[House Hearing, 106 Congress]
[From the U.S. Government Publishing Office]





 
 THE IMPACT OF THE COMPLEXITY OF THE TAX CODE ON SMALL BUSINESS: WHAT 
                         CAN BE DONE ABOUT IT?

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

                                HEARING

                               before the

               SUBCOMMITTEE ON TAX, FINANCE, AND EXPORTS

                                 of the

                      COMMITTEE ON SMALL BUSINESS
                        HOUSE OF REPRESENTATIVES

                       ONE HUNDRED SIXTH CONGRESS

                             SECOND SESSION

                               __________

                   WASHINGTON, DC, SEPTEMBER 7, 2000

                               __________

                           Serial No. 106-70

                               __________

         Printed for the use of the Committee on Small Business



                      U.S. GOVERNMENT PRINTING OFFICE
67-831                        WASHINGTON : 2001
_______________________________________________________________________
            For sale by the U.S. Government Printing Office
Superintendent of Documents, Congressional Sales Office, Washington, DC 
                                 20402




                      COMMITTEE ON SMALL BUSINESS

                  JAMES M. TALENT, Missouri, Chairman
LARRY COMBEST, Texas                 NYDIA M. VELAZQUEZ, New York
JOEL HEFLEY, Colorado                JUANITA MILLENDER-McDONALD, 
DONALD A. MANZULLO, Illinois             California
ROSCOE G. BARTLETT, Maryland         DANNY K. DAVIS, Illinois
FRANK A. LoBIONDO, New Jersey        CAROLYN McCARTHY, New York
SUE W. KELLY, New York               BILL PASCRELL, New Jersey
STEVEN J. CHABOT, Ohio               RUBEN HINOJOSA, Texas
PHIL ENGLISH, Pennsylvania           DONNA MC CHRISTENSEN, Virgin 
DAVID M. McINTOSH, Indiana               Islands
RICK HILL, Montana                   ROBERT A. BRADY, Pennsylvania
JOSEPH R. PITTS, Pennsylvania        TOM UDALL, New Mexico
JOHN E. SWEENEY, New York            DENNIS MOORE, Kansas
PATRICK J. TOOMEY, Pennsylvania      STEPHANIE TUBBS JONES, Ohio
JIM DeMINT, South Carolina           CHARLES A. GONZALEZ, Texas
EDWARD PEASE, Indiana                DAVID D. PHELPS, Illinois
JOHN THUNE, South Dakota             GRACE F. NAPOLITANO, California
MARY BONO, California                BRIAN BAIRD, Washington
                                     MARK UDALL, Colorado
                                     SHELLEY BERKLEY, Nevada
                     Harry Katrichis, Chief Counsel
                  Michael Day, Minority Staff Director
                                 ------                                

               Subcommittee on Tax, Finance, and Exports

                 DONALD A. MANZULLO, Illinois, Chairman
STEVEN J. CHABOT, Ohio               CAROLYN McCARTHY, New York
PHIL ENGLISH, Pennsylvania           RUBEN HINOJOSA, Texas
PATRICK J. TOOMEY, Pennsylvania      CHARLES A. GONZALEZ, Texas
                                     GRACE F. NAPOLITANO, California
           Philip Eskeland, Senior Professional Staff Member




                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on September 7, 2000................................     1

                               WITNESSES

Sununu, John E., a Representative in Congress from the State of 
  New Hampshire..................................................     2
Davidoff, Martin, Martin Davidoff & Associates...................     4
Tauzin, W.J. ``Billy'', a Representative in Congress from the 
  State of Louisiana.............................................     6
Oveson, W. Val, National Taxpayer Advocate, Internal Revenue 
  Service........................................................     9
Olson, Pamela, Chair, Tax Section of the American Bar Association    11
Lifson, David, Chair, Tax Executive Committee, American Institute 
  of Certified Public Accountants................................    13
Moody, Scott, Economist, Tax Foundation..........................    15
McCraken, Todd, President, National Small Business United........    17

                                APPENDIX

Opening statements:
    Manzullo, Hon. Donald A......................................    23
Prepared statements:
    Sununu, John E...............................................    25
    Davidoff, Martin.............................................    29
    Tauzin, W.J. ``Billy''.......................................    42
    Oveson, W. Val...............................................    53
    Olson, Pamela................................................    60
    Lifson, David................................................    80
    Moody, Scott.................................................    99
    McCraken, Todd...............................................   103
Additional material:
    ``Tax Complexity Factbook'', April 2000, Joint Economic 
      Committee Staff Report.....................................   115
    Letter to Mr. Manzullo from Edward Mezner, Certified Public 
      Accountant.................................................   136
    Letter to Mr. Manzullo from Donald Benning, Millikin Benning 
      Kleckler...................................................   143
    Letter to Mr. Manzullo from Henry Fleming, Certified Public 
      Accountant.................................................   145
    Letter to Mr. Manzullo from Richard Lamm, Lindgren, Callihan, 
      Van Osdol & Co., LTD.......................................   148
    Letter to Mr. Manzullo from Glenn Miller, CPA & CVA..........   154
    Letter to Mr. Manzullo from Leland Freberg, CPA..............   155
    FY 1999 National Taxpayer Advocate's Annual Report to 
      Congress...................................................   157


 THE IMPACT OF THE COMPLEXITY OF THE TAX CODE ON SMALL BUSINESS: WHAT 
                         CAN BE DONE ABOUT IT?

                              ----------                              


                      THURSDAY, SEPTEMBER 7, 2000

                  House of Representatives,
          Subcommittee on Tax, Finance and Exports,
                               Committee on Small Business,
                                                    Washington, DC.
    The Subcommittee met, pursuant to call, at 10:05 a.m., in 
room 2360, Rayburn House Office Building, Hon. Donald A. 
Manzullo (chairman of the Subcommittee) presiding.
    Chairman Manzullo. We are going to get started in an a 
little unusual manner. We are waiting for two Members of 
Congress to come who constitute the first panel. They are on 
their way. I would like to take half of the second panel and 
get started with their testimony. We are going to have a 
tyranny of the bells today with voting going on, etc.
    Martin Davidoff is here. Martin, why don't you take the 
seat on the end here? Who else is here from our second panel? 
Okay. Why don't you come on up, and let's get half of the 
second panel. Leave two chairs on the end for the Members of 
Congress, and as soon as they come in, if you don't mind, we 
will interrupt your testimony in order to accommodate them so 
they can get on with their other duties.
    Mr. Tauzin has been a little busy, if you know from 
watching C-SPAN. When I was going to bed last night, he was 
still grilling Firestone.
    I want to immediately get into the testimony. I will not do 
much in the way of introductions, except that I am going to 
start with Martin Davidoff of Martin Davidoff & Associates from 
Dayton, New Jersey, who is here on behalf of the National 
Federation of Independent Businesses.
    We have the 5-minute rule here. When it turns yellow, you 
have 1 minute. When it turns red, the gravel comes down.
    [Mr. Manzullo's opening statement may be found in the 
appendix.]
    Chairman Manzullo. Mr. Davidoff.
    Mr. Davidoff. Thank you, Mr. Chairman, Members and their 
staff which have been most helpful. First of all, I would like 
my written statement entered into the record.
    Chairman Manzullo. Without objection, all written 
statements will be admitted.
    Martin, I will interrupt.
    Mr. Sununu, do you want to come up? And we will start with 
you.
    Mr. Davidoff, we will be back to you shortly.
    Mr. Davidoff. Thank you.
    Chairman Manzullo. It is my pleasure to introduce to you 
Congressman John Sununu from the great State of New Hampshire. 
And, Congressman Sununu, we are on the 5-minute rule that I 
enforce, so if I get somebody who can operate this timer. 
Please start.

