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





                         FUNDAMENTAL TAX REFORM

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

                                HEARING

                               before the

                      COMMITTEE ON WAYS AND MEANS
                        HOUSE OF REPRESENTATIVES

                       ONE HUNDRED SIXTH CONGRESS

                             SECOND SESSION

                               __________

                       APRIL 11, 12, and 13, 2000

                               __________

                             Serial 106-115

                               __________

         Printed for the use of the Committee on Ways and Means


                   U.S. GOVERNMENT PRINTING OFFICE
71-879                     WASHINGTON : 2001

_______________________________________________________________________
            For sale by the U.S. Government Printing Office
Superintendent of Documents, Congressional Sales Office, Washington, DC 
                                 20402

                      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        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
WES WATKINS, Oklahoma                LLOYD DOGGETT, Texas
J.D. HAYWORTH, Arizona
JERRY WELLER, Illinois
KENNY HULSHOF, Missouri
SCOTT McINNIS, Colorado
RON LEWIS, Kentucky
MARK FOLEY, Florida

                     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

American Business Conference, Barry K. Rogstad...................   256
American Farm Bureau Federation, and Oklahoma Farm Bureau, Steve 
  Kouplen........................................................    66
Americans for Fair Taxation:
    Hon. John E. Chapoton........................................   135
    Leo E. Linbeck, Jr...........................................    42
Angell, Wayne, Bear Stearns & Company, Inc.......................   115
Armey, Hon. Richard K., a Representative in Congress from the 
  State of Texas, and House Majority Leader......................   217
Association for Manufacturing Technology, James H. Mack..........   263
Barcroft Consulting Group, and National Retail Federation, John 
  G. Wilkins.....................................................    98
Bear Stearns & Company, Inc., Wayne Angell.......................   115
Bill Helming Consulting Services, Inc., Bill Helming.............   309
Brookings Institution, Hon. Bill Frenzel.........................   159
Center for the Study of Taxation, Patricia M. Soldano............   332
Chapoton, John E., Vinson & Elkins, LLP, and Americans for Fair 
  Taxation.......................................................   135
Christian, Ernest S., Washington, DC.............................   163
Davis, Frank L., Jr., Alexandria, VA.............................   201
English, Hon. Phil, a Representative in Congress from the State 
  of Pennsylvania................................................   147
Entin, Stephen J., Institute for Research on the Economics of 
  Taxation.......................................................   335
Foster, J.D., Tax Foundation.....................................   168
Frenzel, Hon. Bill, Brookings Institution........................   159
Global Strategy Group, Inc., Jefrey Pollock......................   286
Hamilton, Billy, Texas Comptroller Office of Public Accounts.....   127
Helming, Bill, Bill Helming Consulting Services, Inc.............   309
Howard, Jerry, USX Corporation...................................   260
Institute for International Economics, Gary Hufbauer.............   177
Institute for Policy Innovation, Aldona Robbins..................   315
J.C. Penney Company, and National Retail Federation, Del 
  Threadgill.....................................................   140
Kotlikoff, Laurence J., National Bureau of Economic Research, and 
  Boston University..............................................    91
Kouplen, Steve, American Farm Bureau Federation, and Oklahoma 
  Farm Bureau....................................................    66
Linbeck Corporation, and Americans for Fair Taxation, Leo E. 
  Linbeck, Jr....................................................    42
Linder, Hon. John, a Representative in Congress from the State of 
  Georgia........................................................     7
Luntz Research Companies, Frank Luntz............................   282
Mack, James H., Association for Manufacturing Technology.........   263
Martin, James, Horseshoe Bay, TX.................................    69
McCracken, Todd, National Small Business United..................    51
Metcalf, Gibert E., National Retail Federation, and Tufts 
  University.....................................................   106
Moore, James O., Smithtown, NY...................................   195
National Association of Manufacturers, and Tupperware 
  Corporation, James E. Rose, Jr.................................   267
National Association of Realtors, Scott Rooth....................    57
National Bureau of Economic Research, and Boston University, 
  Laurence J. Kotlikoff..........................................    91
National Retail Federation:
    Gilbert E. Metcalf...........................................   106
    Del Threadgill...............................................   140
    John G. Wilkins..............................................    98
National Small Business United, Todd McCracken...................    51
Oklahoma Farm Bureau, and American Farm Bureau Federation, Steve 
  Kouplen........................................................    66
Peterson, Hon. Collin C., a Representative in Congress from the 
  State of Minnesota.............................................    10
Pollock, Jefrey, Global Strategy Group, Inc......................   286
Portman, Hon. Rob, a Representative in Congress from the State of 
  Ohio...........................................................   274
Powell, James L., Fort McKavett, TX..............................   312
Regalia, Martin A., U.S. Chamber of Commerce.....................   327
Robbins, Aldona, Institute for Policy Innovation.................   315
Rogstad, Barry K., American Business Conference..................   256
Rooth, Scott, National Association of Realtors...................    57
Rose, James E., Jr., National Association of Manufacturers, and 
  Tupperware Corporation.........................................   267
Skarbek, Janet L., Cinnaminson, NJ...............................   129
Soldano, Patricia M., Center for the Study of Taxation...........   332
Tauzin, Hon. W.J. ``Billy,'' a Representative in Congress from 
  the State of Louisiana.........................................   221
Tax Foundation, J.D. Foster......................................   168
Texas Comptroller Office of Public Accounts, Billy Hamilton......   127
Threadgill, Del, National Retail Federation, and J.C. Penney 
  Company........................................................   140
Traficant, Hon. James A., Jr., a Representative in Congress from 
  the State of Ohio..............................................   226
Tupperware Corporation, and National Association of 
  Manufacturers, James E. Rose, Jr...............................   267
U.S. Chamber of Commerce, Martin A. Regalia......................   327
USX Corporation, Jerry Howard....................................   260
Wilkins, John G., National Retail Federation, and Barcroft 
  Consulting Group...............................................    98
Worley, Steven, Colbert, GA......................................   191

                       SUBMISSIONS FOR THE RECORD

Adams, Charles, Williamsville, NY, statement.....................   349
American Forest & Paper Association, W. Henson Moore, statement..   354
American Petroleum Institute, Michael Platner, statement.........   356
Apolinsky, Harold, Sirote & Permutt, P.C., joint statement.......   420
Argus Group, Dan R. Mastromarco, and Sirote & Permutt, P.C, 
  Harold Apolinsky, joint statement..............................   420
Associated General Contractors of America, Alexandria, VA, 
  statement......................................................   361
Barcia, Hon. Jim, a Representative in Congress from the State of 
  Michigan, statement............................................   365
Bell, Thurston, National Institute for Taxation Education, 
  Hanover, PA, statements........................................   389
Berthoud, John, National Taxpayers Union, Alexandria, VA, 
  statement......................................................   395
Burton, David R., Prosperity Institute, Alexandria, VA, statement   404
Cain, Herman, Godfather's Pizza, Inc., Omaha, NE, statement......   366
Cargill, Barry, Small Business Association of Michigan, Lansing, 
  MI, statement..................................................   409
Council of Smaller Enterprises, Cleveland, OH, statement and 
  attachment.....................................................   365
Godfather's Pizza, Inc., Omaha, NE, Herman Cain, statement.......   366
Hall, Hon. Ralph M., a Representative in Congress from the State 
  of Texas, statement............................................   369
Herbert, Glendale O., Pembrok Equity, New York, NY, statement....   399
Hodous, Robert P., Payne & Hodous, Charlottesville, VA, statement   398
Kahn, Joseph M., Stanford University, Decisions and Ethics 
  Center, Palo Alto, CA, statement...............................   370
Keating, Raymond J., Small Business Survival Committee, statement   411
Klein, Lori, Taxpayer Protection Alliance, Phoeniz, AZ, statement   413
Loftman, Bert, Atlanta, GA, statement and attachment.............   378
Mastromarco, Dan R., Argus Group, joint statement................   420
Mitchell, Daniel J., Heritage Foundation, statement and 
  attachments....................................................   379
Moore, W. Henson, American Forest & Paper Association, statement.   354
National Federation of Independent Business, statement...........   385
National Grain Trade Council, statement..........................   388
National Institute for Taxation Education, Hanover, PA, Thurston 
  Bell, statements...............................................   389
National Taxpayers Union, Alexandria, VA, John Berthoud, 
  statement......................................................   395
O'Donnell, John B., Chula Vista, VA statement....................   396
Payne & Hodous, Charlottesville, VA, Robert P. Hodous, statement.   398
Pembrok Equity, New York, NY, Glendale O. Herbert, statement.....   399
Platner, Michael, American Petroleum Institute, statement........   356
Prosperity Institute, Alexandria, VA, David R. Burton, statement.   404
Redefining Progress, San Francisco, CA, statement................   405
Schulz, Robert L., We the People Foundation for Constitutional 
  Education, Inc., Queensbury, NY, letter........................   417
Sirote & Permutt, P.C., Harold Apolinsky, and Argus Group, Dan R. 
  Mastromarco, joint statement...................................   420
Small Business Association of Michigan, Lansing, MI, Barry 
  Cargill, statement.............................................   409
Small Business Survival Committee, Raymond J. Keating, statement.   411
Taxpayer Protection Alliance, Phoenix, AZ, Lori Klein, statement.   413
UWC-Strategic Services on Unemployment & Workers' Compensation, 
  statement......................................................   415
We the People Foundation for Constitutional Education, Inc., 
  Queensbury, NY, Robert L. Schulz, letter.......................   417

 
                         FUNDAMENTAL TAX REFORM

                              ----------                              


                        TUESDAY, APRIL 11, 2000

                       Committee on Ways and Means,
                                  House of Representatives,
                                                    Washington, DC.
    The Committee met, pursuant to notice, at 10:02 a.m., in 
room 1100, Longworth House Office Building, Hon. Bill Archer 
(Chairman of the Committee) presiding.
    [The advisories announcing the hearing follow:]

ADVISORY FROM THE COMMITTEE ON WAYS AND MEANS

                                                CONTACT: (202) 225-1721
FOR IMMEDIATE RELEASE
April 3, 2000
FC-20

                      Archer Announces Hearing on

                         Fundamental Tax Reform

    Congressman Bill Archer (R-TX), Chairman of the Committee on Ways 
and Means, today announced that the Committee will hold a hearing to 
consider fundamental tax reform proposals. The hearing will begin on 
Tuesday, April 11, and be continued on Wednesday, April 12, and 
Thursday, April 13, 2000, in the main Committee hearing room, 1100 
Longworth House Office Building, beginning at 10:00 a.m. each day.
      
    Oral testimony at this hearing will be from invited witnesses only. 
Witnesses will include Members of Congress, prominent tax reform 
experts, well-known economists, and other interested parties. However, 
any individual or organization not scheduled for an oral appearance may 
submit a written statement for consideration by the Committee and for 
inclusion in the printed record of the hearing.
      

BACKGROUND:

      
    In the past several years a host of legislative proposals have been 
offered which would significantly change the kind of tax regime 
contained in the Internal Revenue Code. These include the flat tax, the 
national retail sales tax, and the USA and Simplified USA tax. Other 
ideas not yet in legislative form abound. In 1995, 1996, and 1997, the 
Committee on Ways and Means held extensive hearings on many of these 
specific proposals and more generally on the subject of fundamental tax 
reform. Leading advocates of specific legislation introduced as well as 
economists, business leaders, and Members of Congress testified. In 
particular, the Committee devoted considerable attention to both H.R. 
1040, the flat tax proposal introduced by the Majority Leader Richard 
Armey (R-TX) and H.R. 1467 a retail sales tax proposal introduced by 
Rep. W.J. (Billy) Tauzin (R- LA).
      
    Since those hearings, a number of new legislative proposals have 
been introduced. These include H.R. 134 by Rep. Phil English (R-PA) and 
H.R. 2525 by Rep. John Linder (R-GA) and Rep. Collin Peterson (D-MN) 
among others. This hearing will provide the opportunity for the 
Committee to consider these newer proposals as it has with prior 
proposals.
      
    In announcing the hearing, Chairman Archer stated: ``Over the past 
5 years, I've made cutting taxes and simplifying the tax code a top 
priority. Still, the tax code is too complicated and confusing, and we 
need to get the IRS out of the lives of American taxpayers. That's why 
I'm proud to announce this three day hearing as part of the first ever 
Congressional summit on fundamental tax reform. We'll look at a host of 
new ideas which will eliminate our current tax code and replace it with 
something that is simpler and fairer. We need to rip the current tax 
code out by the roots so that it can never grow back.''
      

FOCUS OF THE HEARING:

      
    The focus of the hearing will be on which tax system is best for 
America in the new millennium, with a particular emphasis on tax reform 
proposals that have been introduced since the last set of hearings in 
1997. In particular, the Committee will want to hear from witnesses as 
to the relevance of these proposals to the international marketplace in 
which our companies and individuals must live and compete and whether 
these proposals meet the established criteria of being fair, simple, 
enforceable, and compatible with the other parts of the tax regimes 
which exist in America, namely State taxes.
      

DETAILS FOR SUBMISSION OF WRITTEN COMMENTS:

      
    Any person or organization wishing to submit a written statement 
for the printed record of the hearing should submit six (6) single-
spaced copies of their statement, along with an IBM compatible 3.5-inch 
diskette in WordPerfect or MS Word format, with their name, address, 
and hearing date noted on a label, by the close of business, Tuesday, 
April 25, 2000, 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, by close of business the day before the hearing.
      

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 submitted on an IBM compatible 3.5-inch diskette in WordPerfect or 
MS Word format, typed in single space and may not exceed a total of 10 
pages including attachments. 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, company, address, telephone and fax numbers where the witness or 
the designated representative may be reached. 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 advisors and news releases are available on the 
World Wide Web at ``http://waysandmeans.house.gov''.
      

    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
April 10, 2000
FC-20-Revised

                 Time Change for Full Committee Hearing

                    on Thursday, April 13, 2000, on

                         Fundamental Tax Reform

    Congressman Bill Archer (R-TX), Chairman of the Committee on Ways 
and Means, today announced that the full Committee hearing on 
Fundamental Tax Reform, previously scheduled for Thursday, April 13, 
2000, at 10:00 a.m., in the main Committee hearing room, 1100 Longworth 
House Office Building, will begin at 10:30 a.m.
      
    All other details for the hearing remain the same. (See full 
Committee press release No. FC-20, dated April 3, 2000.)
      

                                


    Chairman Archer. The committee will come to order.
    Today, we begin our Congressional Summit on Fundamental Tax 
Reform, which will be a 3-day open discussion that will 
hopefully lead to an overhaul of the archaic and meddling 
income tax code that has outlived its useful life. Americans 
spend 6.1 billion hours each year filling out the IRS forms and 
$200 billion in compliance costs. And I am told that is a 
conservative estimate, and some national magazines say that it 
could go as high as $500 to $600 billion a year. All of that 
means that the tax code is too complicated and confusing, 
unnecessarily so.
    In addition, Americans treasure their privacy and their 
individual freedom, and the income tax is the most intrusive 
part of the Federal Government in the lives of each American.
    We had a witness not too long ago who sat right at the 
chair in front of me, and as I asked other witnesses what would 
you give not to have to deal with the IRS every year, she--a 
middle-income lady from Connecticut--responded, ``I would give 
my first-born child.'' Obviously, she had an untoward 
experience with the IRS.
    But the IRS is not really at fault most of the time. The 
fault is their responsibility to enforce a law that has grown 
from 16 pages in 1913 to 2,840 pages today. And when you 
include all of the regulations, I believe it is in excess of 
14,000 pages.
    It is true the IRS has had its problems, but I am glad that 
Congress took action in 1998 to help at least fix some of those 
problems. Yet unless we face the fact that the income tax 
cannot be fixed--and I believe that to be a fact, having 
participated in numerous efforts at reform in the 29-plus years 
that I have been here in the Congress--there will always be a 
need for the IRS as long as we have an income tax and a host of 
interpretation about what is income on which no two economists 
completely agree.
    Because of our income tax, American workers are caught in a 
tax trap: The harder they work, the longer they work, the more 
they pay, and that is wrong.
    What are we taxing when we tax income? We tax work. We tax 
savings. We tax upward mobility. We tax productivity. In sum, 
we tax success. And that is just not right.
    Most economists believe that the more you tax of something, 
the less you are going to get of it. Do we really want less 
work, less savings, less upward mobility, less productivity, 
and less success? I don't think so, not in America. And yet 
that is what is driving our taxation program when we tax income 
as the base.
    Last week, President Clinton celebrated our new economy, 
but our new economy is shackled by an ancient tax code, a code 
that gives us headaches, invades our privacy, and hurts our 
ability to compete and win the international marketplace 
competition. Our tax code simply can't keep up with the economy 
and the rest of the world in the 21st century.
    We see that in the Internet tax debate. We see it in the 
WTO decision on FSC, Foreign Sales Corporations. We see it in 
the flight of U.S. corporations overseas to escape our tax 
code: Chrysler has become a German corporation, Amoco has 
become a British corporation, and Bankers Trust has become 
Deutschebank, a German corporation, because of our tax code.
    We have heard a lot about corporate tax shelters recently, 
but the ultimate tax shelter for U.S. firms is just to pick up 
and leave. Do we really want that? I don't think so.
    So this summit is to show Americans that our horse-and-
buggy tax code won't work in our Internet economy. It is time 
to work together to replace it with a fairer, simpler, and 
better system.
    I now recognize Mr. Rangel for any statement he would like 
to make.
    Mr. Rangel. I appreciate this opportunity, Mr. Chairman. 
For a long time, you have been very concerned about the 
complexity of the tax code and its unfairness to taxpayers. I 
would have thought, however, that since the Republicans have 
shown an equal concern about this very sensitive subject matter 
during all these years that you have enjoyed the Majority, that 
we wouldn't have had to wait 6 years just to have another 
hearing.
    I would have hoped that, during this period of time that 
you have enjoyed the Majority, a piece of legislation would 
have been drafted, we would be holding hearings on specifics, 
and it would not be a Republican idea but it would be 
Republicans and Democrats working together in trying to improve 
the tax system.
    But, consistently, there hasn't been just a lack of 
cooperation between our parties. There has been a lack of 
conversation between our parties.
    Take this hearing, for example. Why, if you had discussed 
this with me or the Speaker had discussed this sensitive 
subject matter with our Democratic Minority Leader, we would 
have said that these hearings are far too important for the 
tax-writing committee to be holding at the same time that we 
are debating and voting on tax legislation on the House Floor. 
I don't see how you expect Members of this Committee to be in 
attendance at hearings, to listen to our Members and other 
witnesses, and at the same time expect us to be on the Floor 
supporting our legislation or at least protecting our 
jurisdiction on the House Floor.
    But I really don't think that this hearing has anything to 
do with legislation. I think this has to do with lack of a 
political legislative agenda on which we can work together. And 
so, once again, we have got to talk about pulling up the income 
tax code by the roots--pulling it up by the roots and 
substituting it with what? Substituting with ideas that we will 
hear about today? Is there a bill? No. Have we had hearings? 
No.
    We have a document here that is in front of the Members. It 
has a concept called Americans for a Fair Taxation. Very well 
prepared. What we don't have is something that we will go into 
later. We don't have a statement from the Joint Committee on 
Taxation.
    Now, I know how much you depend on the private sector to 
provide for progressive legislation, but the Joint Committee is 
nonpartisan. They are supposed to give revenue estimates on 
these bills. One way or the other, we have got to get a 
document before this Committee so we can see how much these 
concepts really cost us.
    Now, from time to time, Mr. Chairman, you will find some 
Members here, Republicans and Democrats. I hope our witnesses 
will understand that our absence from these hearings is no 
disrespect to the Chair, to our colleagues, or to the 
witnesses. It is because the very same 3 days that we have 
scheduled hearings on tax reform are the very same 3 days that 
we have scheduled tax legislation on the House Floor.
    Why it was done this way I really don't know. But it is 
clear that these hearings are for public consumption and not 
legislation. We have no bill. We don't expect to have a bill. 
We don't expect to legislate in this area this year, or for the 
last 6 or 7 years. We never expected to.
    So there are so many other questions I have, but out of 
respect to our two colleagues who have come here to testify. I 
would tell you that the Chair has no plans for any legislation 
on this subject matter, not this, not Social Security, not 
Medicare reform. But it is interesting because it really closes 
out the years of the Republican Majority. This is how they 
started it off--with hearings about pulling the tax code up by 
the roots. And, this is how we are going to end it with 
hearings about pulling it up by the roots.
    Thank you, Mr. Chairman.
    Chairman Archer. We have two of our colleagues who will 
lead off the testimony this morning. Are you gentlemen prepared 
to speak about phantom legislation for which there is no bill 
before the committee?
    Mr. Linder. No, sir, but we would be pleased to talk about 
H.R. 2525 that was introduced by a Republican and a Democrat on 
July 14th of last year.
    Chairman Archer. So there is legislation before the 
committee on which we are holding these hearings today.
    Mr. Linder. That is correct.
    Chairman Archer. Would the gentleman also venture a guess 
as to whether this is appropriate procedure to hold hearings on 
legislation before there might be any action on the 
legislation?
    Mr. Linder. It strikes me as the right thing to do.
    Chairman Archer. Well, the Chair welcomes our two 
colleagues, Mr. Peterson and Mr. Linder, to present their bill, 
H.R. 2525, and, Congressman Linder, if you would lead off. 
First, welcome to the Committee.
    Mr. Linder. Thank you.
    Chairman Archer. I compliment both of you on the work on 
this bill, and the committee is prepared to hear your 
testimony, and you may proceed, Mr. Linder.

  STATEMENT OF HON. JOHN LINDER, A REPRESENTATIVE IN CONGRESS 
                   FROM THE STATE OF GEORGIA

    Mr. Linder. Thank you, Mr. Chairman. Mr. Chairman, I have a 
prepared statement that I have submitted for the committee, and 
I will summarize, if you don't mind, the aspects of H.R. 2525.
    It strikes me that if Congress had sat down in 1912 and 
said how can we build a tax system that is destructive of 
capital formation, that is inefficient, is unproductive, and is 
punitive, they couldn't over 88 years have come up with a 
better solution than we have got today.
    This is inefficient. We have seen studies from a variety of 
sources that for a small businessperson to collect, comply, and 
remit $1 in business income taxes, it costs them anywhere from 
$4 to $7 to do it.
    It is unfair to young people. It is the single largest 
stumbling block and impediment to getting from the first rung 
of the economic ladder to the second because, as you said in 
your statement, the harder you work, the more you save, the 
more you invest, the more we take.
    It is undecipherable. As you know, the IRS tells us if you 
call them asking for help in your tax return, 25 percent of the 
answers you get are going to be in error. They don't even 
understand it.
    Our proposal is to abolish all taxes on income, to change 
the paradigm. Do not tax what we put into society but tax what 
we take out in terms of personal consumption. Abolish all taxes 
on income, the gift tax, the estate tax, capital gains tax, and 
the payroll tax, which supports Social Security and Medicare 
and which is the largest tax that three-fourths of America 
pays, larger than their income tax, and replace it with a one-
time frank, transparent, at-the-checkout national sales tax. 
You spend $100, the first $23 goes to the tax man, the rest 
goes to the merchant.
    Under today's system, if you earn $100 and you are in the 
average income withholding bracket of 28 percent, the 
Government is going to take the first 36 bucks whether you 
spend it or not. So everyone is going to have improved 
purchasing power.
    We have learned from studies that there is no way for a 
corporation or a business to pay a tax. They don't have a 
mechanism. I have been built seven businesses, and there is 
simply not a secret drawer where money piles up behind you that 
you find your money for the corporate share of the payroll tax. 
There is not a secret drawer for the income tax. It comes out 
of price. It is passed down the line in price until somebody 
finally consumes the product, and that person not only consumes 
the product but all the taxes that have been embedded in it 
along the way.
    What would happen to the system? Just imagine being the 
only nation in the world selling goods and services into a 
global economy with no tax component in our prices. Exports go 
up. You, Mr. Chairman, have said--you have quoted on this floor 
on several occasions that a research group interviewed 500 
international corporations domiciled overseas, asked them what 
they would do if we abolished all taxes on income and went to a 
sales tax. Eighty percent said they would build their next 
plant in America; 20 percent said they would relocate to 
America. You referred to that actually in your statement about 
all the companies leaving this country. Exports increase.
    What would happen----
    Chairman Archer. Congressman Linder, I am informed by 
members of the committee they are having difficulty 
understanding your presentation--or hearing it, not 
understanding it.
    Mr. Linder. Okay.
    Chairman Archer. Perhaps you are too close to the mike, or 
maybe it is that the sound system just isn't working well this 
morning.
    Mr. Linder. Well, I will try it again. Is this better? Can 
you hear it better? Collin says I talk too fast.
    Mr. Chairman, for those who say that the sales tax is 
regressive on the poor, let me say the most regressive tax they 
have is the payroll tax that taxes, between what they and their 
corporation pay on their behalf, 15.3 percent of everything 
they earn up to $76,000. We not only get rid of that, we also 
get rid of the embedded cost of the IRS, and we believe at 
retail 22 percent of everything you pay is embedded business 
cost of the IRS. But we also give to every family a rebate at 
the beginning of every month that totally rebates the tax 
consequences of spending up to the poverty line. So everyone 
will have increased purchasing power, and everyone will have 
increased freedom.
    Can you imagine the privilege in a free society where no 
one knows how much you make, how you make it, how you invest 
it, if your investment makes money or loses, or how you spend 
your money? You will have the privilege of anonymity again, 
which we think is important in a free society.
    There are 100,000 people today at the IRS who know more 
about me than I am willing to tell my children, and I want them 
out of my life, and yours, too. And I agree that they are just 
doing their job, but nobody should know that detailed 
information about us.
    In 1912, a Senator in the discussion of the 16th Amendment 
was ridiculed and laughed off the floor of the Senate for 
making this statement: ``Mark my words, that before this is 
over, they will be taking 10 percent of what everybody earns.'' 
Oh, how I wish it were so, giving fresh meaning, I think, to 
that wonderful country western song, ``If 10 Percent's Enough 
for Jesus, It Ought to Be Enough for Uncle Sam.''
    We want to get rid of the tax on incomes entirely and tax 
what people choose to spend.
    [The prepared statement follows:]

STATEMENT OF THE HON. JOHN LINDER, A REPRESENTATIVE IN CONGRESS FROM 
THE STATE OF GEORGIA

    Thank you Mr. Chairman and members of the committee. I 
appreciate the opportunity to testify today about H.R. 2525, 
the FairTax Act of 1999, which I introduced along with Collin 
Peterson earlier in this Congress. Mr. Chairman, I ask that my 
written statement and a series of articles discussing the 
FairTax be made a part of the record.
    The FairTax Act would repeal all individual income taxes, 
corporate income taxes, payroll taxes, self-employment taxes, 
capital gains taxes, and death and gift taxes. It would replace 
these with a 23 percent national retail sales tax on all new 
goods and services sold to consumers. All sales of new goods 
and services to consumers would be taxed once and only once, 
without any exceptions. Business inputs would not be taxed 
since those items will ultimately be taxed when they are sold 
to consumers, thus adhering to the principle that goods be 
taxed once and only once.
    Because there are no exceptions to the FairTax, and because 
we realize that those Americans at the low end of the income 
scale spend a higher proportion of their income, the FairTax 
provides every household in America with a rebate of the sales 
tax paid on necessities. Thus the FairTax is progressive, and 
every family is protected from tax on essential goods and 
services. The rebate would be paid monthly in advance in an 
amount equal to the sales tax rate multiplied by the federal 
poverty level--that level of spending literally defined by the 
U.S. government as required to purchase necessities. For a 
family of four, the rebate level is $22,500--meaning that every 
family of four will receive a check at the first of each month 
for $431.25, the amount that family would pay in taxes on 
monthly poverty level spending. If you spend more than the 
poverty level, you pay the sales tax. If you spend less than 
the poverty level, you get to keep the rebate check anyway.
    It would be a mistake to emulate the states' attempt to 
achieve sales tax progressivity by exempting various categories 
of goods or services from tax because that methodology doesn't 
achieve progressivity at all. For example, affluent people buy 
more expensive food, housing and clothing than do poor people, 
so when these categories of goods are exempted, affluent people 
benefit disproportionately. In addition, these exemptions add 
complexity and compliance costs to the system, and lead to 
outrageous results. In any New York bagel shop, for example, a 
plain bagel is tax-free but a bagel with cream cheese is 
taxable. Moreover, any one exception to the sales tax will 
inevitably lead to efforts to exempt other products. Not only 
would those efforts lead to a perversion of the sales tax just 
as lobbying today has perverted the income tax, but also when 
some goods or services are exempted, a higher tax rate must be 
charged on those things that remain taxable to maintain the 
same level of revenue. Such a preferential scheme is bad as a 
matter of economics and unfair to those companies and workers 
who make the goods that remain taxable.
    The FairTax will end the complexity of compliance with our 
current system. Today, according to the Tax Foundation, we 
spend about $250 billion each year filling out forms, hiring 
tax lawyers and accountants and collecting information needed 
only for tax purposes. These unnecessary costs amount to about 
$850 for every man, woman and child in America. To the extent 
these costs are incurred by businesses, those businesses hide 
them in the cost of everything that we buy. The Tax Foundation 
has estimated that compliance costs would drop by about 90 
percent under a national sales tax. Why? Because the present 
system requires that Americans must provide over one billion 
information returns to the IRS annually. Americans file a 
quarter billion tax returns annually. Under the FairTax, this 
would be an unpleasant memory.
    The FairTax would be collected by states and retailers just 
as current state sales taxes are. The FairTax gives retailers a 
25 basis point commission for collecting the tax and offers 
state sales tax authorities another 25 basis point commission 
to administer the tax. We believe that it makes the most sense 
for state civil servants that have years of experience 
administering a sales tax to take that job. The FairTax would 
then dismantle the IRS and create a sales tax bureau in the 
Treasury to administer the collection of sales tax from the 
states. The only tax collector that the consumer would ever see 
is the smiling face behind the register at the local grocery 
store.
    Beyond simplicity, the FairTax holds the promise of 
ecomomic growth and a higher American standard of living. The 
FairTax would stop the punitive taxation of work inherent in 
the income and payroll tax and end the multiple taxation of 
savings and investment. The FairTax would end the bias against 
investment in education. Economists anticipate the FairTax, 
because it is neutral toward savings and investment, will lead 
to much higher levels of savings and investment which in turn 
will lead to greater productivity and output. Dr. Dale 
Jorgenson of Harvard and Dr. Laurence Kotlikoff of Boston 
University estimate, in two separate studies, that the FairTax 
would increase GDP between 7 to 14 percent over the current 
system. While clearly not endorsing the FairTax specifically, 
even our current Treasury Secretary, Dr. Larry Summers, 
concluded in some of his academic writings that a complete 
shift to consumption taxation might raise steady-state output 
by double digits.
    Why is such growth predicted? Because by giving Americans 
their entire paycheck, American consumption is increased. And, 
by untaxing our business and corporations, American businesses 
will become more competitive with foreign businesses. Consider 
the recent WTO ruling that found the Foreign Sales Corporation 
(FSC) export incentives to be a violation of WTO rules. 
Congress created FSCs with the knowledge that our current tax 
system was undermining our ability to compete abroad. The 
FairTax would solve this problem by removing the current tax 
burden on American production and allowing American goods to be 
sold overseas with no tax consequences embedded in the price. 
Further, the FairTax would apply to all imported goods sold in 
America. In contrast, today foreign goods enter the U.S. market 
free of any significant tax burden. This places U.S. produced 
goods at a big competitive disadvantage. This disadvantage is 
made worse because most of our major trading partners eliminate 
a big part of their tax burden on exports since their value 
added taxes are border adjusted. They impose a large VAT on 
U.S. goods imported into their country. This disadvantage is 
built into our tax system, and it exports high paying U.S. jobs 
to our foreign competitors.
    Unlike our perversions of the income tax, the FairTax is in 
compliance with the WTO rules because it is an indirect tax, 
it. For the first time, American businesses and American 
workers will be competing on a level playing field with our 
foreign competitors.
    The FairTax is simple, understandable and transparent. 
People understand the FairTax. They don't understand the 
present tax system. Even tax professionals and tax 
administrators don't understand the present system. Moreover, 
today a huge proportion of the overall tax burden is hidden 
from the ordinary taxpayer's view and passed on to those who 
can least afford it. Under the FairTax, people will for the 
first time actually understand their tax burden and have 
confidence that their fellow citizens are bearing their fair 
share.
    Mr. Chairman and members of the Committee, the present 
system is broken beyond repair. It is costing the American 
people dearly in terms of opportunities lost and a lower 
standard of living. It is time to start over. I believe that 
the FairTax--as the only proposal today that ends the 
regressive payroll tax and allows American workers to compete 
fairly with our foreign competition--represents the best 
alternative to the present system. I think that after you study 
the plan you will agree.
    Thank you.
    [Attachments are being retained in the Committee files.]

                                


    Chairman Archer. I thank the gentleman for his testimony, 
and because I assume this bill is a bipartisan bill, inasmuch 
as Congressman Peterson is with you there at the witness table 
as a cosponsor of this legislation, we will be happy to now 
hear your testimony, Congressman Peterson.

   STATEMENT OF HON. COLLIN C. PETERSON, A REPRESENTATIVE IN 
              CONGRESS FROM THE STATE OF MINNESOTA

    Mr. Peterson. Well, thank you, Mr. Chairman, and members of 
the committee, and it is bipartisan. We have four Republicans 
and four Democrats on the bill, and we are hoping to add some 
more. But we appreciate your calling this hearing and 
appreciate your leadership on this issue.
    Mr. Chairman, I have some materials that I would like 
entered in the hearing record immediately following the 
testimony, if that is appropriate.
    Chairman Archer. Without objection, so ordered.
    Mr. Peterson. Thank you.
    Mr. Chairman, not too long ago, it was inconceivable that 
this committee would focus on a replacement as comprehensive as 
the national sales tax, which is embodied in H.R. 2525. We had 
a few lonesome voices like Democratic Member Sam Gibbons, who 
used to rage against the tax system and say that there was a 
better way to collect taxes. But it didn't seem like there was 
enough time to ever consider them, and each year we get into 
the tax policy game of musical chairs that began to see which 
of the tax extenders would remain standing. We saw a constant 
flow of new ideas for credits and deductions that vied for the 
ultimate award to be enshrined in the Internal Revenue Code.
    So I think we have come far as Republicans and Democrats to 
be here today, and no group is more pleased, I think, that we 
are having this hearing than the American people.
    Now, why as a CPA, and especially a Democratic CPA, do I 
believe in the Fair Tax and why do I think this is the best 
replacement for the current system? I have watched the making 
of tax laws as a practitioner on the outside. I have been here 
as a legislator now for 10 years under Democrats and 
Republicans. And every tax simplification Congress has passed 
has added more pages to the U.S. Tax Code and has made the 
system more complicated. And that was under both Democrats and 
Republicans.
    I have been highly critical of my own party on this point. 
I think that the 1986 Tax Act was without a doubt the worst 
piece of legislation that has ever been passed in this 
Congress. It did lasting damage to many Americans for no good 
reason. And it complicated the code to the point where we can't 
understand it a lot of times, and it complicated our lives.
    But, in all due respect, since the Republicans have taken 
over in 1994, you have added 547 pages of statute and 2,327 
pages of regulations, just through 1999. So we have kind of got 
the same thing going on here, and I think that is why it is so 
positive that we are looking at legislation to replace the 
whole system here today.
    When 49 practitioners last year were given the same 
information and asked to complete a Federal income tax return, 
they came back with 49 different answers. No matter what your 
intentions, you know, we haven't simplified the tax code, and 
it is time that I think we admit that this system cannot be 
fixed in spite of all of our best efforts.
    I don't think this system can be salvaged even if we all 
wanted to do so. And I also don't think that taxing income is 
the best way for us to raise revenue in this country given the 
way the economy is changing.
    Mr. Chairman, I think Americans want true tax reform. Poll 
after poll shows we are collectively disgusted with our system. 
Members are hearing from their constituents about this. We are 
now on the third edition of the Taxpayer Bill of Rights. Each 
taxpayer gripe hearing is like watching Halloween I, II, and 
III. Only the names and witnesses change, but the plot does 
not. The unofficial annual holiday honoring the height of our 
enmity for our income tax system is just around the corner, 
April 15th.
    Congress has voted to scrap the tax code once and is likely 
going to do it again. But while something called tax reform 
just might happen, the real question is this: By what criteria 
will its success be judged? And what do we want to see in an 
ideal tax system?
    I have come to the conclusion that the Fair Tax fits the 
bill for a number of reasons.
    First of all, there are no exemptions, so we might actually 
be able to keep this simple and not give preference to one 
group or another and not give rise to a whole horde of 
lobbyists descending on your committee asking for special 
treatment.
    It would help solve one of our biggest problems today, and 
that is this trade deficit, the balance of trade deficit that 
we have. As John said, the current tax system has an embedded 
cost that the economists tell us is around 20 or 22 percent. 
That means that we are exporting all of these taxes, American 
taxes, in the price of our exports. One of the biggest pluses 
of this system is it will take that out of the export stream, 
it will reduce the cost of what we are charging for goods and 
services sold around the world by an average of 20 or 22 
percent, and it will be GATT legal.
    In addition to that, when imports come into this country, 
they are going to be taxed the same as domestic goods and 
services if they are used for personal consumption, just like 
goods and services that are made here in the United States.
    It also eliminates the most regressive tax, the payroll and 
self-employment taxes. These are, as I say, I think, the most 
regressive, and they are the toughest thing for many of our 
farmers and small businesses because in a lot of cases they pay 
more in those kinds of taxes than they do in income taxes.
    It makes equity capital more available and affordable 
because we will no longer be taxing savings and investment.
    It will be much easier to administer. We would only need to 
keep track of the approximately 1.6 million retail and service 
businesses in the U.S., as opposed to the more than 169 million 
individuals who file tax returns and pay taxes now under the 
current system.
    The Fair Tax plan makes sense, and it will work for the 
21st century. I would be willing to predict that most States, 
if we pass this, will get rid of their income tax because they 
won't have an income base to place it on, and piggyback on to 
our system for collecting sales taxes in their State. If they 
do that, we would have a mechanism to tax Internet businesses 
the same as we tax businesses on Main Street, which is 
something that we are going to have to do, and there is no 
reason why we ought to prefer an Internet business over one 
that has a store on Main Street.
    So I think, understandably, the people so far don't have a 
lot of faith or confidence that Congress is going to come up 
with tax reform, and that is too bad. And when I explained this 
to my father, he said, ``Well, you know, that is never going to 
happen. That makes too much sense.''
    I hear that from a lot of my constituents as well when I 
tell them about it, but the Fair Tax is well thought out, it is 
well researched, it is simple, and it is fair.
    So let's show the American people that we can take bold 
steps and do what is right. Let's move this Fair Tax through 
the Congress. Doing so would make the American people keep 
every penny of their paychecks and have some say over how much 
tax they pay, and really, I think, be a tremendous boom for the 
economy because we would not tax--if you didn't spend your 
money and you saved it, you could keep it. And if you want to 
go out and buy a new Mercedes or a new airplane, you would pay 
tax and, you know, that just drives the whole decisionmaking 
process in the right way.
    So this, I think, the right solution to tax reform. I hope 
that we can move this ahead in a bipartisan manner.
    Thank you, Mr. Chairman.
    [The prepared statement follows:]

STATEMENT OF THE HON. COLLIN C. PETERSON, A REPRESENTATIVE IN CONGRESS 
FROM THE STATE OF MINNESOTA

    Thank you Mr. Chairman and Members of the Committee. Mr. 
Chairman, I have some materials I would like to have entered 
into the hearing record immediately following my testimony this 
morning.
    Mr. Chairman, not too long ago, it was inconceivable this 
committee would focus on a replacement as comprehensive as a 
national sales tax. A few lonesome voices, like Democratic 
Member Sam Gibbons, raged that there could be a better way to 
collect taxes--but there was never enough time to consider 
them. Each year the tax policy game of musical chairs began to 
see which of the tax extenders would remain standing. The 
constant flow of new ideas for credits and deductions vied for 
the ultimate award, to be enshrined in the Internal Revenue 
Code. We have come far, both Republicans and Democrats to be 
here today. But no group is more pleased than the American 
people.
    Why, as a C.P.A., and especially a Democrat C.P.A., do I 
believe the Fair Tax is the best replacement for our current 
system? I've watched the making of tax laws as a practitioner 
and as a legislator--under Democrats and Republicans--and every 
tax ``simplification'' Congress has passed has added more pages 
to the US Tax Code and made the system more complicated.
    I have been highly critical of my own party on this point. 
I think the 1986 Act was the worst piece of legislation ever 
passed. It did lasting damage to many Americans for no good 
reason and it complicated the Code and our lives.
    But since the Republicans took over, you've added some 547 
pages of statute and 2,327 pages of regulation--through 1999. 
When 49 practitioners were given the same information and asked 
to complete a federal tax return they came back with 49 
different answers. No matter what your intentions, you have not 
simplified the federal tax code.
    I don't think we'll ever fix this system. I don't think 
this system can be salvaged even if we wanted to do so. I also 
don't think that taxing income is the best way to raise the 
revenue this country needs.
    Mr. Chairman, Americans want true tax reform. Poll upon 
poll shows we are collectively disgusted with our system. 
Members are hearing from their constituents. We are now on the 
third edition of the taxpayer bill of rights. Each taxpayer 
gripe hearing is like watching Halloween I, II and III. Only 
the names and witnesses change. The plot does not. The 
unofficial annual Holiday honoring the height of our enmity for 
our income tax system is just around the corner. Congress has 
voted to scrap the Code once and likely will again. But while 
something called tax reform just might happen, the real 
question is this: By what criteria will its success be judged? 
What do we want to see in an ideal tax system?
    I've come to the conclusion that the Fair Tax fits the bill 
because:
    1) There are no exemptions, so we might actually be able to 
keep this simple and not give preference to one group or 
individual over another.
    2) It would help solve one of our biggest problems, our 
balance of trade deficit. With our current federal tax system 
we are exporting the cost of the tax system in most goods and 
services. The economists who worked on developing the Fair Tax 
estimate that this cost averages about 20%. The Fair Tax would 
eliminate that cost, and it would be ``GATT legal.'' In 
addition, imports coming into the U.S. would be taxed the same 
as domestic goods and services if they are used for personal 
consumption.
    3) It eliminates payroll taxes and self-employment taxes. 
These are some of most regressive taxes we currently have and 
they are one of the biggest burdens for many of our farmers and 
small business persons.
    4) It makes equity capital more available and affordable, 
because we will no longer be taxing savings and investment.
    5) It will be much easier to administer--we would only need 
to keep track of the approximately one point six (1.6) million 
retail businesses in the U.S., as opposed to the more than one 
hundred sixty-nine (169) million individuals who file tax 
returns and pay taxes.
    6) The Fair Tax plan makes sense and it will work for the 
21st century. I would be willing to predict that most states 
would piggyback on our system. We would also have a mechanism 
to tax Internet businesses the same as business on main street.
    Understandably, the people don't have a lot of faith in 
Congress when it comes to tax reform. As my Dad said when he 
heard about it, ``That will never happen--it makes too much 
sense.''
    The Fair Tax is well thought out, well researched, simple 
and fair. Let's show the American people that we can take bold 
steps and do what's right. Let's move the Fair Tax through the 
Congress--doing so would let the American people keep every 
penny of their paychecks and have some say over how much tax 
they pay.
    Thank you, Mr. Chairman.
    [Attachments are being retained in the Committee files.]

                                


