cents. As a result, the worker 
would owe 36 cents more income tax on the extra dollar of 
income. In other words, the EITC phase-out pushes this low-
income worker's marginal income tax rate from 15% to 36%. This 
is a powerful work disincentive. If the same worker has only 
one child, the EITC and its phase-out rate are both smaller. 
The phase-out rate is approximately 16%. In combination with 
the regular income tax, it produces an effective marginal 
income tax rate of about 31%. (To find the total marginal tax 
rate, one must add the payroll tax. The employee share of the 
payroll tax increases the worker's marginal tax rate by another 
7.65%. In addition, it is generally accepted that the employer 
share of the payroll tax is passed on to workers, as well.) It 
is true that the EITC provides a powerful work incentive while 
it is being phased in (earnings from $0 to $12,260 in 1998), 
but more workers are in the phase-out range than the phase-in 
range.\16\ On balance, then, the EITC, which is often thought 
of as a spur to work effort by the working poor, may actually 
discourage more work than it stimulates.
---------------------------------------------------------------------------
    \16\ Based on author's calculations using IRS data for tax year 
1994 published in Therese M. Cruciano, ``Individual Income Tax Returns, 
Preliminary Data, 1994,'' SOI Bulletin, Spring 1996, p. 25.
---------------------------------------------------------------------------
    Another fairness-based criticism of phase-outs is that 
although they can produce big tax increases, the rules and 
arithmetic are so complicated that taxpayers are often unsure 
of or confused about how much extra they are paying. People may 
legitimately object to such hidden taxes in much the same 
manner that they dislike having hidden charges tacked onto 
other bills they receive. If a private merchant adds hidden 
charges to bills, customers at least have the option of going 
to other merchants who practice more open billing. Indeed, the 
hidden charges may even be illegal! With tax bills from the 
government, unfortunately, people do not have that choice. A 
rising schedule of rate brackets is a much more visible method 
of taxing away an increasing share of people's incomes as their 
incomes grow than are phase-outs.

                               Conclusion

    Phase-outs raise marginal tax rates and wreak havoc on 
economic incentives over the affected ranges of income. 
Although phase-outs can be extremely attractive politically 
because they are partially hidden and can be (mis-)touted as 
``fair,'' they are very bad tax policy--distortionary, 
complicated, and unfair. Instead of adding more phase-outs to 
the tax system, the President and the Congress should be 
rescinding those already on the books. Ideally, all phase-outs 
should be swept aside in a fundamental overhaul of the tax 
system.
    Phase-outs violate several key principles to which a tax 
system should adhere. They needlessly damage economic 
incentives: taxpayers who are in the process of losing 
deductions, exemptions, or credits because of rising income 
experience higher marginal tax rates than otherwise, thereby 
sharpening harmful tax biases against work and saving. Phase-
outs are complicated, which confuses taxpayers and adds to 
their paperwork costs. Further, although phase-outs are often 
defended vigorously because they steepen tax progressivity, the 
increased progressivity is actually unfair if the income tax is 
already sufficiently progressive or too progressive. Regardless 
of debates about progressivity, the arbitrariness and hidden 
nature of phase-outs are contrary to tax fairness. Further, 
phase-outs violate the concept of affording all citizens equal 
treatment before the law.
    In light of these problems, policymakers should reexamine the 
phase-outs now in the tax code. Most should be eliminated. New phase-
outs should not be introduced. The inefficiencies and confusion 
introduced into the tax system by phase-outs are further evidence that 
fundamental overhaul and simplification of the tax system is sorely 
needed. When politicians are seeking to save money for the U.S. 
Treasury, phase-outs should be one of the last places they look, not 
one of the first.

                                           Michael Schuyler
                                                   Senior Economist
[GRAPHIC] [TIFF OMITTED] T0897.181

[GRAPHIC] [TIFF OMITTED] T0897.182

[GRAPHIC] [TIFF OMITTED] T0897.183

[GRAPHIC] [TIFF OMITTED] T0897.184

[GRAPHIC] [TIFF OMITTED] T0897.185

[GRAPHIC] [TIFF OMITTED] T0897.186

[GRAPHIC] [TIFF OMITTED] T0897.187

[GRAPHIC] [TIFF OMITTED] T0897.188

[GRAPHIC] [TIFF OMITTED] T0897.189

[GRAPHIC] [TIFF OMITTED] T0897.190

[GRAPHIC] [TIFF OMITTED] T0897.191

[GRAPHIC] [TIFF OMITTED] T0897.192

[GRAPHIC] [TIFF OMITTED] T0897.193

[GRAPHIC] [TIFF OMITTED] T0897.194

[GRAPHIC] [TIFF OMITTED] T0897.195

[GRAPHIC] [TIFF OMITTED] T0897.196

[GRAPHIC] [TIFF OMITTED] T0897.197

      