STATEMENT OF HON. JOHN E. SUNUNU, A REPRESENTATIVE IN CONGRESS 
                FROM THE STATE OF NEW HAMPSHIRE

    Mr. Sununu. Thank you, Mr. Chairman. I am familiar with the 
5-minute rule, and I will do my best to comply. And I apologize 
for arriving a little bit late and hope that the panelists and 
in particular Mr. Davidoff won't hold it against me in any way.
    It is a pleasure to be here. I am pleased that you are 
holding this hearing today on the complexity of our Tax Code 
and in particular its effect on small business. For anyone that 
has traveled around the country and spent a little bit of time 
with small business owners and entrepreneurs, the Tax Code is 
probably the first thing that comes up, even, in most cases, 
before regulation, because it is something they deal with year 
in and year out. And it is not just once a year when they pay 
their taxes. It is every day, as I will describe, and it is a 
source of endless frustration for entrepreneurs.
    In a previous part of my career, I worked as chief 
financial officer and director of operations for a small 
electronics firm of about 30 employees and dealt with the 
financial issues for the owner of a firm that was a Sub-Chapter 
S corporation, and dealt with a lot of these issues on a 
personal level. So in many cases I speak from anecdotal, but 
really personal experience as well.
    The complexity of the Tax Code and its impact on small 
business, I think, is felt in three particular areas. There is 
the outright cost of the complexity, the cost of doing your 
returns every year, paying someone to prepare your returns and 
submitting them.
    Of course, there is also the opportunity cost, the time 
that is lost, lost not just from business operations, but from 
time from the family as well, because so many small businesses 
are family-owned, and so many entrepreneurs and managers put in 
such an extraordinary amount of their personal time in their 
companies.
    The third cost of the complexity of our Code is in what I 
just call distrust. The complexity breeds distrust. It breeds 
uncertainty as to whether or not the same system applies to 
both larger and smaller corporations. I think that undermines 
public confidence in the way we tax and raise revenues for the 
Federal Government.
    We can solve this problem. We can do better. And I am here 
to testify on behalf of tax reform, fundamental tax reform, and 
the implementation of a flat tax, an issue that I have worked 
very hard on with the Majority Leader Dick Armey. He has taken 
a strong leadership role on the objective of scrapping the 
current Code and replacing it with a system that is simple, 
honest and fair and that addresses each of these costs that I 
mentioned.
    First a few words about the exact complexity of the system 
and its effect on small businesses. First, the estate taxes. An 
inordinate amount of time at the small business level and at 
the family business level is taken in preparing, avoiding, 
understanding our complex estate taxes, trying to maintain the 
small business flavor, and that means keeping the small 
business in a family. An entrepreneur often has worked hours, 
years managing a business. He has had his family members 
involved. They want to keep it in the family, but the estate 
tax burden can be crushing, and the complexity of the estate 
taxes can be overwhelming on a yearly basis.
    Depreciation schedules. We have called on small businesses 
to depreciate equipment, sometimes, for example, computers, 
over 5 or 7 years, which doesn't make any sense in and of 
itself in that we ask small businesses to keep separate books 
for depreciation for an income-reporting basis and for IRS 
purposes. Keeping multiple books doesn't serve any real useful 
purpose, and, of course, the time and effort required to keep 
on top of the depreciations rules can be very burdensome for a 
business that only has 10 or 15 or 20 employees.
    Capital gains taxes. Small businesses spend an enormous 
amount of time dealing with the complexities of employee stock 
ownership plans, the Sub-Chapter S filings and the impact of 
potential sales of stocks on their capital gains liability.
    And finally retirement savings, IRAs and 401(k)s for 
employees, but also retirement savings plans that are necessary 
to avoid the crushing burden of estate taxes.
    All of these complexities have the impact of raising the 
cost of running a small business, taking up an inordinate 
amount of management time and, of course, undermining 
confidence in the way we fund government.
    How can a flat tax solve this problem? I believe that a 
flat tax would have enormous benefits for both individuals and 
corporations, but in particular for small businesses because 
now small business is going to be able to take a look at its 
revenues for the years, deduct all of its legitimate expenses, 
cost of goods, wages, salaries, all capital equipment and 
investment and then pay a simple, honest, fair rate. The same 
system applies to corporations large and small. It is 
understandable. You don't have to keep two sets of books. You 
don't have to go through the complexity of estate tax planning. 
In fact, there would be no estate taxes, no capital gains 
taxes, no inheritance taxes, no taxes on Social Security 
benefits, and no depreciation schedules.
    All of those add to the burden of running a small business. 
They would be eliminated. And by having the same system for 
everyone, we restore public confidence in the way that we 
finance government. I think it would make an enormous 
difference for the small business community in time, in money, 
and in confidence, and it would create the right set of 
incentives for entrepreneurs to invest in their employees, 
invest in their firms and create economic opportunity. And that 
ultimately should be our goal here, not to try to distort the 
market, but to create an environment where entrepreneurs can do 
the job of creating economic opportunity.
    Thank you, Mr. Chairman.
    Chairman Manzullo. Thank you, Congressman Sununu.
    [Mr. Sununu's statement may be found in the appendix.]
    Chairman Manzullo. If you would like to join us on the 
panel, you are welcome to.
    Mr. Sununu. I have a commitment, Mr. Chairman. I would like 
to thank you for having the hearing and thank the panelists for 
being here. My experience in this regard, as I said, working 
for 4 years in a small business setting, but my guess is the 
panelists have far more depth of experience with the kinds of 
frustrations I have touched on in my testimony.
    Chairman Manzullo. Thank you very much. I appreciate it.
    Martin, we will start with you again, knowing full well 
that if Mr. Tauzin comes in, which he probably will after six 
words of your testimony, we will have to interrupt you again. 
If you are almost through, we will make sure we finish up.

     STATEMENT OF E. MARTIN DAVIDOFF, E. MARTIN DAVIDOFF & 
ASSOCIATES, DAYTON, NJ, ON BEHALF OF THE NATIONAL FEDERATION OF 
                      INDEPENDENT BUSINESS