    Chairman Archer. Thank you, Congressman Peterson.
    Mr. Camp?
    Mr. Camp. No questions.
    Chairman Archer. Ms. Dunn?
    Ms. Dunn. Thank you very much, Mr. Chairman.
    Gentlemen, thank you for coming to testify today. This is a 
fascinating hearing we have going on today, and I know that 
Ways and Means members will be moving in and out of this 
meeting. But it is great to be able to be at the head of the 
line to ask you questions. That usually doesn't happen when you 
are in the bottom row.
    But I do have a couple of questions I would like to ask 
you. Could you explain to the committee how the national retail 
sales tax compares to the more broad-based taxes that we see on 
sales in Europe?
    Mr. Linder. Well, first of all, they typically have a 
value-added tax, which adds a tax every time you add value to a 
product, from the time you get the order to turn it into a 
bumper to put it on a car, and it is a hidden tax. It is buried 
in the cost of goods and services.
    One of the first principles of this tax is that everything 
be transparent so that everyone would know when they buy 
something what the tax was to the Federal Government.
    This tax is only retail consumption. No taxes between 
businesses, no taxes for farmers. If a farmer buys a tractor to 
work his land, there is no tax. If he buys a hat to put on his 
head to do so, there is a tax.
    It taxes everything only one time, so a used house would 
not have a tax in it, but a new house would. But it is only 
personal retail consumption that is taxed.
    Mr. Peterson. John has explained it well. I think the thing 
that also should be pointed out is that in Europe, they not 
only have the value-added tax that is added at every level and 
added into the price of the product so you don't know what it 
is, it is also at different levels, depending on what type of 
goods and services it is.
    But the other thing that they did is they kept the income 
tax, so they have two taxes. They have the income tax and the 
value-added tax. And I will tell you today that if we don't get 
rid of the income tax, I will not support this bill. The only 
way I support this is to completely eliminate all of the 
current system and replace it with this. The worst thing that 
we could have is to do what Europe did, and that is, have an 
income tax and a sales tax.
    Canada did the same thing, and my district is right up 
alongside of Canada. That didn't work very well because they 
weren't able to take the cost of goods and services out of 
their products because they kept their income tax, they kept 
their Social Security tax, and they added the GST tax on top of 
it.
    So what we are doing here has not been done any other 
place, and I think if we pass this, we will become the Hong 
Kong of the world and this economy will boom, and it will be a 
great thing for America.
    Mr. Linder. Let me add a point to that, if I might. 
Americans are paying this tax today. They are paying the 
embedded cost of the IRS at retail, about 22 percent, we have a 
study that says. They are paying all the cost of businesses, 
the cost of businesses, attorneys, and accountants to avoid the 
tax. There are payroll tax costs. There are income tax costs. 
There are compliance costs, all embedded at price.
    Ours is the only bill that gets rid of all those taxes and 
gives competition the opportunity to drive out of the price of 
goods and services that 22 percent.
    Ms. Dunn. I think it is really important to continue to 
make that point, that this national retail sales tax would be a 
replacement for the current income tax system. It would not be 
in addition to the current income tax system. I think we have 
got to say that over and over again. Mr. Peterson, you did say 
that, and people need to realize that there has got to be a 
mechanism to get rid of the old tax code before we move in a 
new tax code.
    Is there anything like that being thought of right now?
    Mr. Peterson. Well, in our bill, we do call for the repeal 
or the process to repeal the 16th Amendment so that it will 
never rise again. So we have tried to address is, but, you 
know, I am a cosponsor of the bill to scrap the code, and I 
have been criticized or it has been criticized that, you know, 
it is irresponsible to terminate the code without having a 
replacement. Well, we have a replacement. It is here today, and 
I am cosponsoring it.
    You may disagree with some of the aspects of it, or you 
might have your own way to replace it, but some of us that feel 
strongly about this have come up with an alternative, and, you 
know, it is time to get rid of this income tax code. It is so 
screwed up it cannot be fixed.
    Ms. Dunn. Let me ask you, gentlemen, how would your 
proposal affect the national and the individual rate of savings 
in our country?
    Mr. Linder. Well, if you don't tax--first of all, the 
average income earner who has a 28 percent withholding rate and 
a 7.65 percent share of the payroll tax will have an increase 
in take-home pay the next day of 56 percent. We are all going 
to be savers. We are all going to be investors. Because when 
you drive the embedded cost of the IRS out of the price of 
goods and services and replace it with this tax, the cost of 
living will be about a percent higher, but we will all have an 
increase in take-home pay and we will all be investors.
    We believe the increase in savings is going to be huge. We 
think the interest rates are going to go down 25 percent 
because of that.
    Mr. Peterson. You know, the American people, they are 
smart. And when it becomes apparent, which it will almost 
immediately, that if they spend money they are going to pay 
tax, if they save money they are not going to pay tax, it is 
going to change the psychology of this country.
    Now, we have tried to increase the savings rates with IRAs 
and all this other stuff. It hasn't worked. It has gone down. 
And I guarantee you that if this thing changes, as somebody who 
sat across the desk and did taxes for people, they are going to 
figure this out and they are going to save more. I don't know 
how much more but----
    Ms. Dunn. So that means that every dollar that is invested 
or saved by an income earner is not going to be taxed under 
your program.
    Mr. Peterson. That is correct.
    Ms. Dunn. Thank you.
    Thank you, Mr. Chairman.
    Chairman Archer. Mr. Kleczka?
    Mr. Kleczka. Thank you, Mr. Chairman.
    Let me thank both of you for appearing before the committee 
today. In your presentation, you criticized the current tax 
code extensively and said little about the proposal, which I 
think, before we move on it, the American public has to 
understand much better.
    It seems that you are touting this plan as a 23 percent 
sales tax, and I just question that calculation. Let me ask 
either one of you, if this were to be the law of the land and I 
would go and purchase a suit for $100, what would the sales tax 
be on that suit? The cost of the good is $100. What would be 
added on for this national sales tax?
    Mr. Linder. It is our design to have the sales tax included 
in the cost of the good. Currently, your income tax----
    Mr. Kleczka. Okay, that is fine. Let's say it is included 
in the good. The cost of the good is $100.
    Mr. Peterson. It is $123. It is $23.
    Mr. Kleczka. That is not what we are told. We are told it 
is 30----
    Mr. Linder. If it was----
    Mr. Peterson.--dollars on $100----
    Mr. Linder. Let me explain to you, Mr. Kleczka, what the 
current system is. You are currently taxed on a tax-inclusive 
basis, which is to say, the Government takes the first $36 of 
what you earn, within what you earn. If you treat this on a 
tax-inclusive basis----
    Mr. Kleczka. I am trying to compare it to the current sales 
tax. If I buy something in Wisconsin now, then----
    Mr. Linder. It will be 29.9----
    Mr. Kleczka. Wait, could I finish? If I buy something in 
Wisconsin now, there is a 5.6 percent sales tax. It is the 
State sales tax. It is a half percent county tax and 1 percent 
stadium tax, since now the taxpayers are building stadiums. 
Okay?
    If I buy something for $100, that 5.6 is added on. Now, 
tell me what my total cost of a suit would be if the suit 
itself costs $100.
    Mr. Linder. The added-on Federal national sales tax would 
be 29.9 percent, and if you want to compare apples----
    Mr. Kleczka. Now, that is not the 23 percent we are told 
about.
    Mr. Linder. The tax-exclusive rate is 29.9 and the tax-
inclusive is 23 percent. If you want to treat the income tax on 
an exclusive basis, which is to say, divide the amount of money 
you have to spend into what the Government took out of it, you 
would be paying an effective sales tax rate of 56 percent 
today, so we are still cutting it in half. You have to treat it 
either as an exclusive or an inclusive tax.
    Mr. Kleczka. You know, what I am trying to do is go back to 
my constituents and explain what this proposal is all about. 
And my concern is, am I to tell them that the sales tax is 23 
percent or 30 percent? I suspect that in an attempt to sell 
this you are trying to minimize what the actual impact is, so 
you are saying 23; however, the effective rate to be charged on 
goods and services is actually 30.
    So what I am going to do when I respond to any letters I 
get on this issue, I am going to say what they have proposed is 
a 30 percent sales tax rate, and we are told by the tax experts 
around here that to be revenue neutral, that tax rate would 
have to be 59 percent.
    Mr. Peterson, would you like to respond to that?
    Mr. Peterson. Well, I don't know where you get the 59 
percent.
    Mr. Kleczka. To be revenue neutral. As it stands, your 30 
percent would cost--would deny big revenues that are, you know, 
coming in today.
    Mr. Linder. We have three different studies that disagree 
with you.
    Mr. Peterson. Yes, the people that did the studies from MIT 
and Harvard and Stanford estimate that, as we said, the 
effective tax rate is 23 percent when you figure out what the 
percentage is of the total price of the goods and services. 
That is what it comes out to be.
    But we can argue----
    Mr. Kleczka. Okay. Well, the joint committee----
    Mr. Peterson. Figures lie and liars figure, but----
    Mr. Kleczka. The joint committee, which works for the 
committee or is assigned to the committee, did come up with 
that amount.
    Could you explain to the committee how local units of 
government and State governments are going to pay this sales 
tax? As I read the proposal, all goods and services are taxed 
for governmental units. Could you explain how that works?
    Mr. Linder. Well, first of all, most governments are 
heavily labor-intensive and they are going to have a huge 
savings on their payroll tax just to begin with.
    Mr. Kleczka. Okay. How are they taxed? You forgot to finish 
the point.
    Mr. Linder. If they buy something that they are going to 
use in the business of running the city, they are going to pay 
a tax on it.
    Mr. Kleczka. So they are going to pay a 30 percent tax. 
Now, how are they to treat their payroll? Let's say the city of 
Milwaukee has a $50 million payroll in a month, are they taxed 
at 30 percent on that also?
    Mr. Linder. No, no, 7.65 percent of that payroll is going 
to be coming out of their side and 7.65 coming out of their 
employees' side.
    Mr. Kleczka. Okay. That is the FICA tax, is it not, and HI?
    Mr. Peterson. Well, yes, but we eliminate----
    Mr. Linder. We eliminate the Social Security and Medicare.
    Mr. Peterson. Eliminate the Social Security tax. Part of 
what this bill does, it doesn't just get rid of the income tax, 
it gets rid of the payroll tax.
    Mr. Kleczka. Okay. And so how is the payroll tax to be 
funded--I mean, the Social Security trust fund to be funded?
    Mr. Peterson. It is going to be funded out of the proceeds 
of the sales tax, and that----
    Mr. Kleczka. Okay. But so----
    Mr. Peterson. The economists figured that in.
    Mr. Kleczka. So is income going to be sales taxed also?
    Mr. Linder. No.
    Mr. Peterson. No.
    Mr. Linder. Only what they spend.
    Mr. Kleczka. That is unclear.
    Chairman Archer. The gentleman's time has expired. There 
will be additional opportunities.
    Mr. Collins?
    Mr. Collins. Thank you, Mr. Chairman.
    If I understood you right, for this to be revenue neutral, 
based on the estimated revenue of this year, about $2 
trillion----
    Mr. Linder. 1995 is the last number we have.
    Mr. Collins. 1995, okay. A couple of questions, then. How 
do you treat accumulated savings prior to the implementation of 
this tax?
    Mr. Peterson. They are not taxed. Savings aren't taxed 
under any circumstances.
    Mr. Collins. If you take the funds out of savings and spend 
them.
    Mr. Peterson. Okay. If you spend them on personal 
consumption, new goods and services that are used in personal 
consumption, then you would pay tax.
    Mr. Collins. Even though they were accumulated after tax?
    Mr. Linder. Correct.
    Mr. Peterson. Right.
    Mr. Collins. Okay.
    Mr. Linder. Let me make a point on that, Mr. Collins. If 
senior citizens who have saved all their life and accumulated 
something and paid tax on the accumulation and paid tax on the 
interest earned and the capital gains earned, they are 
currently paying this tax every time they spend something. They 
are currently paying the embedded cost of the IRS. All we are 
saying is you get to take your money out of your IRA with no 
tax consequences. There will be no tax on your Social Security 
revenues or any income you have. But you will pay a 23 percent 
inclusive sales tax when you buy things, which is about what 
you are paying today.
    Mr. Collins. Okay. Another question. How do you treat 
depreciation that businesses already have in place prior to the 
implementation? Because there would be no depreciation after 
the implementation.
    Mr. Peterson. Well, depreciation is not necessary or 
relevant because we don't tax income. And so one of the 
problems that we have had in talking to people about this is 
that they are so ingrained in thinking about the current system 
that they can't conceive of us moving away and not having to 
worry about all this stuff, depreciation and deductions and all 
of that. But because we are not taxing income, it is 
irrelevant. The only thing that makes any difference is what 
you are spending for your own personal consumption. So 
depreciation is important in doing your financial statements 
for reporting, you know, but other than that, it won't make any 
difference.
    Mr. Collins. But depreciation is your way of expensing----
    Mr. Peterson. But we aren't taxing income anymore.
    Mr. Collins. Before we run out of time, what about existing 
excise taxes? Do you eliminate those or replace those?
    Mr. Linder. No. We tried to draft a bill that merely 
replaces the current system of taxing income to another system 
of taxing expenses without making policy decisions. It is my 
view that this bill would fail on the floor of the House if we 
eliminated the excise tax on tobacco. We would fail on that 
issue alone. So we decided we will take on excise taxes at 
another time.
    Mr. Collins. That would include the 12 percent excise tax 
on a lot of major purchases?
    Mr. Linder. Correct.
    Mr. Collins. It is already in place. It would stay there. 
Okay.
    That is all. Thank you, Mr. Chairman.
    Chairman Archer. Mr. Watkins?
    Mr. Watkins. Mr. Chairman, I have no questions of my two 
colleagues. I have for the next panel when we get to it.
    Chairman Archer. Thank you.
    Mr. Rangel?
    Mr. Rangel. Let me thank you for your efforts. I would say 
that this Committee has not been responsive to your legislation 
``over the years.'' But we have a few months left, and who 
knows what can happen.
    The Social Security system, since there is no payroll tax 
contribution to it, would benefits be paid out of the general 
funds with monies that would be collected from the taxes?
    Mr. Linder. The monies would apply to the Social Security 
trust and the Medicare trust in the same manner they currently 
are because your employer would submit your income, what they 
paid you in salary, and your earnings would still be credited 
to your account, and the 40 quarters for which you get your 
benefits out of Social Security will still be the same as the 
current system. All we are doing is gathering the money a 
different way.
    Mr. Rangel. So would the money be paid out by the 
Appropriations Committee rather than by the so-called Social 
Security trust fund?
    Mr. Linder. The revenues that would come from the general 
sales tax collections would be applied to the Social Security 
trust and the Medicare trust in the same way they are now based 
on earnings.
    Mr. Rangel. Now, since your sales tax is on top of the 
excise tax, how would it apply to a gasoline tax?
    Mr. Peterson. Well, if you are buying gasoline for your own 
personal consumption, there would be this tax on gasoline like 
anything else.
    Mr. Rangel. On top of the excise tax?
    Mr. Peterson. On top of the excise tax, yes.
    Mr. Rangel. Now, Mr. Kleczka reviewed that. We have the 
Joint Committee on Taxation, which is a bipartisan effort, 
Republican and Democrat, and they have given an analysis of 
your bill. They say that the tax-neutral rate is 59.5 percent 
over 5 years, and neutrality over 10 years would be 57 percent. 
You don't argue with the Joint Taxation Committee's estimate.
    Mr. Linder. Sir, we have not seen that study yet. Is that 
fairly recent?
    Mr. Rangel. Yes, it is April the 7th.
    Mr. Linder. We have some economists that will argue with 
that, yes.
    Mr. Peterson. You know, it is hard for me to believe 
because the retail consumption base in this country is 20 
percent higher, according to our economists, than the income 
base. So it is hard for me to believe that it is going to take 
59 percent of a base of 20 percent higher than the current 
income base to raise the same amount of revenue.
    Now, I don't know--I haven't seen the study, but it would 
be hard for me--I mean, I think we would raise so much money we 
wouldn't know what to do with it all.
    Mr. Rangel. Well, if this is to be considered a bipartisan 
effort, don't you think in 6 years that you guys would be 
entitled to a Joint Committee Tax estimate of the cost so that 
you would have plenty of time to bring in witnesses to defend 
it? I mean, if this is serious, these questions should not be 
presented to you this late in our legislative agenda.
    Mr. Chairman, I ask unanimous consent that the Joint 
Committee's evaluation of this legislation be placed into the 
record.
    Chairman Archer. Without objection, so ordered.
    [The information was not available at the time of 
printing.]
    Mr. Rangel. This concept is complicated, and you can bet 
your life that most of the American people haven't the 
slightest idea what you are talking about. Are you saying that 
cities and States have to pay taxes on hiring policemen, 
firemen, doctors, nurses; that the health care that is provided 
has to be taxed; and, this is going to be fair and equitable 
and across the board? The whole idea of cities being able to 
piggyback on Federal income tax programs or States being able 
to attach to our system would not work because the vehicle 
would be no longer there. And so, therefore, they would have to 
now think of new ways for them to get the revenues that would 
be necessary for them to run their local and State governments.
    It is a revolutionary concept and one that merits not only 
hearings but an opportunity for the American people to be 
educated. They then can weigh whether it makes any sense the 
proposal works for them, and whether for local government or 
State governments.
    But the most important thing, in my opinion, whether or not 
it is a Democratic Congress or a Republican Congress, is how in 
God's name do you think you could possibly revolutionize the 
tax system unless it is bipartisan in terms of the cooperative 
spirit that you bring to this Committee. That bipartisanship 
has to come to the Ways and Means Committee and has to come 
from the House. Other than that, you are not realistically 
talking about revolutionizing the tax system. You may have an 
opportunity to express views, but the only way that we can 
bring about any dramatic change in pulling up the tax code by 
the roots and not increasing its complexity, as the way we have 
done in the last 7 years, is to make certain that at least we 
are reading from the same page in how we are going to present 
it to the American people and, therefore, to the Congress and 
this Committee.
    So I want to congratulate you for your special effort. I 
wish I could give you some hope that we would be able to 
consider it in this Committee. But as you know, soon we will 
have the Easter recess in order to celebrate the resurrection 
of our Lord and Savior, Jesus Christ, as well as Passover, and 
then after that we will be moving into Memorial Day for those 
who lost their lives. We will go through June, probably be busy 
at Committee two or three days a week, and then July 4th we 
have to close shop to celebrate our independence.
    Come August, of course, our conventions will be the main 
consideration, Republicans and Democrats. September we will 
come in for a couple of weeks, and then in October, of course, 
we get down to the campaign.
    So how we squeeze this into our so-called legislative 
agenda, I don't know, but maybe, just maybe. If we can keep 
this idea alive, we will find the bipartisanship that you two 
have enjoyed and worked with over the years being conveyed to 
this Committee and to the House and Senate. And, we can take a 
hard look at the income tax system as we know it and take a 
look at the changes that we can make in a bipartisan way.
    These hearings really complicate things because we have a 
lot of legislation on the House floor right now. But, again, 
the absence of Members should not be interpreted as an absence 
of concern of the serious nature in which you present this 
legislation.
    Thank you, Mr. Chairman.
    Mr. Linder. I thank the gentleman.
    Chairman Archer. Mr. Crane?
    Mr. Crane. Mr. Chairman, I don't have questions for our 
witnesses, but I would like to take advantage for an 
opportunity to express my appreciation to all of you for the 
support. I am sorry for you absence, and I can't tell you how 
exciting it is to be back again and contemplate an opportunity 
to serve my country, my district, my family and friends and 
colleagues. And I want to express appreciation to all of you, 
from my distinguished chairman here to my ranking minority 
member, Charlie Rangel, for all of the input I got from you 
folks. It was really reassuring and very helpful and 
beneficial, and I look forward to a very positive and dynamic 
future.
    It is one of those things I am humbled by, but, on the 
other hand, we dig in our heels, fight the good fight, keep the 
faith, and we shall continue. Thank you again, all of you. 
Thank you.
    [Applause.]
    Chairman Archer. The gentleman from Illinois is to be 
congratulated for taking his life in his hands and moving 
forward in a positive way, and I know all the members of the 
committee share that view.
    Mr. Rangel. Would the gentleman yield?
    Chairman Archer. Mr. Rangel?
    Mr. Rangel. I think you know the love and affection that we 
have had for you over the years. You gave us a chance to 
display it by indicating a unique type of courage for all of 
us. No matter what shortcomings we have, we can never wrestle 
the demons to the ground unless we have the courage first to 
admit it and then to do something about it. So it was a bad 
setback, but you have set a standard for all of us to follow. 
We welcome you back.
    Mr. Crane. Thank you.
    Chairman Archer. Mr. English?
    Mr. English. Thank you, Mr. Chairman. I would like to also 
congratulate these two gentlemen for having the courage to 
offer a truly revolutionary tax plan. And it has a number of 
features that make it similar to the one that I have proposed 
in terms of the incentives. But the one that I think is 
particularly important and I would like you to comment on is 
the whole question of border adjustability.
    We obviously, when we discuss tax reform, tend to focus on 
how tax simplification benefits the individual taxpayer. The 
individual taxpayer all too seldom recognizes that they have a 
big stake in tax reform because of the impact of the tax system 
on their job, and this is particularly true in export 
industries.
    I wonder if you gentlemen would comment on how you think 
the question of border adjustability, taking the taxes off of 
exports and putting the tax on imports, would benefit the 
American economy long term.
    Mr. Peterson. Well, as I said during my statement, I think 
that one of the reasons we are running this huge trade deficit 
is because we are exporting our tax system, which is expensive, 
and it adds greatly to all of our products, even the farm 
products, the raw commodities that come out of my district.
    So there is no question in my mind that if we can change 
this system where we can wring the cost of the Internal Revenue 
Code out of the system, which is 22 percent, that means that 
the price of goods and services are going to be 78 percent of 
what they are now. Obviously, we are going to sell a lot more, 
and it is going to create more jobs.
    You know, we are also going to tax the imports coming into 
this country if it is used for personal consumption. So for the 
first time in a lot of areas, we are going to put ourselves on 
the same footing as these foreign countries, and we are not 
going to have our companies having to go overseas to 
manufacture products just to send it back into this country 
because of tax considerations, which is happening now.
    You know, I can't quantify it, but I can guarantee there is 
going to be a significant increase in jobs and commerce if we 
pass this bill in the world market.
    Mr. Linder. Let me add something to that. I mentioned in my 
opening statement that the chairman often refers to the poll 
done by Princeton Group of foreign companies wanting to 
relocate here. In addition to that, imagine how many United 
States corporations dealing in overseas sales have dollars 
stranded all over the globe, billions upon billions of dollars, 
because it is cheaper to borrow here at 8 percent than it is to 
repatriate your dollars at 35 percent.
    All that money would come home. Building on these shores 
would be much more attractive both for foreign companies and 
our domestic companies. So we would see a huge change in the 
global balance of trade.
    Mr. English. Certain sectors of the economy tend to be more 
tax sensitive in the sense that they tend to operate on thinner 
margins. One of those, I sense, is manufacturing. And in the 
recent example of the steel crisis that faced U.S. steel 
producers, do you feel that a border-adjustable tax in that 
case would have allowed America's steel industry to thrive in 
the face of foreign competition?
    Mr. Peterson. Well, my district doesn't include steel 
manufacturers, but I----
    Mr. English. That is why I am calling on you as an 
objective observer.
    Mr. Peterson. Well, I have got to believe that if you can 
take 22 percent of the cost of your production out of the price 
of your product and if that steel coming into this country is 
going to go into cars that are going to be used for personal 
use, it is going to be taxed, I mean, it has got to go a long 
way to solving this problem.
    One of the reasons that we are having trouble in the world 
market is we are trying to export our tax system, and it is an 
expensive tax system, and it is a big penalty on everybody that 
is in the world market.
    Mr. English. Thank you, Mr. Chairman. I have no further 
questions. And, again, I want to compliment the gentlemen for 
their excellent testimony.
    Mr. Linder. Thank you.
    Chairman Archer. Mr. Stark?
    Mr. Stark. Thank you, Mr. Chairman.
    Gentlemen, thank you for providing a creative approach to 
changing basically the whole way we handle commercial 
transactions in the country.
    I would note that, Collin, you have introduced legislation 
to have a refundable dependent care tax credit to help 
families, but that obviously wouldn't work anymore, and you 
would be willing to give up helping people with their dependent 
care for this program.
    Also, the 60 percent rate, I might add, probably comes 
because somebody forgot to calculate what your rebates cost. 
You would be giving rebates to every American in here, which 
amounts to about $400 or $500 billion a year, and that is about 
50 percent more than we collect in taxes now.
    But I am going to stick with the 60 percent rate here and 
discuss the impact on Medicare. This would apply to doctors' 
fees and pharmaceutical drugs. Now, the Republicans on this 
committee just voted a month or so ago to deny senior citizens 
a discount on their prescription drugs. We Democrats all voted 
for it. And now we saw in the paper the other day that senior 
citizens are paying 15 percent more if they are uninsured for 
their prescription drugs.
    You guys would add 60 percent on top, so that prescription 
drugs for my seniors, Zocor, for instance, would go from an 
average retail price of $107 a month to $172 a month, or $780 a 
year more. Prilosec for ulcers would go up $840 a year. 
Procardia for people with heart problems would go up over 
$1,000 a year in cost. At the same time, you would raise the 
Part B premium on Medicare automatically from $45 a month to 
about $73 a month. And this is most interesting. We just 
celebrated the fact that the Part A trust fund became solvent 
to the year 2023. Under your plan, increasing the hospital cost 
60 percent would make the Medicare trust fund insolvent in the 
year 2003. You guys just chop 20 years off the solvency of the 
Medicare trust fund.
    If you really want to scare the seniors, then just think 
about those who had bought long-term care insurance. Nursing 
homes cost over $100 a day. You guys would kick that up to $160 
a day, and the long-term insurance would no longer cover it.
    While we talk about insurance, every American would have 
their insurance bill automatically increased by 60 percent. Not 
only that, they would have to increase the face amount because 
the repair prospects for collision damage or storm damage under 
a homeowner's policy would go up by 60 percent.
    It seems to me that you are asking the average American to 
spend an awful lot of money that they are not now spending, and 
particularly those in the lower incomes, which I know you both 
understand. Congressman Peterson being an accountant knows that 
lower-income people spend a far higher percentage of their 
income in consumption than do people who are paid well like you 
and me. We don't spend so much. So we get a gift out of this. 
But people making $70,000 a year and less really get hammered 
because they have to spend so much more of their income.
    Now, I know that we kind of forget about middle-income 
people and low-income people in Congress because we get these 
big salaries. But to think that we are going to rack them up 
with a 60 percent tax rate on what they spend hardly seems 
quite fair.
    So aside from the fact that we are about to destroy 
Medicare with this and that is interesting--you talked about 
lobbyists and their costs. It seems to me, when I listened to 
you on National Public Radio, you did a good job. That is my 
commute program. I heard you guys on the radio this morning 
while you were on television.
    The lobbyists and the doctors and the accountants are going 
to have to pay 60 percent of what they bill when they bill it 
to the Government in cash while they wait for the collectibles 
to come in. Now, I have a hunch that every lobbyist in 
Washington is going to be in here fighting this bill.
    So I think that while it is interesting to talk to people 
about lowering their income tax and their payroll tax, I think 
we've got to tell them a little bit more about the other side 
of this coin. And I would like to know how you plan to save 
Medicare, which would now go broke in 2 or 3 years, when you 
have added 60 percent to the cost. Have you got any ideas for 
that?
    Mr. Peterson. Well, this was not designed to save Medicare 
or change Medicare. We are trying to just replace one tax 
system with another.
    Mr. Stark. If you would yield, I understand that. But 
unintended consequences----
    Mr. Peterson. And I disagree--you know, I do not agree with 
the Joint Tax Committee, with all due respect, in this 60 
percent number. Now, we asked them a long time ago for this 
information, and now I am getting it from the other side of the 
table before they gave it to us. And I think that is a little 
bit unfair, and, you know, we didn't need to wait 6 months to 
get this information.
    But I can understand that because----
    Mr. Stark. Excuse me, Collin. It was given to the 
Republicans a long time ago.
    Mr. Peterson. Well, I am not trying to get into Republicans 
or Democrats. This is not why I am involved in this. You know, 
for whatever reason, we didn't get the information. So the 
first I heard this is today. I cannot believe that the 60 
percent figure is right. I don't know where it is coming from. 
You know, maybe people want to put this in as bad a light 
because they are concerned about protecting the current system 
or whatever else, you know.
    But it depends on what you believe and how you believe in 
the marketplace. I know that some of you think that the drug 
companies are making a lot of money.
    Mr. Stark. I know that.
    Mr. Peterson. Okay. Well, then they are paying the maximum 
corporate tax rate----
    Mr. Stark. No. They are paying the lowest corporate tax 
rate of any major industry in the country through all their 
deductions and credit.
    Mr. Peterson. Well, but who gave them the deductions and 
credits?
    Mr. Stark. We did.
    Mr. Peterson. Okay. So if they are making a lot of money, 
they are paying a lot of taxes, generally.
    Mr. Stark. They should.
    Mr. Peterson. They should. But, you know, it--I think it is 
hard to argue that the current tax system is fair or 
progressive as it relates to these different companies, and I 
think that we do penalize people's incentive to work and all 
these other things. I think it is a much better policy in this 
country to tax when people spend money and to not tax when they 
save money. I think that is in the best interest of the 
country, and we do exempt on the bottom end the people--if you 
are a family of seven, you are going to get $31,200 of your 
spending exempted from this tax completely.
    So we have fairly well insulated the bottom end----
    Mr. Stark. But you and I would get the same amount.
    Mr. Peterson. Right. Well, why not?
    Mr. Stark. Well, what have we done to deserve it? I mean, 
the taxpayers are already paying the----
    Mr. Peterson. You have the same necessities of life as 
anybody else. I mean, everybody needs to have a place to live--
--
    Mr. Stark. But I have got a lot more income than everybody 
else.
    Mr. Peterson. Well, and if you save it, you won't pay any 
tax, which is, I think, a good thing because then that money is 
going to be available----
    Mr. Stark. Collin, I can't sell that in my district. They 
don't even want to pay me, much less have me go home and 
defend----
    Mr. Peterson. Well, I can't speak for your district, but I 
just think it makes sense. You know, that is where I am coming 
from. We can have a disagreement on that. But I really think 
that in the best interest of the country this is a better 
system, a better way to raise the money.
    Mr. Linder. Let me just say, the only thing I agree with 
what you said is that the lobbyists will indeed oppose this.
    Mr. Stark. Because of the----
    Mr. Linder. Because 60 percent of them make their living 
because of their intellectual capital in the tax code that we 
have drafted over 88 years.
    Mr. Stark. Well, whatever they are lobbying for, I mean, 
the interesting thing is having to pay the tax the day you send 
a bill to the client, and if the clients are as slow-paying as 
some people I know, you are going to really affect the cash 
flow. This would go to every lawyer and physician. Think of the 
doctors coming to complain how long it takes Blue Cross to pay 
them or HCFA to pay them. But when the doc does the operation 
and sends the bill, they would have to pay 60--even Collin's 
figure of 30, let's split the difference and say 45 percent of 
that fee has to be paid in cash to the Federal Government. 
Think about what this would do. And Collin as a CPA knows that 
cash flow probably is more important to these people in 
operating their practices. You would take a big cut out of that 
because for people who are carrying receivables, 30, 60, 90 
days, there would be a major problem. We would all be paying--
--
    Chairman Archer. The Chair notes this is a very interesting 
conversation, but the gentleman's time has long since expired.
    Mr. Stark. I thank the Chair for his indulgence, and I 
thank the witnesses for----
    Chairman Archer. The gentleman will have other time today, 
frequently.
    Mr. Lewis?
    Mr. Lewis. Thank you, Mr. Chairman.
    With a national retail sales tax, what role would the IRS 
play? I would assume that it would be diminished.
    Mr. Linder. We anticipate a small agency within the 
Treasury Department that will contract with the various States 
and pay them to collect the tax, just like 45 States are 
already doing with their sales tax now.
    Mr. Peterson. So we sunset the IRS in this in, I believe, 
2005. We have 110,000 employees. We probably need, you know, 
10,000 to do compliance, because one of the--the one issue 
where you are going to have a problem is we don't tax 
businesses, so you are going to have a lot of people that are 
going to want to say they are in business so they can buy a car 
or buy a plane for their business. Now, that is already 
happening under the current system, but, clearly, you are going 
to have that kind of pressure with this kind of system, so we 
will need people out there to police this and to try to make 
sure that these businesses are legitimate businesses and they 
are not some kind of sham just to get around the sales tax. So 
much diminished.
    Mr. Lewis. So the intrusion into individual lives would be 
greatly diminished.
    Mr. Peterson. Right.
    Mr. Linder. Everybody in America would be a voluntary 
taxpayer, and they would pay taxes exactly when they choose and 
as much as they choose by how they control their spending.
    Let me speak just a little bit to the compliance question, 
which I think was at the edge of your question. Currently the 
IRS says they collect--they have a compliance rate of 75 
percent. It is very easy just to cheat on your tax return, lie 
on your income, and you have a 99 percent chance of not being 
audited. Under our proposed system, you have to have someone 
conspire with you to cheat. And since 80 percent of the tax is 
going to be collected by 20 percent of the businesses, such as 
Wal-Mart and Home Depot, they are not going to be interested in 
helping you cheat because they have too much to lose.
    The States that currently collect the sales tax tell us on 
average the compliance rate is 92 percent. So we not only 
capture the underground economy, but we think the compliance 
rate will be much higher than currently.
    Mr. Lewis. Wonderful. Thank you.
    Chairman Archer. Mr. Tanner?
    Mr. Tanner. Thank you, Mr. Chairman.
    I, too, thank you all for your innovation. I have long 
thought that we could do some things here in Congress that 
would simplify the tax code and would also give us a chance to 
realize some of the principles of taxation that you all have 
expressed, and so I thank you.
    I have a couple of questions about the mechanics, I 
suppose. There would be a 23 to, I think in your words, Mr 
Linder, 29.9 percent levy on the local payrolls of State and 
local governments under this provision.
    Mr. Linder. Not on payroll.
    Mr. Peterson. Not on payroll.
    Mr. Tanner. Well, on wages. There would be a sales tax paid 
on wages of State and local government employees?
    Mr. Linder. On waivers? I can't hear what----
    Mr. Tanner. Wages.
    Mr. Linder. Wages? No, that is not my understanding.
    Mr. Tanner. It is in this bill, as far as I can read.
    Mr. Linder. Correct.
    Mr. Tanner. Am I incorrect?
    Mr. Linder. You are correct.
    Mr. Tanner. I am correct?
    Mr. Linder. Yes.
    Mr. Tanner. You said the difference earlier that would be--
that they would save money because payroll taxes would be 
eliminated under your proposal.
    Mr. Linder. That is correct.
    Mr. Tanner. There is a difference between the 20-something 
percent that would be levied on the wages of the local 
employees, State and local government employees, and the amount 
of contribution they are presently making to the payroll taxes, 
anywhere from as much as 20 percent, depending on what number 
you used, to maybe 15 percent.
    Now, we have passed a law called unfunded mandates. I don't 
know how they pay for that if we impose that on the taxpayers 
of the State and local governments. I am from Tennessee where 
we have a sales tax-based system, so I guess I am more 
sensitive to that than you are. Could you help me with that? 
Could you explain how that would work?
    Mr. Peterson. Well, I think one of the reasons that this 
provision is in there--and this, I guess, depends on how you 
come at this. But I think--I am convinced that if we take the 
income tax, the corporate income tax, payroll tax off of 
businesses, then you are going to have a reduction overall in 
the price of goods and services of 20 to 22 percent. So what 
these people buy in local governments are going to go down. The 
costs of goods and services are going to go down 20 or 22 
percent.
    So if you believe that, then you are going to have a 
tradeoff here basically that is going to be even if you believe 
that the rate is 29.6 percent.
    Mr. Tanner. Do you have any data? I mean, that is the first 
question----
    Mr. Peterson. Well, yes. Economists----
    Mr. Tanner.--that is going to be asked by State legislators 
and all of the government employees in the urban areas as well 
as the little towns like I come from. How are they going to pay 
it?
    Mr. Peterson. Well, the economists from Harvard, MIT, and 
Stanford that did the work on this say that the costs of goods 
and services on average are going to go down 20 percent because 
we are going to take the cost of the income tax and payroll tax 
system out of the price of goods and services.
    So we are trying to leave people----
    Mr. Tanner. Well, you understand my question.
    Mr. Peterson. Yes, I understand----
    Mr. Tanner. When I go home and the little town I live in is 
going to buy a police car and they are going to pay this tax on 
that police car, they want to know how they are going to come 
up with it other than raising the local property taxes. They 
are going to pay a sales tax on the salary of the five or six 
policemen we have.
    Now, if the price of the paper that they buy comes down, I 
guess it might make up for the tax they pay on wages of the 
policemen and firemen. I don't know. But I think we need to 
look at the unfunded mandates law if we think it is worthwhile 
and see how we can relate it to this law.
    The other question I had is what about the case of retail 
sales over the Internet. Are they taxed under your proposal?
    Mr. Linder. Yes. Under this principle, we would not----
    Mr. Tanner. You understand we just passed a moratorium on 
all Internet----
    Mr. Linder. Well, we passed a moratorium on special access 
charges, but the Internet is still susceptible to the same 
sales tax that the catalogue sales are and Sears has been 
paying this for 60 years.
    On this principle, we think that Government ought to be 
neutral between competing parties, and if the fellow down the 
street puts up a store and sells books out of it, participates 
in your community, votes in your elections, and serves on your 
library board, he ought not to be put at a 7 percent 
disadvantage to Amazon. So under the principle that Government 
ought to be neutral, everything ought to be taxed exactly the 
same. And Internet sales and catalogue sales would be captured 
at the national level.
    Mr. Peterson. Well, and people are mixing----
    Mr. Tanner. We have a moratorium until October of next year 
on retail sales taxation over the Internet.
    Mr. Linder. The moratorium is only on special access 
charges.
    Mr. Peterson. Well, the Federal Government doesn't charge 
sales tax----
    Mr. Tanner. That is not my information, but----
    Mr. Peterson. The Federal Government doesn't charge sales 
taxes on anything right now.
    Mr. Tanner. Under your proposal, I understand it would.
    Mr. Peterson. Well, we would. But I am just saying right 
now--so when people talk about this, they get this mixed up 
between the State issue and the Federal issue. We aren't taxing 
anybody retail sales at the Federal level. The only people that 
are taxing and where it is an issue is at the State level.
    Mr. Tanner. Right.
    Mr. Peterson. And they get this mixed up, and so I think a 
lot of people don't even really know what this is about. You 
know, they are just reacting that they are against taxing the 
Internet, and I am, too, in terms of taxing the Internet 
service and making this available to people. I am against 
taxing that. But one of the positive things about this piece of 
legislation is that we will tax all sales, wherever it is, and 
I think that the States will piggyback on this system, because 
they will no longer have the income tax to base their income 
tax system on. I think the States are going to go away from the 
income tax, will piggyback on this, and then that will help 
solve----
    Mr. Tanner. Well, let me ask you one other question, so I 
can explain it to people when they ask me because I am 
interested in it. Under your bill, do you propose to tax the 
Internet access?
    Mr. Peterson. No.
    Mr. Tanner. Well, now, I thought you said there were no 
exemptions earlier.
    Mr. Peterson. Yes, there will be a sales tax on all 
services if it is used for personal use. So if you are using 
the Internet in your house for your own personal use, you will 
pay a sales tax, like everything else. If you use the Internet 
in your business, you will not pay a tax because businesses are 
not taxed under this at all. Businesses----
    Mr. Tanner. Internet access charges to individuals, non-
business, would be taxed under this provision.
    Mr. Peterson. Right, because----
    Mr. Tanner. So we would have to change the moratorium on--
--
    Mr. Peterson. And so is your phone bill, so is any other 
utility.
    Mr. Tanner. I am just trying to find out what we are and 
are not doing.
    Thank you, Mr. Chairman.
    Chairman Archer. Mr. Hayworth?
    Mr. Hayworth. Thank you, Mr. Chairman. My colleagues from 
Minnesota and Georgia, I appreciate you coming down today to 
talk more about this, and I also take time to salute you 
because I hear from several people in my district who are very 
captivated by the notion of changing, reforming our system of 
collecting taxes.
    My friend from Minnesota may have touched on this a little 
bit in his answer to a previous question, but I think there is 
a legitimate concern that we need to address--and if it has 
been touched on already, I apologize for raising the issue 
again--about the so-called sticker shock. When we make a 
transition from the current taxation policy to this form of 
sales tax, there are those who say, wow, take a look at perhaps 
a one-time escalation in price. Would you agree that is a 
legitimate challenge in making this transition? And what about 
that whole notion of sticker shock and a jump in prices?
    Mr. Linder. We have a study out of Harvard that says that 
the reduction in sales in the first year would decline by 8 to 
9 percent, and in the fourth year we will be spending more than 
we are currently spending under the current system because 
people would have so much more discretionary income to spend 
with.
    Mr. Hayworth. So the flip side is--and this was brought up 
at a town hall. When there was a lament about the sticker 
shock, somebody said, well, yes, but look at what you are 
taking home, because I think the epiphany for many of us comes 
when we enter the world of work, get a paycheck and say, ``The 
Government has taken how much already? Gee, if I just took home 
what I earned.''
    And yet there is another question that arises, and I know 
our friends, the retailers, will be along to talk about this. A 
lot of folks tend to take the position, well, wait a minute, we 
have already become the tax collector for the State, for the 
county, for the city, all these sales taxes. Please don't make 
us the tax collector for Uncle Sam. That is one heck of a 
responsibility.
    But I wonder, too, about the percentage--will there be a 
temptation for different businesses to say, well, let's pop the 
prices up to an even percentage. It not only will be easier to 
figure, but there will be a little bit in there for us in terms 
of care and handling. Is that a legitimate concern?
    Mr. Linder. Yes, but we think the marketplace works. We 
really trust that the competition will drive that embedded cost 
of the IRS out of the price of goods and services. If we didn't 
trust the marketplace, we wouldn't be interested in this. For 
every retailer that wants to put a few pennies extra in there, 
the guy down the street is going to take a few pennies out 
because his interest is market share. He is going to make more 
because he is going to sell more.
    So we think we have a very efficient system. We think that 
we are in a period of time right now when everything is penny-
sensitive. The competition has never been keener. And we think 
that will drive the price of goods and services down.
    Mr. Hayworth. Gentlemen, how do we get from here to there? 
I mean, is it just take over on an arbitrary date, or is there 
a transition period?
    Mr. Peterson. The only transition rule in this is going to 
be--you know, it is on the 1st of January. The only transition 
rule is the inventory that you have on hand at that date you 
will get a credit against the sales tax for that inventory 
because the price--the current price of the tax system is in 
those goods and services. So we would, in fact, be collecting 
the tax twice on that. So that would be the only transition 
rule.
    We would go cold turkey on January 1st of--I think in the 
original bill it was 2001. Now it is probably going to have to 
be delayed beyond that if we move this year. But it would be 
cold turkey.
    Mr. Hayworth. One final point. I appreciate your advocacy 
of this plan, but I also know that you take your oaths of 
office very seriously and you are willing to come here as 
honest brokers and advocates. As you look at the plan you have 
introduced, in all candor, what do you consider to be the 
limitations or the drawbacks? Are there any things that concern 
you both in terms of what has been drafted?
    Mr. Linder. I have two concerns. The first one is for the 
States to administer and oversee the collection of taxes on 
services will be much more difficult than on products. And the 
second concern, which is very real with me, is that 15 years 
after this passes, we are going to have a hard time finding 
employees because this economy is going to grow so rapidly. 
Every foreign company, is going to want to build in our country 
because there are no tax consequences. Every investor in the 
world will be in our equity markets because there are no tax 
consequences. And we will have so much growth that I am worried 
about finding employees.
    Mr. Peterson. You know, any piece of legislation has got 
things that can be questioned or places that can be improved. 
And I think there has already been some issues raised here 
today that ought to be looked at. And I come at this with the 
idea that you folks can help us make this a better situation. I 
think we ought to look at the issue with the local units of 
government and see if there is a better way to address that.
    But I think that the biggest concern that we are going to 
have in the implementation of this, as I said earlier--and we 
have got big problems in the current system with compliance. 
But we are going to have a significant problem because we don't 
tax businesses. You are going to have people trying to create 
businesses so they can avoid the tax. And that is going to be 
one of the biggest challenges in implementing this, is setting 
up a system whereby we can ferret out what is a legitimate 
business and give them a number and a way to control this. We 
are going to have to have some kind of a system whereby we can 
make sure that when the Federal Government gives you a number 
to be in business, that you are legitimate business, and then 
use that as an underpinning to make sure that people don't get 
around this law. That would be my biggest--I think that is the 
one place where you are going to have people trying to 
undermine this. And it can be handled, but it is going to have 
to be thought out very carefully.
    Mr. Hayworth. Well, again, gentlemen, I thank you. You are 
to be commended, and there are many of my constituents in the 
6th District of Arizona who have more than a passing interest 
in this, have a deep and abiding conviction that this could be 
the answer in terms of tax reform. And I pledge to you as a 
committee member we will take a close look at this, and, again, 
Mr. Chairman, I commend you for calling these hearings today.
    Chairman Archer. Mr. Jefferson?
    Mr. Jefferson. Thank you, Mr. Chairman.
    I also would like to comment you members for taking a stab 
at this issue of tax reform. But I have some questions about a 
part of it that I think a lot of folks in the country are going 
to be concerned about.
    We have done a lot in this committee and throughout the 
Congress to incentivize home ownership as a way of creating a 
wealth of people and a way of providing for them a chance for 
what we call the American dream.
    We have also done a lot in our committee to try and build 
communities through incentives for rental property development, 
both rehabilitation projects and new ones, and we have done 
low-income housing credits for that, and we have done 
accelerated depreciation.
    On the other hand, for home ownership, as you know, we have 
allowed the deduction of mortgage interest payments, and these 
have incentivized home ownership and have been probably the 
principal incentive for the ordinary person in the whole tax 
code.
    Now, if I understand the bill correctly, it will place a 30 
percent retail sales tax on purchases of newly constructed 
homes. It seems to leave out old homes, although I am not quite 
sure, but it seems to leave that out. But it also imposes a 30 
percent sales tax on rentals whether the apartment is new or 
old. And then it seems to include sort of a new tax here under 
this definition of financial intermediation services, the 
difference between the home mortgage and the--I am sorry, the 
mortgage interest rate and the Federal rate, there is a 30 
percent tax on whatever that difference is.
    So let me ask you this: Am I correct that your bill imposes 
a 30 percent retail sales tax on purchases of newly constructed 
homes?
    Mr. Peterson. That is correct.
    Mr. Jefferson. And let me ask you this: Do you know if any 
State imposes such a tax? I don't think any State imposes such 
a tax now, right?
    Mr. Peterson. No. But you have to, again, go back to the 
underlying principle that the economists tell us that 28 
percent of a home, a new home, is the embedded cost of the 
current tax system, payroll taxes, corporate income taxes. So 
28 percent of the cost of that home is going to go away if we 
pass this bill. Then you add 30 percent back onto it, you are 
about where you started off.
    Mr. Jefferson. Again, you have the discrepancy that exists 
between Joint Tax and those who are putting together this 
legislation about what the rate will actually be.
    Mr. Peterson. Right.
    Mr. Jefferson. But let's assume it is a 30 percent rate. If 
someone buys a home for $200,000, is the tax on that $60,000? 
Is that the way you would calculate it?
    Mr. Peterson. This is the one place--in all other 
instances, the tax is paid up front, but in the case of homes, 
we think that is a large enough purchase that it is not fair to 
ask the lenders to pay that tax and have to collect it back 
over the length of the mortgage. And so the way that it works 
on a new home is you pay tax on the equity portion, whatever 
your down payment is, you would pay the tax on that, and then 
you would pay the tax on the principal part of your mortgage 
payment every month. So that would be spread out over the 
length of the mortgage.
    On a $200,000 house, if you had $40,000 down, you would pay 
the tax on that, and then you would pay the tax on the 
principal as you paid off the principal of the rest of the 
mortgage.
    Mr. Jefferson. So where does the taxpayer get this money 
from? He has to borrow the money as part of the overall loan?
    Mr. Peterson. Well, he gets it--I mean, he has to borrow 
the 28 percent of the embedded cost of the tax system that is 
in the house right now. He borrows that.
    Mr. Jefferson. Well, you are talking about----
    Mr. Peterson. So it is the same----
    Mr. Jefferson. Yes, but on top of that, in real terms, on 
top of the cost of the house, if the fellow is buying a house 
at $200,000, the so-called embedded cost is already there. I 
mean, that is what he is getting. Then he pays a mortgage on it 
now, and he pays his mortgage interest rate over time. This 
sales tax thing is a new feature here. It is something you 
would have to borrow, it seems to me, to add to his liability 
on this thing.
    Now, let me ask you this: This intermediation charge, you 
agree that is a new charge, the difference between----
    Mr. Linder. It is simply a way to get to how to charge for 
banking services, and we are trying to borrow--we are only 
charging sales tax on the service provided. If you borrow 
$100,000, there is a service cost. We don't pay the sales tax 
on $100,000 that you are going to borrow and pay back, only on 
the service aspect that the bank incurs in making that loan for 
you.
    Mr. Jefferson. You calculate that as the difference between 
the mortgage rate and the Federal rate. That is what it seems 
to be--and I don't know that necessarily--those two necessarily 
jibe in every case, but, anyway, that is the way it is 
calculated here. That is another issue.
    Does the bill impose--on apartment rentals, are you 
troubled at all by the proposal that we would increase the cost 
of housing by 30 percent for somebody who is renting? Does that 
trouble you at all? Or you think it isn't a problem, especially 
for moderate- and low-income people?
    Mr. Peterson. The price of building that apartment building 
is going to be 30 percent less than it is currently because you 
are not going to have all of those payroll taxes and corporate 
income taxes to pay. So, theoretically, if the cost of that 
rental property is less, then the amount that you have to 
charge for rent would be less as well. Plus we exempt--like for 
a family of five, you don't pay any tax on $25,400, and part of 
that $25,400 is the rent that you would pay on your apartment. 
So you are insulated from the tax on that portion of it.
    Mr. Jefferson. In the case of the new home purchase, you 
made an explanation about getting rid of embedded costs. In the 
case of rental, of course, it applies to old and new. So if a 
person is in a rental unit now and it is an old unit, won't 
that person just experience an increase in rent because of this 
proposal?
    Mr. Peterson. Yes.
    Mr. Jefferson. I would think so. And in the case of a new 
one, you could say the rent rate is just being established, so 
it is taken off for the first time, perhaps. But in every case 
of--now, we have made--we try to make it easy for people to 
find decent and affordable home ownership, rental properties 
through what we have done in the tax code, through the low-
income housing tax credit. We made a big deal out of that over 
the years, and it has been--most people say it has been 
effective in building communities.
    I just wonder if you are going to put some housing out of 
the reach of low-income families and without any sort of a 
provision before it, because we take the low-income housing tax 
credit away.
    Mr. Peterson. It is a legitimate concern, and I would just 
say that I think that the things that are embedded in the code 
that we can all agree are good public policy and are needed to 
get people what we think they need and deserve, then they can 
withstand the scrutiny of this Congress, and we can set up a 
program to accomplish the same thing with a direct 
appropriation. We don't have to do this through the tax code. 
So the low-income housing tax credit incentives--I mean, we are 
wasting 50 percent of that money to have these brokers sell 
these credits in the first place. We could eliminate that.
    I have worked with low-income housing tax credits. I see 
how much of it goes to the people that sell the credits and 
don't go to the folks that actually invest in the properties. 
So, again, if that is what we want to do to encourage home 
ownership for people in rental property, we can have an 
appropriation, we can have a program that spends that money 
directly, and we can all vote on it, and it will be out in 
front. And I think that is a better way to do it.
    Mr. Jefferson. Won't you have to set up----
    Chairman Archer. The gentleman's time has expired.
    Mr. Jefferson.--some bureaucracy to deal with all that 
stuff?
    Chairman Archer. Mr. Becerra?
    Mr. Becerra. Thank you, Mr. Chairman. And I appreciate that 
our two colleagues have stayed for such a long time answering 
so many questions, and I appreciate also their proposal and 
their efforts to try to reform our tax code.
    Mr. Jefferson raised some of the questions I was going to 
ask, so let me just continue along those lines.
    Inherent in your discussion is the fact that we have 
embedded in the cost of items that we currently sell income tax 
rates--or the income tax that we pay as individuals, other 
taxes such as the payroll tax, and that by eliminating those 
taxes and placing it all under a sales tax, we can have at 
least a simpler, cleaner understanding of what our tax really 
is. So we take that $200,000 home. Under your legislation there 
would be a tax of $60,000 on that home that could be spread 
over the life of a mortgage in terms of the paying of that tax.
    My understanding from what you are saying as well is that 
because we are now eliminating income taxes, payroll taxes, all 
other forms of taxes, those embedded taxes now being 
eliminated, we can now actually reduce the cost of items that 
we purchase, so, therefore----
    Mr. Linder. And we think the market will do that. We think 
that $200,000 home will cost about $140,000 to build.
    Mr. Becerra. So you are saying it will cost about $140,000 
to build, so, therefore, you are actually saving a little bit. 
So even though you are paying a tax, your cost really won't be 
much different from what it was before.
    Mr. Linder. But you are going to be paying for it with your 
whole paycheck. If you are the lowest-income earner right now 
in a rental unit with a 15 percent withholding level and 7.65 
percent your share of the payroll tax, you are going to get 
tomorrow a 30 percent increase in take-home pay. Most people 
who buy homes, the first consideration they have in going to 
the mortgage lender is how much of your income--how much take-
home pay do you have? Can you afford to make the payment? And 
you are going to have an increase in take-home pay.
    Mr. Becerra. Your proposal would try to put more money in 
people's pockets at the beginning.
    Mr. Linder. That is correct.
    Mr. Becerra. A concern I have, though, is that if you are 
saying that the cost of that new home will be $140,000 instead 
of the $200,000 now, then for someone to sell that home, a home 
builder to sell that home, you would have to sell that at 
$140,000, when before this tax may have been in place, someone 
would have purchased the neighboring home at $200,000. But now 
the home is selling for $140,000. How do you tell the neighbor 
that purchased the home for $200,000 under the old system that 
now his home is really valued at $140,000 because the neighbor 
next door bought it at $140,000?
    It seems to me that what you have told all the neighbors is 
the value of your homes has just dropped quite a bit.
    Mr. Peterson. Well, no, because under our plan, one of the 
principles is that things are only taxed once. So we only tax 
new property. So that home next door is not taxed when it is 
sold.
    Mr. Becerra. So do you mean to tell me that someone else 
will now purchase the next year the neighbor's home that cost 
the neighbor $200,000 at $140,000?
    Mr. Peterson. Well, no, because if it was a new home, the 
tax would be added on to it. It would be back up to $200,000. 
So you would be in the same position as you were with a used 
home.
    Mr. Becerra. So let's take this scenario. The year 2000 a 
home was built, and under our current system, the homeowner 
purchased it for $200,000. The year 2001 we go into your new 
tax system, and you are saying that same home will really cost 
about $140,000. The neighbor would buy that new home next 
door--a purchaser would buy that home next door for $140,000.
    Mr. Linder. Plus taxes----
    Mr. Becerra. Plus the tax. Plus the tax.
    Mr. Peterson. $60,000.
    Mr. Becerra. $60,000. The neighbor that bought the home for 
$200,000 in the year 2000 now wishes to try to sell. I am a 
purchaser seeking a home in that neighborhood. I look at the 
home that cost $140,000 plus the tax, but the purchase price is 
listed as $140,000, and I now look at the homeowner who 
purchased the home for $200,000 in the year 2000, that 
homeowner is not going to sell it for $140,000. I am probably 
not going to be willing to pay----
    Mr. Linder. First of all, both of these houses have tax 
costs in them. One is visible and the other is invisible. But 
they are both going to wind up costing about the same.
    Mr. Becerra. Yes, but--and you may be right that it may be 
invisible, but the prices are not invisible to people shopping 
for homes, and I have a difficult time understanding how anyone 
as a neighbor is going to want to see a $60,000 reduction in 
the value of their home and someone else is going to, as a 
purchaser, be willing to shop for a home that is priced at 
$60,000 more than what someone else bought the home.
    Mr. Peterson. As someone who has spent 20 years advising 
people and spending most of my life figuring out how to get 
around the tax code, I can tell you what is going to happen 
with this. Used houses will become very popular for a while 
because they are not taxed. That is the psychology of the 
American people. If they can find something that they can buy 
and not pay the tax, they are going to just gravitate toward 
that. So I think you are going to actually see the used houses 
become more valuable for a while. Eventually it is going to 
sort out as the system goes into effect.
    Mr. Becerra. And, you know, we would have to roll the dice 
on that, but I think the same problems you see with real estate 
you would see with funeral services. You are going to tax 
people to go bury their deceased relatives; doctors' services, 
which were discussed; prescription drugs, a 30 percent tax on 
prescription drugs for elderly who are right now on fixed 
incomes; nursing homes; the Internet, which we here have agreed 
should not be taxed for at least a few years until we figure 
out what, if anything, we should do. Somehow we are going to 
have a total change in mind-set, and then we are still rolling 
the dice.
    I thank you for all your efforts and your time, and, Mr. 
Chairman, I thank you also for the indulgence on the time.
    Chairman Archer. Ms. Thurman will inquire.
    Mrs. Thurman. Thank you, Mr. Chairman.
    Just to reiterate the comments by my colleagues, we do 
appreciate the work that you have put into this. I am probably 
one of the few members other than--well, I may be one of the 
only members here that has had to deal with a service tax ever 
before through the State of Florida when Governor Martinez was 
Governor and tried to impose a service tax on the State of 
Florida and the residents. And I have to tell you it was pretty 
nasty, very nasty, and it was only at 6 percent. But what it 
was basically doing was putting a sales tax on services, on 
everything that was defined through the Federal SIC codes. So 
it became a rather--it actually ended up being fairly 
embarrassing because it ended up being repealed within about a 
6-month period of time.
    But in saying that, there are a couple of things I would 
like to ask about. Florida is also one of those States that 
does not have a State income tax, although State income taxes 
would be piggybacked somewhat on our income tax. So even though 
yours may be 30 percent or 60 percent--whoever's numbers you 
agree with--what happens to a State if their income tax is no 
longer available to them? I mean, replacing it with a sales 
tax, property taxes?
    Mr. Peterson. Well, I think that, you know, first of all, I 
was in the State legislature in Minnesota when we tried to tax 
services, so I have been through that. But the thing that you 
need to understand is that those same people that are going to 
be collecting this tax are paying a huge income tax, corporate 
income tax, payroll tax burden, and I think a lot of them would 
be willing to have their services taxed with the sales tax if 
they can get rid of that other part of the system. So that is a 
new part of the equation that was not there, you know, when we 
were just going to put the sales tax on top of what is already 
there.
    But in the case of the States that have income tax, I think 
it is unlikely that any State will be able to maintain an 
income tax if we don't have a Federal income tax, and I think 
that is a good thing. And I think what will happen is you will 
see States piggybacking onto our sales tax system.
    For example, in Minnesota, we exempt food, clothing, 
medicine, you know, all of those kind of things. And because of 
that, we have to have a 6.5 percent sales tax. If we taxed 
everything, like we are doing in our bill, we could drop that 
to 2 percent and raise the same amount of money.
    So I think you are going to see States piggyback onto this 
Federal system, be able to drop their rates, and still collect 
more money than they are collecting now.
    Mrs. Thurman. How do they piggyback onto this system? I am 
not sure that I understand that.
    Mr. Peterson. Well, because your merchant is going to 
charge you on your Federal sales tax, you know, 30 percent, 
whatever it is. So the State will just add on another 6 
percent, and then they will get their revenue based on the same 
taxable sales as the Federal, and they just piggyback right on 
and it makes it simple.
    Mr. Linder. Let me make a comment on that, Mrs. Thurman. We 
have had Governors tell us that they would love to see this 
because they would eliminate all their exemptions and 
exclusions, tax everything equally just like ours does, and it 
is much easier for them to administer and oversee. We are 
making the retailers be cops today. They are picking out who 
gets taxed and who doesn't, and we shouldn't ask that of our 
retailers. They should tax everything the same.
    I practiced dentistry. Why should my profession be 
privileged to operate in Georgia and not have pay to have a tax 
when the neighbor who is a jeweler has to collect the tax? So 
we are operating under a principle that no industry should be 
favored over another industry, no business section should be 
favored over another. Everybody should pay equally the same 
because they are all serving consumers.
    Mrs. Thurman. Well, but the business is not paying the tax.
    Mr. Linder. That is correct.
    Mrs. Thurman. The customer is paying the tax. You can't say 
that it is a privilege by the business.
    Mr. Linder. It is a privilege not to have to collect it and 
turn it in.
    Mrs. Thurman. However, in saying that, I mean, if I look at 
the constituency that I represent of about--you know, the 
second poorest district, maybe just above that poverty line but 
still one of the poorest districts, and a very old district. I 
mean, the three or four things that they have to depend on, 
which has already been mentioned: housing, food, medicine, 
going to the doctor. And, you know, what you are saying to 
them--and they are not necessarily paying or receiving or 
paying a payroll tax or doing any of those kinds of things. For 
them, what benefit is this to them?
    Mr. Linder. Well, there are two benefits. The first one is 
we are going to drive the embedded cost of the IRS out of those 
things that they are currently paying now.
    Mrs. Thurman. But is there an enforcement mechanism in this 
bill to make sure that those things drop?
    Mr. Linder. No, we actually trust the market. We actually 
trust the free market system to do that.
    But, secondly, they are going to have a rebate at the 
beginning of every month that is going to totally rebate the 
tax consequences of purchasing the necessities, which the HHS 
determines every year----
    Mrs. Thurman. For everybody?
    Mr. Linder. For everybody. We don't need an agency 
determining who deserves it and who doesn't, because then we 
are back in the income business. Every household will get a 
rebate check at the beginning of every month that will totally 
rebate the tax consequences of spending up to the poverty line. 
For a household of five, that is about $25,000. Their check of 
about $500 a month would totally rebate the tax consequences of 
spending up to that. So we not only drive the current 22 
percent embedded cost of the IRS out of the purchase of milk 
and bread, but we also add a check to that so they don't pay 
the 23 percent sales tax on it.
    Mrs. Thurman. So who is going to pay that difference? I 
mean, somewhere along the line throughout this----
    Mr. Linder. Who is going to pay the check?
    Mrs. Thurman. Well, no. I mean, if somebody is not paying 
and it is above this--I mean, who gets squeezed in this?
    Mr. Linder. Actually, the consumption base is a very 
consistent base over the last 40 or 50 years. Even in downturns 
of the economy, we have seldom had a turndown of more than 3 
percent. So the consumption base is a far more steady predictor 
of revenues than is the income base.
    Now, let me tell you who is going to get hurt the most: the 
guy who is worth $300 or $400 million and he has got all his 
money in tax-free municipals. He is going to have to pay taxes 
for a change.
    Mr. Peterson. Plus the spending base is 20 percent higher 
than the income base. People spend 20 percent more than they 
report in income. So it is a higher base to start with.
    Mrs. Thurman. But I would imagine it also depends on what 
you are spending on and what grouping you are in as to your 
needs.
    Mr. Peterson. Yes. But, again, you know, most seniors, a 
lot of them have their homes paid for.
    Mrs. Thurman. Sure.
    Mr. Peterson. So that is not going to be an issue. And I 
think with most seniors the amount that we have in here for the 
poverty level spending is going to cover their drugs and food 
and clothing, because most seniors are not spending a lot of 
money on clothing either, probably.
    So, you know, it is going to vary between people, but, I 
mean, generally, I have had seniors--I have had town meetings 
and talked this through with seniors. And once they understand 
it, you know, I think most of them think it is a good thing, 
not so much for them but for their kids, because what most 
seniors are concerned about is that their kids or grandkids get 
a chance to make it in this world, and this takes the burden 
off of them. You know, they have no taxes on their payroll. 
They get to keep their whole check, and they decide whether 
they are going to spend it and pay the tax or whether they are 
going to save it and start a business or whatever, which I 
think is a better way.
    Chairman Archer. The gentle lady's time has expired.
    Mrs. Thurman. Thank you.
    Chairman Archer. Mr. Doggett?
    Mr. Doggett. Thank you, Mr. Chairman.
    Mr. Linder, do I understand that the idea of this 
legislation is to apply it to all forms of commerce with one 
simple rate?
    Mr. Linder. All forms of personal consumption.
    Mr. Doggett. All forms of personal consumption. So that 
would include any and all purchases that are made through 
electronic commerce over the Internet?
    Mr. Linder. Yes.
    Mr. Doggett. And I had thought prior to today that there 
were not any individuals in the Congress that were advocating 
using electronic commerce as a source of Federal revenues. But 
do I understand that it is the objective of you and all the 
supporters of this measure to rely on electronic commerce, as 
well as other forms of commerce, as a Federal revenue source?
    Mr. Linder. Yes. You were not here when I made the point. I 
would like to make it again. We think Government should be 
neutral in respect of competition between businesses, and it 
ought not give a 6 or 7 percent disadvantage to the fellow down 
the street because he is selling it door to door instead of 
over the Internet.
    I have said for some time that in respect of being neutral, 
Internet commerce should be taxed, anyway. I bought a Gateway 
computer just recently over the Internet, and I was taxed on 
it. And the reason I was taxed on it is because Gateway has a 
store in my district.
    Mr. Doggett. And there may well be good arguments for that 
point of view. But even those who have held that point of view 
in the past, I have not heard anyone else advocating that, in 
addition to State and local taxes, we should use the Internet 
and electronic commerce as a major Federal revenue source. 
Indeed, as I understand, under your proposal, almost the 
exclusive Federal revenue source would be to rely on taxation 
of all forms of consumption, including all consumption through 
the Internet.
    Mr. Linder. You understand the bill perfectly.
    Mr. Doggett. Okay. And as far as the level of tax that you 
will impose for the Federal Government on electronic commerce 
and other kinds of commerce, what is the level that you think 
will be necessary in order to fulfill the objectives of revenue 
neutrality?
    Mr. Linder. Since we are replacing income tax, which is 
tax-inclusive of what you earn, the inclusive basis is 23 
percent of what you spend. If you treat it as a sales tax, as a 
tax-exclusive rate, it would be 29.9 percent.
    Mr. Doggett. So under your--it would be what, now?
    Mr. Linder. 29.9 percent.
    Mr. Doggett. Under your best-case scenario as a sponsor of 
this legislation, then it would be 29, almost 30 percent that 
would be imposed now for the first time as a Federal revenue 
source on electronic commerce along with these other sources. 
To an Internet start-up company that is not earning any 
revenues at present, in fact, is having losses, this is a real 
change in their tax situation, isn't it? They are not paying--
--
    Mr. Linder. No, actually not. Actually not.
    Mr. Doggett.--taxes now. Now they will be involved.
    Mr. Linder. No. They only collect the tax. The consumer 
pays the tax.
    Mr. Doggett. I see. But if there is no income tax being 
imposed on many of these Internet start-ups, they don't have 
any tax to pass on to their consumers at present, do they?
    Mr. Linder. They are paying the payroll tax. They are 
paying it right now.
    Mr. Doggett. All right. And I want to have some discussion 
about the payroll tax with you as well. But you do see the more 
we rely on electronic commerce, you feel, perhaps contrary to 
the attitude of those who supported the Internet Tax Freedom 
Act, that we should look at electronic commerce as a major 
source of Federal revenue.
    Mr. Linder. I think we should treat it the same as the 
fellow down the street. But let me repeat that the bill that we 
passed to delay taxation on the Internet has nothing to do with 
sales taxes. You can collect sales taxes on the Internet today 
if the local community chooses to do that. It is only the 
access charges we have the moratorium on.
    Mr. Doggett. Well, there is some dispute about the Internet 
Tax Freedom Act and what it does and does not do. But it is 
pretty clear that Governor Gilmore is seeking a tax-free zone 
on the Internet----
    Mr. Linder. Yes, he is.
    Mr. Doggett.--to the exclusion of any sales taxes, and you 
obviously disagree with him in his approach and feel that we 
should apply a sales tax not only for the States but for the 
Federal Government on all this kind of commerce, just as you 
would to non-Internet commerce.
    Mr. Linder. That is exactly correct. I think the Government 
ought to be neutral.
    Mr. Doggett. Now, with reference to the payroll tax, if I 
might ask you, Mr. Peterson, about that. There are many 
constituents that I have had--and I am sure each of you as 
well--who have always viewed Social Security as a little 
different from other types of Government programs. In fact, I 
have had even a few who have said let's get the Government out 
of Social Security. And that is based in large measure on the 
feeling out there that people pay into Social Security as a 
form of public or social insurance and that they have a stake 
in Social Security and preserving Social Security as a result 
of their own payments--much like premiums into a private 
insurance program.
    Isn't there a danger that if we eliminate entirely those 
kind of payments and rely exclusively on general revenue to 
finance Social Security that we will undermine that 
relationship between people and Social Security and perhaps 
permit those who have never supported Social Security to 
undermine and destroy Social Security?
    Mr. Peterson. Well, I guess you could make that argument, 
but I think a bigger concern is that down the road they are 
projecting we are going to have 100 percent more people on 
Social Security and only 17 percent more people working.
    Now, I would argue that if we don't change this system, we 
have an unsustainable situation because, as you know, we have a 
pay-as-you-go system. And so, you know, if you look at that, 
you are talking about a payroll tax of 30 percent. And I think 
that is a lot bigger danger to the system than what we are 
talking about here.
    So I would argue that one of the best things we can do for 
Social Security and Medicare is to change the way we raise this 
money. Instead of basing it on employment, which is diminishing 
in relation to the people that are retired, base it on what 
people spend. I think that is a much better way to do it.
    And this whole idea that somehow or another 7.65 percent or 
15.3 percent equates into exactly what the Medicare and Social 
Security should be is not true. We have only set those rates to 
cover what we projected in the future was going to be the needs 
of the system, which is not necessarily related to what we are 
actually paying people.
    My grandfather retired in the 1950s. He paid in like $2,000 
and lived to be 90 years old and drew out hundreds of thousands 
of dollars. And we have all kinds of examples of that.
    So, you know, I understand where you are coming from, and 
there has been a lot of rhetoric that has backed everybody into 
this corner. But the truth of the matter is this is a pay-as-
you-go system, and it is going to fall apart.
    Mr. Doggett. I thank you for your response.
    Chairman Archer. The gentleman's time has expired--has long 
since expired.
    The Chair believes that it probably would be wise for the 
committee to stand in recess for about 45 minutes, and, 
gentlemen, all of the members have inquired of you, so you are 
excused. And when we return, we will have our first panel up as 
witnesses.
    Mr. Linder. Thank you, Mr. Chairman.
    Mr. Peterson. Thank you.
    [Recess.]
    Chairman Archer. The committee is not going to come to 
order, but just for notifying those who are here, those two 
buzzers mean we have a vote on the floor, and we will go vote, 
and when we come back, whatever members are here, we will 
proceed with the hearing. But we will continue to be in recess 
until we return from this vote.
    [Recess.]
    Chairman Archer. The committee will come to order.
    The Chair invites the next witness panel to come have seats 
at the witness table: Mr. Linbeck, Mr. McCracken, Mr. Rooth, 
Mr. Kouplen, and Mr. Martin.
    Mr. Linbeck, if you would be our lead-off witness, and I 
would ask each of you gentlemen if you will identify yourselves 
for the record before you commence your testimony. We will have 
that available. And, Mr. Linbeck, welcome to the committee. In 
fact, welcome to all of you. And, Mr. Linbeck, if you are 
ready, you may commence.