                                


Statement of National Air Transportation Association, Alexandria, 
Virginia

    The National Air Transportation Association (NATA) 
represents the interests of aviation businesses nationwide. The 
Association's nearly 2,000 member companies provide a wide 
variety of aviation services, including on-demand air charter 
under FAR Part 135. As this Committee moves forward examining 
areas for tax simplification and relief, NATA on behalf of its 
on-demand air charter members is setting forth an initiative 
designed to provide a reformed and simplistic tax code for 
America's aviation businesses.
    Today, action is needed to ensure the economic 
competitiveness of the aviation industry is not compromised, 
aviation safety is enhanced, excise tax collections are 
simplified, and the use of fuel efficient aircraft is 
encouraged. Congress should implement one of the 
recommendations of the Congressionally-created National Civil 
Aviation Review Commission, that received unanimous support 
from its wide range of members covering every aspect of 
aviation, and change the method of taxation for on-demand air 
charter operators from the airline transportation taxes to a 
simple fuel tax.
    Under the standards of the Part 135 code, operators employ 
the most qualified and experienced pilots, and operate the 
safest, most technologically-advanced aircraft. Currently, the 
tax codes penalize on-demand air charter operators for the use 
of this certificate, lumping these operators with the world's 
largest airlines.
    Enhancing the competitiveness of the on-demand air charter 
industry is one of the many positive effects this change would 
spur. The current tax law provides a significant financial 
disincentive for operating under FAR Part 135, resulting in 
aircraft accidents by operators that operate illegally to 
circumvent the taxes. These illegal operations are an obvious 
breech to this Nation's high standard of aviation safety, and 
this simple tax change may be able to positively influence safe 
practices for all using our Nation's aviation system.
    The current tax code is gray, making it difficult to 
understand the standards between commercial on-demand air 
charter and non-commercial operations that often utilize the 
same aircraft. Shifting to the fuel tax will allow all of 
general aviation to operate in the same tax environment, and 
eliminate confusion caused by these differences.
    Today, the Internal Revenue Service (IRS) has agents 
combing through the books of nearly 8000 charter operators and 
corporate flight departments. Moving on-demand operators from 
the obtrusive, labor-intensive transportation tax to a simple 
fuel tax will save in government paperwork and oversight.
    A fuel tax is also a good method of encouraging operators 
to utilize more fuel efficient and quieter aircraft, helping to 
reduce the amount of fuel burned, reducing air emissions and 
protecting the overall health of the environment.
    Moving on-demand air charter operators from the ticket tax 
to a fuel tax will maintain the current revenue stream that 
supports critical aviation programs. It also more accurately 
reflects revenues flowing into the Aviation Trust Fund from 
non-airline sources.
    This year thousands of on-demand air charter flights will 
carry passengers every day to destinations across the Nation. 
On-demand air charter companies provide their customers 
customized air transportation, staffed by highly trained pilots 
using aircraft scrutinized by the same standards set forth by 
the Federal Aviation Administration (FAA) as the major 
airlines. These companies provide a vital link for their 
customers, providing them with access to over 5,000 airports 
across the country.
    Promoting safety, simplifying the tax structure, and saving 
taxpayer money are all important reasons to make this move, but 
enhancing the competitiveness of aviation companies, often 
small businesses, is truly a positive change. Together we can 
continue to promote American small businesses, encourage growth 
and supporting good business practices, while maintaining the 
current high standard of safety.
    Thank you for the opportunity to set forth this critical 
initiative. NATA looks forward to working with Congress and 
this great Committee to move forward these ideas. Together, we 
can improve upon America's great air transportation system.
      

                                


Statement of Clark S. Willingham, President-Elect, National Cattlemen's 
Beef Association