    Mr. Davidoff. Thank you. Thank you very much. I am here 
representing 600,000 small businesspersons on behalf of the 
NFIB. I come before you with a unique perspective, one of an 
attorney, a CPA, a small business owner myself, having 
participated in two White House conferences, and an advisor to 
hundreds of small businesses. So I see this day in and day out.
    Every time Congress attempts to deal with simplification 
and simplifying the Tax Code, we get something called 
``complification''. We get a morass of tax law that is even 
more complex. Just take a look at what has happened in the last 
couple of years.
    In 1996, Steve Forbes is talking about the flat tax and 
simplification, and everybody was gung-ho, yes, let's do it. 
Then in 1997, 1998 and 1999, you added infinitely more 
complexity. Just a couple of examples, we changed the safe 
harbor for estimated taxes for high-income taxpayers three 
times. If you look at page 5 of my testimony, you will see a 
table that shows public laws and the percentages that were 
changed time in and time out. One of the bills was just to 
change it from 105 to 106 percent for 2 of the 4 or 5 years 
that are in the table. It is really crazy the way Congress goes 
about it. Instead of changing the tax rates, they add 
complexity to the tax law because they don't want to tell the 
American people the correct tax rates.
    Other things that have been done, you added a child credit, 
but then from $110,000 to $130,000 you are phasing out that 
credit. You added complicated learning credits and retirement 
alternatives, each with its own phaseout limitations.
    And that takes us to really the most complex problem for 
all taxpayers, not just for small business, and that is the 
phaseout. It started with Congressman Claude Pepper in phasing 
out 3 percent of your itemized deductions to the extent that 
your income exceeded a base and in phasing out exemptions. They 
are bad ideas. Why are they bad ideas? Because what happens 
here is you have changed the tax law to look not at taxable 
income, but you are looking at adjusted gross income. For 
example, with the phaseout of exemptions, if I am making 
$200,000 a year adjusted gross income, and I am a family of 
four, you are adding 3.3 percent to my 36 percent tax rate. My 
real tax rate is 39.3 percent, even though the stated original 
rate is 36 percent. And after I am phased out, the tax rate 
comes back. So what have you done?
    We have all argued should there be a flat tax, or should 
there be a progressive income tax like we have? What you have 
done with phaseouts is you have given us a regressive tax. The 
tax rate is lower for people who get beyond the thresholds. And 
when you have thresholds of $110,000 for learning credits and 
$74,000 for double E bonds, and all these phaseins and 
phaseouts at different levels, all you are doing is you are 
imposing a higher tax rate.
    And I say to you bring back taxable income. Congress 
defined taxable income as the basis on which you are going to 
set one's ability to pay. I will throw out the following 
example: If you have two families--one with 10 exemptions, 10 
children, and one with zero children. Let's say they are making 
$300,000, so they have fully phased out their exemptions. Are 
you telling me that the family with 10 children is in a 
position to pay the same tax as the family with no children? 
Clearly not.
    On every level you look at this, regression of taxation, or 
fairness, phaseouts don't work. They are a terrible idea. Get 
rid of them, please.
    Let's go to a couple of specific examples about small 
business. First of all, we have meals and entertainment 
expenses. It is a complexity issue. If somebody comes down to 
Washington on business, and they stay in a hotel they turn in 
their bill back to the comptroller back in the office, and the 
comptroller says, okay, I will classify that as travel. That is 
what it used to be. But now they have to look at that bill and 
segregate out the meals, because meals are only 50-percent 
deductible. And they have to put that in a different account 
called meals and entertainment. But then if I have a picnic for 
all my employees, I have to put it in another account because 
picnics for employes comes into one of the 10 exceptions under 
Section 274 that say you can deduct 100 percent.
    Chairman Manzullo. Just eat outside every time.
    Mr. Davidoff. Eat outside every time. Well, you have to pay 
for your employees every time. That is the bottom line.
    So basically what we have here is we have a situation with 
meals and entertainment that adds much complexity. And people 
talk about the three-martini lunch. You have plenty of 
provisions in section 274 that prevent abuse.
    I see that my time is almost up, so let me just wrap up 
with two concepts. One other concept is a tax trap. Congress 
has come forward and said, we are going to let everyone deduct 
$20,000 with certain exceptions for capital improvements. So 
Joe Taxpayer files his tax return, and he says, I know about 
that $20,000 rule. I have purchased a $3,000 computer for my 
business. It is classified as office supplies, and those who 
work with real taxpayers know that happens. The fax machine, 
everything ends up in office supplies. He deducts it on the 
return. It is $3,000. He is perfectly entitled to it under the 
law. However the law says you have to make an election. He 
didn't make the election, and there are approximately a dozen 
court cases that basically take that deduction away for failure 
to make the election. In my materials there are citations of a 
couple of those cases. And a very simple change that you can 
make that would probably be practically revenue-neutral that 
would just say if somebody takes a deduction, let's deem it to 
be an election.
    My time is up. I just wanted to say I would like to thank 
the Chairman for taking his time to fix the installment sales 
problem for accrual-based taxpayers and to say that for cash-
basis taxpayers that we ask that we index for inflation the $5 
million threshold of 1986 and increase that to apply to 
businesses of similar size back then, which today would be 
businesses of $6 and $7 million. Thank you very much.
    Chairman Manzullo. Thank you, Mr. Davidoff. I appreciate 
it.
    [Mr. Davidoff's statement may be found in the appendix.]
    Chairman Manzullo. Good timing. Congressman Billy Tauzin. 
What time did you finish last night?
    Mr. Tauzin. I think I have been called and recalled. We 
finished about 11 o'clock.
    Chairman Manzullo. Well, you are up.
    Mr. Tauzin. Thank you, sir.
    Chairman Manzullo. And we have the 5-minute rule here.

 STATEMENT OF HON. W.J. ``BILLY'' TAUZIN, A REPRESENTATIVE IN 
              CONGRESS FROM THE STATE OF LOUISIANA

    Mr. Tauzin. I will hit it really quickly for you.
    In a nutshell we have an outdated, outmoded Tax Code, and 
Americans know it; 7 million words of instructions from 
Washington, D.C., that nobody can understand anymore. And if 
you try to get information on what it means, even from the IRS, 
you get wrong answers all too often. It is a mess. More 
importantly, it is a set of instructions on how to live your 
life from Washington, D.C.; if you think about it, 7 million 
words about how you should earn, spend, save, what you ought to 
do with your money. There are government preferences built all 
over it. We set them. We change them every now and then.
    In fact, since Ronald Reagan left town and simplified the 
Code--do you remember--from 14 different rates down to a 
couple, we are back up to five effective rates, over 5,000 
changes later. Many of those changes we put in thinking we are 
doing a good thing for America. But we ``complexed'' that Code 
up, and we literally give instructions through it about how to 
live your life.
    When you look at the instructions, you ought to think about 
what instructions we are getting. Think about it. The power to 
tax is the power to discourage or destroy. So look at what the 
Code tells you. What does it discourage? Look at what it taxes. 
It discourages you from earning income. It taxes incomes. It 
taxes savings; therefore, that must be bad. It taxes 
investments. It taxes gifts to your kids in life. It taxes 
gifts to your family in death. And worst of all, it even taxes 
you for buying an American product and rewards you for buying a 
foreign product. You haven't thought about that one. Think 
about it.
    Dr. Dale Jorgenson at Harvard University, who is the dean 
of the economics department, did a paper on the subject, and 
his paper says in effect that the income tax adds on average 25 
percent to the cost of every product and service made in 
America. That is on average. The price of bread, for example, 
is 35 percent. The reason that is true is every person in the 
manufacturing process, from the farmer all the way to the 
retailer, has to pay taxes. The employer pays taxes. You pay 
taxes on the business. You pay taxes on compliance costs. You 
have to hire accountants and lawyers. All that adds up to the 
point where by the time we buy a loaf of bread, instead of it 
costing $1.30, it costs $2. That is a fact, according to 
Harvard School of Economics, not necessarily a bastion of 
conservative thought.
    What does that tell us? That tells us the income tax code 
is really pernicious. It taxes your income when you earn it, 
and then if you dare buy anything that was made in America, 
made with your own hands in some cases, you get taxed again 
with a hidden tax of 25 percent or so. If you buy a foreign 
product, on the other hand, very often those products--they are 
burdened with some income taxes overseas, but they are not 
burdened by the other taxes that are assessed overseas, the VAT 
taxes. The VAT tax, the value added taxes, are rebated back to 
the manufacturer before products are shipped into this country. 
An American product burdened with our income tax goes over 
there and pays the VAT tax again. It gets taxed twice. Their 
product comes in and escapes the second tax. So we have a tax 
system in a global free trade economy that in effect tells 
American workers it is better to buy foreign goods. We will tax 
you twice if you buy an American good.
    If I am an American worker, and my government is penalizing 
me for buying my own products, I should be hopping mad. I would 
want to get rid of that system. I would want a border 
adjustable tax system that is fair, decent, taxes me only once, 
and rewards me for doing the right things instead of punishing 
me for doing the right things.
    So we built one. We have offered you a bill to replace the 
income tax code with a simple, fair, national retail sales tax. 
It is automatically border-adjustable. Here is how it works.
    You get rid of income taxes, gift taxes, inheritance taxes, 
corporate taxes, individual taxes. All the income taxes are 
gone in our plan. We get rid of the gift and inheritance taxes 
so you don't have all this double taxation on income. We simply 
say, when you buy something at retail, not when you buy it for 
business purposes to make a product or to help your business 
along, but when you buy it at retail, you pay a retail tax. 
Whether it is a foreign product or a domestic product, you pay 
the same tax.
    And we figured out a rate equivalent to the amount of money 
we needed to collect if we repealed all those other taxes. We 
did it very simply. We took those taxes and divided it into the 
amount of consumption in this country, and you come up with a 
number. It is 12.9 percent. We came up with a 15 percent rate, 
and I will tell you why. That extra 2 percent we put into and 
the extra 1/10 is all factored in for tax compliance problems 
as well as to cover the cost of something important in our 
plan.
    You have probably often heard that retail taxes are bad 
because they are regressive. They tax poor people more than 
rich people. In a sense that is correct because poor people who 
have to spend all of their income to survive obviously would 
pay a bigger proportion of their income intaxes than a rich 
person who doesn't have to spend all his income. So we provide a total 
protection for income earned under poverty.
    The way we do it is we also repeal the payroll tax, the 
7\1/2\ percent you pay and your employer pays into the system 
on income earned under poverty. The 2 percent of sales tax pays 
for that and goes back into Social Security and Medicare Trust 
Funds to cover that loss for the Treasury.
    So we have got a plan that protects income at the bottom, 
that provides cheaper American products. According to the 
Harvard study, if you got rid of income taxes, products in 
America would cost 25 percent less than they do today or in 
cost of production. In a competitive marketplace you get 
cheaper prices. You have cheaper prices. You have more dollars 
to buy them with, and you are no longer penalized when you buy 
an American product.
    The Harvard study says our exports would jump 29 percent. 
That would get rid of the trade deficit. That is 19,000 
American jobs lost for every billion of that trade deficit, and 
we are over 300 billion today. Multiply that out; 6 million 
jobs or better. We get rid of the trade deficit. Our exports 
climb 29 percent on average yearly because now we are 
competitive overseas. We are not double-taxing our products. 
They get taxed once when they go overseas. They don't get taxed 
over here, just like their products only get taxed once when 
they come to America under our plan.
    Thirdly, according to the Harvard study there would be an 
80 percent shift of investment back into America. Why wouldn't 
you want to build your plant here and your manufacturing here 
if you didn't have to pay income taxes here, and there would 
simply be a retail consumption tax in its place? Why wouldn't 
you want to build closer to your markets instead of building 
somewhere else in the word? And the Harvard study confirms 
that.
    Here is the bottom line. We have presented you with an 
alternative that instead of punishing you for earning income, 
it rewards you. No income taxes. Instead of punishing you for 
saving, it rewards you. No taxes on savings interest earned. 
Instead of punishing you for investing, no capital gains taxes. 
No investment taxes. No need for Washington to incentivize you 
to invest anymore, to tell you how to spend your money or save 
it. No gift taxes, so you can give things to charities and your 
kids and anyone you want to without fear of double taxation. No 
inheritance taxes; you can pass your businesses on without the 
death tax. And all of a sudden no penalty for buying American 
products. Equalized border taxation in a global free trade 
marketplace. We get rid of the trade deficit.
    We got a simple taxation system now instead of this complex 
one, and the States administer it. They collect the commission 
for doing it under our plan, as well as the retailers who 
collect the tax while they are collecting the State sales taxes 
in 45 States of America that have such systems. For the five 
that don't, we would put a system in. If they would not want to 
do it, they would have the right to put it in for us and 
collect the commission.
    It is a simple plan, much simpler than this complex Code. 
Hard to get to. It takes some courage to make that kind of 
change, but if we had the courage, Americans would love us for 
it.
    Thank you, Mr. Chairman.
    [Mr. Tauzin's statement may be found in the appendix.]
    Chairman Manzullo. Well spoken. Can you stay here for a 
while, Congressman Tauzin?
    Mr. Tauzin. Sure.
    Chairman Manzullo. What happened to Scott?
    Mr. Tauzin. You have to talk to Dr. Evil about that.
    Chairman Manzullo. Scott, do you want to come up here and 
sit to Billy Tauzin's right? I know he might get offended with 
anybody sitting to his right, but that is okay. Is that okay? 
There we are. Thank you.
    Mr. Tauzin. Hello, Scott.
    Chairman Manzullo. Let's go with Mr. Oveson, and then we 
will go back to Ms. Olson.