      STATEMENT OF LEO E. LINBECK, JR., CHAIRMAN, LINBECK 
CORPORATION, HOUSTON, TEXAS, AND VOLUNTARY CHAIRMAN, AMERICANS 
               FOR FAIR TAXATION, HOUSTON, TEXAS

    Mr. Linbeck. Thank you very much, Mr. Chairman.
    My name is Leo Linbeck. I am from Houston, Texas. I am 
chairman of Linbeck Corporation, a family-owned business 
engaged in the construction industry. I am also serving as 
voluntary chairman of Americans for Fair Taxation.
    Americans for Fair Taxation was founded about 4 years ago 
for the purpose of doing research, both market and academic, 
into what could be an appropriate replacement system for the 
current income tax system. We devoted considerable time and 
resources in going to the consumer, the taxpayer, and asking 
them what it is they value about the current system and what it 
is they dislike about the current system and what they would 
believe to be an appropriate body of contents to be embedded in 
a new tax system, in a replacement tax system.
    This took about 3 and a half years and it engaged an 
iterative process out of which we learned from the consumer 
what it is they valued, and then we asked the academic 
community to give us their analysis as to whether or not what 
we learned in the market research was economically efficacious.
    After having done that for the period of time I described, 
about 3 to 3 and a half years, we then took what we considered 
to be the product that had been gleaned from that research and 
did market testing. And we went to three cities in the first 
instance--Bakersfield, California, Traverse City, Michigan, and 
Charleston, South Carolina--and did testing to determine if 
people know about the system, what would their attitude be in 
respect thereto, and we found that their attitude changed 21 
points, which we were told by experts, of which I am not one, 
that is a significant movement in attitude.
    We then tested the system in 31 different markets to 
discern if people would, in fact, when they learned about it, 
want to become involved in furthering the interest of that 
particular system. And from that exercise we learned that they 
were very interested in doing that to the extent that in a 3-
week period we generated approximately 200,000 phone calls and 
hits on the website seeking additional information.
    We then did the third level of testing to determine if when 
people knew about it and they were informed enough to become 
members of Americans for Fair Taxation, would they, in fact, 
contact their elected Representative to make known to their 
Representative their wish to bring into law the Fair Tax. We 
were very pleased with the results we generated from that 
effort, the results of which were very, very significant. A 
Senator from New York received over 12,000 phone calls in 2 
weeks, which he reported to me was an extraordinary response.
    That is basically the background. It is an effort 
undertaken in the private sector exclusively. There were three 
of us at the outset who embarked on that research journey, and 
we are, as I said, private citizens. We are involved in 
business, civic, and charitable activities. But none of us are 
experts in the field of taxation.
    What we learned at the end of the day is that there are 
four essential elements to the Fair Tax. Number one is that 
when people understand that you eliminate the sales tax, that 
is by far the most important factor in garnering their support. 
We learned, and did not know at the outset, that a very small 
percentage of people itemize, less than 30 percent of the 
taxpayers on average itemize. And for the person who works for 
wages, we learned that approximately 60 percent of that non-
itemizing group, the payroll tax is the largest tax. And we 
found that when people understood that the payroll tax would 
one of the elements of the existing system that would be 
eliminated, it greatly enhanced their enthusiasm for the total 
replacement of the income tax system.
    The second most important feature is the rebate. The rebate 
is framed in a manner that permits a family to receive in 
advance a rebate equal to the amount of tax that will be due in 
that month in the purchase of essential goods and services. We 
examined in our research a variety of ways in which to deal 
with the problem of the regressivity that is perceived to be 
embedded in a sales tax, and found that a universal rebate on 
essential goods and services was the most efficient.
    The third element that is most important in the hierarchy 
of interest is that there be no exceptions and no exclusions. 
People are very, very concerned about the complexity of the 
system they wish to replace.
    And, finally, the need for a constitutional amendment to be 
certain that there is not both an income tax and a sales tax.
    Mr. Chairman, we appreciate the chance to be here with you 
today. We look forward to any questions, and we urge the 
Committee on Ways and Means to favorably consider the Fair Tax 
and move it on the track after hearings to a vote on the floor.
    Thank you very much, sir.
    [The prepared statement follows:]

STATEMENT OF LEO E. LINBECK, JR., CHAIRMAN, LINBECK CORPORATION, 
HOUSTON, TEXAS AND VOLUNTARY CHAIRMAN, AMERICANS FOR FAIR TAXATION, 
HOUSTON, TEXAS

    I would like to thank you, Mr. Chairman and members of the 
committee for the opportunity to testify before your committee 
on replacing the current tax system. I am the Chairman of 
Linbeck Corporation and voluntary Chairman of Americans for 
Fair Taxation (AFT). AFT is a grass roots citizens 
organization, based in Houston Texas, dedicated to replacing 
the current tax system with the FairTax. I am testifying today 
on behalf of AFT.

The FairTax

    The FairTax was introduced on a bi-partisan basis by 
Representatives John Linder and Collin Peterson during the 
first session of this Congress. The FairTax will repeal 
individual income taxes, corporate income taxes, all payroll 
taxes (including Social Security, Medicare and self-employment 
taxes) and the estate and gift tax. It would replace these 
taxes with a 23 percent national retail sales tax on all goods 
and services sold to consumers.
    Individuals will no longer file tax returns. Businesses 
will collect and remit the sales tax in a manner similar to 
that in 45 states and the District of Columbia.
    The FairTax is a tax on final consumption. Business to 
business transactions will not be taxed since those goods and 
services will be taxed when the goods and services into which 
they are incorporated are finally sold to consumers. Education 
and training expenses will be treated as an investment in human 
capital and not taxed. Exports will not be taxed. Imported 
goods will be taxed when they are sold at retail in the U.S.

The FairTax is Progressive

    Unlike the present tax system which taxes many poor people, 
the FairTax will literally untax every poor person in America. 
This is because the FairTax will provide every household in 
America with a rebate of sales tax paid on necessities. Thus, 
the FairTax is progressive and every family is protected from 
tax on essential goods and services. Because of the rebate, 
those below the poverty line will have negative effective tax 
rates and lower middle income families will enjoy low effective 
tax rates. The table below shows the annual allowances and 
rebate amounts.

                                                                         Fair Tax Rebate Amounts for Calendar Year 2000
------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
                                                       Single Person           Single Person           Single Person          Married Couple          Married Couple          Married Couple
------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
         Family Size             HHS Poverty Level (1)Fair Tax Annual           Annual Rebate          Monthly Rebate         Fair Tax Annual           Annual Rebate          Monthly Rebate
                                                  Consumption Allowance                                                   Consumption Allowance
                                                                                                                             (Married Couple)
                   1                   $8,350                  $8,350                  $1,921                    $160                  $8,350                  $1,921                    $160
                   2                  $11,250                 $11,250                  $2,588                    $216                 $16,700                  $3,841                    $320
                   3                  $14,150                 $14,150                  $3,255                    $271                 $19,600                  $4,508                    $376
                   4                  $17,050                 $17,050                  $3,922                    $327                 $22,500                  $5,175                    $431
                   5                  $19,950                 $19,950                  $4,589                    $382                 $25,400                  $5,842                    $487
                   6                  $22,850                 $22,850                  $5,256                    $438                 $28,300                  $6,509                    $542
                   7                  $25,750                 $25,750                  $5,923                    $494                 $31,200                  $7,176                    $598
                   8                  $28,650                 $28,650                  $6,590                    $549                 $34,100                  $7,843                    $654
------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
 A(1) Federal Register: February 15, 2000 (Volume 65, Number 31, Pages 7555-7557).

    The rebate will be paid monthly in advance. The total 
annual rebate amount will be equal to the sales tax rate times 
the federal poverty level. In addition, because the federal 
poverty level for a two person household is not twice as high 
as that for one person, an additional amount will be provided 
in the case of married couples to prevent any marriage penalty.
    The FairTax effective tax rates for families of four at 
various consumption levels are shown in the figure below.

[GRAPHIC] [TIFF OMITTED] T1879.001

    A family of four, for example, could spend $22,500 per year 
free of tax because they will have received over the course of 
the year rebates totaling $5,175. $5,175 is the amount of sales 
tax paid on $22,500 in expenditures. A family spending $45,000 
per year will effectively pay tax on only half of their 
spending and, therefore, have an effective tax rate of 11% or 
half the FairTax rate.
    It would be a mistake to emulate the states when they 
attempt to achieve progressivity by exempting various 
categories of goods or services from tax. First, this does not 
achieve the advertised goal. When food is exempted, for 
example, not only hamburger is exempted but also filet mignon; 
not only macaroni and cheese is exempted but also caviar and 
lobster. In fact, research indicates that 60 percent of the 
gain from such exemptions goes to the top 40 percent of 
taxpayers. In addition, these exemptions add complexity to the 
law as lines are necessarily drawn. Moreover, one set of 
exemptions will inevitably lead to lobbying to exempt other 
products. Finally, exempting particular goods or services leads 
to higher tax rates on those that remain taxable which is 
economically distorting and inefficient as well as unfair to 
those companies and workers in the sector that remains taxable.

Administration

    The FairTax affords state governments the opportunity to 
administer the FairTax within their states in return for a fee. 
The fee will be equal to < of one percent of the revenue 
collected. Alternatively, the state could contract with another 
state or simply elect for the federal government to collect the 
tax directly. In our view, smoother administration and fewer 
start-up difficulties will result if the sales tax is 
administered by civil servants that have years of experience 
administering a sales tax.

Americans for Fair Taxation (AFT)

    AFT worked hard to develop the FairTax. We engaged economic 
researchers at leading universities throughout the country. We 
engaged professors of law. We conducted focus group research 
with demographically diverse groups of citizens in many 
different geographic locations to determine what attributes the 
American people wanted in a tax system. The result of these 
efforts was the FairTax.
    We have now begun the process of bringing the FairTax to 
the attention of the public. AFT now has over 250,000 members. 
AFT's grass roots support is growing every day. We aim to soon 
have an AFT chapter in every State and Congressional district 
in the country.

Economic Impact of the FairTax

    The FairTax will have a dramatic positive impact on the 
standard of living of the American people and lead to higher 
rates of economic growth. The current tax system punishes 
people who are trying to improve the financial position of 
their families by working, saving or investing. It is a huge 
barrier to upward mobility. The FairTax will stop the punitive 
taxation of work inherent in the income and payroll tax and end 
the multiple taxation of savings and investment. The FairTax 
will end the taxation of investment in education.
    Instead it will tax consumption. It has the broadest 
possible consumption base. Therefore, the FairTax has the 
lowest possible marginal tax rate in a consumption tax that 
protects the public from sales tax on expenditures to purchase 
essential goods and service.
    Economists anticipate the FairTax will lead to much higher 
levels of savings and investment which in turn will lead to 
greater productivity and output. Work by Harvard economist Dale 
Jorgenson shows a quick 9 to 13 percent increase in the GDP.\1\ 
Similarly, Boston University economist Laurence Kotlikoff 
predicts a 7 to 14 percent increase.\2\ The FairTax will 
eliminate the present tax system's bias against savings and 
investment. Thus, savings and investment will increase. A 
larger capital stock means that people will have more capital 
to work with embodying the latest technology and their 
productivity will increase. Higher productivity, in turn, will 
increase real wages.
---------------------------------------------------------------------------
    \1\ Dale W. Jorgenson, Economic Impact of the National Retail Sales 
Tax, National Tax Research Committee. See also, ``The Economic Impact 
of Fundamental Taxing Consumption,'' Dale W. Jorgenson, Testimony 
before the House Ways and Means Committee, March 27, 1996 and ``The 
Economic Impact of Fundamental Tax Reform,'' Dale W. Jorgenson, 
Testimony before the House Ways and Means Committee, June 6, 1995.
    \2\ Laurence J. Kotlikoff, Replacing the U.S. Federal Tax System 
with a Retail Sales Tax: Macroeconomic and Distributional Impacts, 
National Tax Research Committee. See also, ``The Economic Impact of 
Replacing Federal Income Taxes with a Sales Tax,'' Laurence J. 
Kotlikoff, April 15, 1993, Cato Institute Policy Analysis.
---------------------------------------------------------------------------
    Businesses, in the final analysis cannot pay wages higher 
than the productivity of their workers warrants. If they do, 
they will quickly go bankrupt. Thus, the key to increasing real 
wages is higher productivity. The key to higher productivity is 
two fold. Education and capital investment. The FairTax makes 
both education and capital investment more attractive.

Education

    The FairTax is the most education friendly of any tax 
reform proposal and is much more supportive of education than 
current law. The FairTax embodies the principle that 
investments in people (human capital) and investments in things 
(physical capital) should be treated comparably. The current 
tax system, in stark contrast, treats education expenditures 
very unfavorably.
    Today, to pay $10,000 in college or private school tuition, 
a typical middle class American must earn $15,540 looking only 
at federal income taxes and the employee payroll tax.\3\ The 
amount one must earn to pay the $10,000 is really more like 
$20,120 once employer and state income taxes are taken into 
account.\4\
---------------------------------------------------------------------------
    \3\ $15,540 less 7.65 percent in employee Social Security ($1,189) 
and Medicare payroll taxes less 28 percent in federal income taxes 
($4,351) leaves $10,000.
    \4\ Economists generally agree that the employer share of payroll 
taxes is borne by the employee in the form of lower wages. This figure 
assumes that employees bear the burden of the employer payroll tax and 
that they are in a seven percent state and local income tax bracket. 
$20,120 less $5,634 in income tax (28 percent), $3079 in payroll taxes 
(15.3 percent) and $1,408 in state and local income taxes (7 percent) 
leaves $10,000.
---------------------------------------------------------------------------
    The FairTax does not tax education expenditures.\5\ 
Education can be paid for with pre-tax dollars. This is the 
equivalent of making educational expense deductible against 
both the income tax and payroll taxes today. Thus, under the 
FairTax, a family will need to earn $10,000 to pay $10,000 in 
tuition, making education much more affordable.\6\ The FairTax 
makes education about half as expensive to American families 
compared to today.
---------------------------------------------------------------------------
    \5\ H.R. 2525 defines education and training to mean ``tuition for 
primary, secondary, or postsecondary level education, and job related 
training courses.'' It excludes ``room, board, sports activities, 
recreational activities, hobbies, games, arts or crafts or cultural 
activities.''
    \6\ If the states kept their income taxes rather than replacing 
them with a sales tax, then the family would need to earn $10,753, 
about half of what they would need to earn today.
---------------------------------------------------------------------------
    Education is the best means for the vast majority of people 
to improve their economic position. It is the most reliable 
means that people have to invest in themselves and improve 
their earning potential. Yet the tax system today punishes 
people who invest in education, virtually doubling its cost. 
Only the FairTax would remove this impediment to upward 
mobility. No other tax reform plan will do so.

The FairTax is More Fair than the Current Tax System

    The FairTax is more fair than the present tax system. 
Rather than holding people down by taxing them for working, 
saving, investing or getting an education, the FairTax taxes 
people when they consume for their own benefit above the 
necessities of life. The FairTax eliminates special 
preferences, credits and deductions for politically favored 
interests. It treats everyone the same. It has no loopholes.

International Competitiveness

    Under the FairTax, imported goods and domestically produced 
goods will pay the same U.S. tax. This stands in stark contrast 
to the present system, where U.S. companies and workers must 
pay income tax and payroll taxes but foreign goods enter the 
U.S. entirely free of any tax other than whatever modest 
customs duties are levied.
    The FairTax will, by its very nature, be border-
adjusted.\7\ Exports will not be taxed since they are not sold 
at retail in the U.S, but imports will be taxed when sold at 
retail in the U.S. or when brought into the U.S. by a 
consumer.\8\
---------------------------------------------------------------------------
    \7\ Border adjusted is a value added tax (VAT) term. Since VATs, 
unlike the sales tax, impose a tax on all stages of production, a VAT 
must rebate the tax on earlier stages of production when goods are 
exported to achieve a zero tax rate on exports. This is called border 
adjustment. Because a sales tax does not impose any tax on goods unless 
sold at retail, there is no need for a border tax adjustment rebate.
    \8\ As with domestically produced goods, imported capital goods and 
other business purchases would not be taxed immediately. But the output 
of goods produced by capital goods would ultimately be taxed when 
consumption goods were produced and sold.
---------------------------------------------------------------------------
    A national sales tax will comply with World Trade 
Organization (WTO) rules. WTO is the successor to the General 
Agreement for Tariffs and Trade (GATT). Under WTO rules, an 
indirect tax may be border adjusted while a direct tax may 
not.\9\ Since a sales tax is indisputably an indirect tax, this 
border adjustment feature will pose no difficulty. Foreign 
value added taxes, also indirect taxes, are typically border 
adjusted. Income taxes are direct taxes and may not be border 
adjusted.\10\ Many on this committee may find this aspect of a 
national sales tax of particular interest since the WTO just 
found the Foreign Sales Corporation (FSC) export incentives to 
be a violation of WTO rules.
---------------------------------------------------------------------------
    \9\ See Agreement on Subsidies and Countervailing Measures, Annex 
1.
    \10\ The status of the flat tax, which is a subtraction method 
value added tax but administered like an income tax, is unclear under 
WTO rules but it seems highly likely that it would be deemed a direct 
tax given its similarity in appearance and administration to an income 
tax.
---------------------------------------------------------------------------
    U.S. businesses will be much less likely to locate their 
plants overseas and foreign companies will come to the United 
States. Americans will be employed building these new plants 
and Americans will be employed in the new plants. America will 
become the most attractive place in the developed world in 
which to do business. We will attract more and higher paying 
jobs.

The FairTax is less Intrusive

    The FairTax will be less intrusive. Rather than having to 
report almost every aspect of their lives to the federal 
government, Americans will be relieved of such intrusions. 
April 15th will be just another Spring day. The privacy of the 
American people will be enhanced considerably when the FairTax 
is enacted.
    The income tax is collected with a heavy hand. In 1995, the 
IRS assessed over 34 million civil penalties on American 
taxpayers in an effort to force compliance with the tax system. 
Of these, about 4.1 million were forgiven. The present system 
requires that we inform on each other. Americans must provide 
over one billion information returns to the IRS (primarily 
1099s and W-2s). Under the FairTax, all of this would no longer 
be necessary.
    The FairTax respects the privacy rights of the American 
people to a vastly greater degree than the income tax. No 
longer will Americans have to report the details of their lives 
to the federal government. No longer will they have to confess 
to whom they gave money, where they earned money, what medical 
problems they had and so forth.

The FairTax will reduce Evasion

    Under the income tax, evasion is a major, continuing and 
growing problem. Notwithstanding a much larger Internal Revenue 
Service (IRS), more burdensome information reporting 
requirements, increasing stiff and numerous penalties and a 
host of legislative initiatives, the problem is getting worse. 
Based on IRS figures, tax evasion has increased by 67 percent 
during the past 11 years. As a percentage of Gross Domestic 
Product (GDP), tax evasion has reached 2.0 percent compared to 
1.6 percent in 1981. Taxes evaded continue to be in the range 
of 22 to 23 percent of income taxes collected. These IRS 
figures do not include taxes lost on illegal sources of income. 
The tax gap now is about $200 billion.
    Tax evasion will decline under the FairTax because the 
chance of evaders being caught will increase and the incentive 
to cheat will decline. The FairTax will reduce the number of 
tax filers by roughly 90 percent. Thus, if enforcement 
resources remain comparable, audit rates will rise. Moreover, 
since the audits will be much simpler than current audits, 
audit rates will rise still further. Therefore the chance of 
evasion being detected will increase.
    Since marginal tax rates are much lower under the FairTax 
than under present law, especially for small businesses and 
sole proprietorships where disproportionate evasion occurs 
today, the benefit to cheating will be lower. Today, if a self-
employed taxpayer fails to report $1,000 they will benefit by 
$433 ($280 because of the income tax and $153 due to the self-
employment tax). Under the FairTax, they would benefit by $230.
    In short, the gains from evasion would decrease and the 
potential costs of evasion from detection and enforcement would 
increase. Thus, the amount of tax evasion can be expected to 
decline markedly.

Compliance Costs will Fall

    The FairTax is a simple tax. The administrative burdens 
placed on businesses are much less. In fact, they are 
comparable to tracking revenue for income tax purposes. There 
will be no more alternative minimum tax, no more depreciation 
schedules, no more complex employee benefit rules, no more 
complex qualified account and pension rules, no more complex 
income sourcing and expense allocation rules, no more foreign 
tax credit, no more complex rules governing corporate 
acquisitions, divisions and other reorganizations, no more 
uniform capitalization requirements, no more withholding and 
the list goes on. Businesses will simply need to keep track of 
how much they sold to consumers.
    Compliance costs will, therefore, fall under the FairTax. 
Today, according to the Tax Foundation, we spend about $250 
billion each year filling out forms, hiring tax lawyers, 
accountants, benefits consultants, collecting information 
needed only for tax purposes and the like. These unnecessary 
costs amount to about $850 for every man, woman and child in 
America. To the extent these costs are incurred by businesses, 
they must be recovered and are embedded in the cost of 
everything that we buy. The money we spend on unnecessary 
compliance costs is money we might as well burn for all of the 
good it does us. The Tax Foundation has estimated that 
compliance costs would drop by about 90 percent under a 
national sales tax.

The FairTax is Simple, Understandable and Transparent

    The FairTax is simple, understandable and transparent. 
People understand the FairTax. They don't understand the 
present tax system. Even tax professionals don't understand the 
present system. Money magazine, for instance, each year asks 50 
CPAs to fill out a relatively straight forward middle class 
family's tax return. Each year they get 50 or nearly 50 wrong 
answers. Of course, the answers are only wrong if you believe 
the magazine's tax advisors are better than the survey 
participants. Today a huge proportion of the overall tax burden 
is hidden from the ordinary taxpayers view. Under the FairTax, 
people will for the first time actually understand their tax 
burden and have confidence that their fellow citizens are 
bearing their fair share.

The FairTax will help Charities

    Charities will thrive as never before--for two reasons. 
First, the FairTax provides the equivalent of a deduction, for 
itemizers and non-itemizers alike, against both the income and 
payroll tax. Remember, all the charitable deduction does is 
allow someone to make their contribution from pre income tax 
dollars (but after payroll tax dollars). The FairTax will 
enable all Americans to give to their favorite charity free of 
income tax, free of payroll tax and free of sales tax. Second, 
total philanthropy as a percentage of GDP has held steady at 
around 2 % for at least two decades. As people become more 
prosperous, they give more to philanthropic causes. The FairTax 
will enlarge the economy dramatically and will lead to a 
corresponding increase in charitable giving.
Pre-Tax Prices will Decline

    Costs are one of the primary determining factors for 
prices. One of the costs that businesses must recover if they 
are to stay in business is taxes. Dale Jorgenson of Harvard 
University estimates that the income tax and payroll tax are 
embedded in the price of goods and services to such an extent 
that they raise prices by 20 to 30 percent. His results are 
shown in the figure below. When these taxes are repealed by the 
FairTax, costs will go down and competition will quickly drive 
prices down 20 to 30 percent depending on the product. In 
addition, although Dr. Jorgenson research did not consider 
these effects, higher levels of investment will make the 
economy more productive and the elimination of loopholes that 
distort the economy will make it more efficient, These effects 
will be seen both in the form of higher real wages and lower 
prices. Moreover, lower compliance costs will reduce costs and 
prices still further.

[GRAPHIC] [TIFF OMITTED] T1879.002


The FairTax helps Homeowners

    Homeowners will do very well under the FairTax. Homeowners 
will have the equivalent of a supercharged mortgage interest 
deduction because under the FairTax mortgage interest can be 
paid free of sales tax and free of income and payroll taxes. In 
terms of the current system, it would be as if the mortgage 
interest deduction was allowable against payroll taxes. In 
addition, existing homeowners will be able to make their 
principal payments with tax free dollars. Buyers of newly 
constructed homes will have to pay sales tax, just as they must 
pay for their house from after tax dollars today, but the 
marginal tax rate is lower under the FairTax. In addition, 
interest rates will fall by about 25 percent because lenders 
will no longer have to charge a tax premium to make up for the 
tax on interest income. Once interest is no longer taxable nor 
deductible, interest rates will quickly fall toward the current 
tax-exempt rate. Homeownership will be more affordable and 
prospective homeowners will be able to save their downpayment 
more quickly under the FairTax.

Financial Markets

    The FairTax will increase the market value of long-term 
financial assets such as stocks, real estate and non-callable 
bonds. The price of those assets reflects the fact that the 
future income stream of those assets will be taxed. When that 
tax is removed, the future income stream will increase and 
therefore the present discounted value of those future income 
streams will increase as well. Thus, the market value of the 
assets will increase considerably.

Conclusion

    Support for the FairTax is growing rapidly. Once people 
understand the FairTax and grasp all of the positive things it 
would mean for them and for the country, they generally support 
it. AFT will continue to bring the FairTax to the attention of 
the public.
    AFT looks forward to working with this committee to pass 
the FairTax. It is in your power to move beyond the current 
indefensible tax system and replace it with a tax system more 
in keeping with what the public wants. We appreciate the 
opportunity to present our views to you today. Thank you.

                                


    Chairman Archer. Thank you, Mr. Linbeck.
    Mr. McCracken?

STATEMENT OF TODD McCRACKEN, PRESIDENT, NATIONAL SMALL BUSINESS 
                             UNITED

    Mr. McCracken. Mr. Chairman and members of the committee, 
my name is Todd McCracken, and I am president of National Small 
Business United, the Nation's oldest small business advocacy 
organization.
    NSBU was founded when the income was just 23 years old, 
with only two pages in forms and several pages of instructions. 
NSBU has not grown at the exponential rate of the income tax 
laws, but we do now represent 65,000 businesses nationwide.
    In 1997, our diverse bipartisan 32-member small business 
board of trustees decided it was time for NSBU to take a hard 
look at a new tax system rather than just continue to take easy 
potshots at the system we have now. After a year-long process 
in which the current system and various alternatives were held 
up and examined from all sides, our initially skeptical board 
finally selected the Fair Tax as the best possible system for 
small businesses, without a single dissenting vote.
    Why? At every stage of a business' life, it faces 
significant tax obstacles. At the start-up level, savings are 
taxed and start-up costs are not deductible, and 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 stream is sold. 
They are taxed when growing because the Government takes an 
increasing share of income as more money is made. They are 
taxed when exporting because U.S. taxes raise the price of our 
goods relative to foreign goods. They are taxed when they add 
jobs because our extraordinarily high payroll taxes increase 
costs of hiring. Family businesses are discouraged because they 
are taxed when they are sold or passed on.
    I would like to call special attention to the current 
payroll tax burden that small businesses and their employees 
must endure. It is an enormous tax that receives relatively 
little attention given the share of revenues it accounts for. 
In fact, a survey by NSBU and Arthur Andersen found that small 
businesses cite payroll taxes as their most significant tax 
burden.
    Payroll taxes, after all, must be paid whether a business 
is making money or not, and it is a tax on workers, the 
lifeblood of any small business.
    Finally, we have the extraordinary complexity of the 
current code. I would submit to you that the entrepreneurial 
community is more vexed by the labyrinth that our system 
creates than it is by the amount of taxes paid. We are the only 
part of the taxpaying public that sees every aspect of the tax 
system: tax withholding and filing, estate taxes and capital 
gains taxes, among others.
    Since the Fair Tax abolishes all Federal income, FICA, 
estate, and capital gains taxes, it would allow small 
businesses to prosper as never before in this country. The Fair 
Tax would allow 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 discontinue the 
charade of taxing income multiple times. Most importantly, it 
would repeal the self-employment and payroll taxes which are 
the most despised by entrepreneurs.
    Small business owners would have greater access to capital, 
the lifeblood of a free economy. Small business owners would be 
free to pass their businesses on to their children.
    Compliance costs would diminish. Individuals not in 
business would never have to file a tax return again, and 
business returns would be vastly simpler. More than 7,000 
incomprehensible sections of the Internal Revenue Code would be 
exchanged for one simple question: How much is sold to 
consumers? This question is asked of retailers in 45 States in 
our Nation today. Ninety percent of our $250 billion annual 
compliance bill would just disappear.
    We are often asked why retailers should support this plan. 
No single industry is more burdened by the multitude of State 
and Federal tax laws than retailers. Retailers today are both 
tax collectors and taxpayers. Under the Fair Tax, there will be 
no more uniform inventory capitalization requirements, no more 
complex Government rules on employee benefits and retirement 
plans, no more tax deprecation schedules, no more tax rules 
governing mergers and acquisitions, and no more international 
tax provisions. Retailers will have ``found'' money in lower 
compliance costs. Retailers will also receive an administration 
fee for complying with the greatly simplified law.
    It is for all these reasons that there is increasing 
support for the Fair Tax among small businesses. In our most 
recent survey, we found that a national sales tax had surpassed 
a flat tax as the preferred form of tax reform among small 
business owners. Even more interestingly, support for a sales 
tax among retailers in the survey was almost a high as support 
among manufacturers, though small retailers still gave the flat 
tax their narrow support.
    In conclusion, the Fair Tax would reinstate the novel 
concept that Americans have a right to understand the law to 
which they are subject. This would be a boon for small business 
that quite often lack the legal and accounting staffs to be in 
compliance with the tax code. It would enhance compliance costs 
so honest taxpayers pay less.
    After the process that we went through, we are confident 
that as this committee understands the essential differences in 
the proposal, you will favor the Fair Tax plan. We are 
confident that the more you know about the Fair Tax, the more 
you will support it.
    We want to thank you for the ability to appear here today, 
and especially want to thank you for holding these very 
significant hearings. You can do nothing more profoundly 
significant for the small business community and the entire 
Nation than to continue to push forward with fundamental tax 
reform.
    [The prepared statement follows:]

Statement of Todd McCracken, President, National Small Business United

    Mr. Chairman and Members of the Ways and Means Committee:
    My name is Todd McCracken, and I am President of National 
Small Business United (NSBU), the nation's oldest national 
small business advocacy organization.
    Mr. Chairman, NSBU was founded when the income tax was just 
23 years old--with only two pages in forms and several pages of 
instructions. NSBU has not grown at the exponential rate of the 
income tax laws, but we now represent 65,000 businesses 
nationwide. We represent the varied tapestry of the America's 
entrepreneurs, from immigrants seeking a more fertile 
environments in which to grow their dreams to family businesses 
that have remained for generations. The average size of our 
membership is 12 employees. We are nonpartisan. We do not ask 
whether the policies we endorse are republican or democrat: we 
ask whether the policies enable entrepreneurs to thrive.
    NSBU applauds this Committee for having the courage to 
explore the FairTax. In February, a national survey conducted 
by American Express confirmed what NSBU already knew. The 
survey showed that 74 percent of entrepreneurs consider tax 
reform a top priority. But since the vast majority of Americans 
share commons dislike for our present system, it is 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. In 1997, our 32-member small 
business Board of Trustees decided that it was time for NSBU to 
take a hard look at a new tax system, rather than just 
continuing to take easy pot-shots at the system we have now. 
After a year-long process in which the current system and 
various alternatives--various flat tax plans and other forms of 
a sales tax among them--were held up and examined from all 
sides, our initially skeptical Board finally selected the 
FairTax as the best possible system for small businesses, 
without a single dissenting vote. If you knew this diverse 
group of independent-minded entrepreneurs like we do, you would 
realize just how remarkable this vote was. After we all had a 
chance to ask our questions and have them thoughtfully 
answered, this decision, that many of us thought we could never 
reach, suddenly seemed obvious.
    We would like to explain to the committee why NSBU, 
consisting of firms in all sectors, including service firms and 
retailers, endorsed a national sales tax plan. We want to 
contrast the FairTax with such plans as the flat tax and other 
sales tax plans. And last, we want to suggest the next steps 
this committee should take if it is serious about considering 
reform.

The Current System: Fundamentally Broken

    Discouraging Entrepreneurs at Every Level. Most 
entrepreneurs--that is unless they make a career of selling tax 
shelters--correctly see our system as punishing each step 
towards the American dream. At every stage of a business' life, 
it faces significant tax obstacles. At the start-up level 
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 stream is sold. 
They are taxed when growing because the government takes an 
increasing share of income as more money is made. They are 
taxed when exporting, because U.S. taxes raise the price of our 
goods relative to foreign goods. They are taxed when they add 
jobs, because our extraordinarily high payroll taxes increase 
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 buy-out of the businesses.
    The Burden of Payroll Taxes. But I think this committee is 
certainly familiar with the current income tax code and the 
many compliance obstacles it creates. So, I would like to call 
special attention to the current payroll tax (primarily FICA) 
burden that small businesses and their employees must endure. 
It is an enormous tax that receives relatively little attention 
given the share of revenues it accounts for. In fact, a survey 
by NSBU and Arthur Andersen found that small businesses cite 
payroll taxes as their most significant tax burden.
    The U.S. has made a fundamental shift toward payroll taxes 
in the last 30 years. In 1995, 38 percent of all federal 
revenues came from payroll taxes, compared to just 14 percent 
(of a lower tax bill) 40 years ago. From 1970 to 1990, business 
received nine social security (FICA) tax increases totaling 
60%, three unemployment (FUTA) increases totaling 94%, three 
FUTA base increases totaling 133%, and 19 FICA base increases 
totaling 677%.
    At first glance, payroll taxes might seem to be an 
equitable form of taxation. The unemployed are not taxed, and 
larger businesses with more employees are taxed more than 
smaller businesses with fewer employees. However, most small 
businesses are much more labor intensive than their larger 
counterparts. Payroll taxes cause these small businesses to be 
taxed at a higher effective rate than larger, more capital-
intensive firms. Moreover, holders of corporations organized 
under Subchapter ``S'' (which are almost always small) have 
been forced to pay both sides of this tax, making for a 
substantial tax increase.
    Businesses must pay their payroll taxes whether or not they 
make a profit. The fact that this huge tax must be paid 
regardless of the financial condition of the company creates 
substantial problems. First, it discourages new businesses. 
Most new businesses lose money in their early days, and payroll 
taxes amount to one more debt that must be somehow financed. 
Second, it discourages employment. The only way that a business 
in a financial bind can reduce payroll taxes is to reduce 
payroll; this means fewer jobs or lower wages.
    A payroll tax amounts to a tax on employment. Today, 
businesses and their employees pay about 15% out of every wage 
dollar (below the cap) in FICA taxes. Through this substantial 
hike in the cost of hiring and working, the payroll tax 
reverses the needed incentives in the American economy. Taxing 
businesses for hiring an employee clearly discourages increased 
employment, which is damaging to the unemployed, the business, 
and the economy. And, of course, payroll taxes are the most 
regressive taxes we have, where only earned income (as opposed 
to investment income) is taxed, and only earned income up to a 
certain, annually adjusted level is taxed.
    Unnecessary Complexity. Small firms are accountable to a 
protean system that is so complex simply because we choose to 
tax savings and investment. We waste an estimated $3.70 in 
compliance costs for every dollar we pay in taxes. We endure 
the lion's share of the $250 billion in annual compliance 
costs, when we cannot pass these essentially fixed costs on to 
consumers as larger firms can. We endure the lion's share of 
the more than 34 million civil penalties issued.
    Our current tax system is certainly a testament to the 
indomitable spirit of American entrepreneurs, but it is not 
enlightened tax policy.

The FairTax: The Best System for Small Business

    The FairTax is enlightened policy. Since the FairTax 
abolishes all federal income, FICA, estate, and capital gains 
taxes, it would allow 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 for 
American entrepreneurship and economic growth.
    The Fair Tax would allow 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. Most importantly, it would repeal the self-employment 
taxes which are the most despised by entrepreneurs. The Fair 
Tax 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 life-
blood of a free economy. Small firm owners would be able to 
pass their business on to their children.
    Simplicity and Lower Compliance Costs. Compliance costs 
would diminish. Individuals not in business would never have to 
file a tax return again, and business returns would be vastly 
simpler. More than 7,000 incomprehensible sections of the 
Internal Revenue Code, would be exchanged for one simple 
question: how much is sold to consumers? This question is asked 
of retailers in 45 states of our Nation today, so the 
additional burden on these businesses would be negligible. 
Ninety percent of our $250 billion annual compliance bill would 
disappear.
    Greater Visibility and Understanding. As complexity 
disappears, we would reinstate the novel concept that Americans 
have a 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 mentality of ``Don't tax 
you; don't tax me; tax that fellow behind the tree'' would be 
gone. 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 more well-off. The wealthy see their high 
marginal rates and eliminated deductions and feel singled out 
by the tax system. And the middle class assume that credits for 
the poor and loopholes for the wealthy mean that they alone 
should the country's tax burden. While there are both fallacies 
and accuracies in each group's assumptions, the unfortunate 
side effect is a polarization of the country and a universal 
feeling of victimization. And it should be clear to any 
rational 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 national comity at the same time.
    The FairTax would do just that, by making visible the taxes 
now buried in goods and services. We would have a uniform tax 
for all the world to see and understand. How would the rich guy 
avoid some taxes? Only by saving and investing, which helps us 
all. But some day, he or his descendants will spend his 
profits, and taxes will be collected. At the same time, those 
less fortunate will receive a rebate lowering their total tax 
bill and effective tax rate, even if they don't save a nickel. 
This is a system all Americans can understand and be united 
behind--and voluntarily pay. The tax system would achieve 
greater enforceability with less intrusiveness. Today, more 
than $200 billion in income taxes, over 20 percent of the total 
collected, are not voluntarily paid.
Economic Growth. Almost every researcher who has examined the 
FairTax have concluded that the U.S. will experience 
significantly higher economic growth rates if this plan is 
enacted. Specifically, Harvard's Dale Jorgenson predicted a 
quick nine to thirteen percent increased in the GDP, while 
Boston University's Laurence Kotlikoff predicts a seven to 
fourteen percent increase. Essentially, this growth will happen 
because the tax code will no longer discourage work, 
investment, savings, and education. Even studies that start 
with more pessimistic assumptions, like that by Nathan 
Associates for the National Retail Institute, predict greater 
long-term economic growth, though to a smaller degree than 
others predict.
    There are those, of course, who fear that the FairTax will 
discourage consumption and thereby cause a drop in economic 
growth. The FairTax is, after all, a tax on consumption, and we 
always get less of whatever we tax (like work, savings, 
investment, etc.). But there are several salient facts that 
mitigate, even eliminate, this fear. First, institution of the 
FairTax would mean that consumers have their entire paycheck to 
spend, free of any tax withholdings or FICA payments. Consumers 
would be able to spend this greater income on goods that cost 
no less than they do currently, because economists tell us that 
the elimination of taxes currently embedded in the price of 
goods and services will cause that price to go down 
dramatically. At the same time, the elimination of the tax on 
interest income will cause interest rates to drop dramatically, 
probably by about 25 percent. Taken together these two 
consequences of the FairTax should actually have the effect of 
increasing consumption.
    But there are additional reasons why prices should fall and 
thereby encourage additional consumption. Since the FairTax 
will encourage savings and investment, greater investment 
dollars will be available to improve the productivity of 
American business, causing prices to drop still more. Greater 
productivity is likely to lead to greater corporate profits, 
which is likely to lead to improved stock market gains. The 
last few years have proven what stock market gains can mean for 
consumption and continuing economic growth. So, we have been 
persuaded that these very appropriate concerns are nevertheless 
unfounded.
    Improved Work-Force. Any current survey of the small 
business community will show finding and keeping qualified 
workers is their greatest challenge. Businesses cannot find 
enough workers with specific educational backgrounds, nor can 
they find sufficient workers with broad-based educational 
backgrounds. To further compound matters, most small businesses 
cannot create and maintain their own education and training 
initiatives the way some larger businesses can. The FairTax 
comes to the rescue by essentially ``un-taxing'' education. 
Currently, a middle class taxpayer must earn $15,540 (ignoring 
state taxes) to pay $10,000 in tuition. Under the FairTax, only 
$10,000 must be earned, because education is not taxed.
    Improved International Trade Position. The current tax 
system buries taxes in all sorts of goods and services. But 
this becomes an especially big problem in the international 
arena. These embedded taxes mean that American goods and 
services are more expensive than they otherwise would be, 
thereby hurting American exports. But it is even worse than 
that. Many of our competitors impose a Value Added Tax (VAT), 
which is rebated at the border. That means that we have foreign 
goods coming into the U.S. which have no embedded taxes, 
competing with domestic goods with very high embedded taxes. 
The FairTax reverse this position, creating much greater 
incentives for goods and services to be produced in the U.S. 
and making those products much more competitive abroad.
    Retailers Aided by FairTax. Why should retailers support 
it? No single industry is more burdened by the multitude of 
state and Federal tax laws than retailers. Retailers are today 
both tax collectors and taxpayers. Under the FairTax, there 
will be no more uniform inventory capitalization requirements, 
no more complex government rules on employee benefits and 
retirement plans, no more tax depreciation schedules, no more 
tax rules governing mergers and acquisitions, and no more 
international tax provisions. Retailers will have ``found'' 
money in lower compliance costs.
    Under the FairTax retailers will also receive an 
administration fee for complying with a greatly simplified law. 
The FairTax actually compensates the industry for compliance 
burdens. Moreover, the FairTax will encourage uniformity among 
increasingly disparate state taxing schemes that have pitted 
small retailers against large direct mailers. As we have seen 
with state income taxes, states will face great pressure to 
bring their system into line with the federal standard. The 
FairTax could lead to a way out of the current stalemate on the 
internet and sales taxes.
    It is for all these reasons that there is increasing 
support for the FairTax among small businesses. In the most 
recent survey NSBU conducts with Arthur Andersen, we found that 
a national sales tax had surpassed a flat tax as the preferred 
form a tax reform among small business owners. Even more 
interestingly, support for a sales tax among retailers in this 
survey was almost as high as support among manufacturers, 
though small retailers still gave the flat tax their narrow 
support.
    While respected economists haggle over the dimensions of 
the economic benefits, they are unanimous in their view the 
FairTax would greatly enhance economic performance by improving 
the incentives for work and eliminating the current bias 
against saving and investment. Even the National Retail 
Institute's study by Nathan Associates shows that the economy 
would be one to five percent larger under a sales tax than in 
the absence of reform.

The FairTax Versus the Alternatives

    The major alternative to a national sales tax is, of course 
a flat tax. And, while a sales tax and a flat tax are both 
improvements over the current system, and both are essentially 
consumption-based taxes, the sales tax is clearly preferable to 
small business for two key reasons.
    The Flat Tax. First, a sales tax is vastly simpler to 
administer than a flat tax. While a flat tax creates uniform 
rates, it still leaves the question of determining income, and 
still leaves business owners with the need to hire tax advisers 
and accountants to sort through those remaining rules. And, of 
course a flat tax leaves in place the requirement for 
businesses to withhold and file taxes (of both payroll and wage 
taxes) on behalf of their employees. This system is the source 
of more civil penalties on small businesses than any other.
    Second, a flat tax would have to leave in place the pillars 
of the income tax system we have today: tax withholding, a 
central enforcement agency, and the need to define and 
determine taxable income. Given this scenario, it is not a 
stretch to imagine that we could readily creep back to the same 
system we have now. Congress decides to allow an additional 
deduction or allowance for this or that. How to pay for it? 
Let's increase the rate, but only for people above a certain 
income level. Once the dam breaks, there is no turning back. 
With a sales tax, the entire income infrastructure is 
dismantled. It is very hard to conceive of it being easily 
reconstructed; it has an inherent integrity that is much more 
difficult to breach.
    But not all sales taxes are created equal. The FairTax 
holds special appeal for the small business community for two 
reasons. First, it eliminates the payroll and self-employment 
taxes that are the most burdensome on small businesses, and 
which are easily the most regressive taxes this country has 
ever imposed. This elimination both greatly helps small 
business (we discussed the payroll tax burden at length above) 
and makes the FairTax system much more progressive than 
competing sales tax plans.
    Second, a key pillar of the FairTax is its uniformity. 
Rather than picking and choosing among end-use products to tax, 
it taxes everything. Going down a different path, and exempting 
certain goods or services from taxation would be very dangerous 
and greatly diminish the support the FairTax has from the small 
business community.

Conclusions

    Defenders of the income tax system fondly quote Oliver 
Wendell Holmes who said, ``taxes are what we pay for a 
civilized society.'' But this phrase does not stoically 
celebrate the 'income tax' per se and was made before the 
income tax even existed. What Holmes should have added is that 
a civilized society must also collect taxes in the most 
civilized manner.
    The income tax is the antithesis of a civilized system for 
entrepreneurs. Unlike many unwise state sales taxes, the 
FairTax would fully exempt any business inputs from taxation, 
i.e. all business-to-business transaction would be free of tax. 
In this way it would remove the mythology that businesses pay 
taxes as opposed to their owners, employees or consumers. It 
would make all taxes visible. It would convey the true cost of 
government to every American on each purchase they make, 
precluding government from raising taxes other than by changing 
the rate for all. Quite simply, it would allow businesses to 
keep the entire profit from their operation and transfer the 
emphasis of taxation away from income-producing activities to 
consumption.
    The FairTax would reinstate the novel concept that 
Americans have a right to understand the law to which they are 
subject. This would be a boon for small businesses that quite 
often lack the legal and accounting staffs necessary to be in 
compliance with the tax code. It would enhance compliance so 
honest taxpayers pay less.
    Mr. Chairman, if we can get entrepreneurs who, by genetics 
I suppose, are independent minded, to agree upon this plan, 
than your committee can do so also. But in order to do so, you 
must put aside politics and predilection. We are confident 
that, as this Committee understands the essential differences 
in the proposals, you will favor the FairTax plan. Now here is 
what I ask of you.
    First, this Committee must not consider its job done in one 
hearing. These plans deserve further introspection. Hearings 
should be conducted on all relevant topics affecting tax 
reform. We are confident that more you know about the FairTax, 
the more you will support it.
    Second, the Joint Tax Committee and other institutions that 
analyze distribution should change their means of portraying 
the burden of consumption taxes. Why do we persist in scoring 
taxation of savings and investment as a gain? Income is not 
income until it is consumed. Why not present distributional 
tables as an alternative on taxes paid over consumption?
    Third, we urge all members of this committee to understand 
the issues presented here. One of the reasons taxes have risen 
in this nation is because so much is hidden from the consumers 
on which all taxes ultimately fall. Do not fault the FairTax 
because it makes these taxes visible.
    We want to thank you for the ability to appear here today, 
and we especially want to thank you for holding these very 
significant hearings. You can do nothing more profoundly 
significant for the small business community and the entire 
nation, than to continue to push forward with fundamental tax 
reform.