    Chairman Archer, Ranking Member Rangel, Members of the 
Committee: On behalf of the National Cattlemen's Beef 
Association (NCBA) and our 230,00 members from all segments of 
beef production, thank you for your interest in reducing the 
death tax burden on hard-working American families. I 
appreciate the opportunity to share with you the devastating 
effect death taxes have on the ability of cattlemen and women 
to pass their family businesses on to the next generation.
    Death is a lousy event to tax. For the past several 
Congresses, relieving the death tax burden has been a top 
priority for NCBA. We commend the Committee's hard work this 
past year in making significant progress toward the ultimate 
goal of eliminating death taxes from the federal tax code. 
Through our own resources and as a member of the Family 
Business Estate Tax Coalition, we are committed to working with 
you and the Committee to achieve additional progress. As 
evidenced by this hearing and the statements of Members of the 
Committee, it is clear that reform of death taxes remains a top 
priority in Congress.
    From the cattle industry's perspective, the death tax is 
the primary obstacle in keeping our family-owned businesses 
intact and viable during the transition from one generation to 
the next. Nearly one-half of our members have been in business 
more than 50 years and 15% of our members have operated their 
family business for more than 100 years. These are the folks 
who for generations have contributed to the economy of the 
local communities, who are the foundation of an industry that 
represents 20 percent of the U.S. agricultural gross domestic 
product and which annually generates over $150 billion in local 
and national economic activity. Add to this high level of 
economic activity the public monies generated, such as fuel 
taxes, excise taxes, income taxes and related revenues, and one 
must question the wisdom of a federal policy that effectively 
erodes the base of the rural economy.
    Death is a certainty for each of us. Unfortunately, it also 
unleashes the IRS, which can take up to 55% of a business and 
its assets before the next generation has the opportunity to 
carry on the family tradition. Statistics indicate the average 
age of a cattleman is 55 years, which suggests there currently 
are a lot of ranch families who will soon face the burden of 
federal estate taxation. Statistics also indicate that the 
number of cattle operations has declined 20 percent since 1981, 
a trend that many feel is accelerated by the burden death taxes 
pose on surviving family members.
    NCBA feels this burden has contributed to families selling 
their family farming and ranching enterprises in anticipation 
of the death tax. In addition, many of our members report that 
their efforts to plan for the impact of estate taxes has led to 
management decisions that are not always in the best interests 
of operating a profitable enterprise.
    We also believe, in addition to enhancing the well-being of 
the beef industry, that estate tax reform will provide society 
in general with environmental benefits. Any business that is 
successful over a long period of time is one in which the 
principals pay close attention to the maintenance, up-keep and 
improvement of the production facility. For cattlemen, their 
production facility is the land--land that they and their 
ancestors have nurtured to ensure its ability to support their 
beef herds, and land that they share with a natural ecosystem 
that includes wildlife habitat, watersheds, riparian areas, and 
so forth.
    Unfortunately, a cattle operation is a capital intensive 
enterprise typified by having most of its assets invested in 
the land or cattle. In the event of the death of a principal 
family member, the sale of the land and/or cattle becomes the 
primary source of funds available to meet the costs of death 
taxes. When this occurs, ranches or farms get split up, 
particularly in areas of aggressive urban/suburban growth and 
escalating land values. The net result is that land that once 
provided nutritious beef or other staples for our diets and 
habitat for Mother Nature's flora and fauna is instead used to 
grow houses, shopping malls, and roads.
    Taxing capital at death is frustrating when one considers 
that the money used to buy, maintain and improve these assets 
was taxed when earned. Adding to the insult are the estate tax 
rates which can impose a top rate of 55 percent--which is 
especially troubling when compared to the top capital gains tax 
rate for individuals of 20 percent.
    Obviously, NCBA's favored position is outright repeal of 
death taxes. But if repeal is not likely, we strongly support 
efforts to further reform the estate tax code, whether it be 
through lower rates, increased exemptions or exclusions, or 
some combination thereof.
    During several hearings on death taxes this past year, 
William W. Beach, Senior Fellow in Economics at the Heritage 
Foundation, repeatedly stated that the costs of compliance and 
lost economic activity due to the estate tax far exceed the 
revenues gained by the federal government. Professor Richard 
Wagner of George Mason University projects that over an eight-
year period, elimination of death taxes would add 250,000 jobs 
and pump $80 billion in annual economic growth to the nation's 
output. It is our hope that this kind of information can be 
taken into account by budget analysts and provide you the 
resources necessary to include additional death tax reforms in 
any tax legislation you may consider this year.
    I mentioned that NCBA is a member of the Family Business 
Estate Tax Coalition, a large group made up of trade 
associations and organizations who represent the vast majority 
of this nation's family owned enterprises. This group worked in 
a bipartisan fashion throughout 1997 to build the case on the 
negative impact that the estate tax places on family 
businesses. The message of the Coalition is simple, and perhaps 
redundant, but it needs to be repeated.
    Liquidity is the fundamental characteristic that 
distinguishes the estates of family owned businesses from those 
of individuals holding marketable securities and/or other 
liquid assets. Publicly traded stock can be sold to pay the 
death tax, doing little harm to capital investments that are 
critical to the productivity of the business and the overall 
financial well-being of a company. But a family owned business, 
whether it's a ranching operation or a restaurant, must sell 
critical assets--and often the business itself must be sold--to 
pay death taxes, or suffer under the resultant debt load 
necessary to continue in business.
    Our campaign to reform/repeal the death tax is about jobs, 
economic growth and the financial stability of this nation's 
many small and medium sized communities. On behalf of the NCBA, 
we thank you and your colleagues for holding this hearing. We 
encourage you to move boldly in your efforts to provide 
additional relief from the death tax burden.
    We recognize the constraints placed on reforms by the 
budget and want to work with you to maximize the benefits for 
those who are most impacted. Thank you for your leadership on 
this important issue, and for the opportunity to provide this 
statement to the Committee.
      