    STATEMENT OF W. VAL OVESON, NATIONAL TAXPAYER ADVOCATE, 
      DEPARTMENT OF THE TREASURY, INTERNAL REVENUE SERVICE

    Mr. Oveson. Thank you very much, Mr. Chairman and 
distinguished members of the Committee.
    Chairman Manzullo. Would you pull the mike up closer?
    Mr. Oveson. I appreciate being invited to be here today and 
speak with you. Again, I view my role as a national taxpayer 
advocate as working within the existing Code and will not get 
to other suggestions and ideas as has been talked about, but 
there is certainly a lot that can be done within the existing 
Code to simplify and make things better for small business.
    There is both legal and administrative complexity in the 
Tax Code, and during the last 2 years that I have been the 
taxpayer advocate, I have mentioned in my annual report that 
complexity of the Code was the number one problem facing 
taxpayers. Based on the cases that we handle each year and 
input from practitioners and stakeholder groups, we have 
identified several areas of the law that are a particular 
burden and adds costs to small business. I will mention them 
today and put them in my written testimony.
    The first issue is penalty administration. A lot has been 
done with penalty administration. The Joint Committee on 
Taxation has produced a report on that, but the number of 
penalties is staggering, and they have increased from 10 to 
over 100 in the last 7 or 8 years. And this is particularly 
true for small business. In the Taxpayer Advocate Service we 
see a large number of cases where taxpayers can't reasonably 
expect to pay off their liabilities because of one reason or 
another. Over time the amount of penalties that has been 
assessed and the interest that has accrued has been an 
insurmountable obstacle for the taxpayer.
    One suggestion that we have made in the annual report is to 
completely repeal the failure to pay penalty. In my experience, 
few taxpayers are aware of the failure to pay penalty, so it 
really isn't an effective motivator to comply with it if they 
don't know about it. In fact, when a taxpayer is in financial 
trouble or hasn't filed returns for many years, the failure to 
pay penalty actually becomes a barrier to compliance rather 
than an enhancer.
    The next issue I want to mention is capitalization and 
depreciation. That has been mentioned this morning in a couple 
of different ways. The depreciation section of the Internal 
Revenue Code has been altered many times over the last few 
years, and it just gets more and more complicated. Depreciation 
and capitalization are consistently among the most litigated 
issues that we see in the system. I believe it is time to 
revise the depreciation rules or replace them with a simple or 
more consistent system.
    One bold proposal that I have made the last 2 years in my 
annual report is to allow the section 179 expense deduction for 
all capital assets purchased. In some ways this is a back door 
to some of the other proposals. I acknowledge that. But a more 
modest approach would be a system that would mix the section 
179 deduction with other depreciation rules. It is important 
that we have a simple set of rules.
    I want to add that this suggestion is a major policy 
change, and the impact would be substantial. That analysis is 
beyond the scope of my office.
    The third problem area is the employer/independent 
contractor dilemma. It has long been a thorn in the side of 
small businesses and even valiant attempts to solve this 
problem have fallen short. Small businesses have to weigh the 
common law requirements or the section 530 safe harbor rules to 
determine whether individuals who work for them are treated as 
independent contractors or employees. If the employer makes the 
wrong decision, they face potentially huge delinquent 
employment tax liabilities and just lots and lots of problems. 
The inequality in this area also creates distinct competitive 
advantages for some businesses that are not complying as 
compared with those that are, and I urge you to address this 
issue again.
    You have asked me to highlight some of the areas that we 
can play a role in helping resolve complex problems with the 
small business owners. I give you three.
    First, we can advocate changes in the law, as I am doing 
right now, and procedures and regulations. We have met with 
business groups and their practitioners to get their input. And 
this testimony and my annual report to Congress serve as 
examples of how we can gather information and make meaningful 
recommendations for change to the existing statutes.
    Second, we can advocate for educational programs. For 
example, all new businesses should be invited to attend a local 
training session where their tax obligations can be thoroughly 
and completely explained and discussed.
    And third, the primary service that we offer to individuals 
is to help them with their individual account issues. Business 
owners who encounter problems should contact their local 
taxpayer advocate. And while we can't guarantee a favorable 
result, we can guarantee a fresh look at the problem.
    Mr. Chairman, thank you for inviting me here today. I am 
passionate about reducing the complexity in the tax law, and I 
think my recommendations here, and others that I have made over 
the last 2 years, show that. I applaud you for your efforts and 
wish you well in making a better system for the small business 
owners of the country. Thank you, sir.
    [Mr. Oveson's statement may be found in the appendix.]
    Chairman Manzullo. We appreciate your distinguished service 
to the taxpayers--I was going to say to the government, but it 
is to the taxpayers--in trying to simplify this code, and we 
wish you well in the private sector. Please stay in contact 
with us. Undoubtedly you will be back as a private sector 
witness. I appreciate that again.
    Pamela Olson.