                                


    Chairman Archer. Thank you, Mr. McCracken.
    Mr. Rooth?

 STATEMENT OF SCOTT ROOTH, REALTOR, CASHIERS, NORTH CAROLINA, 
CHAIRMAN, PUBLIC POLICY COORDINATING COMMITTEE, AND MEMBER, TAX 
     REFORM WORKING GROUP, NATIONAL ASSOCIATION OF REALTORS

    Mr. Rooth. Mr. Chairman, members of the committee, my name 
is Scott Rooth, and I am realtor from Cashiers, North Carolina. 
I am here today on behalf of 760,000 members of the National 
Association of Realtors, NAR. Currently, I serve as chairman of 
the Public Policy Coordinating Committee and as a member of the 
Tax Reform Working Group.
    In the tax reform debate, NAR supports the goals of tax 
reform and substantial simplification because, as self-employed 
individuals, our members face significant compliance 
challenges. We emphasize, however, that the tax rules that 
apply to home ownership, especially since 1997, are among the 
simplest to administer in the entire tax system. NAR continues 
to aggressively oppose the flat tax, and as for today's 
hearings, the National Association of Realtors has taken no 
official position on H.R. 2525, the Fair Tax proposal advanced 
by Americans for Fair Taxation. We neither oppose nor support 
it at this time. We understand that we have been invited here 
today to share some concerns that we might have and we have 
identified to Mr. Linbeck.
    Some may say that we are here today to protect a special 
interest. Even if that is true, consider the magnitude of your 
decisions about how to tax real estate in a new tax system. 
Today, more than two-thirds of all Americans own their own 
home. This is an all-time high. The fastest growing category of 
homeowners is our minority population. Last year, 43 percent of 
first-time home sales were to minorities and immigrants.
    Individuals in every income class own homes. Notably, 
lower-income families have a greater proportion of their net 
worth tied up in the home. Federal Reserve data shows that even 
at the $10,000 to $25,000 income range, 51 percent own their 
own homes. Real estate is the most widely held asset in our 
economy. Thus, real estate affects the largest number of 
households and voters in this country.
    NAR believes that changes to the tax system will inevitably 
have a substantial impact on the value of those homes. We urge 
you to be very careful in how you make decisions about the 
taxation of homes and other real estate.
    Depending upon how you do the computation, the Fair Tax 
would impose a sales tax of either 23 or 30 percent on the 
purchase of a new but not an existing home. NAR has grave 
reservations about any sales tax plan that would tax the 
purchase and sale of a home. We embrace and salute Chairman 
Archer's publicly stated view about the consumption tax 
systems, and he has clearly stated that the purchase of a home 
should be treated as an investment and not be taxed.
    NAR rejects any proposition that the purchase of a home 
should trigger a tax. We believe taxing the sale makes housing 
more expensive and makes it harder to afford. A tax of 23 to 30 
percent, paid at the time of the sale, adds substantial costs 
to an already expensive transaction. In today's market and 
under today's tax laws, newly constructed housing is more 
expensive than existing housing by a factor of approximately 20 
percent. Under the Fair Tax model, the sales tax cost will fall 
squarely on this higher cost of new housing.
    To test our perceptions about sales tax on homes, we held 
focus groups in three cities in this country. In one such focus 
group in San Diego, our random sample pulled up one strong 
supporter of a sales tax plan. But at the end of debate at the 
end of the day, even that proponent was absolutely opposed to 
any tax on homes. And I quote his final summation, ``A home is 
what we are, it is what we work for.''
    The Fair Tax imposes a sales tax on all consumer retail 
services, as we have already heard today, everything from real 
estate commissions to contract and document preparation, 
termite inspections, appraisals, painting and fix-up 
maintenance, legal advice, on and on, would be added on to the 
cost of this transaction.
    Rental income housing we have already heard referred to. We 
are absolutely opposed to any tax on rental income housing as 
it makes moving up to home ownership even more difficult.
    One very attractive feature of the Fair Tax plan is that it 
imposes Federal tax only once. This is a worthwhile objective. 
The Fair Tax model relieves all businesses from paying any 
payroll, income, or sales tax. Thus, investors in either 
residential or commercial rental property would pay no sales 
tax on their purchase of these income-producing properties.
    Similarly, if a business occupied the building, these 
businesses would not be required to pay tax, and this is a good 
thing for our investment group of properties.
    How do we get there from here? Ladies and gentlemen, 
transition is the key in our business. The 1986 Tax Act was a 
debacle in our industry. It was also a debacle that almost led 
to the end of the savings and loan industry in this country. We 
urge you to look very closely at the transition issue of this 
bill.
    Only in the last 2 to 3 years has investment real estate 
regained its footing, and from 1988 to about 1992, even real 
estate residential values fell. And because of this depression 
in commercial real estate, the resulting tax credit crunch was 
almost the end of our industry.
    We thank you very much for allowing us to speak here today. 
We look forward to addressing your questions, and thank you, 
Mr. Chairman.
    [The prepared statement follows:]

STATEMENT OF SCOTT ROOTH, REALTOR, CASHIERS, NORTH CAROLINA, CHAIRMAN, 
PUBLIC POLICY COORDINATING COMMITTEE, AND MEMBER, TAX REFORM WORKING 
GROUP, NATIONAL ASSOCIATION OF REALTORS

    Mr. Chairman and members of the Committee. My name is Scott 
Rooth. I am a Realtor from Cashiers, North Carolina. I appear 
here today on behalf of the NATIONAL ASSOCIATION OF REALTORS... 
(NAR) where I presently serve as Chairman of the Public Policy 
Coordinating Committee and as a member of the Tax Reform 
Working Group. NAR represents 760,000 real estate professionals 
engaged in all aspects of the real estate business. About 80% 
of our members are residential sales agents and brokers, and 
about 20% are principally engaged in commercial brokerage, 
leasing and management.

NAR and Tax Reform

    Since 1995, NAR has been actively involved in the tax 
reform debate. Our focus then was on the flat tax. NAR 
continues to aggressively oppose the flat tax, because it would 
repeal the mortgage interest deduction (MID) and the deduction 
for state and local property taxes. We believe, and economic 
studies confirm, that eliminating the MID causes the value of 
homes to drop, thereby destroying equity and wealth. The loss 
of value nationally is about 15% and as much as 25% in high 
cost states such as California. The study that the respected 
econometric analysis firm of Standard & Poors/DRI performed 
indicated that the loss in home value under the flat tax was 
permanent. NAR viewed this as simply unacceptable and so 
opposed the flat tax.
    In conjunction with our work on the flat tax, NAR adopted a 
series of tax reform principles and guidelines designed to 
clarify our own thinking and to enumerate the features of a tax 
system that would treat real estate fairly. Those principles 
and guidelines are attached as Appendix A of these comments. 
The principles and guidelines delineate the elements of real 
estate transactions and investment in real estate in order to 
assess the impact of proposed replacement-type tax systems on 
our industry. The flat income tax falls short under the 
criteria enumerated in those principles and guidelines. By 
contrast, Chairman Archer's publicly stated view that the 
purchase of a home should be treated as an investment and not 
subject to a consumption tax is completely consistent with 
those guidelines.
    The principles and guidelines include elements applicable 
to both income and consumption tax models. NAR has no 
preference for one type of tax system over another. We believe 
that both income and consumption tax models could be crafted 
that would be practical for our industry.

Simplification

    NAR shares Chairman Archer's perspective that the current 
income tax system is overly complicated and burdensome. Its 
complexity is particularly crushing for small businesses. We 
support tax reform's goals of substantial simplification, 
because, as self-employed individuals, our members face 
significant compliance challenges.
    The tax rules that apply to homeownership, however, are 
among the simplest rules for individuals to comply with in the 
entire tax system. All that an individual must do in order to 
comply with the MID rules is to take the Form 1098 that the 
lender provides and transfer the MID and property tax numbers 
on Form 1098 to Schedule A of the Form 1040. This is no more 
difficult than entering an individual's wage and salary from 
Form W-2 or providing the amount of interest and dividends from 
Form 1099. Even if seller financing is involved, a settlement 
services provider such as a title company or attorney can 
usually provide an amortization schedule to the buyer and 
seller so that both parties can determine the amount of 
mortgage interest paid each year. Accordingly, we can think of 
no rationale based on simplification for eliminating the MID 
and property tax deduction in any income tax model.

The FairTax, H.R. 2525

    In the context of today's hearings, the NATIONAL 
ASSOCIATION OF REALTORS has taken no official position on the 
FairTax proposal advanced by Americans for Fair Taxation (AFT) 
(H.R. 2525). We neither oppose nor support it. We understand 
that we have been invited here today to share with you the 
issues we have identified as NAR's Tax Reform Working Group has 
studied the plan and met with Mr. Linbeck and his AFT 
associates.

Why Does Real Estate Matter in the Tax Reform Debate?

    Some may say that all we are doing here today is protecting 
a special interest. If so, it is a ``special interest'' that 
affects the two-thirds of all Americans who own their home. 
This homeownership rate is an all-time high. By contrast, 
during the decade of the 1980's, homeownership rates actually 
declined, dipping to about 62 percent. Given the progress over 
the past five years in not only reversing the decline, but 
actually reaching the highest homeownership rate in our 
history, it is difficult for us to understand why we would want 
to do anything to disrupt housing markets by changing the tax 
system.
    Individuals in every income class own homes. Notably, the 
lower the family's income, the greater the proportion of their 
wealth is tied up in their homes. According to the Federal 
Reserve, even at the $10,000 household income level, almost 35% 
of households own a home, but only 8% of these households own 
stock. By contrast, the wealthiest 1% of households own 43% of 
all direct stock holdings, and their homeownership rate is 94%. 
The chart in Appendix B shows the rates of ownership and median 
values of some family assets by income and age categories. 
Simply stated, real estate is the most widely held asset of any 
category of household wealth in our economy.
    It is worthwhile to compare ownership of a home with 
ownership of securities. In today's high-flying stock market, 
high Dow Jones averages mask some real turmoil. Of the 1,000 
stocks tracked by the Wall Street Journal's Shareholder 
Scoreboard, 442 display a negative return for all of 1999. By 
contrast, of the 138 Metropolitan Statistical Areas (MSA) NAR 
monitors, only 12 showed a decline in median prices from 1998 
to 1999. The worst performing housing market lost only 7% of 
its value. Again, it is difficult for us to understand why we 
would want to do anything to disrupt housing markets by 
changing the tax system. (Appendix C presents a series of 
statistics on various aspects of homeownership and some 
comparisons with assets such as securities.)
    Even if you believe that real estate is a special interest, 
it is the special interest that affects the largest number of 
households and voters in the country. If you believe as NAR 
does that changes to the tax system can have a substantial 
impact on the value of those homes, then we believe you should 
tread very carefully when considering tax legislation that 
could negatively affect that most valuable of all possessions.

Achievements in Housing Among Minorities

    The fastest growing category of homeowners is our minority 
population. Last year, 35% of first-time homebuyers were 
minorities and immigrants. Minorities and immigrants are highly 
motivated towards homeownership. 67% of African-Americans and 
65% of Hispanics rank homeownership as a top priority. There is 
great understanding that homeownership is the way that 
Americans build wealth and savings. In 1999, NAR was a leading 
sponsor of the Congressional Black Caucus Foundation's Summit 
on Housing and Wealth Accumulation. By the end of 1999, we had 
achieved the highest number of minority homeowners in American 
history. At that time, a record 5.9 million African-American 
and 4.2 million Hispanic families had achieved the goal of 
homeownership.
    Today, one in ten Americans were not born in the United 
States. We have made great progress in helping these families 
to achieve homeownership. Again, therefore, we are compelled 
ask why we would want to do anything to disrupt housing 
markets, particularly for minorities and immigrants by changing 
the tax system.

How Do You Get There From Here?

    For NAR, the overriding question about any tax reform is 
``How do you get there from here?'' Real estate professionals 
are particularly sensitive about transition because of the 
violent fallout from the 1986 Tax Reform Act. That bill pulled 
the rug out from under real estate investments, because it 
changed the tax rules for existing real estate investments in 
midstream without adequate transition. The result was a 
depression in real estate, a near-collapse of the financial 
system and a loss in value to existing assets. Only in the last 
two or three years has investment real estate regained its 
footing. From 1988 to about 1992, even residential real estate 
values fell or were flat because of the depression in 
commercial real estate and tight credit.
    The FairTax provides no mortgage interest deduction (MID) 
because the MID is part of an income tax system, but not a 
consumption tax system. The loss of the MID will inevitably 
create additional transition problems. Contrast a home bought 
the day before the new tax system went in place, and a home 
purchased the day after. The home bought the day before the new 
tax system was implemented would no doubt change in value the 
day after the new system was implemented, because the two 
homes, even if they were identical, would not be on the same 
playing field. The MID matters a very great deal, and 
transition would be essential for all homes that were purchased 
under the current system.

What is the Tax Rate?

    The FairTax is intended to replace the existing income, 
estate and payroll systems with a retail sales tax. Depending 
on how you do the computation, the FairTax would impose a tax 
of 23 or 30 percent on all goods and services. The tax rate 
under the FairTax, stated in H.R. 2525 at 23%, is what is 
called an ``inclusive'' rate. This in contrast to the way we 
usually think about sales taxes which today are stated in what 
is called an ``exclusive'' rate. What does this mean?
    The way we are accustomed to think about sales taxes is in 
a tax ``exclusive'' manner. If a good costs $100 and the sales 
tax is 6%, then we pay $106.00, with $100 to the seller, and $6 
to the taxing authority. The tax ``inclusive'' method works 
differently. The example that follows illustrates the inclusive 
and exclusive methods by using the stated FairTax rate of 23%.
    Two examples based on $100 can assist in understanding the 
tax ``inclusive'' and tax ``exclusive'' methods. First, think 
of a seller who wishes to charge no more than a total of $100 
for a product, including both the sales price and the tax. If 
the seller is to remit 23% of that total $100 retail cost to 
the government, then the seller will receive $77 as follows:
    Price charged to purchaser $100
    Sales Tax at 23% $23
    Proceeds to seller $77
    This is the tax ``inclusive'' method. The 23% tax is 
included in the retail purchase price the buyer pays.
    Now think of a seller who wishes to realize or net $100. If 
we were to apply the tax ``exclusive'' model used today, the 
seller would have to charge a total of $129.87, as follows:
    Total gross purchase price: $129.87
    LESS: 23% sales tax $28.87
    Net proceeds to seller $100.00
    Effective rate for purchaser: 30%
    The FairTax uses the tax ``inclusive'' method, so that the 
seller receives less than the stated $100 purchase price. 
Today's sales tax uses an ``exclusive'' method, so the seller 
receives the full $100.

Buying and Selling a Home

    The FairTax would impose a sales tax of either 23% or 30% 
on the purchase of a new (but not an existing) home. AFT's 
theory does not include existing homes in the tax base, because 
today they have already borne the incidence of the income tax. 
In the future, if the FairTax were adopted, when a home that 
had been subject to the sales tax was sold, it also would 
already have been taxed.
    We have expressed grave reservations to AFT and other sales 
tax advocates about any tax system that would tax the purchase 
of a home. We believe the imposition of a tax is a substantial 
barrier to affordability. A tax at 23% or 30% paid at the time 
of the sale, adds substantial costs to an already expensive 
transaction.
    NAR's informal economic analysis of the sales tax model 
showed that the imposition of a sales tax causes the value of a 
home to drop. The drop is not as dramatic as under the flat 
tax, and, unlike the flat tax, the value of homes does 
eventually restore itself to where it would have been in the 
absence of the sales tax. (Under the flat tax, the decline in 
the value of homes is permanent and never recovered.) Under a 
sales tax, the value of homes does not decline as much when 
existing homes are excluded from taxation, as under the 
FairTax, but there is still a decline. Because homes represent 
so much of our national wealth, we have a fundamental question 
as to whether it is wise to substantially erode that wealth in 
the pursuit of tax reform.
    We have another specific concern about taxing new homes. In 
today's market and under today's tax laws, newly-constructed 
housing is more expensive than existing housing by a factor of 
about 20%. Since both new and existing housing are subject to 
the same tax laws today, there appears to be a premium on the 
cost of new housing, even net of today's tax. Under the FairTax 
model, then, the 23% or 30% sales tax cost will fall heavily, 
indeed, on this higher-cost housing. The Committee will need to 
assess the impact this will have on housing starts and the 
economy.
    NAR chose not to rely on future predictions of economic 
models (beyond our informal preliminary analysis). To test our 
concerns about the present, rather than make guesses about the 
future, we went directly to Americans, both homeowners and 
prospective homeowners. We conducted focus groups in 
Cincinnati, San Diego and Philadelphia. The focus group 
participants were chosen at random. In San Diego, our random 
sample happened to draw a man who was active in the national 
sales tax grass roots movement. He came to the meeting 
remarkably well informed about the current tax system and about 
the philosophy of a national sales tax. He was persuasive to 
the group about the merits of changing to a national sales tax. 
After some general discussion, the facilitator asked how the 
group would feel about taxing the purchase of a home. This 
fellow was shocked, as were other members of the group. At the 
end of the meeting, the group took a straw vote about 
supporting a sales tax that imposed tax on the purchase of a 
home. The vote against such a model was unanimous. Even the 
persuasive sales tax advocate said that he could never support 
a tax on the purchase of a home. Another participant summed up 
the feelings well: ``A home is what we are, it's what we work 
for.''

Predicting the Future

    AFT responds to our concerns about a 30% increase in the 
cost of a home by saying that interest rates will be lower. 
They also say the purchaser will have more cahse, because that 
person will no longer be paying income and payroll taxes.
    Our Working Group members have differing views about how 
the economy will perform and whether interest rates will really 
decline. This is because market performance is subject to 
numerous forces beyond the scope of the tax system. When 
Congress makes tax law changes, it is of course essential that 
it get the best possible economic information and forecasting 
on the likely outcome of the changes. Despite their 
sophistication, however, these prediction models have not 
necessarily come to fruition.
    The economic models that drove the tax cuts in 1981 and 
1986 assured declining deficits and more revenue collections 
for the government. The impact of the 1981 tax cuts was an 
increase in the deficit. After 1986, there was a depression in 
real estate and a slowdown in the economy because of problems 
in the financial system caused by the real estate depression. 
The result was even bigger deficits as the government supported 
the collapsing financial system. The tax rate increases in 1993 
were accompanied by cries of alarm that there would be a 
significant recession and more deficits. Since 1996, the 
economy has exploded, and the government is in a surplus for 
the first time in more than a generation. Markets rely on more 
than the tax system.
    Similarly, we have differences among ourselves about 
employer behavior in the future. To devise a crude example, say 
that an employer today pays an individual $50,000, for a net of 
$35,000 or $40,000 after all payroll, state and federal 
withholding. If the FairTax were adopted how much will that 
employer continue to pay the employee? Will the employer 
continue to give the employee the same net pay of $35,000 to 
$40,000? Or will the employer still pay the gross $50,000 
salary? Will the elimination of income and payroll taxes 
benefit the employer, the employee or both? We disagreed among 
ourselves. You may, too.

Taxes on Services

    We have a further concern about the impact of the FairTax 
30% sales tax on real estate sales transaction. The FairTax 
imposes the sales tax on all retail (but not business to 
business) services. Real estate sales commissions would be 
taxed, as would services provided for title searches, contract 
and document preparation, termite inspections, appraisals, 
painting and fix-up maintenance, legal advice, tax advice and 
settlement or escrow fees. Each of these services would be 
subject to the 23% or 30% tax. Again, the cost of completing 
the housing transaction just went up.
    In states that have attempted to impose sales taxes on 
services, Realtors... have joined with other service providers 
from dry cleaners to newspaper delivery providers to doctors 
and lawyers to oppose sales taxes on services. We believe that 
the imposition of sales taxes on the services associated with 
the purchase and sale of property will put a significant cost 
burden on prospective purchasers that would yet another barrier 
to homeownership.

What about Renters?

    Under the FairTax, rents paid by consumers for their 
residences are taxed as consumption. Under the current system, 
we acknowledge that renters do not receive any of the tax 
benefits enjoyed by homeowners or landlords. Many, many renters 
would like to own a home, but find numerous barriers to 
affordability. Paying rent is certainly a form of consumption, 
but we are troubled about imposing such a heavy tax on one of 
life's fundamental necessities.

What about Investors in Real Estate and Other Business 
Activities?

    One very attractive feature of the FairTax plan is that it 
seeks to impose tax once and only once on any activity or 
purchase. This is a worthwhile objective to pursue. The FairTax 
model achieves this result by relieving all businesses from 
either income or sales taxation. Thus, investors in real 
estate, whether the investment is in residential rental 
property or in commercial space, would pay no sales tax on 
their purchase of these income-producing properties. Similarly, 
if a business occupied the building, that business would not be 
required to pay sales tax on its rent, because business-to-
business activities are not taxed under the FairTax model. 
Outside the context of real estate, the local bookstore would 
not pay income or sales tax on its revenues or on any of the 
inventory or supplies used in the business, nor would Barnes 
and Noble.
    This single-level tax, applied only to retail consumption 
by end-users of goods and services (i.e., individuals) appeals 
to those interested in capital formation for business. A 
single-level tax is certainly a valid economic model. Even 
under current law, a significant amount of investment real 
estate income is taxed only once at the federal level, because 
real estate is often held by individuals or in partnerships. 
Inevitably, the Committee will have to make a political 
decision about whether exempting all business-to-business 
transactions from a sales tax is the best method of achieving 
the highly desirable goal of single-level taxation.

Conclusion

    In the words of a former member of this Committee, America 
was built on real estate. We like it that way and look forward 
to working with the Committee to improve the tax system.

Appendix A

REAL ESTATE-BASED TAX REFORM PRINCIPLES AND GUIDELINES

    Tax reform has been a major political theme since 1995. Tax 
reform supporters advocate complete elimination of both the 
current income tax code and the Internal Revenue Service. They 
would replace the current system with either a revised, broad-
based, low-rate income tax model or a consumption tax. 
Advocates stress that any system adopted would be designed to 
be more fair and more simple than current law. Despite 
criticisms of the IRS, little consideration has been given to 
date to the mechanics of administering a new tax regime.
    Anticipating that a variety of proposals will continue to 
emerge and that any reform process will be evolutionary, the 
National Association of Realtors... has developed guidelines 
and principles to use in evaluating proposals as they emerge. 
The guidelines are intended to provide a systematic means of 
evaluating both income and consumption taxation models. No 
principle would apply to every feature of any proposal. These 
guidelines are intended to cover a range of possibilities based 
on the elements of real estate transactions that potentially 
give rise to taxable events under current law and that could 
give rise to taxable events under income and consumption tax 
models. Not surprisingly, the guidelines list many principles 
that respond to features of the current income tax system, and 
only a limited number of applications to a consumption tax 
model.
    A real estate investment has three distinct phases: 
acquisition, holding period and disposition. In addition, 
numerous services are associated with these phases of 
investment. Accordingly, these guidelines are organized to 
reflect those phases. Furthermore, a real estate investment is 
capital intensive, so the guidelines are based on the premise 
that the risks inherent in capital investment will be 
recognized in any tax system. In an income tax system, those 
risks would be recognized with a meaningful differential 
between the treatment of ordinary income and capital gains. A 
consumption tax system would properly recognize the risks of 
capital investment by treating real estate investment as a form 
of savings, and not consumption.
    The National Association of Realtors... believes that the 
present income tax system, despite its flaws, has helped create 
a home ownership system that is unequaled in the world. 
Similarly, investment real estate is the most widely-held 
capital asset in the nation. In all income groups, the 
ownership of both residential and investment real estate is 
widely distributed.
    Finally, the critical question in any tax reform effort, no 
matter what model is adopted, is ``How do we get there from 
here?'' Any changes to the tax system, whether incremental or 
sweeping, must include careful planning for adequate 
transition.

REAL ESTATE-BASED TAX REFORM PRINCIPLES AND GUIDELINES

    Tax reform proposals generally fall into two categories: 
income tax models and consumption tax models. The features of 
those models vary, so not every principle below would apply to 
every proposal. The National Association of Realtors... 
believes that a workable tax system should:
    Acquisition
     Treat home ownership as investment, and not as 
consumption.
     Encourage savings and tax-based incentives for 
home purchases.
     Eliminate penalties for using savings for home 
purchases.
     Treat services associated with the purchase of 
real estate as part of the investment costs of the transaction, 
and not tax those services.
    Holding Period
     Preserve mortgage interest deduction benefits.
     Treat debt financing for owners of investment 
property as a business expense.
     Provide cost recovery rules that reflect a viable 
economic life for real estate investment for both owners and 
tenants.
     Allow netting of income from real estate 
activities against other income streams.
    Disposition
     Maintain a meaningful tax differential between 
ordinary income and gain from sales of capital assets.
     Apply capital gains provisions equally among all 
investments, including real estate.
     Tax only true economic gain.
     Defer recognition of gain on disposition of all 
real estate until reinvestment ceases.
     Preserve loss carry forward principles.
     Treat services associated with the sale of real 
estate as part of the investment costs of the transaction, and 
not tax those services.
    Real Estate Operations
     Preserve independent contractor status for real 
estate professionals.
     Preserve (or establish) the principle that 
ordinary and necessary business expenses, including interest, 
should be deductible under an income tax model, and nontaxable 
under a consumption tax model.
    Transition
    Provide transition rules to preserve owner equity and 
eliminate adverse effects on real estate assets in service at 
the time of enactment.

                                                                       APPENDIX B
                                                          OWNERSHIP OF ASSETS BY INCOME AND AGE
--------------------------------------------------------------------------------------------------------------------------------------------------------
                              Stock              Retire Acct              Home                  Stock              Retire Acct              Home
--------------------------------------------------------------------------------------------------------------------------------------------------------
All Families Income                48.8%                 48.8%                 60.2%               $25,000               $24,000              $100,000
                  Less than $10,000 7.7%                  6.4%                 34.5%                $4,000                $7,500               $51,000
     10,000-24,999                 24.7%                 25.4%                 51.7%                $9,000                $8,000               $71,000
     25,000-49,999                 52.7%                 54.2%                 68.2%               $11,500               $13,000               $85,000
     50,000-99,000                 74.3%                 73.5%                 85.0%               $35,700               $31,000              $130,000
    100,00 or more                 91.0%                 88.6%                 93.3%              $150,000               $93,000              $240,000
      Age of head Less             40.7%                 39.8%                 38.9%                $7,000                $7,000               $84,000
            than 35
             35-44                 56.5%                 59.5%                 67.1%               $20,000               $21,000              $101,000
             45-54                 58.6%                 59.2%                 74.4%               $38,000               $34,000              $120,000
             55-74                 58.9%                 58.3%                 80.3%               $47,000               $46,800              $110,000
             65-74                 42.6%                 46.1%                 81.5%               $56,000               $38,000               $95,000
        75 or more                 29.4%                 16.7%                 70.0%               $60,000               $30,000               $85,000
--------------------------------------------------------------------------------------------------------------------------------------------------------
 ASource: Federal Reserve Board, Survey of Our Summer Finance.

    Tax Notes on Homeownership
     Home largest asset for most families.
     In 1998, 66% of households own a home, while only 
49% own any stock, either directly or indirectly.
     Median value of home for owners is $100,000; while 
median value of stock holdings in only $25,000 (1998).
     Housing wealth is more evenly distributed across 
the income distribution than any other asset, except for 
vehicles. The Federal Reserve Board reports that the wealthiest 
1% of households own 43% of all direct stock holdings, but only 
own 9% of all value of personal residences.
     Although minority households have lower 
homeownership rate, for those that do own, their home is an 
even larger share of their wealth than for majority households.
     Homeownership rate of minority households in 46.8% 
compared to 71.8% for white households in 1998.
     Although homeownership declines with income, for 
those that do own, their home is an even larger share of their 
wealth the lower is household income.
     For households earning less than $10,000 annually, 
less than 8% own any stock, direct or indirect, while 34.5% own 
their own homes.
     For households earning less than $10,000 annually 
who do own stock the median value of stock holdings is only 
$4,000, while those homeowners earning less than $10,000 have a 
median home value of $51,000.
     For much of the current elderly their largest 
source of retirement wealth is their home.
     In 1998, 77% of households aged 75 plus own a 
home, while less than 30% own any stock, either directly or 
indirectly.
     Median value of home for owners aged 75 plus is 
$85,000; while median value of stock holdings in only $60,000 
for those who own stock (1998).
     High Stock Market masks many losing stocks while 
most housing markets share in national gains.
     Of the 138 MSA monitored by NAR, only 12 displayed 
a decline in median prices from 1998 to 1999. The worst 
performing housing market lost only 7%.
     Of the 374 IPO's issued between June 1999 and 
April 2000, 99 are trading below their issue price as of April 
4, 2000 (that is they lost money), with an average decline of 
36%.
     Of the 1,000 stocks tracked by the Wall Street 
Journal's Shareholder Scoreboard, 442 display a negative return 
for all of 1999.
    Mortgage facts (from 1997 American Housing Survey):
     Of the 65.5 million homeowners in the US, 39% own 
their home free and clear (no mortgage). So that's 40 million 
with a mortgage, of which about 30 million claim take the MID.
     Over 7 million have more than one mortgage (may 
include home equity loans and lines of credit).
    About 3 million only have a home equity line or loan 
without a regular mortgage

                                


    Chairman Archer. Thank you, Mr. Rooth.
    Mr. Kouplen?

STATEMENT OF STEVE KOUPLEN, PRESIDENT, OKLAHOMA FARM BUREAU, ON 
         BEHALF OF THE AMERICAN FARM BUREAU FEDERATION

    Mr. Kouplen. Chairman Archer and members of the committee, 
my name is Steve Kouplen. I am a farmer from Okmulgee County, 
Oklahoma, where I operate a cow-calf operation on some 2,000 
acres. I am president of the Oklahoma Farm Bureau and am here 
today on behalf of the American Farm Bureau Federation.
    Farm Bureau members are ready for fundamental tax reform. 
They have become increasingly frustrated with the current tax 
system and disheartened that every attempt to change the system 
makes the system even more complex.
    The current tax system forces farmers and ranchers to 
consider the tax consequences of each input purchase, commodity 
sale, capital asset purchase, or capital asset sale. Farmers 
and ranchers should be making decisions based on the economics 
of the situation, not the consequences of the tax situation.
    After a lifetime of hard work and paying taxes, farmers and 
ranchers are faced with double taxation through capital gains 
and estate taxes. If they sell equipment, livestock, and other 
assets at retirement, they find the Federal Government ready to 
take a share as capital gains taxes. These taxes often 
discourage retirees from reallocating assets to a more 
appropriate mix for their retirement years. Young producers 
lose the opportunity to purchase assets that they can use more 
economically than current owners.
    Planning for the transfer of assets at death has become a 
time-consuming and costly activity. Many family farms are 
multi-generation family farms. Transferring farms and ranches 
from one generation to the next without a huge tax load is 
critical to the financial success of these farms. Many farms 
are lost when death taxes force farmers and ranchers to sell 
part or all of their business to secure enough cash to pay 
death taxes.
    Farm Bureau supports replacing the current Federal income 
tax system with a new tax that encourages, not penalizes, 
success and encourages savings, investment, and 
entrepreneurship. It should be transparent, simple, and require 
a minimum of personal information.
    It must be fair to farmers and ranchers in payroll taxes, 
the alternative minimum tax, the capital gains tax, and 
personal and corporate income taxes. A consumption tax must not 
tax business-to-business transactions or services unless sold 
for final consumption.
    The American Farm Bureau Federation supports H.R. 2525, the 
Fair Tax Act of 1999 and any other tax reform proposals 
consistent with Farm Bureau policy.
    The national sales tax plan sponsored by Representatives 
Linder and Peterson is a bold attempt at fundamental reform. By 
ending the Federal individual and corporate income taxes, 
capital gains tax, estate tax, and payroll taxes for Social 
Security and Medicare, many of the concerns that Farm Bureau 
members have with the current tax system would be eliminated. 
These changes would have far-ranging impacts on day-to-day farm 
and ranch management and the transfer of farms and ranches from 
one generation to the next.
    If H.R. 2525 is enacted, attention should be given to two 
potential problems that are of concern to farmers and ranchers. 
First, a national sales tax will need to be meshed with 
existing State and county sales taxes. Second, only the 5 
percent of the farmers and ranchers who sell directly to 
consumers should be required to keep records and remit sales 
tax money to the proper collection agency in order to avoid a 
heavy compliance burden.
    We look forward to working with you to promote fundamental 
tax reform that will be good for farmers and ranchers and good 
for the citizens of our country.
    Thank you, Mr. Chairman.
    [The prepared statement follows:]

STATEMENT OF STEVE KOUPLEN, PRESIDENT, OKLAHOMA FARM BUREAU, ON BEHALF 
OF THE AMERICAN FARM BUREAU FEDERATION

    Mr. Chairman and members of the committee, good morning. My 
name is Steve Kouplen, and I am president of the Oklahoma Farm 
Bureau. I have a Hereford cow-calf operation on 2,000 acres in 
Okmulgee County, Oklahoma. I am appearing here today on behalf 
of the American Farm Bureau Federation (AFBF) and the Oklahoma 
Farm Bureau. AFBF represents more than 4.9 million member 
families in all 50 states and Puerto Rico and produce nearly 
every type of farm commodity grown in America.
    Farm Bureau members are ready for fundamental tax reform. 
They have become increasingly frustrated with the current tax 
system and disheartened that every attempt to change the system 
to benefit farmers and ranchers makes the system even more 
complex. Simple ideas, such as income averaging for farm and 
ranch incomes that vary greatly year to year, become almost 
incomprehensibly complex when changes are passed by Congress 
and regulations issued by the Internal Revenue Service (IRS).
    The national sales tax plan sponsored by Reps. John Linder 
(R-GA) and Collin Peterson (D-MN), H.R. 2525, is a bold attempt 
at fundamental reform. By eliminating the federal individual 
and corporate income taxes, capital gains tax, estate tax and 
payroll taxes for Social Security and Medicare, they would 
address the hundreds of concerns that Farm Bureau members have 
with the current tax system. These changes would have far-
ranging impacts on day-to-day farm and ranch management and the 
transfer of farms and ranches from one generation to the next.
    The current tax system forces farmers and ranchers to 
consider the tax consequences of each input purchase, commodity 
sale, capital asset purchase or capital asset sale. Tax 
planning has become a normal part of everyday decision making. 
Farmers and ranchers should be making decisions based on the 
economics of the situation, not the tax consequences of the 
situation.
    After a lifetime of hard work and paying taxes, farmers and 
ranchers are faced with double taxation, with the capital gains 
tax at retirement and the estate tax at death. If they sell 
equipment, livestock and other assets at retirement, they find 
the federal government as a silent partner ready to take a 
share as capital gains taxes. These taxes often discourage 
retirees from reallocating assets to a more appropriate mix for 
their retirement years. Younger producers lose the opportunity 
to purchase assets that they can use more economically than the 
current owners.
    Planning for the transfer of assets at death has become a 
time consuming and costly activity. Many family farms are 
multi-generation family farms. Transferring farms and ranches 
from one generation to the next without a huge tax load is 
critical to the financial success of these farms. Asset 
transfer decisions that were delayed because of the capital 
gains tax are further complicated by the estate tax. Many farms 
are lost when death taxes force farmers and ranchers to sell 
part or all of their business to secure enough cash to pay 
death taxes.
    These problems would all be swept away by the tax reforms 
as proposed by H.R.2525.
    If H.R. 2525 is enacted, attention should be given to two 
potential problems that are of concern to farmers and ranchers. 
First, a national sales tax will need to be meshed with 
existing state and county sales taxes. State Farm Bureaus have 
worked for decades in their respective states to develop a 
state sales tax system that treats farmers and ranchers fairly. 
They want to avoid having to start over again on basic sales 
tax issues with state governments.
    Second, only about 5 percent of the farmers and ranchers 
sell directly to consumers. These should be the only ones that 
have to keep records and remit sales tax money to the proper 
collection agency. Farmers and ranchers buy billions of dollars 
of inputs for production purposes that are also purchased by 
consumers for final use. This includes a wide range of items 
from pickup trucks to lumber for building repairs to hand 
tools. They do not want to get caught in the compliance burden 
that may be necessary to ensure that all retail sales taxes are 
properly collected.

Farm Bureau Policy

    Farm Bureau supports replacing the current federal income 
tax system. The new tax code should encourage, not penalize, 
success and encourage savings, investment and entrepreneurship. 
It should be transparent, simple and require a minimum of 
personal information.
    We support a replacement tax system if it meets these 
guidelines:
    (1) Fair to agricultural producers;
    (2) Implemented simultaneously with the elimination of all 
payroll taxes, self-employment taxes, the alternative minimum 
tax, the capital gains tax, death taxes and personal and 
corporate income taxes;
    (3) Revenue neutral;
    (4) Repeals the 16th amendment; and
    (5) Any flat tax proposal or other reform proposal not 
based on gross revenue received.
    We support requiring a two-thirds majority for imposition 
of new or additional taxes, or for the increase of tax rates. A 
consumption tax must not tax business-to-business transactions 
or services unless sold for final consumption.
    At an American Farm Bureau Federation Board of Directors 
meeting in March of this year the board took specific action to 
support the Fair Tax Act of 1999 and any other tax reform 
proposals consistent with Farm Bureau policy.
    We look forward to working with you to promote fundamental 
tax reform that will be good for farmers and ranchers and for 
all citizens.

                                


    Chairman Archer. Thank you, Mr. Kouplen.
    Mr. Martin, you are clean-up hitter in this group, and if 
you are prepared, you may proceed.

        STATEMENT OF JAMES MARTIN, HORSESHOE BAY, TEXAS

    Mr. Martin. Yes, sir. Mr. Chairman and members of the 
committee, my name is James Martin, and I am grateful for the 
opportunity to testify today. I am the former general vice 
president of the Ironworkers International Union. I also served 
as deputy chairman of the Dallas Federal Reserve Board. I would 
like to ask that my written statement and a recent op-ed 
article that I co-authored with Gale Van Hoy, the executive 
secretary of the Texas Building and Construction Trades 
Council, be made part of this hearing.
    Chairman Archer. Without objection, any printed material or 
statement by any one of the witnesses will be inserted in the 
record in full.
    Mr. Martin. Thank you, sir.
    The tax system is one of the primary reasons that so many 
people are having such a hard time getting ahead financially. 
The existing tax system is holding the working men and women of 
this country back. I believe that the Fair Tax, introduced on a 
bipartisan basis as H.R. 2525, is the best plan to make our tax 
system better.
    American workers are disgusted with the present tax system. 
They want to see fundamental change. They see loopholes and 
special provisions in the tax law that benefit politically 
powerful interests but these are not available to ordinary 
people. They see accountants and lawyers putting together 
intricate deals that take advantage of these loopholes. They 
have seen tax reform after tax reform passed by Congress, and 
yet the situation only gets worse. In the meantime, the taxes 
taken out of their paycheck seem to remain about the same or 
even go up every year. The Fair Tax would eliminate all 
loopholes and all of these games. It is a straightforward tax 
system that would eliminate the ability to gain advantage 
through tax shelter deals.
    Most Americans don't understand the current system. For 
that matter, I am not convinced anyone really understands the 
current tax system, including the people that try to administer 
it at the IRS. It is just too complex. I believe that the 
American people have the right to understand the tax system. A 
system that is so complex that virtually no one understands it 
is going to lead to unfairness. The Fair Tax would give us a 
simple tax system that anyone can understand.
    The current tax system holds people down. The only way for 
most people to get ahead is to get an education or training, go 
to work, and to save. Yet this is precisely what the current 
tax system punishes. Work is taxed more heavily than any other 
form of income due to the combination of high payroll taxes and 
the income tax. Under the current tax system, we generally have 
to pay for education or training for ourselves or our children 
with after-tax dollars. You have to save with after-tax dollars 
unless you are willing to tie up your money until retirement. 
The Fair Tax taxes only consumption. Education and training are 
treated as an investment in people and are not taxed. Wages and 
salaries are not taxed. And savings is not taxed.
    The Fair Tax would eliminate not only the income tax but 
also payroll taxes. For many people, the payroll tax is a 
bigger burden than the income tax. It is a regressive tax that 
taxes only wages and taxes people earning less than $76,200 
more heavily than those earning more. The Fair Tax is the only 
tax reform plan to address this problem. No other plan would 
repeal payroll taxes. Workers would be able to keep their 
entire paycheck. There would be no withholding of income or 
payroll taxes. What we earn is what we would receive in our 
paychecks.
    Americans also want more control over their own financial 
future. They want to be able to make choices for themselves and 
their families rather than have the decisions made for them in 
Washington. They want to be able to save or go to school or get 
training without having to deal with complex tax provisions or 
pay a large tax.
    The current tax system imposes a heavy burden on American 
workers and businesses exporting to foreign markets and on U.S. 
workers and businesses competing with imported goods in the 
U.S. markets. In contrast, foreign goods enter the U.S. market 
free of any significant tax burden. This places U.S.-produced 
goods at a big competitive disadvantage.
    Our tax system is one of the major reasons that we have 
such a large trade deficit. This disadvantage is made worse 
because most of our major trading partners eliminate a big part 
of their tax burden on exports since their value-added taxes 
are border adjusted. This disadvantage is built into our tax 
system, and it exports high-paying jobs to our competitors. We 
should be exporting goods, not good jobs.
    There is nothing that can be done about this problem if we 
keep the income tax, but the Fair Tax fixes the problem. The 
U.S. will stop shooting itself in the foot. For the first time, 
foreign-produced goods will bear their fair share of the tax 
burden. U.S.-produced goods and foreign-produced goods will be 
subject to the same tax when they are sold retail in the U.S. 
Exported U.S. goods will bear no tax burden. This will make 
American firms and American workers more competitive both in 
domestic markets and abroad. It will enable us to create and 
preserve more high-quality and high-paying jobs, and it will 
improve the standard of living of American workers.
    We need to rethink the tax system. It really is broken 
beyond repair. It is time to do something about it. The Fair 
Tax is legislation that deserves support, and I would urge you 
to pass this legislation.
    I thank you, and I would be glad to answer any questions, 
Mr. Chairman.
    [The prepared statement follows:]

STATEMENT OF JAMES MARTIN, HORSESHOE BAY, TEXAS

    Mr. Chairman and members of the committee, I am grateful 
for the opportunity to testify today. I am the former General 
Vice President of the Ironworkers International Union. I also 
served as Deputy Chairman of the Dallas Federal Reserve Board. 
I would ask that my written statement and a recent Op-Ed 
article that I coauthored with Gale Van Hoy, the Executive 
Secretary of the Texas Building and Construction Trades 
Council, be made a part of the hearing record.
    The tax system is one of the primary reasons that so many 
people are having such a hard time getting ahead financially. 
The existing tax system is holding the working men and women of 
this country back. I believe that the FairTax, introduced on a 
bipartisan basis as H.R. 2525, is the best plan to make our tax 
system better.
    American workers are disgusted with the present tax system. 
They want to see fundamental change. They see loopholes and 
special provision in the tax law that benefit politically 
powerful interests but are not available to ordinary people. 
They see fancy accountants and lawyers putting together 
intricate deals to take advantage of those loopholes. They have 
seen tax reform after tax reform be passed by Congress and yet 
the situation only gets worse. In the meantime, the taxes taken 
out of their paycheck seem to remain about the same or go up 
every year. The FairTax would eliminate all loopholes and all 
of these games. It is a straightforward tax system that would 
eliminate the ability to gain advantage through tax shelter 
deals.
    Most Americans don't understand the current system. For 
that matter, I am not convinced anyone really understands the 
current tax system, including the people that have to try to 
administer it at the IRS. It is just too complex. I believe 
that the American people have the right to understand the tax 
system. A system that is so complex that virtually no one 
understands it is going to lead to unfairness. The FairTax 
would give us a simple tax system that anyone can understand.
    The current tax system holds people down. The only way for 
most people to get ahead is to get an education or training, to 
work, and to save. Yet this is precisely what the current tax 
system punishes. Work is taxed more heavily than any other form 
of income due to the combination of high payroll taxes and the 
income tax. Under the current tax system, we generally have to 
pay for education or training for ourselves or our children 
with after-tax dollars. You have to save with after-tax dollars 
unless you are willing to tie up the money until retirement. 
The FairTax taxes only consumption. Education and training are 
treated as an investment in people and are not taxed. Wages and 
salaries are not taxed. Savings is not taxed.
    The FairTax would eliminate not only the income tax but 
also payroll taxes. For many people, the payroll tax is a 
bigger burden than the income tax. It is a regressive tax that 
taxes only wages and taxes those earning less than $76,200 more 
heavily than those earning more. The FairTax is the only tax 
reform plan to address this problem. No other plan would repeal 
payroll taxes. Workers would be able to keep their entire 
paycheck. There would be no more withholding of income or 
payroll taxes. What we earn would be what we receive in our 
paychecks.
    Americans want more control over their own financial 
future. They want to be able to make choices for themselves and 
their families rather than have the decisions made for them in 
Washington. They want to be able to save or go to school or get 
training without having to deal with complex tax provisions or 
pay a large tax.
    The current tax system imposes a heavy tax burden on 
American workers and businesses exporting to foreign markets 
and on U.S. workers and businesses competing with imported 
goods in the U.S. markets. In contrast, foreign goods enter the 
U.S. market free of any significant tax burden. This places 
U.S. produced goods at a big competitive disadvantage. Our tax 
system is one of the major reasons we have such a large trade 
deficit. This disadvantage is made worse because most of our 
major trading partners eliminate a big part of their tax burden 
on exports since their value added taxes are border adjusted. 
This disadvantage is built into our tax system and it exports 
high paying jobs to our competitors. We should be exporting 
goods not good jobs.
    There is nothing that can be done about this problem if we 
keep the income tax but the FairTax fixes this problem. The 
U.S. will stop shooting itself in the foot. For the first time, 
foreign produced goods will bear their fair share of the tax 
burden. U.S. produced goods and foreign produced goods will be 
subject to the same tax when they are sold at retail in the 
U.S. Exported U.S. goods will bear no tax burden. This will 
make American firms and American workers more competitive both 
in domestic markets and abroad. It will enable us to create and 
preserve more high quality, high paying jobs. It will improve 
the standard of living of American workers.
    We need to rethink our tax system. It really is broken 
beyond repair. It is time to do something about at. The FairTax 
is legislation that deserves support and I would urge you to 
pass this legislation.
    Thank you. I would be glad to answer any questions you may 
have.