                                


Statement of Bruce Hagen, Commissioner, North Dakota Public Service 
Commission

    Thank you for the opportunity to comment for the record on 
reducing the tax burden.
    I believe Congress should make every effort to first reduce 
the national debt before taxes are reduced. As I understand it, 
it is now over $5 trillion. Any change in the tax laws should 
give those people who have especially benefited from our system 
in the last years the opportunity to help pay for our country's 
debt.
    The national debt climbed from about $900 billion in 1980 
to over $4 trillion by the end of 1992. Since the beginning of 
1993, the rate of increase in the national debt has 
dramatically come down. Congress should try to continue this 
downward trend.
    When the Federal Government stops borrowing money to 
operate our government, it means interest rates normally drop 
and this benefits those folks who have to borrow money for home 
mortgages, farm expenses, cars, business, manufacturing--the 
entire economy.
    I believe the American people expect that we should start 
paying our debts and that we should do so on a consistent 
basis. A sensible tax system that's fair to all and doesn't 
favor the rich, who have certainly benefited in the last 20 
years in our economic system, should always be a goal of this 
democracy. A modern democratic civilization such as the United 
States must have a fair tax system.
    Our tax system could be improved. For example, Congress 
uses the money that working people pay into Social Security to 
help balance the annual budget of the United States. Congress 
should not use Social Security funds to help balance the annual 
government budget.
    Thank you again for the opportunity to comment.
      

                                


Statement of White House Conference on Small Business

    The undersigned are the elected Regional Taxation Chairs 
representing the 2000 delegates to the last White House 
Conference on Small Business. We were delegated the 
responsibility for advancing implementation of the conference's 
recommendations with regard to the tax issues and reporting 
progress back to the delegates. As you prepare to consider tax 
policy issues again in the second session, the delegates to the 
White House Conference on Small Business want to remind you of 
the important tax issues for the growth and progress of small 
businesses in America.
    One of the strongest recommendations of the White House 
Conference on Small Business was a call for the repeal of the 
estate and gift tax. The Taxpayer Relief Act of 1997 included a 
provision which effectively excludes the first $1.3 billion of 
an estate where a qualifying small business constitutes over 
half of the gross estate. While this is welcome relief, more 
needs to be done to protect businesses from being dismantled at 
the death of the principal. The passage of a small business 
from one generation to the next has a positive impact on the 
community, promoting stable employment, long-term community 
support through community groups, and an active interest in 
maintaining the quality of education and life in the 
``neighborhood.''
    If outright repeal is too costly under the budget 
requirements, the tax issue chairs feel that proposals which 
provide for continued reduction of the tax and the 
administrative burden on small businesses would be helpful. By 
focusing the legislation, Congress can provide relief directly 
to farms and small family businesses while foregoing a 
relatively small amount of revenue. The Congress should adopt a 
tax policy moves the country toward the positive goal of 
sustaining the economic vitality of a small business and away 
from a policy which requires expensive and complex estate plans 
and insurance. The reality today is that elaborate and costly 
estate plans must be undertaken which drains assets from 
productive business investment. Without such plans, there is no 
guarantee that the business will last to serve the next 
generation of owners or workers.
    In general, the White House Conference urged Congress to 
investigate a simpler, fairer tax system but purposely did not specify 
what changes should be made. We would like to recommend that any 
changes that are considered be analyzed for their impact on small 
businesses and that representatives of the small business community be 
included in any hearings on the subject.
    We would be happy to work with you, your colleagues and your staff 
to help you better understand the importance of these proposals to 
small businesses and the U.S. economy. Thank you for your time and 
attention to this matter.

            Sincerely,
                                   Region 1
                                           Debbi Jo Horton, Providence, 
                                               Rhode Island
                                   Region 2
                                           Joy Turner, Piscataway, New 
                                               Jersey
                                   Region 3
                                           Jill Gansler, Baltimore, 
                                               Maryland
                                   Region 4
                                           Jack Oppenheimer, Orlando, 
                                               Florida
                                   Region 5
                                           Paul Hense, Grand Rapids, 
                                               Michigan
                                   Region 6
                                           Joanne Dougherty, Houston, 
                                               Texas
                                   Region 7
                                           Edith Quick, St. Louis, 
                                               Missouri
                                   Region 8
                                           Jim Turner, Salt Lake City, 
                                               Utah
                                   Region 9
                                           Sandra Abalos, Phoenix, 
                                               Arizona
                                   Region 10
                                           Eric Blackledge, Corvallis, 
                                               Oregon

                                   - 