  STATEMENT OF PAMELA OLSON, CHAIR, TAX SECTION, AMERICAN BAR 
                  ASSOCIATION, WASHINGTON, DC

    Ms. Olson. Thank you, Mr. Chairman.
    My name is Pam Olson, and I appear before you today in my 
capacity as Chair of the ABA Section of Taxation to present 
testimony on behalf of the Section of Taxation. This testimony 
has not been approved by the House of Delegates or the Board of 
Governors of the ABA and accordingly should not be construed as 
representing the policy of the ABA.
    The Section appreciates the opportunity to appear before 
the Subcommittee today to discuss the critically important 
topic of tax simplification. On behalf of the Section, I want 
to thank the Chairman and the members of this Subcommittee for 
their focus on eliminating complexity in the Internal Revenue 
Code. I also want to compliment Val Oveson on his work over the 
years. We will miss him very much when he returns to Utah.
    Over a year ago the Section of Taxation testified before 
the House Ways and Means Oversight Subcommittee and the Senate 
Finance Committee on simplification of the Internal Revenue 
Code. On February 25th of this year, the Section of Taxation 
together with the AICPA Tax Division and Tax Executives 
Institute released identical simplification proposals.
    Although tax law complexity adversely effects all 
taxpayers, it has a particularly adverse effect on small 
businesses because they are ill-equipped to deal with the 
complexity. For that reason our previous testimony has included 
a number of recommendations important to the small business 
community.
    In recent years the tax law has become more and more 
complex as Congress and various administrations have sought to 
address difficult issues, target various tax incentives, and 
raise revenue without explicit rate increases. As the 
complexity of the tax law has increased, so has the complexity 
of the regulations that the IRS and Treasury have issued to 
interpret it. Moreover, the sheer volume of the tax law changes 
has made learning and understanding these new provisions 
difficult for taxpayers, tax practitioners, and IRS personnel 
alike.
    The volume of changes, especially recent changes, that 
affect average taxpayers has created the impression of 
instability and unmanageable tax complexity. This takes a 
tremendous toll on taxpayer confidence. Our tax system relies 
heavily on the willingness of the average taxpayer to 
voluntarily comply with his or her tax obligations. The 
willingness and ability to keep up with the pace and complexity 
of changes is now under serious stress.
    We want to point out that simplification necessitates hard 
choices and a willingness to embrace proposals that are often 
dull and without passionate political constituencies. 
Simplification also requires that easy, politically popular 
proposals be avoided if they would add significantly to 
complexity in the Code. Simplification or just preventing 
greater complexity may not garner political capital or 
headlines, but it is crucial.
    In our view the tax law is replete with provisions, the 
complexity of which far exceed the perceived abuse to which the 
provision was directed or the benefit that was deemed gained by 
its addition. Furthermore, the tax law contains many provisions 
that at the time of enactment may well have been desirable, but 
with the passage of time or, more importantly, the enactment of 
other changes have truly become dead wood. Despite the lack of 
utility of these provisions whether in a relative or absolute 
sense, analysis of their effect may nevertheless be required 
either in the preparation of a tax return or in simply planning 
business affairs.
    The elimination of these provisions would greatly simplify 
the law, but, again, the work necessary to do so will be dull 
and unlikely to garner political headlines. Nevertheless in our 
view it is essential.
    Our written statement includes--and this is lengthy--
several examples of provisions that when analyzed do not 
justify their continuation in the law. These are but a few 
examples, not an extensive analysis, of all the complexity that 
could be addressed in the tax law.
    I would like to briefly mention a few areas of particular 
importance to small business. The first is an area of which 
this Committee is well aware: Accounting methods. You have 
already addressed this year the problems caused by the repeal 
of the installment method of accounting for accrual-method 
taxpayers. You are also aware of our proposal to expand the use 
of the cash method of accounting for small businesses that 
satisfy the $5 million gross receipts test included in section 
448, even when the purchase, production or sale of merchandise 
is an income-producing factor. In addition, we have proposed 
permitting those same small businesses to elect not to maintain 
inventories and to deduct materials and supplies as purchased 
rather than capitalizing them as materials and supplies under 
the regulations.
    There are other significant accounting issues that have 
been alluded to this morning, whetheran expense must be 
capitalized or may be deducted, the depreciation rules, the uniform 
capitalization rules. Another area is the rules governing pension 
plans. The tax rules in this area contain numerous traps for the 
unwary. Among the rules that are badly needed to be simplified are the 
minimum distribution rules and the top heavy rules.
    A related area requiring attention is another that has been 
mentioned this morning, and that is the test for determining 
whether a worker is an employee or independent contractor. This 
determination is based on a 20-factor common law test. The 
factors are subjective, given to varying interpretations, and 
there is precious little guidance on how or whether to weigh 
them. The current complex and highly uncertain determination 
should be replaced with an objective test that applies for 
Federal income tax purposes and for retirement plan purposes as 
well.
    Another area requiring simplification is the multiple rules 
limiting the ability of a taxpayer to use losses. These include 
sections 465, 469, 704(d) and 1366(d).
    The fifth area is the international tax rules. Although the 
complexity of the international rules has generally been the 
problem of large business, the growth of global business 
opportunities is exposing an increasing number of small 
businesses to the complexity of these rules.
    Finally, let me point out the importance of addressing some 
individual provisions that often affect small business owners. 
These include the individual AMT, which no longer serves the 
purpose for which it was enacted, the rules for calculating 
estimated income taxes that Marty mentioned, the 2 percent 
floor on miscellaneous itemized deductions, the capital gains 
regime, and the estate tax and special rules within the estate 
tax.
    We appreciate your attention and interest in these matters, 
and we will be pleased to work with the Committee and its staff 
on these important issues as well as other tax issues of 
significance to small business. Thank you.
    Chairman Manzullo. Thank you very much.
    [Ms. Olson's statement may be found in the appendix.]
    Chairman Manzullo. Congressman Tauzin was nodding his head 
with an ``I told you so'' in his eye, with all these different 
types of taxes.
    David Lifson.

 STATEMENT OF DAVID A. LIFSON, CHAIR, TAX EXECUTIVE COMMITTEE, 
 AMERICAN INSTITUTE OF CERTIFIED PUBLIC ACCOUNTANTS, NEW YORK, 
                               NY