                                


    Chairman Archer. Thank you, Mr. Martin.
    Mr. Rooth, you have said you are neutral on H.R. 2525. Is 
there any structural tax reform proposal that you positively 
support?
    Mr. Rooth. Not at this time, Mr. Chairman.
    Chairman Archer. And do you have any specific 
recommendations that you might make to the committee as to what 
sort of avenues we might look into in order to get to ultimate 
structural tax reform?
    Mr. Rooth. As I had mentioned, our chief concerns are in 
any form of taxation on the first-time home buyer, on the 
taxing of rental rents, on the transition rules. 1986 was a 
devastating event in our industry because most people assume 
that this is a long-time investment purchase. And to change the 
rules in midstream can be an earth-shattering event for them.
    Chairman Archer. Well, I certainly agree with that, as the 
leader of the opposition to the 1986 Tax Reform Act and citing 
in the debate the very things that we learn from hindsight in 
advance as to what would happen to real estate and the S&Ls.
    Mr. Linbeck, how would you respond to Mr. Rooth's specific 
objections to the Fair Tax?
    Mr. Linbeck. Well, Mr. Chairman, I understand the concern 
that he has expressed, but I suggest that the elements of the 
Fair Tax relating to the sale of new homes and the manner in 
which the producer price is predicted to go down on average by 
about 20 percent would suggest that the cost of that new home 
including the tax would not go up. But of equal importance, if 
I may, is that one needs to look at the purchasing power side 
of the equation as well. As I am sure he knows, the essential 
components of a person's ability to purchase a home are 
typically the interest rate that one has to pay, the amount of 
spendable income that they have to apply to the debt service on 
the home that they purchase, and the amount of time that one 
has to save in order to pay the down payment on a new home.
    Under the Fair Tax, there is virtually unanimous 
expectation that interest rates will go down, and if interest 
rates go down, then that means the debt service for a 
comparable home would go down. If a person receives in their 
paycheck 100 percent of what they earn, then they are better 
able and equipped to pay the debt service that is applicable to 
the home they choose to buy.
    And, finally, under the existing law, research suggests to 
us that it takes a person on average between 7 and 8 years to 
save for the down payment on a new home. Under the Fair Tax, 
since there is no tax on either the payroll level or the income 
level, a person can save for that down payment in between 4 and 
5 years.
    So in considering all of those factors together, it seems 
to us that the environment for purchasing new homes will be 
improved, that it will not deteriorate, as suggested by the 
analysis put forward earlier.
    Chairman Archer. Are there any probative economic studies 
that show what we might see in the decline of long-term 
interest rates if the Fair Tax were adopted?
    Mr. Linbeck. Yes, sir, there is a position paper that is 
the product of the research effort that spells out the more 
technical details of that. But the shorthand response is that 
the tax wage is eliminated between tax-exempt and taxable 
bonds. So it is assumed--and it seems to be appropriately so--
that the interest rates will come down at least by the 
difference between taxable and tax-free bonds.
    Chairman Archer. Well, would you estimate that to be 100 
basis points, 150, 200? Or what range?
    Mr. Linbeck. Well, in the current environment, that is 
probably 175 to 200 basis points, and that is leaving aside the 
risk issue, assuming the risk on the security is comparable as 
between those that are compared. But, in addition, it is 
commonly believed that there will be more money in the system 
in order to provide additional capital, thereby driving 
interest rates down still further.
    One of the reasons driving that, of course, will be that 
corporations that have earned income overseas who are now 
deterred from repatriating it because of the tax that would 
apply would be able to bring it back, thereby relieving the 
burden that they currently place on the domestic capital 
markets for the need for their cap ex expenditures.
    Chairman Archer. Thank you.
    Mr. Kleczka?
    Mr. Kleczka. Thank you, Mr. Chairman.
    I think the more we learn about this national sales tax 
bill, the more questions are raised. Mr. Rooth, you have been 
in the home-selling, home business, so you probably know more 
about it than any member of the committee. Under this proposal, 
it is guessed, hoped, prayed, that the price of the home is 
going to go down about 20 percent, a newly constructed home is 
going to go down by 20 percent, and so a 30 percent add-on 
sales tax under this proposal won't be that burdensome.
    In my experience around here--and I can cite right off the 
top of my head--every time we put more dollars into student 
loans and grants, we find that the more we give the kids to 
help offset their educational costs, the more the tuition goes 
up. Okay?
    In your experience or in your knowledge of this bill, is 
there anything that is going to guarantee that those homes are 
going to go down by 20, 25 percent for new construction? I just 
fail to believe that.
    Mr. Rooth. Well, for someone to step forward and try to 
crystal ball what the economic impact will be I think is next 
to impossible. How an employer treats their wages I think is 
difficult for us to predict. In certain conditions of labor, I 
am sure that they will be maintained because of prior 
contractual arrangements.
    But I would say to you that in 1981, in 1986, and again in 
1993, we tried to predict the outcome of changes in the tax 
provisions and estimate what it would do to the rental income 
or the residential real estate market and the commercial real 
estate markets, and we were wrong on all three attempts, 1986 
being almost a doom-and-gloom situation.
    So I think it is difficult for anyone in our business to 
predict the impact that this might have.
    Mr. Kleczka. Well, we know one thing. If this would become 
law, there would be a 30 percent add-on at closing.
    Mr. Rooth. Right, and one of the things that concerns us a 
great deal I alluded to in my oral comments, and that is the 
impact of the services fee on every aspect of the closing of 
the transaction, whether it be attorney's fees, title fees, 
impact doc fees, appraisal fees, home inspector fees. There is 
a plethora of different fees at closing in that transaction. 
And for the first-time home buyer, that is a very important 
component because we are looking at a down payment and what 
they have to put to the transaction.
    Mr. Kleczka. Are those fees taxed today?
    Mr. Rooth. No, they are not.
    Mr. Kleczka. Mr. Linbeck, what would be the business tax 
under this proposal?
    Mr. Linbeck. The business tax? There is no tax on business-
to-business transactions.
    Mr. Kleczka. So it would totally repeal the corporate 
income tax?
    Mr. Linbeck. Yes, and also the----
    Mr. Kleczka. So businesses would pay no tax at all.
    Mr. Linbeck. That is correct.
    Mr. Kleczka. How would a person be advantaged, let's say, 
in the 15 percent income category or even 28 percent income 
category? That person would not pay income taxes anymore, but 
he or she would be paying 30 percent at minimum, and Joint Tax 
tells the committee, to be revenue neutral, that tax would 
almost have to approach 59, 60 percent. So how does a person 
who currently pays 28 percent be advantaged by paying in excess 
of 30 percent on every good and service that person needs to 
survive?
    Mr. Linbeck. That is a very good question, and it is one 
that concerned us a great deal. And we spent an enormous amount 
of time researching this, and we found that the person in that 
income category today is paying the biggest tax in the payroll 
tax, and the rebate tacked on top of the payroll tax in effect 
brings that person to the point when they have to buy products 
that no longer have the embedded income tax in them is 
completely tax free at the poverty level and below. Those that 
are above the poverty level continue to get the benefits on a 
gradated basis.
    Mr. Kleczka. That poorer person would get a rebate every 
month?
    Mr. Linbeck. Yes.
    Mr. Kleczka. And so they would--right now I file a once a 
year my taxes. In fact, today I mailed them in with a check, 
okay? And, you know, I am not ready to commit hara-kiri. It is 
something you have to do as an American citizen. But under this 
new system, that poorer person would have to file something 
every month to get their monthly rebate, would they not?
    Mr. Linbeck. No, sir. Under the provisions as embedded in 
the bill, they would make a request once a year to the Social 
Security Administration, which request is a postcard with their 
Social Security number on it. The Social Security 
Administration runs that through the system to make certain it 
is a valid Social Security number and that it has not already 
been used. And then based on family size as promulgated by 
Health and Human Services, the rebate is automatically 
dispatched to them at the beginning of each month.
    Mr. Kleczka. So every month they get a check, and there is 
no--and it doesn't bear any relationship to their actual 
purchases.
    Mr. Linbeck. That is correct.
    Mr. Kleczka. So for that month that they received a check, 
for whatever reason they didn't buy much, but they, 
nevertheless, get that same check every month.
    Mr. Linbeck. That is correct.
    Mr. Kleczka. Well, that is a heck of a deal. Could you 
explain to the committee how this tax on local and State 
government works? The authors of the bill didn't even realize 
that the payroll of the municipalities would be taxed as 
national sales tax. Now, maybe you know more about the bill 
than the authors, but are you aware that payroll is taxed under 
this proposal?
    Mr. Linbeck. I am not aware of the specific mechanism by 
which it is taxed. I am aware of the principle that the tax on 
products that are consumed are taxed regardless of their origin 
or who produces them. And in the area of Government services, 
they are taxed just like if they were produced by the private 
sector. But I am not personally familiar with the mechanics by 
which that would----
    Mr. Kleczka. So you are not aware that the payroll of any 
municipality would have applied to it a 30 percent national 
sales tax?
    Mr. Linbeck. There is a paper that is prepared as part of 
the information on the Fair Tax that deals with the 
technicalities of that.
    Mr. Kleczka. Well, that is more than a technicality. That 
is a big, big liability for our municipalities. Right now if 
you would exclude workmen's comp and unemployment comp, the 
major contribution on that payroll by local municipal 
government is the FICA tax. Well, that is going to be taken 
off, and in lieu of, we are going to be asking Milwaukee and 
Cleveland and all cities to pay 30 percent of their gross 
wages. That is one big one for the property taxpayers in this 
country. So they are shedding a 7 percent plus liability, and 
we are replacing it with a 30 percent.
    Mr. Linbeck. And that is a proper concern, and that is why 
there was specific research done on that in order to make 
certain that there was a level playing field as between 
services provided by Government and services provided by the 
private sector, the intent being that there would be no 
differentiation between the tax outcome as between public and 
private services.
    I apologize for not knowing the specific technicalities of 
it, but there is a position paper that has been prepared by 
researchers----
    Mr. Kleczka. Well, see, our dilemma is we are asked to 
support this critter, and we have to know those things because 
that is of big, big importance back home.
    Mr. Linbeck. And I would encourage you, if there is any 
prospect of your support, that you become familiar with the 
technical side of it.
    Mr. Kleczka. Well, that is more than technical. That is one 
of the mainstays of this bill.
    Mr. Linbeck. The principle is that there is a level playing 
field of taxation as between public and private service 
providers.
    Chairman Archer. The gentleman's time has expired.
    Mr. Kleczka. I thank the chairman.
    Chairman Archer. Ms. Dunn?
    Ms. Dunn. Thank you very much, Mr. Chairman.
    I want to welcome you, gentlemen. Thank you for coming and 
expressing your point of view. I think it is a fascinating 
discussion, and we all have lots and lots of questions. And we 
also have questions on behalf of the folks we represent at 
home, so I think it is a wonderful opportunity for us to get 
you all together.
    Mr. Rooth, I wanted to ask you a question. In your 
testimony, you said that you oppose the flat-rate flat tax that 
has been discussed by folks as we reform the tax system, and I 
was going to ask you, because in some discussions of that tax, 
there are bills that would exempt interest deductibility, and 
so that would still be provided. And despite that, you still 
oppose the flat tax.
    Mr. Rooth. It is difficult to oppose the ``flat tax'' 
because without a bill on the floor for me to speak directly 
to, it----
    Ms. Dunn. Well, just assume it is a flat tax with 
deductibility continuing for mortgage interest and charitable 
donations and maybe medical expenses.
    Mr. Rooth. I would say that it is an issue that we would 
take very serious looks at. There are economic impacts on 
rental income housing, and home purchase would be the most 
important thing that we would consider. I am also concerned 
about transition issues in the depreciable items.
    Ms. Dunn. And then when we were talking about the national 
retail sales tax, did you say that you would expect a full 
exemption for the purchase of homes because they would be 
considered investments?
    Mr. Rooth. In my comments to the chairman, we feel that the 
purchase of a home, because of its significant nature, is an 
investment.
    Ms. Dunn. Do you prefer the current tax system for the 
taxation of purchasing homes?
    Mr. Rooth. Yes.
    Ms. Dunn. Okay. Thank you.
    I wanted to ask Mr. Linbeck, what are you finding out there 
among folks you are talking with about the Fair Tax? Are you 
finding a building consensus behind this as people begin to 
understand how it works? And if you are finding that, what do 
you see as the movement through the Congress? Are we now in an 
education period? What do you see the process being for the 
success of your program?
    Mr. Linbeck. As I mentioned, we have conducted market 
research for the last several years in order to discern what, 
in fact, was the embedded attitude of the electorate in respect 
to this issue.
    Since we have learned what we believe that to be, we are 
now involved in an educational effort. We expect over the next 
30 to 90 days to ratchet that up to the extent that the 50 
major markets in this country will be exposed to the 
availability of the Fair Tax, and the whole thrust of the AFT 
effort is to inform the electorate and then leave it up to them 
to decide whether or not they wish to support it and manifest 
that support through their contacting of the people that they 
vote for.
    I only vote for one Congressman and two Senators, and it 
would be presumptuous of me to expect a response from people 
for whom I don't vote.
    But if they hear from enough of the people that send them 
to Congress and they have a persuasive enough basis on which 
they form their position, we think it is going to be a very 
strong groundswell of support for the Fair Tax. Our research 
suggests that. And most recently, when the four essential 
elements that I shared in my oral testimony are known to the 
electorate, over 70 percent of the people support it.
    So we are very encouraged by that, but, again, we think the 
success or failure of the Fair Tax undertaking will be the 
degree to which the constituents in the grassroots in the 
country become energized by the prospect of its passage.
    Ms. Dunn. I think that is very realistic, and I guess I 
would urge all of you who are involved in this discussion not 
to give up hope that there may not be all the members of the 
Ways and Means Committee here or that people aren't talking to 
us out in the districts. The discussion is important, and as 
part of the educating process, it has to be taking place now.
    Frankly, I think that because we don't have a lot of time 
left in this year, there is not a lot of legislative time, 
because I am waiting for the freshness of the new 
administration, I think there will be great attention paid to 
this as we move through this year and move into next year.
    But I think there are benefits of the Fair Tax, as there 
are benefits of other forms of tax as replacements for this 
totally outdated income tax system that we penalize people with 
today.
    Let me ask one more question, and whoever on this panel can 
answer it, I would appreciate it. We have talked a lot about 
the effects of the Fair Tax on border adjustment, and I am 
wondering if somebody could address this once again in this 
panel. How would products made in the United States benefit 
from a national retail sales tax?
    Mr. Linbeck. Well, I am not an expert in this or anything 
else, but I will take a crack at it based on what I have 
learned from our research. And it is a timely question in that 
there has recently been a WTO finding that the existing 
international trade vehicles that have been used by exporters 
does not conform to GATT or the World Trade Organization rules, 
thereby disadvantaging exporters under those rules.
    It is our understanding and belief that in the regimen of 
the Fair Tax, all of the embedded taxes occasioned by the 
current system would be purged from their cost structure, and, 
therefore, they would be able to export their products into an 
international market on a much more competitive basis. And it 
has been suggested in some of the companies with whom we have 
visited who are heavily involved in export that the 20 to 25 
percent lowering of their producer price would have a dramatic 
impact on both their ability to increase their market share and 
maintain their margins, but also penetrate new markets that 
heretofore have not been available to them because of the tax 
disadvantage that they are burdened with.
    Mr. McCracken. If I could add just briefly, it will also 
encourage businesses to continue to be in the United States and 
to come to the United States to produce the products. It 
creates enormous incentives to do things here as opposed to 
abroad.
    Ms. Dunn. That is a really good point. We have been stuck 
with the FSC ruling right now, and some of the other problems 
we have, the H-1-B visa cap and so forth that causes people to 
start looking toward going overseas to be competitive.
    Thank you very much. Thank you, Mr. Chairman.
    Chairman Archer. Would it not also prompt the return of all 
of the companies that have gone offshore for tax reasons that 
are currently operating in tax havens like Bermuda and the 
Cayman Islands and Aruba and other places?
    Mr. Linbeck. Well, it is our belief that it would remove 
the incentive for them to take that kind of a step. Whether it 
would immediately cause them to return, only they could answer 
that. But all of the incentive for them to be located in an 
external domicile would be removed. And as a matter of fact, 
all of the advantages of being domiciled in the U.S. would 
return to them, which is a good skilled labor force, 
availability of capital, good mature markets, and a secure 
economic system. So my instinct is that the vast majority of 
those who were driven offshore by virtue of the tax system 
would return quickly.
    Chairman Archer. Thank you.
    Mr. Tanner?
    [No response.]
    Chairman Archer. Ms. Thurman?
    Mrs. Thurman. Thank you, Mr. Chairman.
    We have been given kind of a grouping of editorials that 
have been written across the country in support of your tax or 
replacement. One of the things that I found interesting, 
especially because we are now sitting in a situation where we 
have the Joint Tax coming in and saying it could be anywhere 
between 30 to 57 percent, are we going to go back out and 
resell this? I mean, when you talk about going nationally, are 
you going to tell them about potentially this costing 30 to 57 
percent?
    Mr. Linbeck. Is that addressed to me?
    Mrs. Thurman. That would be addressed to you, and it would 
be addressed to the business--anybody that wants to respond to 
this.
    Mr. Linbeck. I will try to respond. Our objective is that 
whatever the tax is, that it be revenue neutral. Our 
undertaking of this effort was totally bipartisan. We have 
undertaken the research on a bipartisan basis. All of our 
polling was doing by a joint venture of a Republican and 
Democratic pollster. Our commitment to the effort is that it be 
consistent with two principles: that it be bipartisan and, 
number two, that it be revenue neutral.
    The research that we have received suggests the rate that 
we have been promulgating. If at the end of the day and if the 
base is consistent with what we understood to be the broadest 
possible base the rate is higher, that is the rate that we will 
use. We are not really trying to sell the rate but, rather, the 
principle.
    Mrs. Thurman. But it does sound much better to be able to 
say a 23 percent sales tax versus a 30 or a 57 percent.
    Mr. Linbeck. Absolutely, it does. And, also, one ought to 
bear in mind that it is a replacement tax.
    Mrs. Thurman. Correct. Let me just give you some examples 
of some things, and any of you can talk about this. But we did 
some calculations quickly just to figure out, say, a couple 
making $50,000, using dependent care credit, with two children, 
and they are using standard deductions. Their income tax would 
be about $2,810; the employee's share on the payroll tax, 
$3,825; employer share, $3,825--with a total of $10,460. That 
sounds a little outrageous, I agree.
    Then you go down, though, and you say the proposal is 
consuming, say, 30 percent of the $50,000, or at a rate of 30 
percent, which is the lowest rate that has been given tough, is 
at about $15,000, and then the rebate, which would be the 0.23 
times the 1,750, which would be the poverty, comes to a total 
of about $11,078. So what you really would be is you would have 
a net tax increase of about $618. So, actually, you would be 
ending up paying more in a tax under a sales tax than you would 
under the current system.
    And then if you went to somebody--and then if you went to a 
57 percent rate, which Joint Tax has said----
    Chairman Archer. Would the gentle lady suspend for one 
moment? My presence is now being mandated on the floor of the 
House of Representatives, so I am going to leave for a while, 
and Congressman Hulshof will preside.
    Mr. Hulshof. [Presiding.] Thank you.
    Chairman Archer. The gentle lady may commence. Sorry.
    Mrs. Thurman. So then at 57 percent at $50,000, it is 
$28,500. The rebate would be $3,922, with a tax of $24,578, 
with the net tax increase then being $9,579.
    I don't know how to particularly--then if you talk about 
issues of taxing food and medical and drugs and all of those 
kinds of things, how do I sell this to either the $50,000 
person a year making $50,000 and/or the senior who is now going 
to be picking up a cost that is not being shared by them? And 
then you can go on with a $30,000 single mother.
    I mean, simplification is good. I understand the reason. 
But when you look at it from a dollar, a pure dollar, of who is 
going to pick up the cost of this, I have some concerns in who 
this is being shifted to. Maybe somebody can talk to me about 
that because I need to be able to explain that at home.
    Mr. Linbeck. If you are asking me----
    Mrs. Thurman. Oh, whoever would like to take----
    Mr. Linbeck. I will be glad to give you my thoughts on it, 
and they consist of the--if the numbers are correct and someone 
ought to be able to sit down with the person who understands 
the Fair Tax and all of its complexity and simplicity and the 
income tax and its complexity and simplicity and come to an 
understanding of what the comparison is, then we ought to have 
a common basis for moving forward.
    In all candor, I couldn't follow all of the numbers in my 
head to know what the variation may or may not be as between 
the findings that were expressed----
    Mrs. Thurman. It is based on two very simple things. One 
would be the consumption of $50,000 at a 30 percent or 57 
percent, depending on where we are under Joint Tax, and what 
payroll--and what the difference would be what they paid a day 
and what they pay under the--what your system would be 
including the rebate. And it seems to be quite different.
    Mr. Linbeck. I would encourage you to invite someone in who 
understands the system and see if you can work through those 
numbers with those persons, and it does not ring true to me, 
based on what I have previously discerned from the research, 
but it is very possible that we have made an error in it. And 
if we have, that can be corrected. But if not, then that will 
inform us all.
    Mrs. Thurman. Then I would just say to you that I will be 
glad to open my office if you would like to send somebody and 
show me where we are wrong.
    Mr. Linbeck. Well, I am not sure we can show you where you 
are wrong, but we can show you where the calculations come out.
    Mrs. Thurman. Thank you.
    Mr. Hulshof. Mr. Portman?
    Mr. Portman. Thank you, Mr. Chairman. And I want to commend 
the panel for taking the leap off the cliff, with the exception 
of our friend from the realtors who is not there yet, with at 
least coming up with what I view to be a very creative and 
innovative approach. I think it has problems, and I am going to 
ask you about some of those problems. But our current system is 
too complex, too complicated, and the compliance costs are a 
big hit on our economy and individual Americans who are filling 
out their taxes even as we speak. And then, finally, it does 
penalize savings and investment in a way that is 
counterproductive to economic growth. So we need a new approach 
to taxes.
    My concerns with the Fair Tax are some of those you have 
already heard. I think the percentage that would be paid is the 
key issue. It affects really so many other issues related to 
it, including, of course, the compliance, the possibility that 
there could be enormous compliance issues with the many 
transactions which would occur every day. Also, of course, it 
affects what the States might do. The States do tend to 
piggyback on us. They do that with our Federal taxes. I think 
they would tend to do it with this tax. And so the rate that we 
are talking about, whether it is 24 percent or 65 percent--as 
Pricewaterhouse has said, there is a range, depending on 
compliance, depending on other assumptions about economic 
growth. I think you have to add what the States are going to do 
currently with regard to their income taxes and corporate 
income taxes on top of that, and you end up having a fairly 
onerous percentage. So that is one of the issues that I have, 
and I won't get into that because I think you probably heard a 
lot about that earlier this morning. And we can go back and 
forth on what that percentage might be, but I think it is 
important as to, again, so many other issues.
    My understanding is that today about 60 percent of the 
taxes are paid by the top 10 percent, somewhere between 55 and 
60 percent. Is that your understanding? I am talking about 
Federal income taxes, forgetting the payroll tax. You know, 
people say we don't have a very progressive system. The top 1 
percent pay about 25 percent of the taxes; the top 10 percent 
pay about 30 percent of the taxes.
    Have you all looked at the Fair Tax in terms of this 
analysis? And it is really building on the question from the 
gentle lady from Florida that you just heard. But what would 
the top 10 percent of wage earners in this country pay as a 
percentage of the Fair Tax?
    Mr. McCracken. Well, I understand that--actually, that is a 
very difficult question to answer because it is based not on 
what you earn or what you are worth; it is based on what you 
consume, on basically what you take out of the economy. So it 
is going to vary widely. Bill Gates could pay billions of 
dollars this year in taxes if he consumed that much, or he 
could pay nothing in taxes this year if he chose to reinvest 
everything he makes back into the economy into creating jobs.
    So it is very different from the income tax, and it is hard 
to look at in quite the same----
    Mr. Portman. It is very different, but although the 
analysis will depend on certain assumptions, it shouldn't be as 
difficult as you indicate because Bill Gates will still get a 
salary, so will Rob Portman, so will everybody else. And the 
question is: Of the top 10 percent of wage earners, what 
percentage will they pay in terms of the Federal sales tax?
    Now, again, our current system is very progressive, and 
this is one of the issues that all of us who are interested in 
tax reform have to deal with. And those who think it is not, 
again, I believe are wrong. When you get into tax reform, you 
will find out it is very difficult to end up with the same 
distribution you have now if you really believe in fundamental 
reform unless you are going to go to a tiered system.
    But I just wondered if you had a number on that, what the 
top 10 percent of wage earners would pay as a percentage of the 
Fair Tax?
    Mr. McCracken. I don't. Do you want----
    Mr. Linbeck. No, I have seen no data, to my knowledge, 
there is no data available because it does, as Mr. McCracken 
pointed out, depend on the behavior of the individual in 
respect to their spending habits. And over a lifetime, one can 
make those calculations with a reasonably high degree of 
certainty, and it is my understanding that given the rebate and 
the elimination of the payroll tax and the stripping away of 
the tax embedded in products and services that we buy, the Fair 
Tax will be as progressive if not more progressive than the 
current system.
    So, in general, that is the principle we think underlies 
the plan, but we cannot tell you what the idiosyncratic outcome 
would be for an individual taxpayer.
    Mr. Portman. Well, I am not looking for the idiosyncratic 
or individual. I am going on average. And you do have to make 
certain assumptions, which I know you have made, with regard to 
purchases, and GAO has done that and other groups have done 
that over the years. It is very difficult to do. I know the 
Treasury Department, I think under Ronald Reagan, tried to do 
that. And where you have to start, is purchases and income. I 
just think it would be helpful to know that, frankly, to be 
able to respond to some, I am sure, of the critique that you 
got this morning, and the most recent question indicates that 
we will be concerned about that. There is with every 
fundamental tax reform proposal, whether it is a flat tax, the 
Fair Tax, or some hybrids that are out there.
    A couple other questions, if I could. One, there is 
obviously a compliance issue when you have got, let's say for 
argument's sake, a 30 percent sales tax. There is going to be 
an incentive for folks to figure out a way to barter or figure 
out a way to deal with it outside the tax system that is not 
there currently. In my own county, we have 5.5, 6 percent sales 
tax, the counties that I represent, and taking it up to 30 
percent is going to change people's behavior. So there is a 
compliance issue there.
    The bigger compliance issue that I worry about, though, is 
the rebate. I look at the earned income tax system, where we 
are told by the Treasury Department there is probably a 20 to 
22 percent mispayment. Some would say that is fraud. Others 
would say it is error. It is probably a combination of a lot of 
things. But it is an enormously difficult rebate system for the 
IRS to enforce. They aren't structured to do it.
    Who would enforce your rebate system? You know, when you 
get something in the mail, at the IRS now, that says I am 
eligible for the EITC, for the most part a check then goes from 
the taxpayers to that person because, frankly, it is very 
difficult to audit and have appropriate compliance. When there 
is auditing and compliance, it can get very difficult for the 
agency that does that because you have millions of taxpayers 
and, frankly, you are going into issues that are very intrusive 
and personal to people in terms of their income. How would you 
determine whether people who applied for the rebate deserve the 
rebate?
    Mr. Linbeck. Well, first of all, there is no means test. It 
is a universal rebate. But the mechanism to implement the 
rebate is driven by the Social Security Administration and the 
use of the Social Security number. So if the subject person 
seeks a rebate, they send a card to the Social Security 
Administration on which they have placed their Social Security 
number. If there are multiple beneficiaries of the rebate they 
wish to claim, they list each of those Social Security numbers.
    The Social Security Administration runs that through the 
system to see if each of those are a valid Social Security 
number, or if there are duplicates of that same number, that 
triggers an inquiry as to who is the legitimate holder of that 
number. That then triggers the rebate on a periodic basis every 
month in an amount equal to the number of the tax times the 
Health and Human Services determination as to the poverty level 
for that size family.
    Mr. Portman. Well, having----
    Mr. Hulshof. I must say to my friend that your time is----
    Mr. Portman. I am sorry. With the indulgence of the Chair, 
let me just finish up that point and just say that it is much 
simpler having just one flat rate based on whatever the poverty 
rate is for that number of individuals. I will say, though, 
there are still going to be major compliance issues, and we 
ought not to overlook those and we should be concerned about 
those.
    I have lots of other questions, but, again, I want to 
commend you all for taking the leap and for making this 
innovative proposal.
    Mr. Hulshof. The gentleman's time has expired. As I yield 
to my friend from Texas, I know that one of the issues that he 
has been pursuing quite vigorously in this committee is the end 
of abusive corporate tax shelters, and I would suggest that 
were the Fair Tax to be implemented and business income no 
longer being taxed, it would eliminate these corporate tax 
shelters that you have been so----
    Mr. Doggett. I will have to take up another agenda, and I 
am glad Mr. Linbeck is here to add support to that.
    Mr. Hulshof. I yield to the gentleman.
    Mr. Doggett. Let me begin, though, with my neighbor, Mr. 
Martin. I appreciate the service that you provided our 
community in central Texas, and I know that you are approaching 
an age when Social Security is important to you and many of the 
people that you work with. And one of the concerns that I have 
about this, James, I was down at the Archives last week, and 
just down from where the Declaration of Independence is there 
for everybody to look at, they now have up a quote in 
connection with an exhibit from Franklin Delano Roosevelt. And 
the essence of it is that he set up a payroll contribution 
system for Social Security so that every American would feel 
that they have a stake in Social Security and that no 
politician would ever be able to take that Social Security 
system away from them.
    Isn't there a danger, as you heard me ask the sponsor of 
this measure this morning, that if we totally eliminate what 
has become a burdensome payroll system, no doubt, but if we 
totally eliminate that system, we may set up a way that those 
who don't support Social Security will be able to undermine it 
because no longer will each American feel that they are paying 
in something specifically for that system?
    Mr. Martin. Mr. Doggett, my own opinion on that is that if 
the transfer system is done in a proper manner and it is clear 
and it is able to be understood by the rank-and-file working 
American, that they will feel secure with it. They will be 
looking at overall totals, and they will be listening to 
Congress and various administrations tell them how much is in 
there and how long the fund is solvent for. And I think if 
those numbers are consistent, I think that they will have the 
same degree of either concern or satisfaction that they do now.
    Mr. Doggett. I appreciate it.
    Mr. Linbeck, I wish that we had more citizens that were as 
interested in affecting public policy as you obviously are, 
because I have heard from a number of constituents there in 
Austin that you have either talked with personally or others of 
this effort have talked to personally.
    There are several concerns, and mine are similar to the 
ones that I raised this morning also. I gather that you 
envision that after this act is put into place, electronic 
commerce will provide a significant source of Federal revenues.
    Mr. Linbeck. It is our expectation that it would. The 
expectation under the Fair Tax is that all terminal 
transactions, by whatever distributional means, will be subject 
to the tax. So that would be brick and mortar, Internet 
transactions, and mail transactions.
    Mr. Doggett. And your goal is to try to get this tax into 
place just as soon as you can as a replacement for the income 
tax.
    Mr. Linbeck. Yes, sir.
    Mr. Doggett. And so I gather, therefore, that you would not 
support extending the Internet tax moratorium until 2006.
    Mr. Linbeck. I would personally support not having any tax 
on the Internet medium.
    Mr. Doggett. Sure, the access.
    Mr. Linbeck. The access.
    Mr. Doggett. But I am talking about taxes on transactions.
    Mr. Linbeck. But to tax the transaction, I would support 
taxing immediately, as long as it was an evenhanded 
application. I think the dislocation occurs and the unfairness 
occurs when you have different means of distribution taxed on a 
different basis, or at least not enforced in a uniform fashion.
    We contemplate that under the Fair Tax there would be 
uniform application of the tax so that everyone has a level 
playing field from which to embark on their economic activity.
    Mr. Doggett. I am accustomed, from my perspective, at 
least, to getting advice from the majority leader, Mr. Armey, 
that I consider to range from bad to worse. But I was listening 
to his comments on Sunday about your proposal on Fox News, 
which I am sure you saw----
    Mr. Linbeck. No, sir, I didn't.
    Mr. Doggett. Well, he was asked if he supported your bill, 
and he said ``no, it doesn't work and, furthermore, it is 
regressive and it adds inevitably to the tax code, making it 
equally as complex as today's income tax.'' And he also said 
that no country has ever made a successful change from an 
income tax to a sales tax, and that when Canada went to a 
higher sales tax, the use of cash in the Canadian economy 
tripled in just 6 months. I am quickly summarizing the latter 
part of his testimony. The first part was a direct quote.
    I am just going to ask you if Mr. Armey has finally gotten 
something right.
    Mr. Linbeck. Well, I must admit, if the Fair Tax had the 
attributes he ascribes to it, I wouldn't be for it. I don't 
know what he is looking at, but the provisions that are 
embedded in House bill 2525 do not appear, through my own 
observation nor the research that has been undertaken, to have 
those kinds of outcomes. I would certainly not be in favor of 
any system that didn't have a preferential option for the poor. 
And in my judgment, the Fair Tax is the only bill currently 
being considered that represents that kind of an option.
    Mr. Doggett. What about the specific issue--my last 
comment, Mr. Chairman--that he raised? I know I covered a lot 
of it, but greater reliance on a national sales tax in Canada 
greatly increased the underground economy, and he specifically 
said the use of cash in the Canadian economy tripled in just 6 
months, as an indication of too much sales tax resulting in an 
underground economy.
    Mr. Linbeck. Well, I have no frame of reference for his 
data. But it is my understanding that in Canada the problem 
arose because they promised to eliminate the income tax and 
replace it with a sales tax. When they passed the sales tax, 
they kept the income tax as well. And if that is a correct 
understanding of the facts, then it is not surprising to me 
that people would take extreme measures to find whatever relief 
from the burden that was imposed on them with both tax systems 
that was available to them. But our research suggests to us 
that there is no reason to believe that there would be a higher 
incidence of evasion or leakage or cheating under a transparent 
uniform sales tax at the Federal level than there is under the 
present income tax system. And we have made no assumptions in 
the body of the research that suggests that it would be less. 
We have just assumed it would be the same.
    Mr. Doggett. Thank you very much. And thank all of you.
    Mr. Hulshof. Mr. Lewis?
    Mr. Lewis. Thank you very much, Mr. Chairman.
    Mr. Rooth, what would be the impact of this legislation on 
minority home ownership?
    Mr. Rooth. Excuse me, on which home ownership?
    Mr. Lewis. On minority.
    Mr. Rooth. Minority?
    Mr. Lewis. Right.
    Mr. Rooth. As we have stated earlier, and I have a handout 
that I will be happy to include to any of the members that we 
have done, that basically we find that minority spending is a 
huge part of our economy here in housing, that the priorities 
of home ownership are highest among minorities and far higher 
than all Americans combined. Anything that restricts that 
purchase, we are going to have great difficulty with.
    The actual impact of this legislation on the first-time 
home buyer or on minority home buyers is next to impossible to 
predict. As I have mentioned earlier, we have been wrong in 
every other prediction we have ever made. But I am very 
concerned about the impact to such a large amount of our 
population.
    Mr. Lewis. Are you troubled by the possibility of a 30-
percent increase on renter apartments, on new home 
construction?
    Mr. Rooth. I am absolutely concerned with it on new home 
construction because we have already demonstrated that there is 
an excess cost of new home construction of 20 percent today. So 
if we were to add another 30 percent to that, that could 
conceivably be a 50-percent impact. But the rental housing 
sector is probably what concerns me the most because if I can 
rent you an apartment today for $500 a month, there is nothing 
to say that I can tomorrow afford $650 or $700 a month because 
I can't predict what the employer is going to pass on to me in 
my paycheck. Unless I have a contract about my employment, I 
cannot guarantee that I am going to get my full paycheck.
    Mr. Lewis. Thank you, Mr. Rooth.
    Mr. Linbeck, are you concerned that 2525 will impose an 
increase, a dramatic increase on purchase of prescription 
drugs, hospital bills, doctor bills, and nursing home care when 
home care is already going higher and higher and you come and 
you are suggesting that you are going to add more of a cost?
    Mr. Linbeck. Yes, sir. I would be very concerned about it 
if I believed that would be the outcome. I am persuaded by the 
rigor and the intensity of the----
    Mr. Lewis. But I want you to persuade me. I want you tell 
me how we are going to, with 2525, how can we keep the cost of 
prescription drugs, doctor bills, nursing home care from going 
up, up, up?
    Mr. Linbeck. In my judgment, the prescription drug issue, 
as well as other health care issues, will be subject to the 
same type of market forces, in terms of stripping away the 
costs that are currently embedded therein by the current 
system, thereby lowering the cost at the producer level, the 
net outcome of which, we believe, based on the research we have 
been given, is that the price that the consumer pays will not 
be higher, including the tax, than it is today. But on top of 
that, the purchaser of the products will have more money in 
their pay environment. Their gross pay will be their net pay. 
In addition, they will get the rebate in an amount equal to the 
tax on essentials, and in most of the Health and Human Services 
information, with which I am familiar, health care is a 
component of the cost that they use in determining what the 
cost of living would be for the poverty level.
    So it is our understanding and belief that there will not 
be a disadvantage, particularly to the poor, but rather an 
advantage to the poor under the Fair Tax in purchasing the 
essentials.
    Mr. Lewis. But the costs of health care is not just 
something that should be the concern of the poor, but is middle 
income, working people, so much of their limited income is 
going to try to pay doctor bills, and buy prescription drugs, 
to provide nursing home care.
    Mr. Linbeck. And it is our belief, Congressman, that those 
costs at the producer level will come down. Let's look at that 
particular doctor who is dispensing that care. They will no 
longer have to administer the current tax system in the 
management of their office. They will no longer have to keep 
track of any of that information, so the compliance costs will 
go down very substantially. It is expected that those costs 
will be passed along to the consumer, to the patient that they 
are treating.
    Mr. Lewis. But if I am doctor running an office and I have 
nurses and others assisting, I have to collect those taxes, 
right?
    Mr. Linbeck. Yes.
    Mr. Lewis. But you do believe that health care should be 
accessible, affordable and it should not be out of the reach of 
any of our citizens. When you come along and put up another 
tax, additional costs, you are moving health care further and 
further away from working Americans.
    Mr. Linbeck. If we believed that was the outcome, we would 
be gravely concerned about it. We believe the outcome will be 
contrary to that assumption, and that it will, in fact, not go 
up in cost over where it is today.
    Mr. Lewis. Thank you.
    Mr. Linbeck. Yes.
    Mr. Lewis. Thank you, Mr. Chairman.
    Mr. Hulshof. Mr. Watkins?
    Mr. Watkins. Thank you, Mr. Chairman. To a couple of you, 
Mr. Rooth and Mr. Kouplen, I have a background in both of those 
areas; first, in agriculture, as Mr. Kouplen knows, and then 
later on in building and real estate. So I have got a couple of 
questions I would like to take up with both of you.
    I know in the agriculture area, a lot of us have worked 
very hard because of blatant double taxation on estate tax, 
trying to get more relief and more relief in that area, and we 
have made some headway, but we have not got it repealed yet, 
and we realize that is something a lot of farm families are 
very interested in doing.
    I also recognize, if we stop and look through I think in 
detail, that if we have a tremendous just total change of 
direction, agriculture would probably end up being in the tax 
structure overall we could be hurt in agriculture a great deal. 
So I think we have to be very careful on how we go into it.
    A bill I am working on, and Ken Hulshof, my good friend 
from Missouri, I know probably would be interested in this 
bill, and I am working on it with staff and others. But one of 
the things in agriculture right now, we have an age problem, a 
population that is out there getting closer to 60 years of age, 
and not only with that, it is very difficult for maybe their 
offspring to enter, but along with that situation, many of them 
cannot get out. Now, let me share with you it is a capital 
gains situation. It is a fact that I know from experience.
    I will use the example that maybe 30 years ago a farmer may 
have bought land at $200 an acre. Today it may be $700 an acre. 
He has been farming with the inflation of that land. And I 
understand that. I have been there. I understand. And as a 
result, now he is 70 years old. He cannot sell and pay capital 
gains tax and pay his debts. He doesn't have the money, and so 
he is locked. And these are some of the most patriotic, 
hardworking, 15-, 16-hour-a-day families, husbands and wives, 
out on that farm.
    I am working on a bill that will allow us, hopefully, at 
least what we are allowing for, $500,000 on a piece of real 
estate--if you happen to have capital gains, you can go up 
there--for that to be for a farm, home, and the surrounding 
land. That would allow a lot of relief for a lot of farmers out 
there if they were allowed to do just as our city cousins were 
able to do with a $500,000 home. Now, I think we should get 
hopefully a little bit better situation worked out than that, 
but I am going to be going full bore trying to get something 
like that.
    Do you feel like that would be a great help to a lot of our 
farmers? Now, I know you have got 2,000 acres, but you take 
$500,000, for a lot of farmers, they have got several hundred 
acres, and it would be a big help I think.
    Mr. Kouplen. I think the Congressman is right on target 
with that. As you know, the most appealing aspects of this 
proposal is the elimination of the capital gains tax and the 
death tax or estate taxes. And you know, as well as those of us 
in agriculture, the situation that we have been in over the 
last couple of years, is a very tough situation. We are a very 
capital-rich industry and a cash-poor industry. And like you 
say, the age of our farmers and ranchers in this country is 
getting to be 60/65 years on average. When they do decide they 
want to sell, they find out they have a silent partner in the 
Government. A lot of them decide they cannot afford to sell. 
Instead they hold on, and sooner or later when the death tax 
situation arises, their heirs find out that they must sell a 
great portion of it. This makes that farm economically 
unfeasible because they have had to sell that much of it. just 
to keep what is left.
    So that aspect of it and compliance costs are the main 
aspects that we like in this plan, and that is what we would 
look for in the Farm Bureau in any plan that comes from your 
committee.
    Mr. Watkins. On that, let me say that I just don't foresee 
an overhaul of the tax deal for some for several years. Maybe 
when a new President comes in, there may be some opportunity 
with the Congress and all to get something overhauled, but I 
don't see it coming down otherwise.
    Let me ask you about real estate, having been a builder. I 
was sitting on the other side of the aisle when the Tax of 1986 
came in. I told them it was probably the most un-American tax 
bill that ever came down through here because, really, it was 
nearly wiping out that opportunity of getting the home, the 
American dream.
    What kind of happened to the real estate industry right 
after that? Are there any lessons that we should learn here? Do 
we need something on the record?
    Mr. Rooth. I think the most important thing that we learned 
and the thing that we have got to focus on with any new tax 
plan, and let me say that our membership is much in support of 
the simplification, whatever it might be. Transition is a word 
that I want each and every member of this committee to 
remember. Because what we did not have in 1986 was a good 
transition plan. Anything that happens overnight in a major 
investment sector like real estate has the tendency and the 
possibility of a severe impact and ripple on the economic 
climate of this country. So I would encourage you, in any bill 
that you do, that we have got to have adequate thought about 
transition.
    1986 was as severe as it was primarily because of the loss 
of passive loss and some of the credit issues that came out. 
But had we had a sound transitional period of 2 to 5 years, I 
feel we could have survived it in a much better light.
    Mr. Watkins. I think that is a very good point, as we look 
at it.
    Thank you, Mr. Chairman.
    Mr. Hulshof. I thank the gentleman.
    Mr. Watkins. He has been wanting to do that all along.
    Mr. Hulshof. I appreciate the gentleman, and before I let 
the panel go, just a couple of quick comments. I was flipping 
through an old Farmer's Almanac recently, and I came across 
this passage that said, ``If Patrick Henry thought taxation 
without representation was bad, he should see it with 
representation.''
    [Laughter.]
    Mr. Hulshof. And I think were this a town meeting back in 
the 9th Congressional District of Missouri, if I were to take a 
quick survey, as some of you talk about focus groups, probably 
a third of those in attendance would invariably say, ``We like 
the ideal, Mr. Linbeck, of such as H.R. 2525''; another third 
might say, ``We like a flat income tax''; and the other third 
is not yet sure of what sort of system they would like to go 
to. But what that says is that two-thirds of those in 
attendance think that we should do something radically 
different than the present tax code.
    Mr. Kouplen, let me just echo the comments of Mr. Watkins. 
As the only son of a Missouri farm family, we continue to try 
to work within the existing tax structure to make it easier to 
pass that family farm on to the next generation. We put the 
elimination of the death tax on the President's desk last fall, 
as well as the capital gains rate and relief from the 
alternative minimum tax, and unfortunately we didn't get that 
tax relief to you. But we continue to work on those efforts.
    Just two quick questions, Mr. Linbeck, because I need some 
health in that proverbial town meeting that I have talked 
about.
    I think it makes economic sense, the argument that you have 
made, that were we to move to this retail-type of tax, that 
there would be pressure on interest rates to go down. And you 
and the chairman, the real chairman, were discussing how many 
basis points that would be, and yet I felt the same thing would 
happen if and when Congress began to balance its books; that 
is, to balance the Federal budget, that the pressure would be 
on interest rates to come down.
    And yet as we have seen the economy continue to expand, the 
chairman of the Federal Reserve, and I am not being critical, 
but in an effort to gain, get arms around the monetary policy, 
the pressure has been just the opposite, that interest rates, 
of course, have gone up. So what can you tell me, Mr. Linbeck, 
that I can talk to my constituents about to assure them that 
were we to make this fundamental reform, that we would, in 
fact, see interest rates dropping rather than going in the 
other direction.
    Mr. Linbeck. The only comfort I could suggest in respect to 
that, and bear in mind I am not Alan Greenspan, and I cannot 
talk in terms that he talks in and perhaps that is a blessing 
or not. You will have to make your own judgment on that. But in 
my judgment, the fact that there will be a lot more money in 
the capital markets by virtue of the issues that I raised; 
number one, the repatriation of the earnings of corporations 
who work overseas, they will be able to bring that money back 
and no longer have to borrow from the capital markets to meet 
their Cap X expenditures, the elimination of the tax wedge from 
interest rates that exist today. There is no reason to believe 
that people will not loan money at the tax-free rate that they 
are loaning it today if there was no consequence to them having 
done so.
    And finally, when everybody gets their entire paycheck, let 
us assume for the sake of discussion that the average person 
has about a 23- to 27-percent withholding from their current 
paycheck in the combination of payroll check and income tax 
withholding, hereafter, they would get 100 percent of that in 
their paycheck. If they only save 10 percent of that increment, 
that is a 2-percent to 2.5-percent increase in savings on the 
total payroll that we currently have in the country. That is a 
very substantial incremental increase in funds to go into the 
capital markets.
    For those three reasons, I think it is reasonable to assert 
that there will be a lowering of the interest rates coming out 
of the Fair Tax passage.
    Mr. Hulshof. Last question for you, and I know we have got 
other panelists waiting and some on time constraints, so I will 
cut my questioning short, but with this final question, and I 
recognize in your written testimony, Mr. Linbeck, you talk 
about charitable contributions.
    Mr. Linbeck. Yes.
    Mr. Hulshof. And I agree with you to the extent that I 
think we are Americans, we are a charitable people. And when we 
see that there are those that need, we open up our pocketbooks 
or volunteer our time or our talents. And yet I also recognize, 
as someone who itemizes our family, and I muddle through our 
tax forms because I want the same experience that you have each 
April 15th, but I also believe that there are some who are 
motivated, perhaps to give to certain charities or certain 
philanthropic organizations because of their ability to take 
some sort of a deduction.
    And so my concern is that there may be some significant 
charities that all of us will continue to give to, but that we 
might, the incentive is that perhaps there are some other 
charities that we do make a donation to simply because we are 
going to at least get at least a small tax benefit. Do you 
believe that is not the case?
    Mr. Linbeck. Well, obviously, we are concerned about that 
prospect, and that is why we commissioned specific research on 
that issue. It was instructive to me to learn that there was a 
similar concern surrounding the infamous 1986 Tax Act that has 
been referred to lovingly earlier.
    It seems to me that the evidence that was put forth then 
suggested from the charitable community that if they lowered 
the rate to the degree which they were going to lower the rate, 
that would have an adverse impact on charitable giving. As a 
matter of fact, the exact opposite occurred. There was an 
increase in charitable giving. There seems to be only one 
direct correlation: the more money people have in their pocket, 
the more money they give to charity.
    I think it is also noteworthy that for the people who don't 
itemize, the people who tithe to their church, and that is the 
principal beneficiary of the eleemosynary activities at that 
level, they are giving after-tax and after-payroll-tax dollars. 
Just imagine how liberating it will be to them for the first 
time to have their whole paycheck from which they can extract 
those funds they wish to give to their church or the charity of 
their choice. Our belief is, and the evidence suggests very 
strongly, that if anything, there will be an uptick in 
charitable giving, not a depressing impact from the Fair Tax.
    Mr. Hulshof. Thank you, Mr. Linbeck.
    Mrs. Thurman. Mr. Chairman, I have to comment on a comment 
you made.
    Mr. Hulshof. Surely.
    Mrs. Thurman. Because, Mr. Kouplen, I just want you to 
know, though, in 1997--even though the last tax package did not 
get up to the President--the one in 1997 did, and it was a very 
bipartisan act, and we did lower the capital gains, and we did 
take care of some of the inheritance tax, and there are 
floating proposals out there. So I just could not let that go 
by.
    Mr. McCracken. Can I add one more quick point on the issue 
of the charitable deduction?
    Mr. Hulshof. Mr. McCracken?
    Mr. McCracken. It is important to realize that, in fact, 
charitable giving would be tax preferred under the Fair Tax; 
that is to say, you would not pay additional sales tax if you 
gave money, as opposed to spending it. So you would pay a tax 
if you spent the money. You wouldn't pay the tax if you gave to 
a charity. And that is the case for a whole range of different 
kinds of attributes we discussed here today, whether it is rent 
or other things.
    It is important to realize that anything for which there is 
not a deduction in the Code now, it is essentially taxed 
because we were paying for it with after-tax dollars. And so 
just because it is taxed under the Fair Tax, doesn't mean it is 
a brand-new tax that we are not paying right now.
    Mr. Hulshof. I thank the panelists for your patience. You 
are excused with the thanks of this committee.
    I will call the next panel to step up, and I will yield to 
the chairman, Mr. Archer.
    Chairman Archer. The chair invites the next panel to be 
seated at the witness table.
    Gentlemen, welcome to the committee. Dr. Kotlikoff, I 
understand you have pressing engagements elsewhere, so to 
accommodate that, the chair will recognize you first, and you 
may proceed.

  STATEMENT OF LAURENCE J. KOTLIKOFF, PROFESSOR OF ECONOMICS, 
 BOSTON UNIVERSITY, AND RESEARCH ASSOCIATE, NATIONAL BUREAU OF 
                       ECONOMIC RESEARCH

    Mr. Kotlikoff. Thank you, Mr. Chairman.
    Chairman Archer and other distinguished members of the 
Committee on the Ways and Means, I am honored by this 
opportunity to discuss with you the Nation's need for tax 
reform and the role that consumption taxation, particularly a 
Federal retail sales tax, could play in enhancing the economy's 
economic performance and improving its distribution of 
resources.
    Chairman Archer. Dr. Kotlikoff, can I remind all of the 
witnesses, again, if you will identify who you are and whom you 
represent, in that event, before you start your testimony, for 
the record, please.
    Mr. Kotlikoff. I am Larry Kotlikoff. I am a professor of 
economics at Boston University and a research associate of the 
National Bureau of Economic Research.
    Our Nation's economy has been performing remarkably well in 
recent years, but our economic success is no reason to be 
complacent about a tax system that is extraordinarily complex 
and highly distortionary and that plays a critical role in an 
overall fiscal system that is like to visit enormous burdens on 
our children and grandchildren.
    I think the Congress and the administration are under the 
impression that our fiscal house overall, generally speaking, 
is in good order; that we are running large surpluses and that 
those surpluses are going to be enormous for as far as the eye 
can see and that they are going to take care of the fact that 
close to 80 million baby boomers are going to be retiring 
starting in 8 years, and then in about 11 years, starting to 
collect Medicare benefits on top of the Social Security 
benefits they will be collecting in 8 years.
    Well, that is not the case. Suppose you take more realistic 
projections than the CBO baseline; namely, suppose you don't 
assume that Federal purchases, as a share of GDP, will decline 
by 20 percent over the next 10 years and by 30 percent over the 
next 30 years. If you, instead, assume that Federal purchases 
are going to, grow with the economy, then according to a 
Federal Reserve and CBO generational accounting study that will 
be published in the American Economic Review next month, we 
cannot afford to cut taxes, as some of the members of this 
committee advocate, and we cannot afford to raise spending, as 
some other members advocate. Instead you need to have an 
immediate and permanent 25-percent hike in the Federal income 
tax in order to keep our children from paying even higher tax 
rates.
    Now, why am I saying all of this in the context of tax 
reform? Well, the key distributional question that confronts 
our country is how are we going to be treating the next 
generation compared to ourselves. And consumption taxation has 
the advantage that it will place a larger burden of paying for 
the Government's bills onto rich and middle-class elderly, as 
well as middle-aged people, and place less of the burden on 
today's younger people as well as future generations.
    Now, let me indicate why it is that a consumption tax would 
be generationally more equitable. The reason is that the 
current elderly and those who are about to retire, the baby 
boomers, have one primary economic activity in front of them, 
which is consuming. This is a fine activity, but it is not one 
that is subject to federal taxation, apart from some excise 
taxes.
    So moving to a consumption tax would place a larger burden 
on the elderly, in general. But the poor elderly, those who are 
living off of Social Security, would be fully insulated from a 
consumption tax because the Social Security benefits are 
indexed to the Consumer Price Index. So what we are talking 
about is asking the rich and middle-class elderly, who have 
received enormous transfers over the years from Medicare and 
Social Security to help bail out their children and 
grandchildren.
    A retail sales tax is a transparent consumption. Its 
adoption would greatly reduce compliance costs because you 
won't have an army of lawyers, and accountants, and tax 
planners spending their entire working lives trying to lower 
people's taxes. And you won't have people like me spending 3 
days trying to get our tax returns together. That is a terrific 
plus. An retail sales tax would also reduce enforcement costs 
because the effective marginal tax rates will be lower.
    We have had some discussion back and forth this morning 
about how high the tax retail sales rates would be. And I think 
that the number 59 percent has been cited, and the number 30 
percent, and 23 percent. I think there is some comparison here 
of apples and oranges. The 59 percent is a tax-exclusive 
number, while the 30-percent number is a tax-inclusive number. 
I think the right number to use here is the tax-inclusive 
number because you want to compare it with the Federal income 
tax, plus the payroll tax, both of which are calculated on a 
tax-inclusive basis.
    If you consider the Federal income tax and the payroll tax 
for somebody who has low income, there is a 15-percent federal 
income tax, plus a 15-percent payroll taxes (employer plus 
employee). Also, a lot of low-income people get the earned 
income tax credit, and when they earn a dollar, they lose 
roughly 20 cents on the margin. So, effectively, they are in a 
50-percent marginal tax bracket.
    So, the comparison is 50 percent versus 30 percent for 
those low-income people because the 30 percent is really what I 
think a comprehensive retail sales tax at the Federal level 
would generate in terms of a tax-inclusive rate that could be 
compared with the alternative that we now have. And If you also 
consider middle-income and high-income people, you find that 
they are paying close to 40- to 50-percent tax brackets at the 
margin.
    So with a retail sales tax we would end up with a lower 
effective tax rate because we are going to be broadening the 
base. Consumption is a much bigger base than the payroll tax 
base, and it is also probably as big as the income tax base 
when you take into account all of the exemptions and deductions 
from the income tax base. So in some fundamental sense, it must 
be the case that effective tax rates if you are shifting to 
taxing all of consumptions.
    And in the process of broadening this base, we are going to 
be eliminating all kinds of distortions. We talked about saving 
distortions and labor supply distortions, but we are also going 
to get rid of the lock-in effect on the sale of appreciated 
assets, the subsidy to health insurance, which is helping to 
speed up the rise in health care costs, differential tax 
treatment of investment in different kinds of capital, the tax 
advantage to debt versus equity, the marriage penalty, the 
subsidy to home ownership. And I could go on, but you get a 
sense that there are some major efficiency gains here to be 
had.
    Chairman Archer. Dr. Kotlikoff, sadly enough, your time has 
expired sometime back. But if you want to add something for a 
very short period of time, the chair will be glad to receive 
it.
    Mr. Kotlikoff. I appreciate that.
    The knee-jerk reaction to the consumption tax by the public 
is that it is regressive because the public compares 
consumption to current income. But economists think lifetime 
income is the correct resource measure, and consumption is 
roughly proportional to lifetime income. So one should think 
about a consumption tax as being a proportional tax. In 
contrast, the payroll tax, which would be replaced under the 
Fair Tax proposal, is regressive relative to lifetime income. 
Take Bill Gates; his payroll taxes are a pittance relative to 
his lifetime income.
    The Fair Tax gets rid of a very regressive tax. It also 
gets rid of the income tax, which is progressive on a lifetime 
basis, but has lots of exemptions for certain activities that 
the rich engage in more than the poor. All in all, I agree with 
Leo Linbeck that the Fair Tax proposal, though I have some 
suggestions to improve it relative to what is being proposed, 
would improve intragenerational equity, and as I said, it would 
certainly improve intergenerational equity. Hence the Fair Tax 
would be a lot fairer than what we have now.
    Thank you.
    [The prepared statement follows:]

STATEMENT OF LAURENCE J. KOTLIKOFF, PROFESSOR OF ECONOMICS, BOSTON 
UNIVERSITY, AND RESEARCH ASSOCIATE, NATIONAL BUREAU OF ECONOMIC 
RESEARCH

    Chairman Archer and other distinguished members of the 
Committee on Ways and Means:
    I'm honored by this opportunity to discuss with you the 
nation's need for tax reform and the role that consumption 
taxation, particularly a federal retail sales tax, could play 
in enhancing the economy's economic performance and improving 
its distribution of resources.
    Our nation's economy has been performing remarkably well in 
recent years, but our economic success is no reason to be 
complacent about a tax system that is extraordinarily complex 
and highly distortionary and that plays a critical role in an 
overall fiscal system that is likely to visit enormous burdens 
on our children and grandchildren.
    The complexity of the tax code doesn't just drive taxpayers 
crazy. It also costs them a significant amount of time--time 
that could be spent working or time that could be spent 
enjoying life. Having just spent three days doing my taxes, I 
have a refreshed sense of the substantial costs to the man in 
the street and the nation as a whole of complying with the 
federal income tax code.
    The distortions of our tax system also diminish the 
nation's well being, but in ways that are less transparent. 
Today, almost all American households are in combined federal, 
state, and local marginal income tax brackets of roughly 50 
percent. Because governments are collectively confiscating half 
of every dollar most workers earn, most workers work many fewer 
hours than they would were their tax payments independent of 
their labor earnings. And since the government is confiscating 
half of every dollar of income most savers earn on their non 
tax-favored retirement accounts, many Americans choose to spend 
today rather than save for tomorrow.