    Mr. Lifson. Thank you, Mr. Chairman and members of this 
distinguished Committee. I am David Lifson, the chairman of the 
Tax Executive Committee of the American Institute of Certified 
Public Accountants, and I come before you representing more 
than 330,000 members, who in turn represent countless millions 
of small business taxpayers, many of whom work daily with small 
business units that are responsible to comply with the tax 
provisions that you enact.
    I would like to mention with respect to the competing 
alternate proposals for tax systems, the AICPA has published a 
book ``Flat Taxes, A Guide To The Debate'' that analyzes four 
of the more popular, brand new ideas to revamp the Internal 
Revenue Code. I would suggest that each of these ideas sound 
like a very efficient and good idea until you analyze the 
details, and as they say, the devil is in the details. Those 
same details are horribly weighing down our tax system right 
now, and I think the analysis has to be made of the competing 
details, as opposed to the competing concepts of equity and 
fairness, and just and appropriate tax systems to fund our 
society.
    The fourth alternative to the four competing tax systems is 
the alternative that we came here today to speak of, and that 
is the alternative of fixing the Code, we have rather than 
adopt a brand new, untested system. We don't take a position 
whether the solution is the fifth or any one of the first four, 
but offer you an analysis of each.
    Our tax laws are certainly too complicated. There appears 
to be very broad agreement on that level here. The current 
outcry for tax simplification is not new. In fact, the AICPA 
has warned Congress for more than a decade that the tax law is 
growing so dense that it threatens to undermine voluntary 
compliance. Small businesses in particular need an advocate 
such as the AICPA to collect and voice their concerns about the 
burdens that are imposed on them.
    As you know, we are not alone in our deep concerns about 
the ill effects of complexity in our tax system. Last year we 
were pleased to join with the American Bar Association's 
Section of Taxation and the Tax Executives Institute in a 
bipartisan effort to work toward the common goal of suggesting 
ways to make our current tax system simpler and more rational 
for a broad range of business and individual taxpayers.
    In collaboration with our professional colleagues, we 
developed an initial big-picture package of tax simplification 
recommendations that was submitted to Congress in February of 
this year. You need to know that there are a growing number of 
taxpayers who perceive the law to be unfair, that complexity 
impedes the continuing efforts of the Internal Revenue Service 
to administer and enforce the law, that the cost of compliance 
for taxpayers is increasing disproportionately with everyone's 
income, and that complexity interferes with economic 
decisionmaking.
    The worst part of all of this is that the end result is 
erosion of voluntary compliance, and we have the voluntary 
compliance system that is the envy of the rest of the world. 
Now, by and large our citizens obey the law, but it is only 
human to disobey a law if you do not or cannot understand the 
rules. The dynamic American economy is changing and moving 
rapidly against an unnecessarily cumbersome and in some areas, 
an absolutely outdated income tax system.
    There are various types of simplification. You can simplify 
calculations. You can simplify the filing burden. But most 
importantly, you can reduce the chance of having a dispute 
between the IRS and the taxpayer.
    Now, the first two types of simplification are sometimes 
the easiest to identify and fix, although the repairs involve 
some very hard choices. Computers help, forms help, technology 
will help. But this is not just about math. The last type of 
problem, adding certainty to the law and thereby reducing the 
likelihood of a dispute, is the most difficult to effectuate, 
yet, in my view, the most important. Clarifying law that is 
hard to understand must be a priority if we are to achieve a 
simpler system that is based on anything like our current 
Internal Revenue Code.
    Now, the AICPA, in their blueprint for Tax Simplification 
issued back in 1992, identified four elements to consider in 
creating a simpler tax system. That blueprint was largely 
adopted as part of your 1997 legislative action. But starting 
to consider simplification falls way short of delivering less 
complex tax rules. The blueprint, the related complexity index 
and our written remarks submitted for the record go into 
greater detail, and I hope you will review both.
    The bottom line is there has been much talk about 
simplification, but simplification still has a difficult time 
finding its way into enacted legislation. Nevertheless, the 
basic principles outlined above still apply and should be used 
in today's tax legislation environment. We need to look at 
worker classification, capitalization versus expensing, 
installment sales of business, and safe harbors; especially 
safe harbors from the most complex rules, and particularly when 
those rules were designed for large corporations. Many of the 
other witnesses have discussed these items.
    I thank you for your time. We recognize that a tax system 
that is simple for all taxpayers may never be designed, but we 
do believe a simpler system is attainable.
    Thank you for the opportunity to voice our concerns.
    Chairman Manzullo. Thank you very much.
    [Mr. Lifson's statement may be found in the appendix.]
    Chairman Manzullo. Scott Moody. Do you want to pull that 
mike close to your face?

     STATEMENT OF SCOTT MOODY, ECONOMIST, TAX FOUNDATION, 
                         WASHINGTON, DC

    Mr. Moody. Thank you, Mr. Chairman and members of the 
Committee. My name is Scott Moody, and I am an economist with 
the Tax Foundation.
    It is an honor for me to be here before your Committee 
today on behalf of the Tax Foundation to discuss tax complexity 
on small businesses.
    The Tax Foundation is a nonprofit, nonpartisan educational 
organization that has been monitoring fiscal policy at all 
levels of government since 1937. The Tax Foundation is neither 
a trade association nor a lobbying organization. As such we do 
not take a position on specific legislative proposals.
    Our goal is to explain precisely and as clearly as possible 
the current state of fiscal policy in light of established tax 
principles. According to these principles a good tax system 
should be as simple as possible, not be retroactive, be neutral 
in regards to economic activities and, of course, be stable.
    All of the studies that the Tax Foundation has ever 
undertaken on tax complexity demonstrate that there are 
economies of scale when it comes to tax compliance. For 
instance, in 1996, small corporations, those with less than a 
million dollars in assets, spent at least 27 times more on 
compliance as a percent of assets than the largest U.S. 
corporations or those with more than 10 billion in assets.
    This is especially important to consider because most 
smaller corporations, 90 percent in fact, have assets of less 
than $1 million.
    While some tax simplification for small business has 
occurred since 1996, most notably the Taxpayer Relief Act of 
1997, we believe our results remain illustrative of the 
magnitude of the tax burden faced by small businesses. For 
instance, two important measures of the tax complexity, the 
size of the Tax Code and the instability of the Tax Code, have 
been continuing to increase. The number of words in the Tax 
Code, for example, have been steadily increasing. We have 
looked back in time, and since 1955, there were slightly more 
than 400,000 words that we estimate in the Internal Revenue 
Code. Today there are more than 1.6 million, and that is up by 
200,000 words only 5 years ago.
    In addition, the number of sections in the Internal Revenue 
Code have been climbing even faster than the word count. In 
1954, there were 103 sections in the Tax Code. Today there are 
725. That is an increase of over 600 percent.
    In addition to the complexity associated with the sheer 
size of the Tax Code, small businesses must also contend with 
the instability of the Tax Code itself. In other words, it is 
not just a matter of learning the Tax Code a single time, 
rather it is an ongoing process of keeping up to date with the 
latest legislative changes, regulatory changes, and Tax Court 
rulings.
    In terms of legislative changes, the Tax Foundation 
research has estimated that on average every section of the 
Internal Revenue Code is amended once every 4 years. This is a 
direct result of the 32 significant Federal tax enactments that 
have taken place since 1954, or approximately one every 1.4 
years. However, this legislative instability does not take into 
account the fact that when tax law changes, so do regulations. 
As a general rule, surges in proposed IRS regulations occur 
within the first 3 years after significant tax legislation has 
been enacted.
    So you can see between the changes in legislation and 
regulation, the Tax Code is almost always in a state of 
constant fluctuation. Such instability also spills over into 
the tax courts, and since it typically takes a taxpayer's 
dispute 3 years to appear on court dockets, small businesses 
are at an inherent disadvantage.
    If small business owners cannot accurately predict the 
consequence of a particular economic activity either because of 
the size or instability in the Tax Code, then the tax policy is 
handicapping the growth of small businesses and the U.S. 
economy in general. The benefits of reducing tax complexity 
would dramatically benefit small businesses since they 
currently bear a disproportionate amount of the burden. This 
could be done in a comprehensive revision of the Tax Code 
guided by established tax principles. In addition, such tax 
reform would diminish the need for future corrective tax 
legislation and thereby increase the stability of the Tax Code 
and regulations.
    Thank you very much.
    Chairman Manzullo. Well, thank you. I appreciate it very 
much.
    [Mr. Moody's statement may be found in the appendix.]
    Chairman Manzullo. Congressman Tauzin, I know you have an 
11 o'clock Subcommittee hearing, so if you have to leave us you 
are excused. If you want to stick around that would be fine, 
too.
    Mr. Tauzin. Thank you. I have to leave. I really enjoyed 
the presentations, and let me say big kudos to Scott. That was 
excellent.
    I want to say one more thing. I don't know--certainly not 
in this session of Congress, but there are growing cries for 
tax reform. And Dick Armey and I went on a tax debate around 
the country. We did 40 cities in the last several years. I have 
never touched a hotter political button. Americans are so ready 
for us to do major reform, not just little fixes, not just 
minor reforms, but major reforms that really simplify matters.
    And I agree with the accountants. I have been close with 
the accountants for many years. We have worked closely 
together. There are a lot of good plans out there. I don't have 
any pride of authorship. I think we have a good one, and I will 
defend it with anyone, but if someone has a better one, bring 
it on. Americans are ready for this, and small businesses in 
particular, and people generally who have less resources, the 
small business community than the big business community, are 
indeed the ones most impacted.
    Let me urge you to keep up your good work. Count on me to 
help you any way I can.
    Chairman Manzullo. Thank you very much. I appreciate that.
    Todd McCracken.