Tax Reform's Importance for Fiscal Sustainability and 
Generational Equity

    Eliminating complexity and distortions would be cause 
enough for reforming the federal income tax, but there is a 
much more pressing reason: notwithstanding recent wishful 
projections about future government surpluses, our fiscal house 
is not in order. Indeed, getting it in order would require not 
cutting federal income taxes, as some in this chamber advocate, 
but immediately and permanently raising them by over 25 
percent. That assessment comes not from academia, but from the 
Congressional Budget Office and the Federal Reserve Bank of 
Cleveland. A joint CBO-Cleveland Fed generational accounting 
study, to be published next month in the American Economic 
Review, shows that such a tax hike is needed to achieve 
generational balance--a situation in which our children and 
grandchildren will face tax rates that are no higher than those 
we face.
    The 25 percent or greater requisite tax hike is derived 
under the assumption that growth in federal purchases of goods 
and services keeps pace with growth in the overall economy. 
This responsible assumption can be contrasted with the 
irresponsible one underlying the projection of very large 
surpluses over the next few decades. The irresponsible 
projection, whose surpluses are routinely cited by advocates of 
tax cuts and spending hikes, assumes that, as a share of GDP, 
federal spending will decline by 20 percent by the end of this 
decade and by 30 percent by roughly 2040.
    Who am I to say that the federal government won't shrink to 
this extent relative to the economy? Just a parent of a two and 
a nine year old who knows that such shrinkage is highly 
unlikely and that basing policy on that assumption amounts to 
gambling with our children's future--an enterprise worthy of 
neither this Congress nor this administration.
    Our long-term fiscal position is bleak for one 
straightforward reason. Right now there are about 35 million 
older Americans. But waiting in the wings are 78 million baby 
boomers who will start collecting Social Security checks in 
just eight years and Medicare benefits in just eleven years. 
Over the next 30 years, the number of elderly will increase by 
100 percent, while the number of workers will rise by only 15 
percent. This enormous disparity in the growth of the number of 
elderly and in the number of those who will support them would 
be much greater still if the recently convened Technical Panel 
of the Social Security Advisor Board is correct in its 
assessment that the baby boomers will live substantially longer 
then the government's actuaries now predict.
    What does tax reform have to do with addressing the 
generational imbalance in U.S. fiscal policy? Essentially 
everything. To see this, let's start with what a tax reform 
would tax. Since the federal government is currently taxing 
wages and capital income, the only meaningful reform would 
involve taxing consumption on a comprehensive basis (as opposed 
to levying, as it currently does, a few excise taxes). And each 
of the major tax reform proposals advanced in recent years does 
precisely that.
    The retail sales tax clearly taxes consumption. But so does 
the Flat Tax. Just ask Robert Hall, one of the originators of 
the proposal, who describes his Flat Tax as, effectively, a 
Value Added Tax. A value added tax taxes output less investment 
(because firms get to deduct their investment.) Now investment 
equals saving, so taxing output minus investment is taxing 
output minus saving, which is taxing consumption, since output 
minus saving equals consumption.
    The Flat Tax differs from a VAT in only two respects. 
First, it asks workers, rather than firm managers, to mail in 
the check for the tax payment on that portion of output paid to 
them as wages. Second, it provides a subsidy to workers with 
low wages. The first difference is one of form, not substance. 
The second is more important, but doesn't negate the basic fact 
that the Flat Tax taxes consumption.
    So what does taxing consumption have to do with achieving a 
generationally equitable fiscal policy? Again, essentially 
everything. The reason is that the current elderly as well as 
the baby boomers, who will shortly retire, have one primary 
economic activity left to accomplish--consumption. And under a 
consumption tax, they will pay a lot more in future taxes than 
they would under the current tax system. Although the elderly 
as a group would share in the burden of a consumption tax, the 
poor elderly--those living exclusively on Social Security 
benefits--would not because their benefits are indexed to the 
consumer price level and are thus guaranteed in real terms.
    To recapitulate, given the likely path of government 
spending and the inevitable aging of our society, our children 
and our children's children are in for extremely rough 
sledding. Indeed, the CBO-FED study suggests they will face 
lifetime net tax rates \1\ that are 80 percent higher than 
those we face if nothing is done. This generational imbalance, 
rather than the treatment of the rich versus the poor within a 
generation, is the fundamental issue of economic justice facing 
us today. Consumption taxation can address that issue by asking 
the current and near-term elderly to do their fair share in 
helping to achieve generational balance.
---------------------------------------------------------------------------
    \1\ The lifetime net tax rate is defined as the present value (to 
birth) of taxes paid over the lifetime net of the present value (to 
birth) of transfer payments received over the lifetime divided by the 
present value (to birth) of lifetime labor income.

---------------------------------------------------------------------------
Consumption Taxation and Economic Efficiency

    Consumption taxation is needed not just to help our 
children. It is also needed to simplify the tax code and reduce 
effective marginal tax rates. The Fair Tax proposal is a case 
in point. This proposed reform would eliminate both the 
personal and corporate federal income taxes as well as the 
payroll tax, and replace them with a federal retail sales tax 
plus a rebate based on each household's demographic 
characteristics. Compliance costs would be vastly lower under a 
retail sales tax. So would, it seems, enforcement costs. The 
reason is that a broad based sales tax, with no exemptions for 
housing or any other forms of consumption, would feature much 
lower effective marginal tax rates than those we now face and, 
therefore, much smaller incentives to evade taxation.
    The lower effective marginal tax rates under the Fair Tax 
would also mean much smaller economic distortions than 
currently exists. This reflects the proposition, which is well 
known to economists, that the welfare costs of distorting 
economic incentives rises with the square of effective marginal 
tax rates.
    In addition to substantially reducing saving and labor 
supply distortions, a comprehensive retail sales tax would 
eliminate a myriad of other distortions such as the lock-in 
effect on the sale of appreciated assets, the subsidy to health 
insurance associated with the deductibility of premium 
payments, the differential tax treatment of investment in 
different kinds of capital, the tax advantage to debt over 
equity finance, the marriage penalty, and the subsidy to home 
ownership.

Is Consumption Taxation Regressive?

    Consumption taxation has a bad rap among the general 
public. It's viewed as regressive when, indeed, it's nothing of 
the sort. To economists, consumption represents the primary 
measure of economic well-being. So it makes sense to compare 
households' taxes with their levels of consumption to determine 
whether those who are better off pay more than those who are 
worse off. But consumption is financed not just by current 
income, but by lifetime resources, which consists of lifetime 
earnings, lifetime inheritances and gifts received, and initial 
net worth. So comparing a household's taxes with its command of 
economic resources requires comparing its taxes with lifetime 
resources, not current income.
    Since lifetime resources are either consumed or bequeathed 
and since bequests will, themselves, ultimately finance 
consumption, taxing consumption is like taxing lifetime 
resources. If consumption is taxed at a fixed rate, as in the 
case of the Fair Tax and the Flat Tax proposals, the 
consumption tax will be proportional to lifetime resources; 
i.e., the tax would be neither progressive nor regressive, but 
rather proportional.
    So if there were no system of taxation to begin with and we 
introduced a consumption tax, someone with twice the level of 
lifetime resources as someone else would pay twice the amount 
of tax. But we aren't starting from scratch. Instead, we are 
starting from a tax system with some very progressive and some 
very regressive elements. When measured relative to lifetime 
resources, the personal income tax is highly progressive, while 
the payroll tax is highly regressive. And the corporate income 
tax is essentially proportional to lifetime income since it 
reduces the net returns to all households no matter the size of 
their lifetime resources. The fact that the current tax system 
is not strongly progressive and may even be regressive is the 
reason that moving from the current system to the Fair Tax, 
with its progressive rebate, could end up raising the overall 
degree of tax progressivity.
    The lifetime resource perspective leads naturally to 
comparisons of tax burdens within a cohort, since the lifetime 
resources of the young and old will be quite different simply 
because of their ages. Among the elderly, the Fair Tax would be 
particularly progressive because a federal sales tax would 
lower the purchasing power of the rich elderly who live off 
their assets, but not the poor elderly, whose primary means of 
support--Social Security benefits-would be automatically raised 
in response to a sales-tax induced increase in the price level. 
Hence, the Fair Tax features not just a demographic rebate, but 
also, implicitly, a rise in Social Security benefits. If 
government transfers to the poor young were also effectively 
indexed to the price level, the adoption of the Fair Tax would 
also trigger a rise in those transfer payments as well.\2\
---------------------------------------------------------------------------
    \2\ This sentence and the one preceding it assume the price level 
will rise with the adoption of the Fair Tax. If the Federal Reserve 
used its monetary policy to maintain the consumer price level, the 
adoption of the Fair Tax would entail a decline in the level of 
producer prices and, thus, the nominal wages and capital income 
received by productive factors. Under this scenario, government 
transfers, if they weren't reduced in nominal terms, would end up 
maintaining their purchasing power, while factor payments would not. 
I.e., the same real redistribution toward the poor would arise.
---------------------------------------------------------------------------
    Were the very staid and well established businessmen and 
women who advocate the Fair Tax to proclaim that their tax 
reform 1) levies a tax on the holdings of wealth, 2) provides a 
highly progressive tax rebate, and 3) implies an increase in 
Social Security benefits and, most likely, transfers to the 
poor, they would probably be viewed as members of a vast left-
wing conspiracy. But this is precisely what they are 
recommending.
    The fact that a consumption tax is, in part, a tax on 
wealth is well know to public finance economists, but not to 
the general public. The reason is that when a consumption tax 
is levied, it lowers the amount of actual consumption that can 
be purchased with a given amount of wealth since some of the 
wealth must be spent on the consumption taxes. Stated 
differently, the imposition of a consumption tax visits an 
immediate real capital loss on wealth holders because their 
assets no longer have as large a claim on current or future 
consumption.
    My sense is that the Fair Tax would be more progressive 
than the current system when assessed on a cohort-by-cohort 
basis and measured relative to lifetime income. However, 
knowing the actual degree to which the Fair Tax would enhance 
intragenerational progressivity requires additional empirical 
research based on lifetime models of consumption and saving. 
Such research is now underway, and I would expect that a year 
from now we'll have a pretty clear picture of the policy's 
potential impact on the distribution of resources within each 
generation.

The Long-Term Impact of Consumption Taxation on the Economy

    In contrast to the limited empirical analysis of 
consumption taxation that has been conducted to date, 
consumption taxation has been studied extensively with large-
scale life-cycle simulation models. My own research and that 
with Alan Auerbach, Cleveland Fed David Altig, Kent Smetters, 
and Jan Walliser indicates that the Fair Tax would raise the 
economy's living standard over the long term by roughly 15 
percent.\3\ This long-run increase in output is generated by a 
major long-run increase in capital formation and a modest 
increase in labor supply.
---------------------------------------------------------------------------
    \3\ See Kotlikoff, Laurence J., ``Replacing the U.S. Federal Tax 
System with a Retail Sales Tax--Macroeconomic and Distributional 
Effects,'' mimeo, December 1996 and Altig, David, Alan J. Auerbach, 
Laurence J. Kotlikoff, Kent Smetters, and Jan Walliser, ``Simulating 
Fundament Tax Reform,'' forthcoming, The American Economic Review, 
2001.
---------------------------------------------------------------------------
    Part of the reason that consumption taxation stimulates 
saving and labor supply is its improved incentives to work and 
save. But the primary reason involves the shifting of fiscal 
burdens away from young savers and onto old spenders. It is a 
little know, but extremely important fact that the elderly in 
our country have much higher propensities to consume out of 
their remaining lifetime resources than do the young and 
certainly than do the unborn, whose propensities to consume in 
the present is, of course, zero. The fact that the elderly 
consume their remaining resources at a higher rate than other 
generations is precisely what the standard economic theory of 
saving--the life cycle model of Nobel Laureate Franco 
Modigliani--predicts. This explanation for this prediction is 
intuitive; the elderly are closer to the end of their lives 
than are the young and are, therefore, running short on time to 
spend their resources. To compensate, they have to spend at a 
faster rate.
    As described in Gokhale, Kotlikoff, and Sablehaus (1996), 
essentially all of the decline in the rate of U.S. saving in 
the postwar period can be traced to the government's five-
decade long policy of taking ever larger sums from the young 
and giving them to the old.\4\ This intergenerational 
redistribution, carried out primarily through Social Security, 
Medicare, and Medicaid, has led to a dramatic rise in the 
absolute and relative consumption of the elderly. Since 1960, 
for example, the elderly's share of economy-wide consumption 
has increased more than four times fast than has their share of 
the population. Typical 70-year olds are now consuming roughly 
twice the amounts consumed by typical 30-year olds. In 1960, by 
contrast, 70-year olds consumed less than three quarters of the 
amounts consumed by 30 year olds.
---------------------------------------------------------------------------
    \4\ Gokhale, Jagadeesh, Laurence J. Kotlikoff, and John Sablehaus, 
``Understanding the Postwar Decline in U.S. Saving: A Cohort 
Analysis,'' The Brookings Papers on Economic Activity, no. 1, 1996, 
315-90.
---------------------------------------------------------------------------
    In shifting to a consumption tax, the U.S. would shift more 
of the tax burden onto the current middle class and rich 
elderly and partly reverse the postwar process of taking from 
the young and giving to the old. In addition to depressing 
national consumption and raising national saving, the switch to 
consumption taxation would, as indicated above, ameliorate our 
grievous imbalance in generational policy.
    The simulation studies also show substantial long-run 
welfare gains for all lifetime income classes from switching to 
consumption taxation. Indeed, under the Fair Tax, the initial 
upper income elderly are the only ones to suffer welfare losses 
during the transition.

Tax Rates

    Simulation analysis and a variety of empirical calculations 
suggest that the retail sales tax rate needed for revenue 
neutrality under the Fair Tax, assuming no decline in the real 
value of government purchases, would be roughly 30 percent when 
measured on a tax-inclusive basis. This tax rate could be 
expected to decline by 3 or so percentage points over time as 
the economy expands. Moreover, if the Fair Tax were structured 
to include the consumption of existing housing services in its 
tax base, the initial Fair Tax rate would probably be about 3 
percentage points lower. This could be accomplished by 
assessing the tax on the imputed rent on housing, where the 
calculation of imputed rent is based on a fair market valuation 
of housing real estate. This valuation could be done by local 
municipalities in the course of appraising houses for local 
property taxes.
    A tax-inclusive consumption tax rate of 30 percent 
translates into a tax-exclusive consumption tax rate of 43 
percent. While the 43 percent rate sounds very high, proper 
comparison of the Fair Tax tax rate with the current payroll 
and income tax rates requires evaluating the consumption tax 
rate on a tax-inclusive basis. Even a 30 percent tax rate may 
sound like a high rate. But one needs to bear in mind that 
middle and upper income households in America are typically in 
combined income tax and payroll tax marginal tax brackets of 40 
percent or more and that low income Americans are typically in 
even higher tax brackets once one considers the phase out of 
the earned income tax credit. Hence, given the state of U.S. 
marginal taxation, 30 percent is a low number.
Transition Issues

    Shifting to a consumption tax requires thinking carefully 
about transition issues. In the case of the Fair Tax, one would 
want to make sure that the vast sums that have been accumulated 
tax free in retirement accounts not avoid taxation. How this 
could be accomplished fairly and quickly is not altogether 
clear. But what is clear is that the large amount of revenue to 
be raised here could help limit the size of the Fair Tax Rate. 
Note that this problem doesn't arise under the Flat Tax because 
the Flat Tax maintains an explicit tax on labor income and 
retirement account withdraws are included in the labor income 
tax base.
    While the Flat Tax deals with this transition issue much 
more easily than does the Fair Tax, the Fair Tax avoids the 
potential for special transition rules that would favor 
existing business capital under a Flat Tax and, thereby, 
dissipate the tax's implicit taxation of existing wealth.

Transparency and Perceived Fairness

    The Fair Tax would be easily understood by the general 
public, and it would be clear to all that everyone--rich and 
poor alike--pays the tax. In contrast, under the Flat Tax, 
wealthy individuals who have no labor income will appear to be 
paying no tax when, in fact, they will implicitly do so through 
the revaluation downward of the market value of their assets, 
assuming no special transition rules in behalf of those assets.

Conclusion

    The Fair Tax has a lot to recommend it. It would most 
likely help the poor more than the rich. It would substantially 
improve the economy's economic performance. It would save 
Americans enormous amounts of time complying with the 
bewildering provisions our current tax code. And it would 
redress the grave intergenerational imbalance America still 
faces with respect to its fiscal policy.

                                


    Chairman Archer. Thank you, Dr. Kotlikoff.
    Mr. Wilkins?

   STATEMENT OF JOHN G. WILKINS, MANAGING DIRECTOR, BARCROFT 
 CONSULTING GROUP, ON BEHALF OF THE NATIONAL RETAIL FEDERATION

    Mr. Wilkins. Thank you, Mr. Chairman. My name is John 
Wilkins. I am managing director of the Barcroft Consulting 
Group, and I am here on behalf of the National Retail 
Federation. My statement reports on the findings of a 
PricewaterhouseCoopers study, of which I was principal author.
    Nine years ago, Mr. Chairman, I testified before this 
committee on international competitiveness, and I observed that 
a greater reliance on taxing consumption and a lesser reliance 
on taxing income would be healthy for the economy. I continue 
to hold that view, but I do not subscribe to abandoning the 
income tax altogether and replacing it with a sales tax. Our 
study shows that there could be very harmful results in the 
short run as a consequence of that action.
    In the early 1990s, Coopers & Lybrand undertook to develop 
an economic model that combined the personal income tax and the 
corporate income tax models that are used by the Joint 
Committee of Taxation's staff and the Treasury's staff for 
revenue-estimating purpose, combining those with a large-scale 
macroeconomic forecasting model, retaining the best features of 
all three models.
    Unlike many other models, the model includes foreign trade 
and other international transactions. The model permits the 
economy to be in disequilibrium, which is important during 
transition periods. The model's database includes 100,000 
households and 15,000 corporations; whereas, other models 
sometimes have only a handful or sometimes only one. The model 
tracks 85 different industries, producing 85 different 
products.
    However, the most distinguishing feature and important 
characteristic of the model is that it focuses on the near 
term. It forecasts detailed information on the performance of 
the economy on a year-by-year basis as the economy makes the 
transition to a national sales tax regime. And the model shows 
that this transition may not be nearly as smooth or as simple 
as we may like.
    Much of the discussion today surrounding the sales tax is 
centered on the tax rate. On the usual tax-exclusive basis of 
State sales tax rates, the rate for H.R. 1467 would be 18.8 
percent if there were 100-percent compliance, there were no 
exemptions or transition rules and only revenue and not the 
budget were required to be kept in balance. The Fair Tax rate 
would be somewhat higher because it also repeals the payroll 
tax.
    Since tax changes will affect the spending side of the 
budget, as well as the revenue side, a more meaningful measure 
of budget neutrality would raise that 18-percent rate I 
mentioned to 24 percent. However, that rate would still rely on 
what I would consider an unrealistic assumption that compliance 
will be 100 percent. If compliance turns out to be no better 
than it is under the Federal income tax, then that rate would 
have to go up further to 29 percent. And if financial services, 
rental housing and employer-provided fringe benefits are taken 
out of the base, as many believe would eventually be the case, 
then the budget-neutral tax rate goes up to 37.5 percent. Last, 
if States add on their income tax and their sales tax in a 
piggyback fashion, which would undoubtedly be the case, then 
the rate facing consumers would be 53.6 percent and could rise 
to 64 percent, if compliance slips down to the level applicable 
to proprietors' income.
    In the long run, the economy will perform better under a 
sales tax. By 2010, we predict that real GDP would be up some 
$178 billion, real personal consumption will be up $16.5 
billion, national savings will be up thanks to higher personal 
savings and higher corporate savings. These salutary 
accomplishments are similar in direction, if not magnitude, to 
the long-term findings of other studies you will hear about.
    It is the short-term results, however, that concern me. In 
the short run, there will be a speed-up of consumer purchases 
in anticipation. This will cause a temporary economic downturn 
when the tax actually becomes effective. The economy will 
shrink by 1.1 percent in the first year of the tax and GDP will 
remain below the baseline until the fourth year. Personal 
consumption will be lower, in real terms, until the ninth year; 
corporate profits will be about 2 percent lower, on average--
although some will be higher and some will be lower than that 
throughout the tenth year. After that period, we see profits 
rising. Employment will be lower than expected through the 
fourth year of the tax with 1.5 billion jobs lost; prices are 
predicted to rise by roughly the tax rate, although eventually 
the price rise will subside as the economy picks up steam; and 
investment will increase some 7 percent, with roughly a third 
of that financed by foreign capital. Corporations will finance 
about half of their new investment through retained earnings.
    In conclusion, keeping within my 5 minutes, Mr. Chairman, 
while it is important, very important, to seek a fairer and 
simpler tax structure--as you have explained--to replace the 
incredibly complex code we have today, swapping the income tax 
for a sales tax is an experiment that could bring our 
flourishing economy down. It is not one we ought to be trying 
now.
    Thank you, Mr. Chairman.
    [The prepared statement follows:]

STATEMENT OF JOHN G. WILKINS, MANAGING DIRECTOR, BARCROFT CONSULTING 
GROUP, ON BEHALF OF NATIONAL RETAIL FEDERATION

    Mr. Chairman and Members of the Committee:
    I am managing director of the Barcroft Consulting Group and 
I am here on behalf of the National Retail Federation. My 
statement reports on the findings of a study undertaken by 
PricewaterhouseCoopers (``PWC'') for the National Retail 
Federation Foundation. I was principal author of that study, 
which examines the economic impact of substituting a national 
retail sales tax (``NRST'') for the federal income tax.

Introduction

    Nearly nine years ago, I testified before this committee on 
the issue of international competitiveness and the role of 
income taxation. In that statement, I noted that the United 
States relied less on consumption and more on income taxes to 
finance government than virtually all of the other 
industrialized nations--even when state retail sales taxes are 
included in the equation. Although our income tax structure is 
by no means a pure income tax--having some elements of a 
consumption tax mixed in with an income tax--I nonetheless 
observed that a greater reliance on taxing consumption and less 
reliance on taxing income, would be healthy for the economy by 
spurring savings and helping keep income tax rates low. That 
was 1991 and this is 2000. And I continue to hold that view.
    While I applaud the desire of the chairman to replace the 
current tax code with something that is simpler and fairer, I 
do not, however, subscribe to abandoning an income tax 
altogether and replacing it with a national sales tax. As our 
study shows, this could have very harmful short-term and mid-
term economic results. In light of the remarkable economic 
achievements of the past decade, it would be foolish to simply 
get rid of a tax structure under which the economy is 
flourishing and replace it with an untried system with 
uncertain economic consequences.
    The PWC study, largely completed last year when I was 
director of PricewaterhouseCoopers' national economic 
consulting group, focuses on the economic impact of replacing 
the income tax with a national sales tax similar to the Fair 
Tax proposal. The proposal examined was H.R. 1467 rather than 
H.R. 2525, which had not been introduced at the time of the 
study. One significant difference is that H.R. 1467 does not 
repeal federal payroll taxes while the Fair Tax, H.R. 2525, 
does and consequently requires a higher tax rate.
    What follows is a discussion of (1) why the PWC dynamic 
model is particularly capable of recognizing the effects of a 
national sales tax on the economy in general and on retailers 
in particular; (2) why the proposed national sales tax rate 
could eventually be much higher than proponents advertise due 
to likely exclusions, the need for budget neutrality, and 
transition rules; and (3) what impact this kind of tax would 
have on short-term and long-term economic growth, consumption, 
corporate profits, employment, and trade.

The Dynamic Estimating Model

    In the early 1990s, Coopers & Lybrand undertook to develop 
an economic model that was missing from the arsenal of tax 
analysis tools available to government economists and others 
concerned with the potential economic impact of fundamental tax 
reforms. The traditional microsimulation models used by the 
staff of the Joint Committee on Taxation (``JCT'') and the 
Treasury Department's Office of Tax Analysis for revenue 
estimating purposes are based on large samples of individual 
and corporate taxpayers and consequently are ideal for 
analyzing the impacts of tax law changes on the taxpayer 
population. These models are not, however, capable of analyzing 
the impact of fundamental tax reforms on the economy. For such 
analysis economists turn to macroeconomic models. 
Unfortunately, macroeconomic models are rarely designed for tax 
analysis: they frequently have only two or three producing 
sectors; some have only a single household or a handful of 
households to represent the entire population of taxpayers and 
consumers; and most examine the economy only when it is in 
equilibrium, with labor and other resources artificially 
restricted to be at full employment.
    The PWC model was designed specifically for analysis of tax 
reforms, such as the replacement of the income tax with a NRST. 
In order to retain the benefits of the microsimulation models 
used by the JCT and the Treasury, the PWC model has three 
prongs, incorporating two microsimulation models with a 
macroeconomic forecasting model. The two microsimulation models 
are an individual income tax model with 100,000 separate tax 
return records and a corporation income tax model with 15,000 
synthetic tax return records. The third prong of the overall 
model is a macroeconomic forecasting model that provides year-
by-year short-term forecasts of the economy as well as mid-term 
and longer-term forecasts. Importantly, the PWC model has the 
following traits that distinguish it from most other models:
     The PWC model contains an open economy, allowing 
changes in foreign trade, cross-border investment flows and 
exchange rate adjustments. Many models are restricted to closed 
economies that ignore the existence of foreign trade and other 
international transactions.
     The PWC model permits the economy to be in 
disequilibrium during transition periods. Most other models 
artificially force the economy to always be in equilibrium, 
with no unemployment of labor and other resources--even during 
periods of transition from an income tax to a sales tax.
     The PWC model's database includes records for 
100,000 households and 15,000 corporations. Most models include 
only a handful of households and corporations. Sometimes only 
one household represents the entire household sector.
     The PWC model tracks 85 different industries, 
producing 85 different products for intermediate and final 
sales.
    Most models represent the entire producing economy with 
only two or three industries frequently producing only two or 
three different classes of goods.
    The most important distinguishing characteristic of the PWC 
model is that it focuses on the near and intermediate term. The 
key feature is the model's ability to forecast detailed 
information on the performance of the economy on a year-by-year 
basis as the economy makes the transition from an income tax 
structure to a sales tax structure. The PWC model shows that 
this transition is not nearly as smooth and simple as some 
sales tax proponents would like. It is this ability of the 
model to provide short-term transition results on an annual 
basis that provided the main impetus for its construction.
    The PWC model has been used successfully to evaluate a wide 
range of tax proposals, from the recommendations of the Kemp 
Commission to the national sales tax. The model was also used 
to produce dynamic revenue estimates for the January 1997 
symposium on dynamic revenue estimating sponsored by the staff 
of the Joint Committee on Taxation.

Required Tax Rates

    Much of the discussion surrounding national sales taxes 
centers on the required tax rate. This rate depends obviously 
upon the tax base--all consumption or some portion of 
consumption after certain exclusions. It further depends upon 
the amount of taxes to be replaced on a neutral basis. It also 
depends upon the degree of compliance--100 percent or some 
lesser fraction as is the case with the income tax. Lastly, it 
depends upon mitigating provisions such as increased social 
security benefits for the elderly designed to prevent too much 
double taxation of their lifetime earnings, family allowances 
designed to prevent some of the associated redistribution of 
tax burden and other transition rules designed to lessen short-
term economic disruptions.
    Tax Exclusive and Tax Inclusive Tax Rates. The discussion 
of tax rates is confused by the practice of proponents of the 
NRST to couch the rate in so-called tax inclusive terms. Sales 
tax rates are usually considered on a tax exclusive basis. 
Under this normal tax exclusive concept, for example, a $30 tax 
on a $100 item is considered to represent a 30 percent tax 
rate. The consumer would pay the retailer $130, $30 of which 
would be forwarded to the tax authorities.
    Proponents of national sales taxes like to measure the tax 
rate in this example by dividing the $30 tax by the tax 
inclusive price, which is $130. The tax rate calculated this 
way would be only 23 percent (30/130). Under the tax inclusive 
rate concept, confusion is likely to arise when a customer is 
quoted a 23 percent tax inclusive rate on a $100 purchase and 
finds the sales clerk asking for $130.00 ($100 plus $30 tax) 
rather than the expected $123.00 ($100 plus $23 tax). The 
confusion will be reinforced by the fact that all state sales 
taxes are always quoted on the normal tax exclusive basis.
    Revenue Neutral vs. Budget Neutral Tax Rates. A second 
concern in determining the appropriate rate for a national 
sales tax that would replace other existing federal taxes 
involves the concept of neutrality. Most believe that any 
replacement tax ought to be neutral: the government should be 
left as well off under the replacement tax as it is under the 
current tax structure. Independent of its political appeal, 
neutrality focuses the spotlight on the economic pluses and 
minuses that could result from restructuring the tax system as 
opposed to the consequences of making the government bigger or 
smaller, which can be done without restructuring the tax 
system.
    There are two ways to identify neutrality (revenue and 
budget) and two ways of measuring neutrality (static and 
dynamic). Revenue neutrality means that the replacement tax 
raises the same revenue as the current tax. Budget neutrality 
means that the replacement tax leaves the overall budget 
surplus (or deficit) unchanged. Budget neutrality is the better 
measure because it recognizes that, by influencing the price of 
government purchases, interest rates, or transfer payments, for 
example, tax changes can affect the spending side of the budget 
as well as the revenue side.
    Static measurement of budget neutrality fails to take 
account of how a replacement tax influences the budget by 
accelerating or retarding economic growth. Dynamic measurement 
of budget neutrality corrects this shortcoming by taking into 
account macroeconomic effects, such as a short-term change in 
the level of employment, that can affect government spending 
and revenue. The dynamic measure of budget neutrality is the 
most meaningful concept for a replacement tax.
    These concepts can be illustrated as follows. According to 
the PWC model, a very broad-base national sales tax, such as 
the Tauzin-Traficant proposal to replace the current federal 
personal and corporate income taxes, the federal estate and 
gift tax, and most federal excise taxes would require a tax 
exclusive rate of 18.8 percent under the somewhat unrealistic 
assumption of 100 percent compliance and revenue neutrality. 
This rate would be a 15.8 percent rate on a tax inclusive 
basis, reasonably close to the 15 percent claimed by the 
sponsors. In order to maintain budget neutrality--even on a 
static basis--the rate would have to be raised from 18.8 
percent to 24.5 percent. This is because the federal government 
would want to fully maintain the purchasing power of all 
transfers payments (social security, welfare, unemployment, 
etc.) in order to protect the elderly, the poor, and other 
transferees. In order to do so, these transfer payments must be 
increased by the amount of the tax on the goods and services 
they would purchase. Holding recipients of federal government 
transfer payments harmless in this manner while maintaining 
real federal spending on goods and services requires a budget-
neutral NRST rate of 24.5 percent (or 19.7 percent on a so-
called tax-inclusive basis)--still figured at an unrealistic 
100 rate of compliance.
    On a dynamic basis, this 24.5 percent budget neutral tax 
rate could be lowered slightly to 24.1 percent by the tenth 
year of the tax, thanks to a somewhat improved economy; 
however, there are still other concerns involving base erosion 
and compliance that need to be factored in before an ultimate 
budget neutral tax rate can be determined.
    Compliance. Most experts concede that it is difficult to 
estimate the rate of compliance under a NRST. What is not in 
dispute, however, is that the compliance will be lower the 
higher the NRST rate. Moreover, while state sales tax rates 
appear to have relatively high rates of compliance, these 
compliance rates are not comparable to the NRST. State sales 
tax compliance is high because the sales tax rates are 
relatively low--typically 4 to 6 percent--and their tax bases 
are relatively narrow. Unlike the value added tax, there is an 
incentive on the part of both consumers and sellers to avoid 
the tax. Individuals could easily avoid the NRST in a number of 
ways, such as disguising personal consumption expenditures as 
business costs that would not be subject to tax.
    If tax compliance is no better than the 83 percent overall 
compliance rate under the federal income tax, the budget 
neutral tax rate would have to be raised from 24.1 percent to 
29.0 percent. If compliance matches compliance rate for 
proprietors under the federal income tax, then the budget 
neutral rate would be raised another 5.9 points to 34.9 
percent. Keep in mind that the compliance rates under the 
income tax are strengthened by forced compliance of withheld 
tax on wages and by numerous checks and balances payer-provided 
information returns and audits.
    Exemptions and Allowances. Many have observed that 
enactment of a NRST would encourage many special exemptions 
from the base. Three of the most frequently mentioned are:
     removing consumption of financial sector services 
entirely from the base, since the taxation of such services is, 
at best, extremely complicated and would be difficult to 
administer;
     removing rental housing services and the resale of 
existing homes from the tax base so as to continue a current-
law tax preference and to mitigate problems arising from 
unequal treatments of owner-occupied and rental housing; and
     removing employer-provided fringe benefits from 
the tax base so as to vastly simplify the tasks of businesses, 
which would otherwise be untaxed.
    The effect of removing these items from the NRST base would 
cause the budget neutral tax rate to rise to 37.5 percent with 
compliance equal to overall income tax compliance and to 45.1 
percent with compliance equal to income tax compliance of 
proprietors.
    Effect of State and Local Tax Piggybacking. Once states 
lose their ability to piggyback their income taxes off the 
federal income tax, it is anticipated that many would elect to 
instead piggyback their revenue needs by adding a state sales 
tax rate to the federal rate. For consumers, this would further 
boost the overall rate on consumption to 53.6 percent assuming 
overall income tax compliance and to 64 percent assuming 
proprietor's income tax compliance. These figures assume the 
above exemptions and allowances would be established.
    The PWC model is not alone in estimating tax rates for the 
NRST that are considerably higher than proponents frequently 
cite. A National Bureau of Economic Research study place the 
tax rate at 27.3 percent if payroll taxes are not included in 
those taxes to be replaced and 45.4 percent if payroll taxes 
are also replaced. A Joint Economic Committee (``;JEC'') study 
concluded that the NRST rate would have to be at least 32 
percent unless imputed items of consumption, like ``rent'' that 
the national income accounts assume homeowners pay themselves 
were also included in the base. Furthermore, if food, medicine, 
and physician's services were excluded (as is commonplace among 
many state sales taxes) the rate would have to rise from 32 
percent to 49.3 percent. Alternatively, they found that if all 
services were excluded from the base but food and medicine 
continued to be taxable, the rate would have to rise to 64.6 
percent.

Impact of the NRST on the Economy

    In the long run, the economy will perform somewhat better 
under a NRST. The results of the PWC model show:
     By 2010 real GDP will be higher by $178 billion 
(1.8 percent) and will remain above baseline throughout the 
forecast period.
     By 2010 real personal consumption expenditures 
will be higher by $16.5 billion (0.3 percent) and will remain 
above baseline throughout the forecast period.
     Throughout the forecast period national private 
savings is higher than under the baseline thanks to higher 
personal savings as consumers delay consumption and higher 
corporate savings as businesses reinvest a large portion of 
undistributed corporate profits.
    These salutary accomplishments are similar in direction to 
findings of other studies. Only the magnitudes may differ. It 
is in the short run that the PWC study finds harmful results.
    Economic Growth. Gross domestic product (``;GDP''), the 
value of all goods and services produced in the country, would 
increase in real terms in anticipation of the enactment of the 
NRST, as consumers speed up purchases they would otherwise make 
at a later date.
    The aftermath of the speedup is a sharp economic downturn 
in the year the tax becomes effective. Instead of achieving an 
expected 2.0 percent rate of real growth in 2001, the assumed 
first year of the tax, the economy would shrink by 1.1 percent. 
Although the economy would begin to grow again in subsequent 
years, it would take until the fourth year of the tax for GDP 
to reach its pre-NRST level. Before the economy fully 
recovered, the cumulative loss in real GDP (measured in 1992 
dollars) would reach $180 billion and annual employment would 
dip by 1.5 million jobs. By 2010, real GDP under the NRST would 
be 1.8 percent above the level that the current income tax 
would have achieved. Given a growth forecast of about 2.3 
percent per year, the 1.8 percent of additional GDP represents 
only a 9-month speedup in economic growth over a ten-year 
period.
    Consumption. Personal consumption expenditures in real 
terms would be below the current-law baseline until the ninth 
year after the NRST was introduced. During the 2001-2008 
period, the cumulative decline in consumer spending (measured 
in 1992 dollars) would exceed $500 billion. Over the first five 
years of the tax, consumption would be 1.5 percent lower on 
average than it would be under current-law tax; and over the 
second five years, consumption would be down 0.2 percent from 
expected levels.
    The overall drop in consumption and the subsequent pickup 
as the economy recovers masks many important details. 
Consumption changes will vary greatly according to income 
levels and according to items of consumption. Changes in 
consumer purchases reflect the fact that the NRST generally 
shifts the tax burden away from higher income families and 
toward lower income families. Although the poorest of the poor 
may be roughly compensated for their loss of the refundable 
earned income credit by repeal of the payroll taxes, the 
moderately poor and many in the vast middle class must have 
higher overall tax burdens in order to balance those with the 
highest incomes whose consumption taxes would be far smaller 
than their income taxes. Households with incomes in the bottom 
fifth of the income scale would have to reduce their purchases 
of durable goods by 13 percent on average for the second five 
years after introduction of the NRST and purchases of 
nondurable goods by 6 percent. In contrast, households with 
incomes in the top fifth of the income scale would increase 
their purchase of durables by an average of 2.4 percent and 
their purchases of nondurables by 0.3 percent for that same 
period.
    Saving and Investment. In nominal terms, the net private 
saving of U.S. residents and businesses under the NRST would be 
about 18 percent higher than under current law for the ten-year 
period, 2001-2010. Government saving is assumed to be virtually 
unaffected (that is, the NRST is assumed to be a budget-neutral 
replacement for current-law taxes that would be repealed). For 
that same period, personal saving would be higher by about 15 
percent. The nominal dollar increase in private saving would 
come about equally from personal saving and corporate saving. 
Corporations would be expected to finance about half of all 
induced new investment through their own saving, by retaining 
approximately 15 percent of the repealed corporate income tax. 
The remaining 85 percent of the corporate income tax would be 
distributed to shareholders in the form of increased dividends.
    Over the ten-year period, 2001-2010, induced gross private 
domestic investment would add another 7 percent to the amount 
of nominal investment under current law. This increase in 
investment is nearly twice as large as the increase in gross 
national saving. Consequently, roughly half of all induced 
investment is foreign-owned investment flowing into the United 
States in response to lower financing costs and the elimination 
of the Federal corporate tax on equity income. Although most of 
the growth in real investment occurs in the business sector, 
most of the increase in nominal investment can be attributed to 
the rise in the price of residential investment due to the tax 
on new construction under the NRST.
    Corporate Profits. On average, corporate profits are about 
2 percent lower over the ten-year period, 2001-2010; however, 
there are notable exceptions for certain industries and certain 
years. In the aggregate, profits return to the level expected 
under current law by the year 2010, and are expected to improve 
thereafter.
    Employment. Due to the near term decline in consumer 
spending, private sector jobs and civilian employment are 
expected to be lower than they would be under current law 
through the fourth year of the NRST. The near term estimate 
would indicate a drop of 1.5 million jobs. Thereafter, jobs and 
employment will pick up. The labor force is expected to expand 
by about 1 percent as potential second earners and others are 
lured into the workplace by vastly lower taxes on wages and 
salaries and entrepreneurial income.
    Anticipatory Consumption Speedup. Introduction of a NRST is 
expected to create a speedup in purchases of goods and services 
between the time the tax is announced and the time it becomes 
effective. If the NRST were imposed as of January 1, 2001, a 
surge in personal consumption of both domestically produced and 
imported goods and services would occur in 2000. In addition, 
equipment investment would accelerate to take advantage of 
depreciation deductions in the year 2000 before the income tax 
is repealed. Together, these factors produce a temporary drop 
in personal saving and a temporary rise in the real rate of 
economic growth in 2000. Real GDP in 2000 is estimated to be 
2.8 percent above the level that would have been obtained in 
the absence of a proposed NRST. Thereafter, real GDP is 
depressed by $180 billion from 2001 through 2003. By 2004, real 
GDP has recovered to pre-tax change levels, and remains above 
the pre-tax change baseline throughout the remainder of the 
forecast period.
    After the speedup in spending in 2000, personal consumption 
expenditures remain $500 billion lower than they would 
otherwise be until the year 2009. In other words, during the 
first eight years of the NRST, consumption would be depressed 
as families and individuals respond to the tax by saving more 
and spending less. It is only after disposable income increases 
sufficiently that consumption picks up enough to pass the pre-
tax change baseline level.
    Real investment in equipment is down in 2002 from the pre-
tax change baseline due to the tax-motivated speedup of 
investment into 2000. Thereafter, equipment investment is 
higher as businesses respond to a lowered cost of capital. Real 
investment in non-residential structures is down in 2003 and 
2004, but picks up significantly after 2004. However, real 
investment in residential structures remains below pre-tax 
change baseline levels over the entire 2002-2010 period.
    Prices. Prices for consumer goods and services quickly rise 
by the amount of the tax, and then some. The portion of the 
price increase in excess of the tax is due in part to the 
higher cost of imports (from the weaker dollar) coupled with 
the ability of some domestic producers of competing goods to 
hike their price to that of imports. Consumer prices similarly 
rise 25 percent--roughly the nominal rate of sales tax, 
unadjusted for any exemptions or transition rules--by 2002 and 
gradually drop from that peak to a level that remains about 18 
percent above the pre-change baseline.
    Examined on a year-over-year basis, these price increases 
generally amount to a large, one-time hike in prices as the 
NRST is imposed, with some moderation of this increase in the 
longer run. Due to a weaker dollar, merchandise import prices 
increase by nearly 4 percent shortly after the NRST is imposed 
and are 6.5 percent over baseline levels in 2010. Merchandise 
export prices are also above baseline levels. In 2001 and 2002 
they are nearly 3 percent above the baseline. However, due to 
lower interest rates, which reduce business costs, export 
prices are only slightly greater than baseline levels for most 
of the remainder of the forecast period. The overall impact on 
prices is measured by the change in the GDP deflator, which 
initially rises 20 percent above the baseline price level 
before settling back to a 13 percent price rise relative to the 
baseline.
    The notion espoused by some that pre-tax prices would drop 
some 20-30 percent under a NRST (so that after-tax prices would 
not rise and may even decline) is a peculiar one. This could 
only happen if all of the personal income tax, the corporation 
income tax and payroll taxes are currently embodied in retail 
prices. Tax incidence--that is, who actually bears the ultimate 
tax burden--is an elusive question that has been the focus of 
many economic papers, because the answer is not clear. However, 
the general consensus among economists is that perhaps a 
portion of the corporate income tax may be passed on to 
consumers in the form of higher prices, but that the majority 
is ultimately paid by corporate owners in the form of lower 
after-tax profits and by employees in the form of lower 
compensation. Most economists concede that personal income 
taxes and payroll taxes are ultimately borne by labor and are 
not passed on to consumers in the form of higher prices.
    Nominal Output. In nominal terms, personal consumption 
expenditures are expected to be above their baseline level by 
$1,582.9 billion per year on average for the 2006-2010 period. 
This represents an increase of 18.3 percent over the average 
that would have occurred in absence of the NRST. Note, because 
prices would be 18.5 percent higher, on average, for this 
period, this nominal increase is consistent with a slight real 
decline in real consumption expenditures during this same 
period.
    Trade. Merchandise exports and imports are both impacted by 
the NRST. Exports are made relatively cheaper to foreigners 
because the dollar is somewhat weaker under the NRST. Imports 
are subject to the NRST and are also more costly for U.S. 
consumers to buy due to the weaker dollar. As expected, in real 
terms, exports grow about 4.3 percent over the baseline during 
the last five years of the forecast period, 2006-2010; and 
imports drop an average of about 1.6 percent during that same 
period. In nominal dollar terms, both exports and imports are 
larger than under current law due to the sharp price increases 
for imports discussed above. Real net merchandise exports 
increase by $448 billion (in 1992 dollars) over a ten-year 
forecast period. However, over the same ten-year period, net 
merchandise exports in nominal dollars decline by $68 billion 
relative to the baseline. This nominal merchandise trade 
deficit helps to finance domestic investment.

Conclusion

    If a NRST is enacted, the U.S. economy would lag behind for 
at least three years and employment would dip by more than one 
million jobs. Beneficial effects would not be felt for at least 
five years after adoption. While it is admirable to seek a 
fairer and simpler tax structure to replace the incredibly 
complex income tax code, trading an income tax in for a 
national sales tax is an experiment that could bring serious 
harm to a flourishing national economy. Uncertain long-run 
benefits are far insufficient to risk the short-run setbacks in 
virtually all sectors of the economy.

                                


    Chairman Archer. Thank you, Mr. Wilkins.
    Our next witness is Dr. Metcalf. You may proceed, Doctor.

STATEMENT OF GILBERT E. METCALF, PROFESSOR OF ECONOMICS, TUFTS 
  UNIVERSITY, MEDFORD, MASSACHUSETTS, AND RESEARCH ASSOCIATE, 
              NATIONAL BUREAU OF ECONOMIC RESEARCH

    Mr. Metcalf. Thank you. I am Gilbert Metcalf, a professor 
of economics at Tufts University and a research associate at 
the National Bureau of Economic Research.
    I appreciate the opportunity to speak before this committee 
on the topic of tax reform, and I would like to focus, first, 
on the issue of fairness or progressivity, and second on the 
issue of the relative merits of a national retail sales tax 
versus alternative consumption tax proposals.
    First, the issue of progressivity. As has been noted 
before, consumption taxes look very regressive when households 
are distributed by annual income. People tend to earn the 
highest incomes in their life around middle age and the lowest 
incomes in their youth and old age. And consequently, in an 
annual income analysis, lower income groups are likely to 
include some young and elderly people who are not poor in a 
lifetime sense. Similarly, higher income groups are likely to 
contain some people at the peak of their age earnings profile, 
for whom peak earnings are a poor measure of annual ability to 
consume.
    In previous research, I have considered the distributional 
impact of a replacement of the personal and corporate income 
tax with the national sales tax, and while the analysis does 
not capture the precise nature of the Fair Tax proposal, it is 
close enough to demonstrate a number of key points. That 
research, summarized in my written testimony, shows the 
following:
    First, using an annual income analysis, a national sales 
tax, with family allowances similar to the Fair Tax, would look 
highly regressive. But when a lifetime income analysis is 
undertaken, when we think of people's resources over their 
entire lifetime, then the tax reform looks much more 
distributionally neutral.
    And this lifetime distributional neutrality of the sales 
tax depends importantly upon the family allowances that the 
Fair Tax proposes or allowances similar to the ones that the 
Fair Tax proposes. And without these, the sales tax reform 
looks moderately regressive, even on a lifetime basis.
    A second aspect of a consumption tax reform bears 
mentioning, and there has been some allusion to this. In the 
shift from an income to a consumption tax, existing wealth is 
subjected to a one-time wealth tax. This by itself provides a 
great deal of progressivity.
    So let us see how this works. Existing wealth is subjected 
to the national sales tax at the time that it is spent. So 
imagine that I have a million dollars in existing savings and a 
national sales tax at a 30-percent rate is imposed, if I spend 
that million dollars immediately, I will pay $300,000 in sales 
tax and consume $700,000 in goods and services. The same result 
arises if instead of a sales tax I am subjected to a 30-percent 
initial wealth tax. The retail sales tax effectively taxes away 
30 percent of that initial wealth, and this example 
generalizes. No matter when I spend that wealth on consumption 
or even if I die and leave that money to my children, I end up, 
under the retail sales tax, in exactly the same boat as under a 
one-time tax on initial wealth.
    In addition to adding progressivity to the reform, this 
one-time tax adds efficiency, since this is a lump-sum tax, 
which is the most efficient of all taxes.
    Next, let me turn to the second point, the relative merit 
of a sales tax versus other forms of consumption taxes. It 
seems to me that one of the greatest difficulties that the 
proponents of the flat taxed faced was the perception that rich 
people would avoid taxation, since they were not subject to 
taxation at the personal level, and that problem is eliminated 
under a sales tax.
    And we have talked about the transparency of the sales tax 
as one of its virtues. This transparency extends to the problem 
of transition giveaways. Unlike other forms of consumption 
taxes, any efforts to provide advantages to certain sectors or 
to grandfather existing capital from the wealth tax I just 
mentioned, would be highly visible.
    And so to the extent that Congress wishes to enact a clean 
tax reform, and I hope that is the intent of this committee, 
this visibility provides support for that effort. Avoiding the 
transition compensation to old capital will allow a lower tax 
rate, greater progressivity and larger efficiency gains from 
the reform.
    There has been a lot of discussion of the appropriate tax 
rate. Let me focus on tax-inclusive tax rates to be comparable 
to income tax rates. The 23-percent tax rate is achieved in the 
Fair Tax proposal that I have seen by subjecting Government 
purchases to the sales tax and assuming that Federal spending 
will be held constant. This, in effect, subjects Government to 
a substantial spending cut, and I think needlessly mixes issues 
of tax reform with the issue of the appropriate size of 
Government.
    I calculate a tax rate of roughly 33 percent would be 
required to achieve a revenue-neutral reform; yet, as Dr. 
Kotlikoff has noted, even a 30-percent rate or 33-percent rate 
leaves a middle-income worker facing a 15-percent Federal tax 
rate and 15.3-percent payroll tax rate unaffected at the 
margin.
    Second, the experience at the State and local level with 
sales tax is that there is enormous pressure to exempt certain 
goods and services from taxation, and Congress must resist this 
temptation at the Federal level. The rebate on spending on 
amounts up to the poverty level appropriately addresses 
distributional concerns and further exemptions would only 
reduce the efficiency gains from the reform, while adding 
complexity to the administration of the tax.
    So, in conclusion, consumption tax reform is one of a 
number of attractive options for improving the current tax 
system, and of course other possible options would be to 
simplify the current income tax. The Fair Tax proposal, here 
before you today, has many attractive features. But I think its 
success depends, importantly, on its being a clean reform with 
few transition rules and tax-base exemptions.
    Thank you.
    [The prepared statement of Mr. Metcalf follows:]

STATEMENT OF GILBERT E. METCALF, PROFESSOR OF ECONOMICS, TUFTS 
UNIVERSITY, MEDFORD, MASSACHUSETTS, AND RESEARCH ASSOCIATE, NATIONAL 
BUREAU OF ECONOMIC RESEARCH

    Introduction
    I appreciate the opportunity to submit written testimony to 
the Committee on Ways and Means on the very important topic of 
fundamental tax reform. Just over four years ago, I had the 
privilege of participating in an Issues Seminar on tax reform 
hosted by this committee at Airlee House in Virginia. While the 
bills before this committee may be different than those under 
consideration four years ago, the issues have not changed.
    Much of my research on the topic of tax reform has focused 
on distributional considerations. The main result from that 
research is that the focus on annual income as a measure of 
individual welfare significantly biases distributional analyses 
of consumption taxes towards making them look more regressive 
than they are when an individual's lifetime earnings 
possibilities are taken into account. In this testimony, I'd 
like to review why annual and lifetime income perspectives lead 
to such different results and then to present some findings 
from research that I have conducted using the Consumer 
Expenditure Survey.\1\
---------------------------------------------------------------------------
    \1\ This research is presented in Metcalf (1997).
---------------------------------------------------------------------------
    II. Background
    An incidence analysis attempts to answer the question of 
who bears the burden of a particular tax. Any attempt to 
evaluate the ``fairness'' of a tax (or a change in the tax 
system) requires knowing whose disposable income is changed and 
by how much in response to the tax. Economists often refer to 
taxes as ``regressive'' or ``progressive.'' There is often some 
confusion as to the meaning of these terms and so it is worth 
defining them carefully. The definition that most economists 
use relies on the average tax rate--the ratio of tax 
liabilities to income.\2\ A tax is said to be regressive if the 
average tax rate falls with income. It is proportional if the 
average tax rate is constant and it is progressive if the 
average tax rate rises with income. Low income people pay a 
higher (lower) fraction of their income in taxes if the tax is 
regressive (progressive).
---------------------------------------------------------------------------
    \2\ More precisely, the numerator is the change in real disposable 
inicome resulting from the change in the tax law. If a new tax is 
imposed, the change in disposable income might occur because prices 
have gone up so that a given income purchases fewer goods and services 
or it might occur because have fallen.
---------------------------------------------------------------------------
    Early tax incidence studies used the results of partial or 
general equilibrium models to inform judgments about relevant 
incidence results. In effect, these studies used existing 
research results to generate plausible assumptions about the 
incidence of specific taxes. Pechman (1985) represents the 
classic example of this type of research. The time frame for 
analysis is one year, and Pechman assumes that consumption 
taxes are passed forward and borne by consumers in proportion 
to their expenditures. Taking this approach, Pechman finds that 
consumption taxes are quite regressive. A recent study by Gale, 
Houser, and Scholz (1996) confirms this view. In an analysis of 
a shift from the current income tax to a flat tax they find 
that the lowest income group would see their average tax rate 
increase by 2.2 percentage points (81% increase) while the 
highest income group would see their average tax rate decrease 
by 7.1 percentage points (17% decrease).\3\ Similarly, 
Feenberg, Mitrusi, and Poterba (1997) find that there would be 
a substantial shift in tax burden to the poor in shifting from 
the income tax to a retail sales tax using annual income to 
rank households.
---------------------------------------------------------------------------
    \3\ Table 8-2, page 290 of Gale, Houser, and Scholz (1996).
---------------------------------------------------------------------------
    An alternative approach utilizes estimates of lifetime 
income as a measure of the taxpaying unit's economic well-
being. Invoking Friedman (1957) and the permanent income 
hypothesis as well as life-cycle considerations, economists 
have long recognized that annual income may not be a very good 
measure of an individual's potential to consume. With perfect 
capital markets, individuals should be grouped according to the 
present discounted value of earnings plus gifts received. This 
theory makes the difficulties with the annual incidence 
approach readily apparent. People tend to earn the highest 
incomes in their life around middle age and the lowest incomes 
in their youth and old age. Consequently in a cross section 
(annual) analysis, lower income groups are likely to include 
some young and elderly people (as well as some people with 
volatile incomes who have obtained a low realization) who are 
not poor in a lifetime sense. Similarly, higher annual income 
groups are likely to contain some people at the peak of their 
age earnings profile for whom peak earnings are a poor measure 
of annual ability to consume.
    To see why a lifetime approach makes a difference, imagine 
a world with identical people with identical skills and an 
identical pattern of earnings over their lifetime. Figure 1 
illustrates the lifetime income and consumption paths of a 
typical person in this imaginary society. Income is initially 
low and rises to a peak in the middle years. It than falls as 
this worker gradually cuts back on work and enjoys more 
retirement leisure. Consumption is constant over the lifetime. 
In early years individuals borrow against future income to 
finance consumption that exceeds income. Savings occurs in the 
middle years, first to repay borrowing from the early years and 
then to finance consumption in the retirement years. In this 
stylized example, I'll assume that all savings are consumed so 
that at death there are no assets remaining.

[GRAPHIC] [TIFF OMITTED] T1879.003

    Next assume that there is one person of each age in this 
society. Otherwise people are identical. Figure 1 now has an 
additional interpretation. In addition to it indicating 
consumption and income patterns over an individual's lifetime, 
it also shows income and consumption patterns for our society 
of individuals at any one point in time. Now consider an annual 
incidence analysis of a national sales tax. Since consumption 
is constant across all individuals, tax payments will also be 
constant. But since income varies (based on where people are on 
their lifetime income schedule), the average tax rate (taxes as 
a fraction of annual income) will fall as income rises. The tax 
will look very regressive. But this is clearly wrong. 
Individuals are exactly the same in this hypothetical society 
and over their lifetimes will earn exactly the same amount of 
income and pay exactly the same amount of taxes. A lifetime 
incidence analysis will correctly conclude that this tax is 
proportional.

III. A Distributional Analysis of a Sales Tax Based on the 
Consumer Expenditure Survey

    H.R. 2525 (introduced by Rep. John Linder (R-GA) and Rep. 
Collin Peterson (D-MN)) would replace the personal and 
corporate income tax, all payroll taxes, the self-employment 
tax, and the estate and gift tax with a national retail sales 
tax. The tax is levied on a destination basis, meaning that 
imports are subject to the tax while exports are exempt. H.R. 
2525 (otherwise known as the ``Fair Tax'') would provide 
families with a rebate of sales tax on spending up to the 
federal poverty level.\4\
---------------------------------------------------------------------------
    \4\ The rebate is adjusted so that a married couple with no 
children would receive the same rebate as two unmarried individuals 
sharing a household (a marriage penalty elimination adjustment).
---------------------------------------------------------------------------
    In previous research (Metcalf (1997)), I used data from the 
1994 Consumption Expenditure Survey (CES) to measure the 
distributional impact of a replacement of the personal and 
corporate income tax with a national retail sales tax rate. 
While the analysis does not capture the precise nature of the 
Fair Tax proposal, it is close enough to demonstrate a number 
of key points. Ignoring payroll taxes in my analysis will 
likely bias the analysis towards making the reform appear less 
progressive. Thus the results I present can be viewed as lower 
bounds on the progressivity of the reform.
    First let me note that after making adjustments for 
consumption expenditures that are difficult to tax, I 
calculated that a tax exclusive tax rate of roughly 18 percent 
would be required for a broadbased retail sales tax replacing 
the income tax to be revenue neutral. Adding payroll taxes and 
the estate tax to the proposal would increase the required tax 
exclusive tax rate to 30 percent.\5\ This tax rate assumes that 
Congress will hold the real level of government spending fixed. 
This could be done by exempting government spending from the 
tax. If government spending is taxed (as is proposed in H.R. 
2525), then nominal government spending would have to increase 
to keep real spending constant. (See Table 1 below for 
details.)
---------------------------------------------------------------------------
    \5\ Using 1991 data, Feenberg, Mitrusi, and Poterba (1997) estimate 
that a tax rate of nearly 29 percent would be required to replace the 
income and payroll taxes. Both my estimated tax rate and those of 
Feenberg et al. are measured as a percentage of the producer price. To 
compare the average income tax rate, we can re-express the tax rates as 
percentages of consumer prices. Expressed that way, the required tax is 
23 percent.

               Table 1. Aggregate Consumption and Taxation
------------------------------------------------------------------------
                            (1)                (2)              (3)
------------------------------------------------------------------------
  Taxes Replaced
 By Retail Sales
 Tax
Personal Income              544.5               544.5          544.5
            Tax
              Corporate Incom144.0               144.0          144.0
            Tax
 Payroll Taxes                                   428.8          428.8
Estate and Gift                                   15.2           15.2
            Tax
Total Income Tax             688.5             1,132.5        1,132.5
  Retail Sales Tax
 Base
      Personal             4,698.7             4,698.7        4,698.7
               Consumption
   Expenditures
Adjustments to
       Personal
               Consumption
  Expenditures:
Indirect Taxes             (266.9)             (266.9)        (266.9)
Owner Occupied             (280.2)             (280.2)        (280.2)
        Housing
Imputed Financial          (146.0)             (146.0)        (146.0)
       Services
    Non-Profit             (236.6)             (236.6)        (236.6)
     Activities
     Farm Food               (0.5)               (0.5)          (0.5)
   Net Foreign                19.8                19.8           19.8
       Spending
              Consumption Ta3788.3              3788.3         3788.3
           Base
Family Allowance                                             (1500.0)
          Net Consumption   3788.3              3788.3         2288.3
       Tax Base
Retail Sales Tax             18.2%               29.9%          49.5%
     Rate (Tax-
     Exclusive)
Retail Sales Tax             15.4%               23.0%          33.1%
      Rate (Tax
     Inclusive)
------------------------------------------------------------------------
 ASource: Metcalf (1997)

    Those adjustments do not allow for the family rebate based 
on poverty level. The Fair Tax Proposal exempts from taxation 
spending up to the poverty level. Based on 1994 poverty levels, 
this rebate would (in effect) exempt $1.5 trillion from the 
Retail Sales Tax base. This raises the required tax rate from 
30 to nearly 50 percent \6\ . On a tax inclusive basis 
(comparable to an income tax rate), this is a rate of 33 
percent.
---------------------------------------------------------------------------
    \6\ Feenberg, Mitrusi, and Poterba (1997) estimate that a rate 
exclusive tax rate of 45.4 percent would be required.
---------------------------------------------------------------------------
    My first analysis considers a shift from the current income 
tax to a broad based retail sales tax. The tax base is quite 
comprehensive. Housing services are not taxed per se but are 
taxed at the time of purchase of the house. The same approach 
is used for other durable goods. Medical services are included 
in the tax base as are other services. Table 2 (and Figure 2) 
shows the distribution of a shift from the income tax to a 
broad based income tax using both an annual and a lifetime 
income incidence approach. The second column shows the change 
in average tax rate (change in tax as a percentage of annual 
income) for households ranked by annual income. Based on the 
annual income approach, the tax reform is very regressive. Tax 
liabilities increase for the bottom 70% of the income 
distribution and decrease for the top 30%. The changes are 
quite substantial with the lowest income decile seeing their 
average tax rate increase by 64 percentage points.\7\ Meanwhile 
the top decile's average tax rate falls by 7%. Another way to 
measure the regressivity of the tax reform based on annual 
income is to note that the Suits Index falls from 0.202 (income 
tax) to -0.217 (retail sales tax) as a result of the reform.\8\
---------------------------------------------------------------------------
    \7\ The size of the tax shift for this lowest income decile 
indicates one of the problems of the annual income approach. It tends 
so magnify average tax rates as income is likely to be poorly measured 
and also low relative to consumption. It is for this reason ftha 
tPechman (1985) dropped th ebottom half of the lowest income decile 
from his analysis. The median change in tax rate for this decile is 
32.9%. Except for the lowest decile, median and mean tax rates are 
fairly similar.
    \8\ The Suits Index is a tax-based analogue to the Gini 
Coefficient. It ranges from -1 to 1 with negative values indicating a 
regressive tax and positive values a progressive tax. The Suits Indexc 
for the income tax that I report is not comprable to estimates of the 
Suits Index reported elsewhere for the personal income tax since I 
attribute the corporate income tax to households in this study.
---------------------------------------------------------------------------
    Column 3 redoes the analysis using a lifetime income 
analysis. The variation in changes in average tax rates across 
lifetime income deciles falls markedly relative to the annual 
income analysis. The reform is still regressive--the lowest 70% 
of the income distribution face tax increases while the top 30% 
enjoy tax decreases. However the differences are not nearly as 
large as when measured using annual income to rank households. 
Moreover, the change in average tax rates is much smaller with 
the lowest lifetime income decile facing an average increase in 
their average tax rate of 5.7 percentage points while the top 
decile's average tax rate falls by 2 percentage points. Ranking 
households by lifetime income, the Suits Index now falls from 
0.068 to -0.010 with this tax reform.
[GRAPHIC] [TIFF OMITTED] T1879.004


    Table 2. Distribution of a Broadbased Retail Sales Tax: No Family
                                Allowance
------------------------------------------------------------------------
         Decile                    Annual                 Lifetime
------------------------------------------------------------------------
                1                      64.3                  5.7
                2                      24.4                  4.0
                3                      17.4                  1.0
                4                      11.5                  1.0
                5                       7.3                  1.2
                6                       2.3                  0.4
                7                       3.9                  0.4
                8                      -0.6                 -2.0
                9                      -0.9                 -1.3
               10                      -7.0                -2.0
------------------------------------------------------------------------
 ATable reports change in average tax rate from reform
 ASource: Metcalf (1997) This analysis repeals personal and corporate
  income tax and replaces it with a national retail sales tax.

  [GRAPHIC] [TIFF OMITTED] T1879.005
  
    Next, I add the family allowances based on poverty 
levels.\9\ Table 3 and Figure 3 presents the results.
---------------------------------------------------------------------------
    \9\ This analysis differs from the Fair Tax proposal in not making 
a marriage penalty adjustment.

Table 3. Distribution of a Broadbased Retail Sales Tax: Family Allowance
------------------------------------------------------------------------
         Decile                    Annual                 Lifetime
------------------------------------------------------------------------
                1                      40.9                   2.2
                2                      19.1                   1.5
                3                      14.2                  -0.9
                4                       9.6                   0.2
                5                       6.6                   0.8
                6                       1.5                   0.0
                7                       4.4                   0.1
                8                      -0.3                  -2.0
                9                      -0.1                  -0.3
               10                      -5.8                  0.1
------------------------------------------------------------------------
 ATable reports change in average tax rate from reform
 ASource: Metcalf (1997) This analysis repeals personal and corporate
  income tax and replaces it with a national retail sales tax.

  [GRAPHIC] [TIFF OMITTED] T1879.006
  
    Compared to Table 2, the tax is modestly less regressive on 
an annual basis. However it continues to look very regressive. 
The Suits Index for the sales tax with rebate is -0.155 
indicating considerable regressivity (relative to the income 
tax system it replaces for which the Suits Index equals 0.202). 
The story changes dramatically when I rank people by lifetime 
income (last column). Now there is no clear pattern to the 
change in average tax rates. The change ranges from a decrease 
of 2 percent (decile 8) to an increase of 2.2 percent (decile 
1). Ranking households by lifetime income the Suits Index for 
the sales tax with rebate (0.054) is nearly the same as for the 
current income tax (0.068). If you compare Table 2 to Table 3, 
it is easy to see that rebates based on the poverty threshold 
can offset any remaining regressive aspects of a national sales 
tax when ranking households by a measure of lifetime income. 
These results indicate that it is not impossible to structure a 
consumption tax that is broadly progressive.

IV. Other Issues

    The distributional analysis above is a ``steady-state'' 
analysis and ignores transitional considerations. In any switch 
from an income to a consumption tax, there is the potential for 
a lump sum tax on old capital. One difficulty with previous 
consumption tax proposals has been that these losses have been 
compensated through transition rules that cost significant 
amounts of revenue and require higher tax rates. Much of the 
efficiency gains from a consumption tax reform are lost if such 
transition rules are enacted. The benefit of the retail sales 
tax is that it makes it more difficult to incorporate these 
kinds of transition rules and so increases the probability that 
the reform will indeed be efficiency enhancing.
    One other consideration worth mentioning is the current 
debate over taxation of internet sales. While this is not a 
distributional issue, it is an important issue of fairness and 
it will be important to treat internet transactions just like 
any other retail sales transaction. If the federal government 
can do this correctly, it increases the odds that state and 
local governments will also treat these sales correctly under 
state and local sales taxes.

V. Conclusion

    It is quite possible to design a distributionally neutral 
consumption tax reform. Doing so, however, requires an 
understanding of the difference between annual and lifetime 
income. Measuring lifetime income is conceptually easy but in 
practice impossible. This raises hurdles to the use of lifetime 
income for distributional analysis in policy circles but it 
does not negate its importance as you take up the important 
topic of fundamental tax reform. Thank you for the opportunity 
to comment on this issue.

References

    Feenberg, Daniel R., et al. ``Distributional Effects of 
Adopting a National Retail Sales Tax,'' Tax Policy and the 
Economy, 1997, 11: pp. 49-90.
    Friedman, Milton. A Theory of the Consumption Function.. 
Princeton, NJ: Princeton University Press, 1957.
    Gale, William, et al. ``Distributional Effects of 
Fundamental Tax Reform.'' In Economic Effects of Fundamental 
Tax Reform, ed. Henry Aaron and William Gale, 281-315. 
Washington, DC: Brookings Institution, 1996.
    Metcalf, Gilbert E. ``The National Sales Tax: Who Bears the 
Burden?,'' Washington, DC: Cato Institute. Cato Policy Analysis 
No. 289, Dec. 8, 1997.
    Pechman, J. Who Paid the Taxes: 1966-85?. Washington DC: 
Brookings, 1985.

                                


    Chairman Archer. Thank you, Dr. Metcalf.
    Dr. Angell?

  STATEMENT OF WAYNE ANGELL, CHIEF ECONOMIST, BEAR STEARNS & 
               COMPANY, INC., NEW YORK, NEW YORK

    Mr. Angell. I am Wayne Angell, chief economist at Bear 
Stearns, and formerly, Mr. Chairman, 8 years as a member of the 
Board of Governors of the Federal Reserve system.
    I believe the case for fundamental tax reform rests on 
whether the current tax system poses a serious risk to the 
continuation of our current prosperity through the first decade 
of the 21st Century. Piecemeal amendment of our tax code cannot 
alter the one fundamental problem facing our economic 
expansion, our national shortfall of saving. Only the national 
undersaving or overconsumption stands in the way of our 
continuing prosperity.
    As the chart on page 2 of my testimony indicates, just 
maintaining our national saving rate is far less than optimum 
in a new-era economy that relies on investment spending to 
continue to rise as a percent of GDP. Our savings shortfall has 
accelerated over the last 3 years to 4 percent of GDP, and of 
course that then would be our current account trade deficit.
    Without fundamental tax reform, the gap between national 
saving and investment is likely to continue to widen. The new 
era of business focus on cutting costs by relying on increased 
nonresidential capital goods investment that have risen from 9 
to 14 percent of GDP over the last decade is likely to continue 
to increase equity market wealth and to depress the household 
saving rate. Depressed domestic saving is currently balanced by 
the expectation of higher equity prices that is part of the 
ingredient and the inflow of saving from abroad.
    Now, I do not join the scare-mongers who suggest that our 
rising trade deficit cannot go on forever. Our rising trade 
deficit can go on as long as global investors, including, in 
particular, U.S. investors are willing to hold an ever-
increasing ratio of their wealth in the United States. 
Nevertheless, it is correct that our rising trade deficit makes 
our economic expansion more vulnerable to any adverse news, 
period; that is, if the Federal Reserve were to make an 
inflation mistake during the 5- or 10-year period ahead, the 
interest rate consequences would be much worse.
    I hope you will choose fundamental tax reform. Take away 
the current tax system disincentive to save. All Americans will 
benefit by participating in the wealth-creating process that 
begins by the decision to abstain from spending income and 
thereby to save. Far too long, we have lived with the incorrect 
assumption that imposing higher tax rates on individual incomes 
can reduce income and equality.
    If we desire equality of incomes, we need a new 
consumption-based tax system that will provide more 
encouragement to save for those who are poor and who would like 
to become wealthy. The acceleration of capital goods investment 
is a first step toward improving income equality, for it is 
rising capital investment that is driving the increase in labor 
productivity and rising real wages that directly contribute to 
the capacity of working families to save.
    If a nation undersaves, then real interest rates will move 
higher. As long as our national saving does not match our 
spending on capital goods, real interest rates must move enough 
higher to offset the increased exchange rate risk faced by 
global investors. If global savers approach satiation by an 
overconcentration of loans and investments in the United 
States, then the full tax burden on saving must be shifted to 
borrowers.
    Alan Greenspan is right on target in recognizing the 
inflation risk that would be associated with a low Fed funds 
rate, while real corporate bond rates are rising. Nothing would 
endanger this expansion more than for the FOMC to peg the 
Fund's rate below the level consistent with Triple B corporate 
bond rates. Corporate bond market yields reflect our shortfall 
of saving while the demand for capital goods is rising. 
Unfortunately, to the extent that rising real interest rates 
dampen investment spending, labor productivity cannot 
accelerate to the optimum economic equality level.
    The Americans for Fair Tax Proposal--the Fair Tax--is the 
superior starting point for fundamental tax reform. First, the 
Fair Tax proposal directly deals with our, one imbalance, 
under-saving. The 23-percent national retail sales tax would 
dramatically increase household savings rates. And I would be 
happy to respond to questions as to why I differ from the other 
panelists in regard to that rate.
    Second, only the Fair Tax proposal has a perfect offset for 
the growth slowdown that would occur if a national saving rate 
were to quickly rise to the national investment rate around 20 
percent GDP. By eliminating the cost of Government in the 
prices of goods we export, the growth of exports accelerates. 
By subjecting imported final goods to the sales tax, domestic 
production of goods would crowd out imported goods. That would 
mean that imported goods would compete fairly and squarely 
under the same burden of Government cost as domestic-produced 
goods. Both would be subject to the 23-percent uniform sales 
tax rate.
    During the adjustment period, consumer spending would 
likely fall, exports would leap upward and imports would fall. 
After the adjustment period, growth rates of consumer spending, 
exports and imports, would tend to normalize at a rate somewhat 
higher as is consistent with the higher capital spending 
induced by lower interest rates and lower interest volatility.
    Without fundamental tax reform, our expansion is apt to 
encounter an increasing risk of being aborted by a policy 
mistake. Let us not wait too long to act now as the current 
balance between rising inflow of saving and an increasing trade 
deficit could change from global balance to global imbalance. 
The longer we delay in dealing with this tax impediment to 
saving the more risky our future.
    [The prepared statement follows:]

Statement of Wayne Angell, Chief Economist, Bear Stearns & Company, 
Inc., New York, New York

    Mr. Chairman, members of the committee, thank you for the 
opportunity to testify on the subject of fundamental tax 
reform. I believe the imperative case for fundamental tax 
reform rests on whether the current tax system poses a serious 
risk to the continuation of our current prosperity through the 
first decade of the Twenty-first Century.
    The focus of my advice is (1) do not underestimate our 
potential for achieving a very long period of growth at a rate 
approaching five percent and (2) do not ignore the potential 
for an economic policy breakdown to precipitate an abrupt end 
to this expansion. Just as we have benefited enormously from 
new high technology capital investment, so also would an end of 
this expansion with a likely collapse of labor productivity 
growth be unusually difficult for workers and investors alike.
    Although our current expansion, at nine years, is the 
longest expansion in our history, it is far short of achieving 
the 4.3 percent average annual growth rate over 36 quarters 
from 1963 to 1972. The estimated average growth rate over the 
last nine years ending in the first quarter of 2000, at 3.6 
percent, is a good beginning for an expansion that has a 
potential to go on another nine years. If we succeed in growing 
another nine years by continuing the 4.4 percent average rate 
of the last four, then we would achieve an 18-year average 
growth rate of 4 percent.

Undersaving as a risk to this expansion

    Piecemeal amendment of our tax code cannot alter the one 
fundamental problem facing our economic expansion--our national 
shortfall of saving. The continuation of our accelerating 
prosperity is dependent on the means to finance non-residential 
capital investment that is growing at twice the rate of growth 
of gross domestic product. Without fundamental tax reform our 
current under-saving requires an inflow of capital from abroad 
that has its counterpart in a rising trade deficit.
    Only the national undersaving (or overconsumption) stands 
in the way of our continuing prosperity. As long as economic 
growth remains on this current track of four straight years of 
growth rates approaching 4-\1/2\% percent, the current system 
of tax rates will provide more revenue than projected growth of 
government expenditures. Some, including Alan Greenspan, seem 
to be suggesting that the correct approach is to rely on rising 
public saving to offset the adverse impact of rising equity 
market wealth on household saving. This is an austerity 
approach, which I believe actually increases the risk of 
difficulty in funding our under-saving.
    But, as the chart below indicates, just maintaining our 
national saving rate is far less than optimum in our new era 
economy that relies on investment spending to continue to rise 
as a percent of GDP. Adding 1999-government investment of 
approximately 2-\1/2\% of GDP to the private investment shown 
in the chart brings national investment spending to 20 percent 
of GDP. Subtracting government investment from government 
spending increases national saving to 16 percent and implies an 
inflow of saving from abroad of 4 percent of GDP. One constant 
in our equation is that the balance of payment is balanced; 
saving (capital) inflows equals the current account deficit.
    Without fundamental tax reform the gap between national 
saving and investment will get worse. The new era business 
focus on cutting costs by relying on increased non-residential 
capital goods investments, that have risen from 9 to 14 percent 
of GDP over the last decade, is likely to continue to increase 
equity market wealth and depress the household saving rate. 
Depressed domestic saving is currently balanced by the 
expectation of higher equity prices that is part of the 
ingredient in the inflow of saving from abroad.
    Now I do not join the scaremongers who suggest that our 
rising trade deficit cannot go on forever. Our rising trade 
deficit can go on as long as people who live abroad are willing 
to finance it. However, it is correct that a rising trade 
deficit makes our economic expansion more vulnerable to any 
adverse news period that would cause global investors to lose 
confidence in the exchange value of the dollar. That is, if the 
Federal Reserve were to make an inflation mistake during the 
five or ten year period ahead, then the interest rate 
consequences would be much worse.
    I hope you will choose fundamental tax reform. Take away 
the current tax system disincentive to save. All Americans will 
benefit by participating in the wealth-creating process that 
begins by the decision to abstain from spending income and 
thereby, to save. Currently, our saving rate is too dependent 
on the higher income and higher wealth segment of our citizens. 
Why not shift to a consumption-based tax system that will 
enhance the incentive of all income groups to participate in 
the rewards of wealth creation.
    For far too long we have lived with the incorrect 
assumption that imposing higher tax rates on high-income 
individuals can reduce income inequality. First, marginal 
income tax rates including the double taxation of corporate 
profits directly subtract from saving by reducing the capacity 
of taxpayers to save. Second, marginal tax rates, which include 
some very high marginal rates on low income households as the 
earned income tax credit is phased out, tilt the preference of 
households to spend a higher proportion of their disposable 
income. If we desire equality of incomes, we need a new 
consumption-based tax system that will provide more 
encouragement to save for those who are poor and would like to 
become wealthy.
    It is essential to understand that in a market system 
economy, prices will adjust so as to correct imbalances. 
Scarcities lead to higher prices that ration out scarce goods 
and provide incentives to produce more of that good. And that 
includes saving as a scarce good.

The tax burden on saving is fully shifted to borrowers

    If a nation under-saves then real interest rates will move 
higher. It is important to note that the current move toward a 
larger government surplus, an increase in government saving, 
has led to a somewhat lower interest rate on Treasury 
securities, while corporate bond interest rates have increased. 
As long as our national saving does not match our spending on 
capital goods, real interest rates must move enough higher to 
offset the increased exchange rate risk faced by global savers. 
As global savers approach satiation by an over-concentration of 
loans and investments in the United States, then the full tax 
burden on saving must be shifted to borrowers.
    For two decades we have filled the shortfall of national 
saving by an inflow of investment and lending from abroad. But 
a continuation of the domestic saving shortfall will continue 
to require higher real interest rates to both attract saving 
inflows and to offset the adverse wealth effect on domestic 
saving. Eventually, an inflow of saving from abroad becomes 
ever more risky as foreign savers contemplate the equity and 
exchange rate risk of being so heavily weighted in the United 
States.
    For a country mired in under-saving, high marginal tax 
rates on the return to saving must necessarily lead to higher 
returns on saving until either the higher return is sufficient 
to restore the saving balance or until the entire tax rate is 
fully passed forward to borrowers. In either case, higher 
marginal tax rates on saving are completely frustrated by none 
of the tax falling on savers and all of the tax falling on 
borrowers.

Increasing income inequality vs. increasing income equality

    As long as the return on capital goods accelerates with the 
new technology induced productivity of capital we need more 
saving. That means that, one way or another, the return on 
capital will rise. A higher return on capital will continue to 
increase income inequality. Under the current tax system our 
income distribution pattern will continue to flow toward 
augmenting the income of the wealthy that have higher savings 
rates. This process toward inequality of incomes is likely to 
continue until that domestic saving imbalance is reduced.
    The continuation of the acceleration of non-residential 
capital goods investment is a first step toward improving 
income equality. For it is rising non-residential capital 
investment as a percent of GDP that is driving the increase in 
labor productivity and rising real wages that directly 
contribute to the capacity of working families to save. This is 
the growth solution.

The sub-optimum growth solution

    It seems to me that too many policy makers have become 
overly pessimistic concerning the likelihood of increasing 
saving by fundamental tax reform. Consequently, they are 
looking toward sub-optimal growth and a sub-optimal federal 
debt ratio. Central banks and monetary authorities around the 
world are going to need more Treasury securities than are 
likely to be available to facilitate the dollar's reserve 
currency role. This committee has a wonderful opportunity to 
restore a more optimistic vision by recommending fundamental 
tax reform.
    Given our current tax system there is no alternative to 
increasing real rates of interest. Rising real rates of 
interest tends to work more quickly toward limiting investment 
spending than in increasing saving rates. Unfortunately, to the 
extent that rising real interest rates dampen investment 
spending; labor productivity cannot accelerate to the optimum 
economic equality level.
    Alan Greenspan is right on target in recognizing the 
inflation risk that would be associated with a low Fed funds 
rate while real corporate bond rates are rising. Nothing would 
endanger this expansion more than for the FOMC to peg the funds 
rate below the level consistent with rising Baa corporate bond 
rates. Corporate bond market yields reflect our shortfall of 
saving while the demand for capital goods is rising.
    And, if this committee helps to restore policy maker's 
confidence that household savings could be counted on to rise 
sufficiently to close the imbalance, then they would be free to 
consider some optimum federal debt level as a contrast to the 
political proposal to pay down the national debt.
    More importantly, Alan Greenspan should no longer be so 
concerned that rising household wealth from equity market gains 
would lower national saving. As he now sees it, rising equity 
prices increase wealth faster than the increase in income. 
Thereby consumer spending rises faster than income and the 
savings rate falls.
    Fortunately, the revised Federal Reserve de-emphasis on the 
level of equity market prices has lessened the risk that global 
investors might, at some point, reduce the inflows of saving 
into the U.S. equity market and that could pull the down the 
dollar. Ultimately it is the dollar exchange rate risk that 
could jeopardize the FOMC's freedom to lower interest rates as 
they did in the fall of 1998 during a period of deflation risk. 
It is imperative that, as our inflation rate approaches zero, 
the FOMC maintain its domestic policy focus so as to avoid 
deflationary episodes such as occurred in 1986, 1990 and 1998.

Fundamental tax reform

    From my perspective as a Wall Street economist, the 
Americans for Fair Tax proposal--the FairTax--is the superior 
starting point for fundamental tax reform.
    First, the FairTax proposal directly deals with our one 
imbalance--undersaving. Household behavior responds to a change 
in relative prices. The 23 percent national retail sales tax 
would dramatically increase household savings rates.
    Second, only the FairTax proposal has a perfect offset for 
the growth slowdown that would occur if the national saving 
rate were to quickly rise to the national investment rate 
around 20 percent of GDP. By eliminating the cost of government 
from the goods we export, the growth rate of exports 
accelerates. And, by including imported final goods in goods 
subject to the sales tax, domestic production of goods would 
crowd out imported goods. That would mean that imported goods 
would compete fairly and squarely under the same burden of 
government cost as domestic produced goods--both would be 
subject to the 23 percent uniform sales tax rate.
    During the adjustment period, consumer spending would 
likely fall, exports would leap upward at about the same rate 
that resources can flow into export industries, and imports 
would fall. After the adjustment period during which saving and 
investment converge to the same percent of GDP, growth rates of 
consumer spending, exports and imports would tend to normalize. 
These new normal rates of growth of GDP, exports and imports 
would be somewhat higher as is consistent with the higher 
residential and higher non-residential spending induced by both 
lower interest rates and by lower interest rate volatility.

Conclusion

    Without fundamental tax reform our expansion is apt to 
encounter an increasing risk of being aborted by a policy 
mistake. The 4.3 percent expansion over the 36 quarter period 
ending in 1972 came to an end as the Federal Reserve made the 
policy mistake of shifting its focus of monetary policy toward 
increasing economic growth. Undoubtedly, the Congressional 
stand-pat policy on leaving top marginal tax rates at 70 
percent after lowering rates in the 1963-64 Kennedy round of 
tax rate cuts from 90 to 70 percent, contributed to the FOMC 
focus on using money creation to maintain economic growth.
    Let us not wait too long to act now as the current balance 
between rising inflow of saving and an increasing trade deficit 
could change from global balance to global imbalance. And, if 
fundamental tax reform is not done, then you may end up 
tempting other policy makers to do what they cannot do. Surely, 
the FOMC cannot successfully control economic growth. Nor can 
the FOMC successfully control equity market asset values. The 
longer we delay in dealing with this tax imbalance the more 
risky our future.

                                


    Chairman Archer. Thank you, Dr. Angell. I am struggling 
with how to best use my time to take advantage of all of the 
talent that is represented at the witness table today. It is 
not often that we have access to this sort of economic talent.
    Do you gentlemen agree with the general concept that the 
more you tax of something the less you are going to get of it?
    Mr. Angell. Yes.
    Chairman Archer. Does anyone disagree with that?
    Mr. Wilkins. I am sorry. Could you repeat it.
    Chairman Archer. Do you agree with the general thesis that 
the more you tax something the less you are going to get of it?
    Let the record show all witnesses are nodding assent.
    And do you disagree that the income tax, as a base of 
taxation, taxes work, savings, productivity and incentive? Does 
any one of you disagree with that?
    No. The answer is apparently they all agree with that. Then 
why are we using a system that reduces work, reduces 
productivity, reduces savings and reduces incentive? I don't 
understand it? And yet is not factored in, and I will be glad 
to get your responses. I am going on a little here with a 
soliloquy, but I am curious, Mr. Wilkins, as to whether the 
survey, the study that you mentioned that was done by 
Pricewaterhouse, included any of these basic factors.
    Mr. Wilkins. Yes. Income tax is certainly put in there 
carefully, Mr. Chairman. The argument, of course, you are 
making are an argument against any income tax, but it is also a 
good argument for keeping tax rates as low as possible. An 
income tax that has relatively low rates is going to have 
relatively lesser impact on the disincentives that you just 
talked about.
    Chairman Archer. Yes, it is true that the higher marginal 
rates create a greater disincentive. But any taxation of income 
will operate the same way even if it could be done at the flat 
tax level. By the way, flat tax is dead. It has basically been 
assigned to oblivion by its own creator, Professor Hall, but 
even if you could do a flat tax, it would still be true that 
the more hours you work, the more you are going to pay in 
taxation. It just does not increase incrementally by the 
graduated tax structure. And you are still taxing work. You are 
still taxing at a lower rate, and I agree it would be better, 
you are still taxing work effort.
    Mr. Wilkins. Let me just make one more comment in response 
to your question, Mr. Chairman, and that is our study does not 
differ a great deal with many of the other studies that show 
there are going to be positive benefits in the long run from 
switching from an income tax to consumption tax. What our study 
shows is that there are some very dangerous effects in the 
short run in getting there. You are giving an enormous 
incentive to saving and a disincentive to consumption, and by 
golly they both work. GDP drops and consumption drops just the 
way you might expect them to.
    Chairman Archer. No, no. I did listen very carefully to 
your presentation, and I noted that you distinguished between 
the short-term and the long-term. But I am wondering, even if 
in the long term, these studies have any way of factoring in 
work effort and productivity, and how it is burdened by the 
income tax and how it is freed up by abolishing the income tax? 
And I doubt very much that those factors have been adequately 
put into the models. Additionally, and I want to develop a few 
more points and then I want to get responses from all of you. 
The cost of compliance with the income tax is to be $250 
billion estimated and some say it could go as high as $500- to 
$600 billion a year. But being a conservative, I will take the 
lower number and work off of $250 billion. It means that some 
of the brightest and best minds in this country are spending 
full time coping with this tax code, which produces no wealth. 
And if those minds were freed to go into the marketplace, and 
their ingenuity, and use their mental capabilities were 
designed to produce wealth, would we not also have a bigger 
GDP? Is that factored into all of these studies? I rather doubt 
it. And so I think the studies are flawed because they are 
unable to cope with a lot of these intangibles as to the truth 
benefits that will come.
    And then, finally, I want to ask each one of you, which I 
have done to a number of other witnesses, not today, but in 
previous hearings, what would you pay, Dr. Kotlikoff, not to 
have to deal with the IRS every year?
    Mr. Kotlikoff. That is a good question.
    Chairman Archer. What value, in dollars, would you assign 
to that, personally?
    Mr. Kotlikoff. Probably somewhere between $3,000 to $5,000.
    Chairman Archer. I take it you do your own income tax from 
your testimony, and if you do, I am there with you, and I am in 
the process of trying to handle that right now.
    Mr. Kotlikoff. Right.
    Chairman Archer. What would you pay, Mr. Wilkins, not to 
have to deal with the IRS every year?
    Mr. Wilkins. I apparently haven't had as bad an experience 
as Larry Kotlikoff has had with the IRS. It certainly would be 
nice not to have to deal with them on a personal level, and I 
have had to deal both with my own taxes, my elderly mother's 
taxes, and other taxes, but it would not be worth that much to 
me. I think I have probably wasted hundreds of dollars, but not 
thousands of dollars of my time.
    Chairman Archer. You must have a very cheap tax prepayer.
    Dr. Metcalf, what would you assign as a value that you 
would pay not to have to deal with the IRS every year?
    Mr. Metcalf. Well, I am the wrong person to ask, I am 
afraid, for two reasons. One is that my income is fairly 
simple, as a professor. But, second, as a public finance 
economist, I am rather embarrassed to say I get some 
consumption value out of filling out tax forms. So it helps me 
in thinking about it to talk to my students. So I am an 
outlier, I am afraid.
    Chairman Archer. So it is a learning experience, and you 
benefit from it.
    Mr. Metcalf. Yes, sir.
    [Laughter.]
    Chairman Archer. Dr. Angell?
    Mr. Angell. Chairman Archer, I am one of those fastidious 
taxpayers that really wants to do it exactly right, and there 
is a lot of personal pride and integrity in that. I would 
happily pay $25,000 compensatory costs to not have to go 
through that process. But I would like, in addition, $80,000 of 
punitive costs in regard to the entire intrusion into my life. 
And even though I want to do it most accurately, I do not like 
that kind of big Government in my personal financial life.
    Chairman Archer. Well, you alluded to what was going to be 
my next question. How much value do you attach to your personal 
freedom and privacy? Thomas Jefferson said in his second 
inaugural address that one of his most notable achievements 
while in public office was the removal of the Federal tax 
collector from any direct contact with the American citizen 
because he understood, probably more than any other American, 
the value of individual freedom.
    Now, put that into your hopper. Dr. Kotlikoff, how much is 
your individual freedom and privacy worth?
    Mr. Kotlikoff. I had one minor audit that was pretty much 
an even split with the Feds, so to me it is not so much an 
issue of private freedom. I think the Government is going to 
have to collect taxes no matter how we do it. I do not get 
exercised over the existence of the IRS, to tell you the truth. 
I am just concerned about the next generation, and the fact 
that we are not looking ahead to the retirement of all of these 
baby boomers and distributors. I am also concerned that tax 
inefficiencies have been getting worse over time.
    I think that if more Democrats really looked at this tax 
proposal, they would see that it is really very much a 
Democratic proposal. It is getting rid of the regressive 
payroll tax. It has got a very progressive rebate. And it is 
going to presumably maintain the real spending power of Social 
Security beneficiaries, food stamp beneficiaries and people on 
Welfare.
    I also has an implicit wealth tax, as Gil Metcalf was just 
describing. today, if you are Bill Gates and spend your $80 
billion or so on consumption, you don't pay any taxes on it. 
But under the retail sales tax you would. And if you don't 
spend you wealth yourself, you give it to your kids, and they 
spend it, plus some interest, they'll pay taxes on it. And in 
present value, it is equivalent to a one-time wealth tax on $80 
billion. That, to me, is very progressive.
    Mr. Linbeck does not seem like part of a vast left-wing 
conspiracy, but he actually is. And it is really time, I think, 
for the Democrats to recognize that what is being proposed here 
is something they should be advancing.
    Chairman Archer. Okay. I think there is merit to what you 
are saying. I also think that when you talk about the Baby 
Boomers and the problems that we are going to have in the next 
century which has not started yet we have got to be concerned 
about two things--savings had productivity. We have got to 
start presaving, and we have got to increase productivity. And 
those are the only two answers to the problems that are looming 
ahead.
    Mr. Kotlikoff. Let me just say, if I could, respond on the 
issue of saving.
    I have studied in simulation models with other economists 
the whole way consumption taxation increases saving. And part 
of it has to do with these economic incentives, that you are 
not facing a double tax on saving. But a large part of it has 
to do with the fact that you are putting a bigger burden on the 
older people who are the big spenders in this economy. Their 
propensity to spend, to consume, out of their remaining 
lifetime resources is two to three times higher than that of 
younger people. The reason our national saving rate is so low, 
to be quite honest, is because we have been spending five 
decades taking ever larger sums from young savers and giving it 
to old spenders. The consumption of old people, relative to 
young people, in the post-war period has roughly doubled.
    This is exactly what economic theory predicts, which is 
older people, because they have fewer years left to go, are 
spending at a more rapid clip. So when you put more of the 
burden onto the old people and away from the young people, you 
are really taking from spenders and giving to savers. That is 
the real reason, in these simulation models, based on the 
standard life cycle and neoclassical model of economic growth, 
that you actually get a crowding in of capital, you get more 
saving, and you get the national output to go up by about 15 
percent in the long run.
    Chairman Archer. That is also, I think, very helpful and 
very interesting.
    Let me just pursue with Mr. Wilkins how much value you put 
on privacy and individual freedom in your own life. Is it also 
down there around $100?
    Thank you, Dr. Kotlikoff. I understand you have to leave.
    Mr. Wilkins. You are speaking to someone who just got 
through filling out the census long form, so I have a little 
different view. Back to thousands of dollars on this, several 
thousand dollars. I really do share your view that it would be 
very nice not to have somebody looking over our shoulder all of 
the time and have some more privacy.
    I will have to say that I am a little concerned about my 
neighbor down the street. I would just as soon they continue to 
look at him for a while.
    Chairman Archer. Dr. Metcalf, is this also a learning 
experience for you so it really is something that you are 
benefitting from?
    Mr. Metcalf. Well, I did the short census form, so I am not 
so exercised.
    No, I think as an individual I share your concerns 
certainly about privacy. As an economist, in addition, I think 
I share your frustration that income is enormously difficult to 
measure. And if we could tax consumption, a lot of that 
intrusion, the need for intrusion goes away. And if we were in 
a world without taxes, initially then, I think we would 
certainly want to choose a consumption tax. And the real 
frustration, I suspect, is that we are in a world with one tax, 
we want to switch to a world with a better tax. So there are 
clear benefits of making that shift, but there are real costs 
in how we get from A to B that are what you have to struggle 
with and how to deal with.
    Chairman Archer. And, Dr. Angell, you said if I asked, you 
would explain why you disagree with the other panelists and why 
you believe a 23-percent rate is the appropriate rate.
    Mr. Angell. Yes. But it is not just that disagreement. I 
disagree with Mr. Wilkins' notion that the short run would 
provide slower growth. I think just the opposite. I think we 
would come out of the gates very, very fast with the transition 
to the America for Fair Tax proposal. That would occur because 
consumer spending slowdown would be very significant and abrupt 
in the tax year that you made the transition. But that would 
free up resources to enable our companies to crowd out imports, 
and it would also free up resources to move into the export 
industry. And we have got American companies or global 
companies and they know how to do it, and they simply do it 
wherever it is best to do it. So I would expect to come out of 
the gate at 6-percent real growth rate.
    Chairman Archer. I see.
    Mr. Angell. Now, expecting, thereby, that we have a very 
strong economy, that then is going to lead to higher consumer 
spending. That is we are going to have an incremental increase 
in consumer spending because people's perception of their 
lifetime income will be so much higher. Alan Greenspan talks a 
lot about the wealth effect that comes from equity price 
increases that causes consumer spending income ratio to rise. 
But I think there is another wealth effect that has been 
overlooked, and that is this new technology economy develops 
such increases in labor productivity and such improvement in 
job opportunities, that the human capital that is estimated by 
the young worker is a whole lot different than it would be if 
we were in an economy that was really lost in the doldrums. So 
we need to be freed up to save the money, to fuel the capital 
spending that we are doing, and I expect that will then produce 
high tax receipts.
    Now, I would also want to question whether the income tax 
is passed backward onto the wage earner or forward to 
consumers. I think the corporate income tax is largely passed 
forward to consumers. But if my firm received a thousand-dollar 
asset management fee and we had to put a 23-percent sales tax 
on it, and it would be $1,230, I don't think there's any chance 
that my bonus arrangement with the company would be the same as 
it is now, and the firm would not need to pay me the same 
amount they paid me now because I always take into 
consideration my after-tax income in deciding whether or not I 
wish to remain employed.
    Thank you.
    Chairman Archer. I am grateful to the responses from all of 
you, and I have imposed on my colleague, Mrs. Thurman. Thank 
goodness she is the only one that I have imposed on. Mrs. 
Thurman, it is your turn.
    Mrs. Thurman. Mr. Chairman, I just want you to know that 
the one question that I might have had, the guy left already.
    [Laughter.]
    Mrs. Thurman. So you did a very good job on that.
    I have a couple of questions, and, you know, Dr, Angell, I 
was listening, and I was sitting here thinking if I were a 
business person, and I am a business person in the office that 
I run, and I think about the cost of running my office and what 
this would incur if I had to have an electrician come in, and 
it is going to be an extra 30 percent or if I am going to have 
somebody check the plumbing or you are going to have an 
electrical bill or whatever other kinds of services that are 
being provided to me, that is going to raise the cost of every 
service that is provided.
    So if you take that into effect, then this assumption that 
it is going to, just because the payroll taxes are going to 
come down and the employer might save some money there, that it 
is going to be passed onto the worker or not passed onto the 
worker, I mean, I don't know where we get into a better 
situation here at all, not to mention the fact that they say 
the accountants and all of these people are going to be taken 
out.
    Well, you know what, I remember in the State legislature 
when the businesses came to us and said, ``Look, you have got 
to raise the amount of money that we are going to--that we are 
collecting these taxes for you because we needed another 
proportion of this so that we can continue to do the paperwork 
and the constant thing.'' The same thing with the doctor's 
office, the hospitals. I mean, you know, they are overburdened 
with insurance things. Now we are going to add this idea that 
they are going to have to, you know, bear the cost of 30 
percent on every billing that they do, and somebody is going to 
have to take care of that paperwork.
    Mr. Angell. But a lot of it is passed backward already; 
that is, we are a Nation, using international comparison, we 
are a Nation of very high tax compliance. But, we are 
increasingly low tax compliance in regard to nannies, and 
craftsmen who are working and who are insisting on cash 
payment.
    Mrs. Thurman. Are you suggesting that would get rid of that 
problem?
    Mr. Angell. No, I'm saying it is already there. What I am 
saying is if the Federal Reserve continues to do its job well, 
then people say I do not have the ability to pay more, and so 
consequently when the worker has a reduction of the payroll 
tax, the worker has a reduction of the income tax, the worker 
is willing to do the work at a lower rate than otherwise would 
be the case. And that include Government workers.
    Mrs. Thurman. I am not so sure when they have to pass along 
to themselves a 30-percent on every payment that they are 
making.
    But let me go to Dr. Metcalf--or maybe, Mr. Wilkins, can 
you respond to that, though, as far as the paperwork and the 
kinds of things. I mean, you seem to be this lone voice out 
there suggesting that this may not be the best thing to do at 
this time.
    Mr. Wilkins. I suggest it is not best to do this on a big-
bang basis because it will hurt the economy quite a bit. I 
disagree with Dr. Angell, I think in degree more so than in 
direction. We find the incentives in a national sales tax work 
extremely well, so well that consumption drops, savings 
increases and the economy temporarily goes in the tank. That is 
what has us worried. That is what has retailers worried. They 
may like the long-run situation, but they may not be here in 
the long run. That is the concern.
    On the paperwork, I think you are right. There is going to 
continue to be paperwork to do this. Unfortunately, most of 
that burden is going to be on retailers under this new law.
    Mrs. Thurman. And States, particularly if that is where the 
collection point is.
    Mr. Wilkins. If States are the ones that are going to have 
to collect the tax, since the Feds will not be collecting any 
more, that is right. I would concede that it is probably not 
nearly as difficult or as big an overall job as we would 
probably have with the income tax. But the burden of collecting 
it is clearly shifting to States and to retailers.
    If I could just mention, Mr. Chairman, one point about 
cutting the tax rate and pushing it on to individuals, I do not 
understand why we would think that cutting the income tax is 
all going to go ahead into prices. We don't see that happening. 
And the only anecdotal evidence I recall is the 1986 act, when 
we cut the rate from 50 percent to 28 percent, almost in half, 
I do not recall my accountant or my lawyer or my physician 
cutting his prices that I had to pay. So I guess, I only base 
it on anecdotal evidence, but I guess I do not see it the same 
way Dr. Angell would see that.
    Mrs. Thurman. Mr. Chairman, do I have time for another? 
Okay.
    Dr. Metcalf, in your testimony that was given to us earlier 
on page 15, you go through it. Actually, the title of it starts 
with rebating the payroll tax and then goes on. And the last 
paragraph, you just need to explain it to me a little bit. 
``There are important distributional considerations that I have 
not considered in this analysis. Transitional gains and losses 
will be substantial in any tax reform, and in particular reform 
that shifts from income to consumption taxation. A shift 
without any transitional rules from income taxation to a 
national sales tax will [among other things] induce a transfer 
from the current elderly to the current young. It is also worth 
noting that this study does not take into consideration the 
broad economic gains that might be expected from converting to 
a consumption-based tax system. Low-income Americans may very 
well realize gains in after-tax income from the tax shift if 
the economy improves and wages rise,'' which is contrary to 
somewhat what we are hearing here, that wages actually could go 
down.
    Can you explain that to me a little bit.
    Mr. Metcalf. There are a lot of ideas embedded in that, and 
I do not have what you have in front of you. I am not sure what 
it is that you have. But let me speak first to the transition 
issue.
    Two examples, in my comments I noted that there is this 
windfall tax on existing--a one-time wealth tax, so to speak. 
And many of the problems of previous consumption tax reforms 
has been an effort to try to create transition rules to somehow 
avoid this one-time wealth tax. And to my way of thinking, that 
simply decreases the efficiency gains of the reform. It 
requires a higher tax rate because you are giving money back. 
This issue of transfers from the current elderly to the current 
young is the point also that Larry Kotlikoff was making, that 
if we go to a sales tax, the current elderly have a much higher 
propensity to consume, therefore will be paying more in taxes 
than under the current system.
    Whereas, younger people that have more saving ahead of them 
and therefore will be paying less in taxes relative to the 
current tax system, which taxes both consumption and savings, 
which is what an income tax is.
    Mrs. Thurman. But it also could mean that the younger, 
being myself, with a mother, ending up paying for that extra 
consumption by that elderly, costing me and shifting that 
burden even further.
    Mr. Metcalf. Well, it is true that we go through phases of 
high consumption and low consumption. And my kids are 
teenagers, so I feel like I am in a high-consumption phase 
right now.
    Mrs. Thurman. I have two in college.
    Mr. Metcalf. Yes. But, clearly, you have years of saving 
ahead of you; whereas, if you were 70, you probably would not.
    Chairman Archer. Mrs. Thurman, have you completed your 
questioning?
    I came on this committee when Wilbur Mills was chairman of 
the committee, and it was operated very differently in those 
days. But I remember, in the middle of the afternoon, he would 
be here by himself and all of the other members would be 
absent. And I was told so often that is how he became so 
knowledgeable about the Code because he was always here and 
very few other members were present at hearings. And on 
afternoons like this, where I have the opportunity, without 
imposing on too many other members to explore in greater detail 
with wonderful witnesses all types of concepts, I understand 
the benefit that comes from it.
    I thank all of you for your presentation today, and I know 
that I have learned, and I do wish that there had been more 
other members here to learn from you.
    You are excused.
    Our next panel is invited to come to the witness table, the 
final panel for the afternoon. Mr. Hamilton, Ms. Skarbek, Mr. 
Chapoton, and Mr. Threadgill.
    As usual, all of your written statements, without 
objection, will be inserted in the record. And to the degree 
that you can, if you will synopsize those in your oral 
presentation, it would be appreciated. And if you will identify 
yourselves before you begin to testify, for the record, that 
would be very helpful.
    Mr. Hamilton, would you commence.

STATEMENT OF BILLY HAMILTON, DEPUTY COMPTROLLER, OFFICE OF THE 
      TEXAS COMPTROLLER OF PUBLIC ACCOUNTS, AUSTIN, TEXAS

    Mr. Hamilton. Mr. Chairman and members, I am Billy 
Hamilton, and I am deputy comptroller of public accounts for 
the State of Texas. Carole Keeton Rylander, the Texas 
Comptroller of Public Accounts, was delighted to receive an 
invitation to testify before this committee regarding the 
fundamental tax reform measures under consideration today. 
Unfortunately, her schedule didn't permit her to be in 
attendance, and so she asked me to testify on her behalf.
    My comments today are directed only to the feasibility of 
State administration of the Fair Tax proposed by H.R. 2525. I 
do not intend to comment on the economics or any other aspects 
of the proposal.
    The Texas Comptroller's Office has administered a sales and 
use tax since 1961, and I have been involved with 
administration of the tax since 1982. Last year, the Texas 
Comptroller collected about $13 billion in sales tax revenue 
for more than 600,000 businesses. I offer my experience with 
sales tax administration, as well as the size of the Texas 
sales tax program, as the basis of qualification to speak on 
the administerability of H.R. 2525.
    As you know, H.R. 2525 would permit States to collect and 
administer the Fair Tax on behalf of the Federal Government. In 
my opinion, Texas would be well-equipped to administer the Fair 
Tax based on our experience in administering our own sales tax. 
Even though the base rate and other characteristics of the Fair 
Tax are significantly different from the Texas sales tax, it 
would be feasible for our office to collect the Fair Tax by 
expanding and enhancing the systems we currently have in place.
    For example, we would expand our current system for 
registering Texas retailers to include registration of sellers 
under the Fair Tax, 615,000 businesses are currently registered 
as sellers in Texas. Under the Fair Tax, we estimate that about 
1.5 million Texas businesses would have to be registered; 
expand our taxpayer assistance efforts to respond to a larger 
volume of telephone, letter and e-mail inquiries from sellers 
who collect the Fair Tax and individuals who pay it; expand our 
Revenue Processing Division to process more returns and tax 
payments on a more frequent basis and to remit tax collections 
to the Federal Government on an almost daily basis; expand our 
current audit team and train all auditors to examine businesses 
for both the Fair Tax, as well as the Texas sales tax; and, of 
course, expand our information technology systems to collect 
and maintain computerized records critical to the effective 
administration of a consumption tax like the Fair Tax.
    The expansion of our systems to administer the Fair Tax in 
this manner I have just described would be sizable. Under the 
Fair Tax, we would serve approximately 900,000 more filers than 
we do currently. We estimate that serving that many additional 
taxpayers would require between 1,100 and 1,600 more full-time 
employees. The Texas Comptroller currently employs about 2,700 
people on a full-time basis.
    In spite of this expansion, the compensation for electing 
the Fair Tax that would be provided to the States under the 
terms of H.R. 2525 would likely cover our projected costs. As a 
first approximation, we estimate the cost to the Comptroller's 
Office for collecting the Fair Tax at full implementation, 
would be between $100- and $150 million a year. I emphasize, 
however, there would be significant costs to begin collection, 
including the cost of facilities to house the additional 
processing facilities, the capital costs of information 
technology and revenue processing equipment and the costs of 
notifying, registering and educating taxpayers on the new tax. 
However, these seem to be manageable within the amount that is 
allowed under provisions of the bill.
    In closing, I believe that if the Fair Tax is to become a 
reality, the United States Government would be well-served to 
make use of the existing expertise of the States. Many States 
have administered consumption taxes since the 1930s and have 
developed particular capabilities in this area. We also have 
extensive experience in dealing with the affected businesses. 
As long as the administrative fee paid to the States is 
adequate in relation to the costs of collection, I see no 
reason that the State of Texas could not effectively administer 
this tax.
    Thank you, Mr. Chairman.
    [The prepared statement follows:]

STATEMENT OF BILLY HAMILTON, DEPUTY COMPTROLLER, OFFICE OF THE TEXAS 
COMPTROLLER OF PUBLIC ACCOUNTS, AUSTIN, TEXAS

    My name is Billy Hamilton, and I am the Deputy Comptroller 
for the State of Texas. Carole Keeton Rylander, the Texas 
Comptroller of Public Accounts, was delighted to receive an 
invitation to testify before this committee regarding the 
Fundamental Tax Reform measures under consideration today. 
Unfortunately, Comptroller Rylander's schedule did not permit 
her attendance, and she has asked me to testify here on her 
behalf.
    My comments today are directed only to the feasibility of 
state administration of the Fair Tax proposed by H.R. 2525. I 
do not intend to comment on the economics or any other aspects 
of the proposal.
    The Texas Comptroller's office has administered a sales and 
use tax since the 1960's, and I have been involved with 
administration of the tax since 1982. Last year, the Texas 
Comptroller collected $13 billion in sales tax revenue from 
more than 600,000 businesses. I offer my own experience with 
sales tax administration, as well as the size of Texas' sales 
tax program, as the basis of my qualification to speak to you 
about the administerability of H.R. 2525.
    As you know, H.R. 2525 would permit states to collect and 
administer the Fair Tax on behalf of the federal government. In 
my opinion, Texas would be well-equipped to administer the Fair 
Tax based on our experience in administering our own sales tax. 
Even though the base, rate and other characteristics of the 
Fair Tax are significantly different from the Texas sales tax, 
it would be feasible for our office to collect the Fair Tax by 
expanding and enhancing the systems we currently have in place. 
For example, we would:
     Expand our current system for registering Texas 
retailers to include registration of sellers under the Fair Tax 
(615,000 businesses are currently registered as sellers in 
Texas; under the Fair Tax, 1.5 million Texas businesses would 
have to be registered);
     Expand our taxpayer assistance efforts to respond 
to a larger volume of telephone, letter and e-mail inquiries 
from sellers who collect the Fair Tax and individuals who pay 
it;
     Expand our Revenue Processing Division to process 
more returns and tax payments on a more frequent basis and to 
remit tax collections to the federal government on an almost-
daily basis;
     Expand our current audit team and train all 
auditors to examine businesses for both the Fair Tax and the 
Texas sales tax; and
     Expand our information technology systems to 
collect and maintain the computerized records critical to 
effective administration of a consumption tax like the Fair 
Tax.
    The expansion of our systems to administer the Fair Tax, in 
the manner I've just described, would be sizable. Under the 
Fair Tax, we would serve approximately 900,000 more filers than 
we do currently. We estimate that serving that many additional 
taxpayers would require 1,100 to 1,600 more full-time 
employees. The Texas Comptroller currently employs about 2,700 
people on a full-time basis.
    In spite of this large expansion, the compensation for 
collecting the Fair Tax that would be provided to states under 
H.R. 2525 would likely cover our projected costs. As a first 
approximation, we estimate that the cost to the Texas 
Comptroller's office for collecting the Fair Tax at full 
implementation would be $100 to $150 million per year. I 
emphasize, however, that there would be significant costs to 
begin collection, including the cost of facilities to house the 
additional processing facilities, the capital costs of 
information technology and revenue processing equipment, and 
the costs of notifying, registering and educating taxpayers on 
the new tax.
    In closing, I believe that if the Fair Tax is to become a 
reality, the U.S. government would be well-served to make use 
of the existing expertise of the states. Many states have 
administered consumption taxes since the 1930s and have 
developed particular capabilities in this area. We also have 
extensive experience in dealing with the affected businesses. 
As long as the administrative fee paid to the state is adequate 
in relation to the costs of collection, I see no reason that 
the State of Texas could not effectively administer the Fair 
Tax.