STATEMENT OF TODD McCRACKEN, PRESIDENT, NATIONAL SMALL BUSINESS 
                     UNITED, WASHINGTON, DC

    Mr. McCracken. Thank you, Mr. Chairman. It is a pleasure to 
be here today. Again, my name is Todd McCracken. I am president 
of National Small Business United. We are the Nation's oldest 
small business advocacy organization. I appreciate the 
opportunity to be here today and to make a few comments about 
the problems that small businesses have with thecomplexity of 
the Tax Code. I would like to take time to discuss a tax proposal that 
we have endorsed that I believe could really revolutionize the existing 
tax system.
    Mr. Chairman, the NSBU was founded when the income tax was 
only 23 years old, with only two pages in forms and several 
pages of instructions. While we have not grown at the 
exponential rate of the income tax laws, we do now represent 
65,000 small businesses nationwide.
    We have given a great deal of thought and attention to the 
problem of simplification and agree with every one of the areas 
that were mentioned here this morning as important areas that 
need to be simplified for small business, but as you can see, 
when you put up those--and what we have heard this morning are 
for the most part broad areas, and within each of those broad 
areas are enormous numbers of issues that need to be addressed 
to simplify the Code for small business.
    It is a monumental chore that we are faced with to truly 
simplify the system for small businesses, and the reason this 
is the case is because we insist on continuing to tax income, 
which means we have to define income, which means we have to do 
it in an equitable way.
    We are faced with so many political agendas in trying to do 
that, and there are so many political advantages to simplifying 
the current system that we have grown unfortunately cynical and 
skeptical that this system can really be fixed and simplified 
for small business. And to the extent that it can be, and we 
are prepared to work with anybody on any of these proposals to 
truly get some additional simplification in the Code, we are 
also unfortunately of the belief that any simplification that 
we do see is likely to be temporary, just given the lessons 
that we have seen since 1986 and even before that the forces 
that work on this Code continued to make it more complex and 
continued to make it more unwieldy for smaller businesses.
    Most entrepreneurs, that is unless they make a career of 
selling tax shelters, correctly see the current system we have 
as punishing each step toward the American dream. Every step of 
a business's life faces significant tax obstacles. At the 
start-up level the savings are taxed and start-up costs are not 
deductible. Capital investments are made from after-tax dollars 
and then taxed multiple times when the income is earned and 
when the underlying asset that generates that income is sold. 
They are taxed when growing because the government takes an 
increasing share of income as more money is made. They are 
taxed on exporting because U.S. taxes raise the price of our 
goods relative to foreign goods. They are taxed when they add 
jobs because of our extraordinarily high payroll taxes, 
increased costs of hiring.
    Family businesses are discouraged because they are taxed 
when they are sold. And finally the owner gets to meet the 
undertaker and the IRS on the same day as the government 
effects a leveraged buyout of the business.
    In February of this year, a national survey conducted by 
American Express confirmed what NSBU already knew. A survey 
showed that 74 percent of entrepreneurs consider tax reform a 
top priority, but since the majority of Americans share our 
common dislike for our present system, it is unfortunately 
easier to demagogue the current system than to reach consensus 
on what a new and more ideal system should look like.
    NSBU leads entrepreneurial organizations not only by 
defining the principles on which tax reform should be based, 
but lending our full support for a specific proposal, the 
FairTax national sales tax plan. The FairTax, we believe, is an 
enlightened policy. The FairTax abolishes all Federal income, 
FICA, estate and capital gains taxes, and so it allows small 
businesses to prosper as never before in this country by 
instituting a 23 percent tax on all end-use goods and services. 
The FairTax would sweep away the burdens of the current tax 
system and create a new dawn of American entrepreneurship and 
economic growth.
    The FairTax would allow small businesses to begin with 
savings put aside with pre-tax dollars. It would allow them to 
grow unfettered by the income tax, and without an eye on the 
capital gains tax. It would allow them to hire without 
discouragement from the payroll tax. It would allow them to 
export unfettered by punitive American taxes on our exports. It 
would allow them to make capital investments, unfettered by 
hidden costs in the capital assets. It would not penalize good 
years and bad by implementing the best of income averaging, a 
zero rate of tax. It would discontinue the charade of taxing 
income multiple times. But most importantly, it would repeal 
the self-employment taxes that are the most despised by 
entrepreneurs.
    The FairTax would tax Americans on income, but only at the 
point that they consume that income, not when they invest and 
save. Small business owners would have greater access to 
capital, the lifeblood of a free economy. Small business owners 
would be able to pass their businesses on to their children.
    I would like to make one final point about this kind of 
system that I think gets on the point that other people made, 
and then I will end.
    As the complexity disappears, we would reinstate the novel 
concept that Americans have the right to understand the law to 
which they are subject. Moreover, they will immediately see and 
understand the tax rates and any changes that occur.
    The current complexity of the Code leaves most Americans, 
rightly or wrongly, feeling that they bear an unfair share of 
the tax burden. The poor believe that advantages must lie with 
those who are well off. The wealthy see the high marginal rates 
and limited deductions and feel singled out by the tax system. 
The middle class assume that credits for the poor and loopholes 
for the wealthy mean they alone bear the country's tax burden.
    While there are fallacies and accuracies in each group's 
assumption, the unfortunate side effect is a polarization of 
the country and a universal feeling of victimization. It should 
be clear to any observer that this feeling leads to tax 
avoidance and cheating on an unprecedented scale.
    If we can remove these hard feelings about the Tax Code, we 
can markedly improve compliance and give a boost to the 
national comity at the same time.
    There are all kinds of other reasons that Mr. Tauzin got 
into for moving to this kind of system, but I appreciate the 
opportunity to be here and look forward to talking some more 
about this topic. Thank you.
    Chairman Manzullo. Thank you very much.
    [Mr. McCracken's statement may be found in the appendix.]
    Chairman Manzullo. I have a few questions.
    Scott, do you want to scoot around there so you can share 
the mike there with Mr. McCracken?
    First of all, we want to thank you for coming. We did get 
the testimony in prior to the bells going off.
    And, Mr. Oveson, this question is to you. We have a 
constituent who has a petition for a private letter ruling 
pending before the IRS for 6 years. And I have a phone 
conference call with Mr. Rossotti today between noon and 12:30, 
I have found him to be extremely helpful in going right to the 
top on helping to move some things. It involves approval of 
some pension plans. I just don't want to get into great detail. 
But I am willing to go to the floor next week if we don't get 
action from the IRS and mention specifically the people within 
the IRS who refuse to answer a Congressman's phone call. That 
will take full use of the liability immunity under the 
Constitution in order to move these bureaucrats off center so 
they can do their specific jobs.
    That may sound like a threat, and it certainly is. But 
unfortunately sometimes the only way to get something done 
around this city is to threaten to expose people by name, and 
then all of thesudden something miraculously gets done.
    But notwithstanding that, we have found Mr. Rossotti to be 
extremely helpful. Some of you may have dealt with him. He is 
the first--and forgive me, Pam, because I am an attorney also--
non-tax lawyer to take over the IRS. He is a systems person. He 
understands analysis. He understands the concepts you are 
talking about in terms of predictability and ability for small 
businesses to thrive. So I have a lot of respect for him.
    Val, let me ask you this question: In terms of your office, 
what type of independence do you have from IRS? Tell us how you 
are set up legally.
    Mr. Oveson. I am not independent from the IRS. There were 
various proposals that----
    Chairman Manzullo. Legally.
    Mr. Oveson [continuing]. That came up that would have had 
me, the taxpayer advocate, be independent, but I report to 
Commissioner Rossotti, whom you have appropriately praised. I 
feel the same way about him. I report to him. He does my 
evaluations. I am not independent from the IRS. The 
independence that is talked about is with the individual 
taxpayer advocates out in the field of which the law requires 
there be at least one per State.
    Chairman Manzullo. Explain how that works.
    Mr. Oveson. They are independent from the district 
directors, from the regional commissioners in the current 
system, from the unit commissioners in the future system.
    Chairman Manzullo. How are they paid?
    Mr. Oveson. They are IRS employees.
    Chairman Manzullo. Through IRS, but they have true legal 
independence in terms of their thoughts?
    Mr. Oveson. Well, they report up to me rather than to the 
other parts of IRS, so they are independent in the same way 
that appeals is independent from the other portions of the IRS. 
But this issue is one that I deal with and answer daily around 
the country with the perception or misperception that we are 
independent from the IRS, which we are not. We are independent 
within the IRS and not independent from the IRS. Does that 
help?
    Chairman Manzullo. That does. We have a similar situation 
with Jerry Glover in SBA, who heads the Office of Advocacy. He 
ends up going head to head with other government agencies. We 
appreciate that.
    I have a question for Pam Olson, and for any of you who may 
want to answer too. Everyone agrees the present system is 
anywhere from bankrupt or corrupt to unfair. Where do you 
start? Where do you start without getting somebody else's 
feathers up? Can there be a consensus of 10 points upon which 
everybody agrees, or even one point in this whole process of 
reforming?
    Pam, do you want to start with that?
    Ms. Olson. Well, yes, that is a question you could probably 
spend a couple of days talking about. I guess I would say there 
are two sources--there are millions of sources--but two sources 
of complexity we need to address.
    One of them comes from the IRS, and I actually share your 
admiration of Commissioner Rossotti. And long before a non-tax 
lawyer was appointed to the Commissioner's job, I suggested to 
people that I thought it was an appropriate thing to do because 
I don't think that all tax lawyers have the predisposition 
needed to run an organization the size of the Internal Revenue 
Service. And I think bringing somebody into the IRS from the 
outside business community was a very smart thing to do. 
Lawyers have too much of a tendency to dot every I and cross 
every T and not enough sense that what we are doing here is 
running a very large business institution. It has got to be run 
like a business institution.
    For the same reason I applauded bringing in Val Oveson from 
outside the IRS, somebody with a different mindset about how 
things have to get done and what you have to do to run the 
system. That attitude on the part of Mr. Rossotti and Mr. 
Oveson needs to spill over into the Chief Counsel's Office and 
needs to permeate down through the Agency so that there is an 
appreciation for the fact that we need to make decisions; we 
need to have those decisions whenever possible have prospective 
effect, not retroactive effect, so that people can plan; and 
the answers need to be clear, simple and administrable. We 
can't spend our time splitting hairs forever, because if we do, 
we end up with a law that is so complex that nobody can comply 
with it.
    Chairman Manzullo. We have 5 minutes. It gives everybody 
here about a minute.
    Martin.
    Mr. Davidoff. I agree with Pam. Also, the constituency of 
the ABA and the AICPA have come forth with proposals that I 
think very few people could disagree with, and you can start 
with that as a means. Also I think Mr. Oveson in his annual 
report has talked about phaseouts and getting rid of that, 
which I have talked about today. I don't think anybody really 
disagrees with that, other than people who want to trick the 
American public on what the tax rate is.
    I want to comment on the reason why Mr. Oveson and everyone 
else thinks the National Taxpayer Advocate is independent even 
though they are not is the way that Mr. Oveson has run that 
office and Mr. Rossotti has given him the freedom to run the 
office, and I think they have done a magnificent job.
    But there are plenty of proposals on the table today; I 
mean, section 179 traps, and a lot of other things. If you 
dedicated yourself to spending the next 2 years to doing that 
and avoiding things like changing estimated tax, safe harbors 
and consulting us before you do things like you did last year 
with the installment sales, we wouldn't do this. The problem is 
Congress too often says, I need revenue, and refuses to go back 
to the American public and say, I need to increase the rate. 
Well, now you have an opportunity. You have a surplus. So 
instead of saying we are going to give a 10 percent across-the-
board tax cut, say we are going to start fixing some of these 
things, because we have the revenue, and now we can undo some 
of these things and make them more fair.
    Chairman Manzullo. I appreciate that.
    David.
    Mr. Lifson. We all know that simplification is complex. And 
in the words of a former IRS Commissioner who happened to be a 
tax attorney, but a very insightful one, I think one of the 
keys is the appropriate balance of rough justice. And the 
difficulty with simplification is enacting a single act of 
simplification which often leads to a rough justice where there 
are winners and losers in that particular thought or in that 
particular change.
    If you actually were on a mission to create simplification 
and you took 10, 20 or 30 simplification ideas, it would blur 
the winners and losers because so many people would be affected 
by multiple changes that by the time you were all done, you 
would wind up with a system that, I am sure, you could find one 
person in some small town somewhere got cheated; but in the end 
of the game, you will have your rough justice system and the 
advantages of understanding, and, in our view, the increase in 
the tax compliance rate would more than pay for the revenue 
losses from averaging down or simplifying the law so a few 
people paid a little bit less tax.
    Chairman Manzullo. Does anybody else want to respond to the 
same question? We will conclude here.
    Mr. McCracken. I think the most important thing to be 
done--obviously, a lot of thesethings that have already 
happened have to be addressed or need to be addressed. I agree with 
something somebody else said earlier, and that is the foremost thing is 
to stop making it more complex. And probably the smartest way to do 
that is, yes, we have a surplus now, and most of the talk is not how do 
we raise taxes, but how to find some consensus on lowering them. I 
guess my admonition would be avoid highly targeted, phased-in strange 
things in the Tax Code. If you are going to change the tax system, 
change it.
    Mr. Davidoff. Here, here.
    Mr. McCracken. And stay away from ``targeted'' tax cuts--
targeting always sounds nice because we will help the people 
that really need the help, but it usually ends up meaning we 
are adding enormous complexity to the Tax Code.
    Chairman Manzullo. Scott or Val, do you want to add 
anything to that?
    Mr. Oveson. I just want to reemphasize that every change or 
every deduction credit or line you add to the Code 
geometrically complicates the Code.
    Chairman Manzullo. Scott, did you want to have the last 
word on that?
    Mr. Moody. One thing I wanted to mention is the 
instability. There is a trade-off. Every time you make these 
small changes, you are increasing the instability, and 
instability is a huge component of tax complexity. It is hard 
to measure, but it is something that is there.
    Chairman Manzullo. I want to thank you very much. Our goal 
was to conclude the hearing before the votes started, and we 
accomplished that. This is extremely significant in terms of 
the small businesses that we represent. My brother has a small 
restaurant with 13 tables, and he literally just pulls his hair 
out because he doesn't know what to do. He does not know what 
is expected of him with the complexities of the tax code.
    What bothers me, and it did not come up here, is the social 
consequence of a complex Tax Code which is to push small 
businesses out of business and make way for larger chain 
stores. I am not saying there is anything wrong with that, but 
people ask what happened to the corner drug store? What 
happened to the corner grocery store? What happened to this? 
The corners are gone now because the trucks have to make right 
turns, and along with them the businesses are gone. But so 
often they are gone because they just can't keep up with all 
the regulations and all the taxation, and they end up selling 
out.
    Our Ranking Minority Member Mrs. McCarthy is having 
emergency dental surgery. Otherwise she would have been here. 
She is always at these meetings, and we miss her. If she wanted 
to submit some statement to the record, we will do that.
    And this Subcommittee is adjourned. Thank you.
    [Whereupon, at 11:14 a.m., the Subcommittee was adjourned.]



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