                                


    Chairman Archer. Thank you, Mr. Hamilton.
    Ms. Skarbek?

     STATEMENT OF JANET L. SKARBEK, CINNAMINSON, NEW JERSEY

    Ms. Skarbek. Thank you, Mr. Chairman. My name is Janet 
Skarbek. I was asked here today to specifically address the 
viability of administering a national sales tax from the 
perspective of a professional that deals with State sales tax 
administration every day.
    I started my career as a CPA working at the IRS Regional 
Inspector's Office. After receiving a Master's of Taxation from 
Villanova University's Graduate Tax Program, I went to work for 
a Big 6 accounting firm where I was responsible for the 
management of sales and use taxes for clients in the Mid-
Atlantic region. I am currently employed by a Fortune 500 
company, where I am responsible for sales tax compliance and 
administration.
    I have not been asked to speak about the economic impact of 
the proposed national sales tax, nor have I been asked to 
provide an opinion as to the overall feasibility of such a 
plan. My testimony will specifically address business 
administration and the related concerns raised by such a tax. 
The views I express in this testimony are my own and should not 
be construed as representing any official position of my 
employer.
    In my opinion, the administration of the national sales tax 
would ``probably'' be simpler and easier than administering the 
current income taxes and payroll taxes it proposes to replace. 
I emphasize ``probably'' because the detailed procedures that 
businesses would be required to follow, with regards to 
documentation, have yet to be established. These details will 
be essential in determining the potential administrative costs 
to businesses.
    The national sales tax, as proposed, would not duplicate 
most of the larger problems that businesses currently encounter 
when dealing with the States' sales taxes. However, there are a 
few issues that will need to be addressed.
    Under current State sales tax administration, businesses 
are required to either collect the sales tax or the appropriate 
exemption documentation from their customers. The documentation 
that most States require vendors to collect from their exempt 
customers includes: the purchaser's name, address and 
registration number, the seller's name, a description of the 
property being purchased, a statement that the property being 
purchased meets the requirements for the exemption, and a 
signature from the purchaser.
    Whereas, the currently proposed national sales tax merely 
requires businesses to accept copies of their customers' 
registration permits in good faith. The States are very aware 
that their tougher documentation requirements can be defeated 
by individuals using copied or forged certificates. Making cash 
purchases with such illegal documentation generally results in 
the lack of any audit trail.
    Due to the fact that the proposed national sales tax rate 
is higher than any current State sales tax rate, I strongly 
believe that further rules and regulations would be developed 
to remove the current control weaknesses. The burden that those 
potential rules and regulations would place upon business is 
unknown. The simpler solutions tend to allow more tax evaders 
to slip through, while the more tedious solutions tend to put a 
larger responsibility on businesses.
    Under most current State sales tax systems, if an 
individual purchases a product in a State and is not charged 
sales tax in that State, that individual is legally required to 
self-assess that State's tax. For example, if you live in 
Virginia and you purchase a table from L.L. Bean, L.L. Bean 
does not currently have nexus with Virginia and is therefore 
not required to collect Virginia's sales tax. Upon receiving 
your table from L.L. Bean, you are supposed to check your 
receipt and make sure you paid sales tax. If sales tax was not 
paid, you are legally required to self-assess that tax. And I 
am sure everyone in this room reviews all of their receipts and 
makes sure to self-assess tax when legally required.
    Now let's face it, the State sales tax system is not 
working when it comes to individual's self-assessing the tax. 
The proposed national sales tax would also require individuals 
to self-assess when sales tax was not originally paid to the 
seller. One such example occurs when orders are placed over the 
Internet and shipped from locations outside the United States 
into the United States.
    Due to the fact that individual self-assessment does not 
work for the States, it is doubtful that compliance would 
increase at the national level. I am confident that this hole 
would also be plugged by future rules and regulations. The 
question then arises as to the burden these controls would 
place upon businesses.
    In closing, the administration of the national sales tax 
would probably be simpler and easier than administering the 
current income taxes and payroll taxes, depending upon the 
procedural requirements. Every issue I have addressed in my 
testimony today is further addressed in my written statement.
    I appreciate the opportunity to speak at this first-ever 
Congressional Summit on Fundamental Tax Reform. The testimony 
heard over the next 3 days from the members of Congress, the 
economists and the business leaders on improving the IRS, as 
well as on the various tax reform proposals, can only serve to 
improve our future tax system. But I am afraid you have your 
work cut out for you.
    [The prepared statement follows:]

STATEMENT OF JANET L. SKARBEK, CINNAMINSON, NEW JERSEY

    I was asked here today to specifically address the 
viability of administering a national sales tax from the 
perspective of a professional that deals with state sales tax 
administration every day.
    I started my career as a CPA working at the IRS Regional 
Inspector's office. After receiving a Master's of Taxation from 
Villanova University's Graduate Tax Program, I went to work for 
a Big 6 Accounting Firm where I was responsible for the 
management of sales and use taxes for clients in the Mid-
Atlantic region. I am currently employed by a Fortune 500 
company, where I am responsible for sales tax compliance and 
administration.
    I have not been asked to speak about the economic impact of 
the proposed national sales tax, nor have I been asked to 
provide an opinion as to the overall feasibility of such a 
plan. Therefore, I will limit my testimony to specifically 
addressing business administration questions and the related 
concerns raised by such a tax.
    In my opinion, the administration of the national sales tax 
will ``probably'' be simpler and easier than administering the 
current income taxes and payroll taxes it proposes to replace. 
I emphasize ``probably'' because the specific details and 
mechanisms of how the tax will actually be administered leaves 
too many unanswered questions. The simplicity of the tax itself 
is without question. However, the procedures and compliance 
requirements that still need to be drafted will significantly 
impact the ease and simplicity of administering this tax from a 
business standpoint.

    Potential Costs

    The costs to administer a national sales tax are unknown 
because the business requirements and documentation procedures 
have yet to be determined. However, if the procedures are 
similar to those imposed by states with sales taxes, the costs 
of administering the proposed tax should be significantly less 
than the costs of administering the current income taxes and 
payroll taxes. Between employees and accountants used to track 
the information and prepare the returns, and the attorneys 
needed to interpret and argue the gray issues contained in the 
massive tax codes, American businesses spend billions of 
dollars every year complying with their federal tax burdens
    States collect more in sales tax than they do from the 
combination of the individual income tax, corporate income tax, 
and property taxes. This fact usually surprises people because 
so little time and money is spent administering the sales tax. 
Sales taxes are generally quite simple to administer. However, 
some of the states have goofed up the simplicity, by adding new 
exceptions every year.
    Also note that not all current costs associated with 
administering the payroll taxes would be completely eliminated 
under the new proposal. The proposed tax would merely change 
the source of funding for social security payments, but would 
not change how the social security payments are calculated. 
Therefore, companies would remain responsible for tracking 
wages. W-2's and yearly filing for the self-employed would 
still be essential.
    For the businesses that are already collecting at least one 
state's sales tax or the necessary exemption documentation from 
customers, most companies are already familiar with the basics 
of sales tax administration. The education of these businesses 
on the national sales tax would be fairly straightforward 
(again depending upon the procedural requirements). For those 
businesses new to sales tax (such as direct mail and internet 
retailers, banks, and insurance companies), they would have a 
larger learning curve.

    Problems encountered by businesses currently administering 
the states' sales taxes

    The national sales tax as proposed would not duplicate most 
of the larger problems that businesses currently encounter when 
dealing with the states' sales taxes. The first and foremost 
complaint that businesses have with the current states' sales 
tax systems is that:
     --all of the 45 states that impose a sales tax 
have different rules regarding what is taxable, when it is 
taxable and the amount of tax. Even when a state's tax appears 
to be similar to another state's, their respective courts often 
interpret those laws differently.
    It's fairly simple to become proficient administering one 
state's sales tax, but administering to several of them is a 
very difficult feat. The national sales tax would be just 
that--``national.'' As proposed, there are no regional or local 
zones that would be established with different guidelines (tax 
rates or exemptions) to complicate the national sales tax.
    Another area that concerns many small and large businesses 
is nexus. Nexus, for sales tax purposes, is the minimum 
connection that must exist between a vendor and a state before 
that state can require the vendor to collect sales tax. A 
salesman or an independent contractor can create nexus for a 
business. Making deliveries to a customer in a state using a 
company truck can create nexus for a business. Nexus would not 
be a major concern for businesses if the states applied the 
same interpretation of what constituted ``minimum connection'' 
in the creation of nexus. However, the states are not 
consistent in their criteria. Some states take the position 
that if a company's salesman visits one customer in their 
state, that is sufficient to create nexus. Other states take 
the position that it takes 10 visits to create nexus. There is 
no across the states standard to easily assess whether a 
business has nexus with a state. As proposed, the requirement 
that a business collect the national sales tax is not dependent 
upon a business' nexus with any specific state.
    The topic that raises the blood pressure of more sales tax 
administrators on a daily basis is the topic of drop-shipping 
for customers. This occurs when a business sells to one 
customer and that customer requests that the products be 
shipped directly to their customer. The problem is that many of 
the states take the position that if a business is not 
registered in a state, they cannot provide the documentation 
(generally a resale certificate) that would otherwise allow the 
sale not to be subject to the state's sales tax. The basic 
underlying premise for the sales tax is ``the sales tax should 
only be paid by the ultimate consumer purchasing the product.'' 
However, this goes out the window in the states that take the 
position that only registered businesses can provide the 
necessary exemption documentation to support their stance that 
they are not subject to tax. When this occurs double taxation 
can take place on property that is drop-shipped into those 
states. First, it would be paid by the company that is not 
registered in the state. Next, it would be paid by the ultimate 
consumer purchasing the product.
    This places businesses that have nexus with such states at 
competitive disadvantages with those that do not have nexus 
with such states. For example, assume Company A has nexus with 
State Q and Company B does not have nexus with State Q. Company 
A would have to collect sales tax on shipments for a customer 
that has no nexus with State Q and is not registered with State 
Q when shipping to their customer's customer located in State 
Q. However, if Company B made the same sale and shipments, they 
would not be required to collect the tax. As proposed, a 
company's nexus with a state would not put it at a competitive 
disadvantage with companies that did not have a minimum 
presence in the state.
    Many states tax the property and services that are 
purchased by businesses. Determining what purchases are taxable 
in a state, which ones qualify for an exemption, and how to 
obtain such exemptions is an ongoing concern for many 
businesses. The national sales tax would not result in nearly 
as many problems because according to Chapter 1, Section 102 
``(n)o tax shall be imposed under Section 101 on any taxable 
property or service purchased for a business purpose in a trade 
or business.'' However, the definition of the statement 
``purchased for a business purpose in a trade or business'' 
needs to be more fully developed. The proposed definition is 
``purchased by a person engaged in a trade or business and used 
in that trade or business--(1) for resale, (2) to produce, 
provide, render, or sell taxable personal property or services, 
or (3) in furtherance of other bona fide business purposes.'' 
The definition needs to be further defined because opposing 
opinions on the taxability of various business purchases still 
remain. For example, would a business lunch be taxable? My 
interpretation is that they would not be taxable. However, 
there are those that disagree with that interpretation. All 
such questions and gray areas need to be eliminated.

    Compliance

    Under the current state sales tax systems, non-compliance 
will generally fall into one of three categories:
    1) underpaying the tax because of a mistake,
    2) underpaying the tax due to a difference in opinion from 
the states on the many gray areas of the laws, or
    3) underpaying the tax intentionally.
    The regulations that are developed in order to reduce these 
compliance problems could make the tax difficult or easy to 
administer from a business standpoint. The current proposed 
national sales tax is more lenient on what a seller can accept 
as exempt documentation in lieu of the tax, than what the 
states currently require. Most states require that the 
purchaser provide the seller an exemption certificate that 
includes the:
    a) purchaser's name, address, and registration number,
    b) the seller's name,
    c) a description of the property being purchased,
    d) a statement that the property being purchased meets the 
requirements for the exemption (i.e. resale, exempt business 
purpose, etc...), and
    e) a signature.
    The proposed national tax merely requires the vendor to 
receive in good faith a copy of a registration permit from the 
purchaser and for the seller not to have at the time of the 
sale reasonable cause to believe that the buyer was not 
registered. Due to the fact that the proposed national sales 
tax rate is higher than any current state sales tax rate, the 
controls should be at least as tough as those imposed at the 
state level.
    The first non-compliance category listed above is 
underpaying the tax because of a mistake. Most mistakes made by 
businesses and individuals are the result of a lack of 
knowledge that something is taxable. The simpler a tax is the 
less likely that mistakes will be made.
    The states have made parts of their sales/use tax laws so 
complex and difficult to follow, that there is close to 100% 
non-compliance with some sections. This is the case with the 
sections relating to individuals self-assessing use tax. 
According to most current state sales tax systems, if an 
individual purchases a product in a state and is not charged 
sales tax, the individual is legally required to self-assess 
that states use tax. For example if you live in Virginia and 
you purchase a table from LL Bean--LL Bean does not currently 
have nexus with Virginia and is therefore not legally required 
to collect Virginia's sales tax on their shipments to Virginia 
customers. Therefore, you would be required to self-assess the 
tax.
    The states' sales tax systems are not working when it comes 
to individuals self-assessing. Most Americans don't even know 
that they are legally required by most states to do this. The 
proposed national sales tax is much simpler and this problem 
would be much smaller because a business' lack of nexus with a 
state would not effect the fact that it would generally need to 
collect the tax from these customers. Whether a business had 
nexus with a state would be irrelevant to the fact that the 
national sales tax would be required to be collected by the 
vendor in most situations. Therefore, essentially more 
businesses would be collecting the tax when shipping products 
directly to individuals' homes and fewer individuals would have 
the need to self-assess the tax. In addition, the marketing 
advantage that many direct marketers and internet retailers 
without nexus in a state have over other businesses physically 
present in a state would not exist under the national sales tax 
(when the direct marketers or internet retailers have a 
physical presence in the United States).
    The second area of non-compliance falls under the category 
of underpaying the taxes due to a difference of opinion from 
the states on the many gray areas of the laws. The fact that 
the national sales tax as proposed is based on the presumption 
that many businesses would not be subject to the national sales 
tax and that all purchases by individuals (with very few 
exceptions) would be taxable eliminates most of the gray areas 
that would come under contention.
    The third area of non-compliance is due to those 
individuals that intentionally underpay the tax. There will 
always be individuals attempting to illegally outmaneuver 
paying their fair share of taxes, just like there will always 
be individuals trying to create new and more potent computer 
viruses. With any tax system, it's a matter of trying to stay 
one step ahead of the law breakers.
    There are several areas where the details of the internal 
controls that will be used to stop those intentionally trying 
to make purchases without paying tax are not currently defined 
under the proposed ``Fair Tax Act.'' These internal controls 
will be essential to determining the ease with which businesses 
can meet their tax responsibility. Here are five areas that 
need to be further developed.
    1) What controls would be established to stop importers 
from shipping their goods over our borders and selling them tax 
free on a black market?
    2) What controls would be established to ensure that 
Americans traveling over the borders and purchasing their goods 
without the tax and bringing them back into the United States 
will self-assess the tax? Chapter 1, Section 103(b) provides 
that ``(i)n the case of taxable property or services purchased 
outside the United States and imported into the United States 
for use or consumption in the United States, the purchaser 
shall remit the tax imposed by Section 101.'' Section 101(c) 
provides that if a consumer imports taxable property directly, 
they would pay both the sales tax and any import duty together 
at the same time at customs. Section 101(d) states that ``(t)he 
person using or consuming taxable property or services in the 
Unites States is liable for the tax'' except when the person 
pays the tax to the person selling the taxable property or 
service and receives a qualifying receipt. The compliance for 
individuals self-assessing the states taxes is almost non-
existent. What controls would be instituted to increase 
compliance?
    3) What controls would be established to tax goods 
purchased over the internet and shipped directly to customers 
from locations outside the United States?
    4) What controls would be in place to locate individuals 
that register non-existent companies (where no actual business 
is taking place) in order to obtain the documentation to 
provide vendors in order to make personal purchases tax free?
    5) What controls will be in place to stop individuals from 
utilizing their companies' certificates of registration in 
order to make tax free personal purchases? This is another area 
where states know the problem exists. However, if the person 
makes the purchase with cash, the audit trail is generally non-
existent.
    The regulations and controls that would be established in 
answer to the above questions could be very simple or very 
complex for businesses to follow. The simpler solutions tend to 
allow more tax evaders to slip through. The more tedious 
solutions tend to put a larger burden on businesses.
    For example, in response to question number 5, a simple 
procedure could be established that:
    1) a company must designate a specific employee(s) to be 
responsible for the tax documentation,
    2) the employee would be required to register and sign a 
document that they will not illegally use the tax documentation 
to make personal purchases tax free, and
    3) the employee provides a copy of the documentation to 
each vendor that the company makes non-taxable purchases from.
    However, this simple procedure leaves open several loop 
holes. First, if the designated employee actually uses the tax 
documentation for personal purposes there would be very little 
in the way of an audit trail to weed out such occurrences. The 
records at her employers would show no indication of the 
misdeed. Second, what would stop a dishonest clerk at the 
vendors from making another copy of the tax documentation and 
then making tax free purchases with the documentation and cash. 
This would essentially be untraceable.
    An example of a slightly tougher solution that would rely 
more heavily on businesses would establish that:
    1) every company that registers receives a booklet of 
exemption certificates containing sequential numbers, the 
company's name, and identification number,
    2) every company would be responsible to keep a log of the 
exemption certificate number and what vendor they gave the 
exemption certificates to.
    This procedure, although not fool proof, would result in 
fewer employees utilizing such certificates for their own 
purposes. An audit of the log and purchases made by the company 
from specific vendors would show any certificates that were 
missing. Copying of certificates by vendors for their own use 
would also be less likely since the certificates would be 
printed by the government.
    This then raises the question of ``when is a seller 
relieved of liability when collecting documentation?'' Section 
103(d) provides that when the vendor accepts a copy of the 
registration certificate in good faith and has no reasonable 
cause that the purchaser was not registered that this is 
sufficient to relieve the vendor of liability. The issue of 
``what constitutes the acceptance of documentation in good 
faith'' is an area where the states and businesses currently 
hold varying opinions. For example, what happens if the 
government establishes a set of guidelines to indicate that a 
certificate is valid and a clerk at a store accepts one that is 
missing a little identifying insignia in the bottom corner? 
Would the store that mistakenly accepted the counterfeit 
documentation be subject to the tax that they should have 
collected from the customer? The mere fact that vendors would 
now be required to look for this insignia would place a large 
responsibility on vendors.
    You can see from the above, that the details of what would 
be required of a business in the day to day activities of 
compliance would be essential in determining the full impact a 
national sales tax would have on businesses.

    What agency (agencies) would administer the tax?

    Section 401 provides that states which maintain a sales tax 
and which enter into a cooperative agreement with the federal 
government can choose to administer the federal tax for \1/4\ 
of one percent of the revenue they collect and remit to the 
federal government. They also have the ability to contract out 
the work to another state. Title III, Section 302 would 
establish within the ``Department of Treasury a Sales Tax 
Bureau to administer the national sales tax in those States 
where it is required.'' Specifically, those states that cannot 
or choose not to collect the national sales tax.
    The current national sales tax proposal suggests that the 
states should administer the tax because of their previous 
experience administering a sales tax. Just because a state has 
experience, does not mean that it is good at what it does. 
There are states that are great administrators and states that 
are very poor.
    It would be simpler to have all administrative 
responsibilities fall under the Sales Tax Bureau than under the 
45 states that currently impose a sales tax. Imagine the IRS 
administration problems under 45 different roofs. It would be 
best to have one organization responsible for administering the 
tax and to make sure the individuals in that organization are 
well educated and trained. If there were several agencies 
administering the tax, the administrative controls would be 
significantly diluted. In addition, for businesses operating in 
more than one state, there is confusion as to which agency 
would have control over the returns.

    Conclusion

    In closing, I appreciate the opportunity to speak at this 
first ever Congressional Summit on Fundamental Tax Reform. The 
testimony heard over the next three days from the members of 
Congress, the economists, and the business leaders on improving 
the IRS, as well as on the various tax reform proposals, can 
only serve to improve our future tax system. I'm afraid you 
have your work cut out for you.

                                


    Chairman Archer. Thanks, Ms. Skarbek.
    Mr. Chapoton?

 STATEMENT OF HON. JOHN E. CHAPOTON, PARTNER, VINSON & ELKINS, 
   LLP, ON BEHALF OF THE AMERICANS FOR FAIR TAXATION [FORMER 
  ASSISTANT SECRETARY FOR TAX POLICY, U.S. DEPARTMENT OF THE 
                           TREASURY]

    Mr. Chapoton. Thank you, Mr. Chairman. My name is John 
Chapoton. I am a partner with the law firm of Vinson & Elkins, 
and I am here on behalf of the Americans for Fair Taxation.
    Mr. Hank Gutman and I have a statement that we have 
submitted for the record, and I would like to just give a brief 
summary of the points that we have made, again, focusing on the 
administrative points.
    I think a starting point, when you assess or evaluate any 
tax system, is how understandable the rules are and how 
predictable the outcome of calculating the tax is. I think when 
you look at our present income tax, you have to say that it 
does not meet that test very well. We have all sorts of special 
rules, we have phase-ins, we have phase-outs, we have disputes 
on what has to be capitalized, what doesn't have to be 
capitalized, we have rules for determining ordinary income and 
capital gains. So it is complex and, unfortunately, efforts at 
simplification have failed. It absolutely becomes more complex 
every year.
    I think it is reasonable to conclude, I think it is really 
cannot be doubted that the Fair Tax that is before you today 
would eliminate most of these complexities and would, thus, 
eliminate the administrative costs that those complexities 
bring with them. There are objections voiced to the national 
sales tax, the distribution issues, the transition issues. 
Would the rate be so high that Americans would object? There 
are other objections. I think the Fair Tax deals with those in 
a very straightforward and open manner. I want to just talk 
about the administrative points, however.
    One thing we ought to keep in mind is that consumption 
taxes are used, in one form or another, very widely in the 
world. All of our trading partners, I guess for all of our 
trading partners, most of them certainly have consumption 
taxes, most in the form of value-added taxes. Some 17.8 percent 
of the OECD countries--tax rate of the OECD countries are in 
consumption tax form.
    And of course the States, as we have heard today so many 
times, depend a great deal on sales taxes to raise their 
revenues. Six States, including the State of Texas, my State, 
depends on the sales tax for most of its revenues. So sales 
taxes are easily understood. They generally or the perception 
is that they work well. Most businesses selling to retail 
customers collect and report the tax today and it is a familiar 
tax. So there is strong evidence that if the Federal Government 
decided to do so, it could administer a national sales tax.
    The Fair Tax or any other national sales tax, though, 
would, of course, have to be a higher rate than we have 
experienced in any State sales tax to this date. And as the 
rate goes up, we know the incentive to avoid or evade the tax 
goes up by imaginative interpretation or simply by cheating. 
The rate of tax measures the potential reward for evading or 
simply avoiding the tax. So the rate of the tax is an important 
question in administration and enforcement of the tax. We 
discuss several specific areas in our paper. But what jumps out 
at you, as you review these issues, is that for the most part, 
these difficult issues that will be presented in a national 
sales tax are areas that present huge complexities in the 
income tax today, and the compliance problems that go with 
that.
    Take a single example, but a very important example. That 
is mixed-use property or mixed-use service; that is, where a 
person buys a service or a good and uses it partially in 
business and partially personally. That will be a difficult 
administrative problem in the sales tax. But it is a very 
difficult problem in the income tax today, determining when an 
expense is personal or business. It is the subject of much 
litigation and it is a constant thorn in the side of the income 
tax. So that is just one example. There are many others that 
the Fair Tax or any national sales tax will have problems to 
deal with, but they are not increased problems, they are 
problems that we already have to deal with. And, indeed, in 
many instances, I think it is possible to argue that the Fair 
Tax would lessen those problems.
    I think the key point is that when you look at the 
administration and enforcement of a sales tax, it is just how 
many taxpayers would be taken out of the system all together. 
Today, everybody is in the system. We have 120 million 
individual income tax returns, some 22 million business returns 
and over 200 million total returns. Only retail businesses, 
only a portion of today's business returns, would be in the 
system, if you will, in a sales tax, and that would only be a 
fraction of the total returns filed by individuals, trusts, and 
partnerships and businesses today.
    So in enforcement terms, this means there would be far 
fewer opportunities to evade or avoid the tax. Fewer taxpayers 
would have the opportunity to bend the rules or simply cheat, 
even if they were inclined to do so, and even if they were 
doing so now under the income tax. Under the income tax, 
everyone has the chance. You have the chance in the privacy of 
your own home to claim excessive deductions or ignore small 
amounts of income. And the more individual taxpayers hear about 
others bending the income tax rules, that the wealthy are not 
paying their share or because of tricky schemes by so-called 
investment schemes and investment bankers, people are less 
inclined to pay their own fair share. That is a problem with 
any uneven tax, and I am afraid an uneven tax is what we have 
today.
    Of course, small cash-based business, the street vendor, 
the contractor who comes to your house for a single job will be 
a problem under a sales tax. They will collect the tax on what 
they sell and not have the incentive to pay it over or they may 
give you a wink and a nod and say they won't collect the tax if 
you will hire them to do the job. But the clarity of the rules 
will, under a sales tax, would make that more difficult, and 
probably it would make them easier to catch and penalize. Lack 
of understanding of the rules would not likely be a very 
compelling defense.
    And more important for today's discussion, this is not a 
new problem. This is the group of taxpayers, the small cash-
based businesses, that is the single largest component of the 
so-called tax cap under the income tax today. There is no 
reason to think this would be more of a problem under the sales 
tax, and it might even be easier to address, given the 
transparency of the tax.
    So, Mr. Chairman, let me just conclude by saying that this 
committee and the Congress may decide not to go the sales tax 
route for any number of reasons, for economic reasons, for 
transition considerations, but I think enforcement and 
administration questions should not prevent the very serious 
consideration and study of the Fair Tax.
    [The prepared statement follows:]

Statement of Hon. John E. Chapoton, Partner, Vinson & Elkins LLP, on 
behalf of the Americans for Fair Taxation (Former Assistant Secretary 
for Tax Policy, U.S. Department of the Treasury)

    Dear Mr. Chairman and Members of the Committee:
    We are pleased to have the opportunity to submit this 
statement on behalf of Americans for Fair Taxation. We commend 
Chairman Archer and the Committee for undertaking a serious 
study of a national retail sales tax as embodied in the 
FairTax. We have been asked to comment on the administration of 
the FairTax.
    One key element in the evaluation of any tax system is 
whether the rules are understandable and the outcome of the 
calculations predictable. Our current income tax system clearly 
fails to meet these criteria for most individual taxpayers and 
for many large corporate taxpayers as well. Features of the 
individual income tax that increase its complexity include 
elections, distinctions between capital and ordinary gain or 
loss, valuation questions, capitalization of certain business 
costs, recordkeeping requirements, rules restricting favorable 
tax treatment, itemized deductions, the alternative minimum 
tax, the earned income tax credit, and a large number of phase-
in and phase-out provisions. Attempts to simplify the income 
tax have failed, and indeed, the Code annually grows more 
complex. The FairTax would eliminate these complexities, and 
the administrative costs associated with them.
    In considering a national sales tax, the Committee should 
be aware of the important role that consumption taxes already 
play both within the U.S. and globally. Consumption taxes are 
an important source of revenue for governments generally; this 
is an area where the U.S. has lagged behind other nations. The 
success of so many other governments in administering 
consumption taxes should indicate to the Committee that the 
U.S. can successfully administer a comparable tax.
    Internationally, countries ranging from Albania to Zambia, 
including almost all our major trading partners rely heavily on 
consumption taxes. These are typically in the form of value-
added taxes, which have essentially the same economic effect as 
retail sales taxes. The administration and enforcement of these 
levies are not problem-free, but there is reason to conclude 
those problems may not be as great as we are encountering with 
our individual and corporate income taxes.
    Of the 29 OECD countries, only the U.S. does not have a 
value-added tax. Among OECD members, the United States has the 
lowest general consumption tax collections as percentage of 
total taxes (7.9% in 1996) other than Japan (5.3%). The average 
share of taxes raised from general consumption across all OECD 
countries is 17.8 percent. At the federal level, the U.S. 
collected $70 billion in consumption taxes, in the form of 
excise taxes, during FY 1999.

[GRAPHIC] [TIFF OMITTED] T1879.007

    In the U.S. today, consumption taxes, including both 
general and specific sales or excise taxes, are used by every 
state and many local governments. In 1999, approximately 32 
percent of all state and local taxes, or more than $262 
billion, were collected this way. Forty-five states have 
general sales taxes. In 1998, general sales tax revenues 
accounted for more that half of total tax collections in 
Florida, Nevada, South Dakota, Tennessee, Texas, and 
Washington. When selective sales or excise taxes are included, 
these same states all collect more than 70 percent of their 
revenues through consumption taxes.
[GRAPHIC] [TIFF OMITTED] T1879.008

    Apart from some current issues with e-commerce, existing 
sales tax administrative systems seem to work reasonably well. 
Indeed, a number of significant current income tax system 
problems do not exist under a sales tax. The income tax and 
trade complexities we are currently facing with Foreign Sales 
Corporations (FSCs) are merely one example of the difficult 
issues that we must regularly address. These income tax 
structural problems would go away under a consumption tax 
system. The marriage penalty issues and corporate tax shelter 
concerns--two tax policy issues attracting much attention 
today--would largely disappear under a sales tax regime.
    For tax year 1997, IRS reports that 63.5 million individual 
tax returns were signed by paid tax return preparers. This is 
more than half of the 120.8 million individual income tax 
returns filed. This is, of course, in addition to the 
substantial burdens imposed on individual taxpayers who prepare 
their own returns. Under the FairTax, this burden on individual 
taxpayers would be eliminated. The only new administrative 
burden would be the annual need to register families to qualify 
for the family consumption allowance.
    Most businesses selling to retail consumers collect and 
report sales taxes today. While their sales tax administrative 
burdens would become somewhat more complex (at least until 
state and local tax systems are brought into conformity), this 
would be more than offset by the fact their income tax burdens 
would disappear. A variety of other new burdens would be 
imposed on businesses making retail sales, but many of these 
would substitute for burdens already required under existing 
state and local sales taxes. Indeed, the FairTax contemplates 
that the myriad of existing sales and local tax bases would 
over time be brought into conformity with the newly defined 
federal sales tax base. This by itself would be a major 
simplification for retailers--especially those operating in 
multiple jurisdictions.
    Certainly there are issues of tax administration that must 
be addressed. A variety of services, including financial 
intermediation services, and other products not generally 
subject to sales taxes today would become taxable. Devising the 
appropriate tax structure will be a complex undertaking; many 
of our trading partners are wrestling with these issues today. 
Additional work will be required in this area. Another area of 
potential administrative difficulty is presented when property 
with both taxable and nontaxable uses (``mixed use property or 
services'') is purchased. Apportionment is required under the 
FairTax. However, this requirement is unlikely to be any more 
burdensome than distinguishing between business and personal 
expenses under current law.
    The Federal Government and state and local governments 
would be required to pay sales taxes on their purchases, which 
would be a new administrative burden. Governmental entities 
will be required collect tax on their sales as well.
    It is reasonable to assume that total state government tax 
administration costs would rise under the FairTax because they 
would largely be responsible for collecting the new federal 
sales tax in addition to their own sales taxes. In recognition 
of this, the FairTax provides for a 0.25-percent payment to 
states for administering the tax. While we have not studied 
whether this amount would be sufficient to cover the increased 
costs of administration, a cost reimbursement feature is an 
important tool for assuring that states provide adequate 
support to collect all taxes that are due under the new system. 
There are, however, potentially significant administrative cost 
savings if a uniform tax base were to be adopted across all 
taxing jurisdictions.
    It is very important to keep in mind that administrative 
costs in general, and compliance costs in particular, are 
likely to rise as the rate of tax increases. Pressure to avoid 
taxes--through imaginative interpretations of the rules or by 
simply cheating--increase as the tax rate goes up. The rate of 
tax measures the potential reward to a person contemplating 
avoidance or evasion. If the rate becomes excessive, 
enforceability could undoubtedly become a problem. However, 
these enforceability concerns may not be as significant as 
those that currently exist under the federal income tax.
    Enforceability is more of a problem if opportunities for 
avoidance are presented by the mechanics of the tax, such as 
through exceptions and special rates. The states, for example, 
generally exempt a variety of goods and services. The FairTax, 
by contrast, has virtually no exclusion and no special rates. 
It contemplates a very comprehensive tax system. We want to 
emphasize as strongly as possible, the critical importance, 
from an administrative standpoint (as well as an economic 
standpoint), of keeping the tax base as broad as possible, and 
thus the rates as low as possible.
    In sum, the FairTax provides the opportunity to reduce 
administrative burdens on taxpayers. As with the consideration 
of any new tax regime, and as we continually face under current 
law, there will be questions and problems to be solved. We 
believe that these administrative questions can and should be 
seriously addressed. Administrative issues should not stand in 
the way of further serious consideration of the FairTax.

                                


    Chairman Archer. Thank you, Mr. Chapoton.
    Mr. Threadgill?

  STATEMENT OF DEL THREADGILL, VICE PRESIDENT OF TAXES, J.C. 
 PENNEY COMPANY, DALLAS, TEXAS, AND CHAIRMAN, NATIONAL RETAIL 
                 FEDERATION TAXATION COMMITTEE

    Mr. Threadgill. Thank you, Mr. Chairman and members of the 
committee. My name is Del Threadgill, and I am vice president 
and director of Taxes for the J.C. Penney Company and the 
current chairman of the National Retail Federation's Taxation 
Committee.
    The National Retail Federation is the world's largest 
retail trade association, representing an industry of 1.4 
million establishments, employing more than 22 million 
Americans or about one in every five workers, with sales in 
1999 of more than $3 trillion.
    I am here today to express the retail industry's strong 
opposition to a national retail sales tax, as proposed. Our 
principal concern is that no one really knows what the full 
impact of replacing the entire Federal income tax structure 
with a consumption-based sales tax will have on our economy. It 
has never been done before in any major industrialized Nation, 
let alone the world's largest economy. As evidenced by the 
comments from the previous panel, even the experts disagree 
over the impact from such a radical change. At a time when our 
economy is experiencing its longest period of sustained growth 
in history, do we really want to bet the ranch on some untried 
tax policy experiment?
    Americans are truly dissatisfied with the current tax 
system, and rightfully so. The retail industry cannot and will 
not defend the income tax as it currently stands. It is 
entirely too complicated and cumbersome. As for fairness, it is 
hard to understand why a tax system that determines a person's 
contribution to the cost of Government based on his ability to 
pay is less fair than a system that is based on what he spends.
    Yesterday, the National Retail Federation released a study 
of congressional tax reform proposals. That study was prepared 
by the nationally recognized economic consulting group within 
PricewaterhouseCoopers. PWC utilized an economic model capable 
of estimating both the short-term and long-term consequences of 
tax reform; in other words, what will happen in the short run, 
as opposed to 10 years from now.
    Retailers thought it imperative to know what might happen 
to the economy and consumers in the short run as well. PWC was 
instructed to use their expertise to determine what they 
believed to be the correct answer. There was no predisposition 
given to PWC as to what the retail industry expected to see 
from the study. We simply wanted to know what the facts were.
    The PWC findings should be of concern to both taxpayers and 
lawmakers alike. While it did show the economic gains at the 
end of a 10-year period under a national retail sales tax, it 
is the interim period that causes the heartburn. The study 
clearly shows that there will be short-term chaos in the 
economy and in the retail industry.
    In the best-case scenario, the study found, one, that the 
required budget-neutral tax rate would range from 24 to 65 
percent, depending upon the number of exemptions and the rate 
of taxpayer compliance.
    Second, serious economic disruptions would occur under a 
national retail sales tax, at least in the short run. The 
economy would be depressed for a period of at least 3 years, 
consumer spending would be depressed for at least 8 years with 
consumer purchases down over $500 billion and up to a million-
and-a-half American jobs would be eliminated. The question we 
have as an industry is how many smaller retailers and other 
small businesses would still be around to enjoy the long-term 
benefits of a national sales tax after this transition period.
    And, third, a national retail sales tax would redistribute 
the Federal income tax burden from higher income to middle-
income families, with the purchasing power of low-income 
households being down 8 to 14 percent under a national retail 
sales tax.
    Retailers believe that a national retail sales tax would 
exacerbate the underground economy, become a Pandora's box of 
carveouts and exemptions for Washington's special interests, 
burden small business and require additional IRS or a like-
minded agency's oversight. The retail industry would encourage 
lawmakers to take a measured approach to tax reform to ensure 
that a new system is both fair and equitable for everyone.
    Thank you, Mr. Chairman.
    [The prepared statement follows:]

Statement of Del Threadgill, Vice President of Taxes, J.C. Penney 
Company, Dallas, Texas, and Chairman, Taxation Committee, National 
Retail Federation

    Mr. Chairman and Members of the Committee:
    Good afternoon, and thank you for the opportunity to 
testify before this Committee today.
    My name is Del Threadgill, and I am Vice President and 
Director of Taxes for the JCPenney Company and the current 
Chairman of the National Retail Federation's Taxation 
Committee.
    The National Retail Federation is the world's largest 
retail trade association, representing an industry of 1.4 
million retail establishments, employing more than 22 million 
people--about 1 in every 5 American workers--with sales in 1999 
of more than $3.0 trillion.
    I am here today to express the retail industry's strong 
opposition to a proposed National Retail Sales Tax (NRST). Our 
principal concern is that no one really knows what the full 
impact of replacing the entire Federal income tax structure 
with a consumption-based sales tax will have on our economy. It 
has never been done before in any major industrialized nation, 
let alone the world's largest economy.
    As evidenced by the comments from the previous panel, even 
the experts disagree over the impact from such a radical 
change. At a time when our economy is experiencing its longest 
period of sustained growth in history, do we really want to 
``bet the ranch'' on some untried tax policy experiment.
    Americans are dissatisfied with the current tax system, and 
rightfully so. The retail industry cannot and will not defend 
the income tax as it currently stands. It is entirely too 
complicated and cumbersome.
    As for Fairness, it is hard to understand why a tax system 
that determines a person's contribution to the cost of 
government based on his ability to pay is less fair than a 
system that is based on what he spends.
    Yesterday, the National Retail Federation released a study 
of Congressional tax reform proposals. The study was prepared 
by the nationally recognized economic consulting group within 
PriceWaterhouseCoopers (PWC). PWC utilized an economic model 
capable of estimating both the short-term and long-term 
consequences of tax reform. Models utilized by some national 
sales tax proponents are only capable of estimating the long-
term effects of tax reform (i.e. what happens at the end of a 
10-year period.)
    Retailers thought it imperative to know what might happen 
to the economy and consumers in the short-term as well. PWC was 
instructed to use their expertise to determine what they 
believed to be the correct answer. There was no predisposition 
given to PWC as to what the retailers expected to see from the 
study. We simply wanted the facts.
    The PWC findings should be of concern to taxpayers and 
lawmakers alike. While it did show some modest economic gains 
at the end of a 10-year period under a NRST, it is the interim 
period that causes the heartburn. The study clearly shows that 
there will be short-term chaos in the economy and the retail 
industry.
    In a ``best-case'' scenario, the PriceWaterhouseCoopers 
(PWC) study found:
    1) The required budget-neutral NRST tax rate would range 
from 24-65%, depending on the number of exemptions and the 
taxpayer compliance rate.
     a seperate Congressional Joint Economic Committee 
report confirms PWC's findings by estimating that a NRST rate 
of 19-65% would be necessary.
     2) Serious economic disruptions would occur under 
a National Retail Sales Tax.
     the economy would be depressed for three years--
with GDP down $180 billion.
     consumer spending would be depressed for eight 
years, with consumer purchases down $503 billion.
     up to 1.5 million American jobs would be 
eliminated.
     the question arises as to how many retailers and 
small businesses would still be around to enjoy the modest 
long-term benefits of a NRST?
    3) A National Retail Sales Tax would redistribute the 
federal income tax burden from higher income to middle and low-
income families.
     the purchasing power of low-income households 
would be down 8-14% under a NRST while high-income households 
would not be affected.
    Retailers believe that a NRST would exacerbate the 
underground economy, become a Pandora's box of carve-outs and 
exemptions for Washington special interests, burden small 
businesses, and require additional IRS or like-minded agency 
oversight.
    The retail industry would encourage lawmakers to take a 
measured approach to tax reform to ensure that a new system is 
fair and equitable for everyone. Americans may not like the 
current Federal income tax or the IRS, but they may like a 
National Retail Sales Tax even less.
            Thank you.
      

                                


    Chairman Archer. Thank you, Mr. Threadgill.
    The chair has no questions for this panel.
    Ms. Thurman?
    Mrs. Thurman. Mr. Hamilton, were you around when the 
service tax was contemplated and passed in Florida?
    Mr. Hamilton. Yes, ma'am, I was.
    Mrs. Thurman. Did you have any experience in talking with 
the comptroller there as to the issues, or the Department of 
Revenue, the issues that they had and concerns of the 
collection of these taxes?
    Mr. Hamilton. Yes, ma'am. And one of my good friends was 
the commissioner of revenue until very recently there, and we 
actually imposed service taxes in the same period in Texas.
    Mrs. Thurman. Are yours still in place?
    Mr. Hamilton. We had the good sense not to tax advertising, 
and that seems to have been a very important thing not to do.
    [Laughter.]
    Mrs. Thurman. So you now have services.
    Mr. Hamilton. Yes, ma'am.
    Mrs. Thurman. Everything but advertising?
    Mr. Hamilton. Well, as with most things on the Texas sales 
tax, it is a hit or miss. Generally, things like information 
services, data processing services, miscellaneous retail 
services, which would be like repairs of shoes and whatnot, 
telecommunication services, just a fairly wide range, but not 
all services.
    Mrs. Thurman. But those were all taxed.
    Mr. Hamilton. Yes, ma'am.
    Mrs. Thurman. Because one of the things we heard through 
our Department of Revenue was the burden that it was going to 
put on them, as well as to Mr. Threadgill on the issue of 
retailers of the collection.
    But I want to go to Mr. Chapoton.
    Mr. Chapoton. In the bill, actually, and I am asking these 
questions because actually Mr. Linbeck was in my office the 
other day, and he told me to ask these hard questions, so 
hopefully this isn't hard. In one of the parts, you talk about 
tax to be separately stated and charged. Now, I don't have a 
real big problem with some of it because even today, you know, 
I go into the store, I purchase something, I know it has a 
sales tax. If they tell me I am spending $100, I get charged my 
6 percent or 7 percent. At the end of the day, I know I am 
going to pay $107. But there is an interesting one in here that 
I don't understand. And it says you pay the property or 
services' price exclusive of tax, the amount tax paid, the 
property or service price inclusive of tax, and then the fourth 
one, and I don't know what this means, the tax rate, which is 
the amount of tax paid, per paragraph 2, divided by the 
property or service price inclusive of tax, per paragraph 3.
    Just to kind of get to the simplicity issue that everybody 
is going to pay this, I need to understand what does that mean?
    Mr. Chapoton. Well, I think that is part of the danger of 
reading statutory language. I think what it is trying to say is 
it is a tax-inclusive rate. And so that, and this point was 
made earlier today, that when you look at the tax, it is not, 
if you have a dollar, it is not 23 percent of a dollar, it is 
23 percent of $1.23. Do you understand that?
    It is like the income tax today. It is a tax-inclusive 
rate.
    Mrs. Thurman. Right.
    Mr. Chapoton. You do not pay the income tax out of other 
income, you pay it out of the income you are taxed on, and this 
is the same thing. So I am not sure I have even seen the exact, 
specific language you are talking about, but it is clear to me 
that is what it is trying to do.
    Mrs. Thurman. Is there a reason for that? I mean, why 
wouldn't you just put down this is the tax you are paying, end 
of story--I mean, just like we do today. I mean, I am just 
curious.
    Mr. Chapoton. You could do it either way, really. You could 
do it either way. It changes the rate, but you could do it 
either way.
    Mrs. Thurman. Mr. Hamilton, let me go back to another 
question. When you said you did the services, how many 
additional people did you have to put on to collect the 
services tax that----
    Mr. Hamilton. I think we added about 20 people.
    Mrs. Thurman. That is it?
    Mr. Hamilton. Yes, ma'am. I mean, it was fairly straight--I 
should have mentioned earlier that the one group of services 
that we didn't tax were professionals, like lawyers, doctors. 
That might have been a problem, too, or maybe not. But at any 
rate, they weren't taxed. But it didn't require a lot of 
additional people because a lot of where the services were 
being delivered, people were already registered for either the 
Texas sales tax or the Texas corporate franchise tax or one of 
our other taxes. So we were able to find them.
    Mrs. Thurman. But you think there would be a lot of other 
people that might have to be registered under this?
    Mr. Hamilton. Yes, ma'am, about 900,000 extra. But a lot of 
it is because it is picking up a wider band of services than 
our sales tax. It picks up the professions, for one thing, the 
lawyers, doctors----
    Mrs. Thurman. Do you see that as an increased cost to the 
State?
    Mr. Hamilton. Increased in--well, the administrative costs 
there would definitely be a significant administrative cost to 
the State, if, for no other reason, than the rapid processing 
of the returns and the money that would be required, and I 
think a more extensive audit and enforcement effort to deal 
with what Buck was referring to.
    Mrs. Thurman. Right. And I would go to that as an 
enforcement issue because even today, with your flea markets 
and any other things that are out there, how do you deal with 
those issues?
    Mr. Hamilton. Well, as with most sales taxes, the majority 
of the tax is collected from very large retailers, the J.C. 
Penney's and the Wal-Marts and whatnot. The way that we deal 
with flea markets, and gun shows and a lot of itinerant 
peddlers is we have enforcement officers--that is our term--
compliance officers in other States, that do routine canvasses 
of the shows when they are in progress. And they will go 
through and register every one of the taxpayers or anyone that 
is there that is making sales, ensure that the tax is being 
collected. There are marginal problems with that. It is 
certainly true, but that is part of the requirement on all of 
our enforcement offices that they do so many canvasses of those 
types of shows every year.
    Mrs. Thurman. But, Mr. Threadgill, that is a part of the 
problem that you have in those two is this underground economy 
that is going to start not just only in the flea markets and 
other areas like that, but the sale. I mean, is that the--
because you raised that issue.
    Mr. Threadgill. Certainly, the concern is, in coming up 
with what the rate would need to be to be revenue-neutral or 
budget-neutral, making sure what is included or not included in 
the base. And I think Mr. Chapoton mentioned the fact that a 
lot of cash-based businesses and what happens to those, and as 
the rate gets higher, the chances of those going underground 
becomes more and more.
    I know in the Canadian experience, when they instituted 
their GST tax, there was a study a couple of years later that a 
number of businesses went underground, and that was a 7- or 9-
percent GST-type sales tax, on top of their income tax. But 
there was a study that a lot of businesses, cash-based 
businesses, went underground.
    Mrs. Thurman. Mr. Chairman, I appreciate the fact that you 
have given us the opportunity to learn a lot today. And I want 
to say my thanks to all of the witnesses, those who are still 
here, for your sincerity in trying to answer our questions and 
to let you all know that no matter what we are asking in 
questions, we all should take seriously what is before us on 
any of these proposals. Because I think the one thing we all do 
agree, that we have got to simplify for the American people, 
however we do that, the tax code. So I appreciate, Mr. 
Chairman, your time and the time of our witnesses.
    Chairman Archer. The chair adds his gratitude to all four 
of you, as well as to all of the other witnesses that have been 
before the committee today. Thank you very much.
    There is no further questioning that I know of and no 
further witnesses today, so the committee will stand adjourned.
    [Whereupon, at 4:18 p.m., the hearing was adjourned, to 
reconvene on Wednesday, April 12, 2000, at 10:00 a.m.]


                         FUNDAMENTAL TAX REFORM

                              ----------                              


                       WEDNESDAY, APRIL 12, 2000

                          House of Representatives,
                               Committee on Ways and Means,
                                                   Washington, D.C.
    The Committee met, pursuant to call, at 10:00 a.m., in Room 
1100 Longworth House Office Building, Hon. Bill Archer 
(Chairman of the Committee), presiding.
    Chairman Archer. Today we continue with our tax summit on 
structural tax reform and what alternatives we might look at to 
replace the current archaic code which we commenced yesterday.
    And leading off this morning is one of our own colleagues, 
a member of the Ways and Means Committee and gentleman from 
Pennsylvania, Mr. English.
    And Mr. English, we are happy to have you with us this 
morning on the other side of the witness table, and we will be 
pleased to hear your presentation as to what you think is an 
appropriate alternative.

 STATEMENT OF HON. PHIL ENGLISH, A REPRESENTATIVE IN CONGRESS 
                 FROM THE STATE OF PENNSYLVANIA

    Mr. English. Thank you, Mr. Chairman.
    I appreciate the opportunity to appear here today. I 
believe that the current tax system is broken. I believe it is 
one of the reasons why our economy is having trouble competing 
internationally and I believe it is one of the reasons why so 
many taxpayers question the legitimacy of their government.
    I believe that we need to find a better way of applying 
taxes and generating the revenue to do what we need to do. And 
I want to especially congratulate you, Mr. Chairman, for 
raising that issue at this time. By getting involved now, I 
think we have an opportunity to shape the debate for the 
future.
    A couple of years ago, when I came to Congress, I became 
aware of some of the problems with the current tax system 
simply by talking to constituents.
    I was dissatisfied by many of the alternatives that were 
being offered including the flat tax and the idea of a national 
sales tax.
    And I have spent a lot of time working to develop an 
alternative based on the old Nunn-Domenici proposal which was 
described at the time as a consumed income tax.
    I have introduced the Simplified USA Tax Act because I want 
to reform the American tax system in a way sensible to the 
average citizen and that will pass the test of time.
    Not only do we need a tax system that is fair and sensible, 
we need one that is stable. As bad as the current system is--
and I am one of its severest critics--the last thing we need to 
do is enact reform that is so radical and experimental that 
Congress will be faced with revamping it all over again in a 
few years.
    The Simplified USA Tax is revolutionary in that it 
addresses the strongest points of concern with the current 
system while, at the same time, addressing concerns about the 
equity of other tax reform proposals being considered.
    SUSAT is based on principles that I feel are vital to any 
meaningful reform, imposing a simple tax to encourage 
efficiency, ensuring that income is taxed only once wherever 
possible, establishing trade equity for American products, 
taking the double tax burden off of savings so as not to 
discourage individuals from saving, providing incentives for 
investment in good-paying jobs in physical capital and in human 
capital. And including an accommodation with respect to the 
Social Security Payroll Tax, the most regressive tax of all.
    In my tax reform proposal USA stands for ``unlimited 
savings allowance.'' Everyone is allowed an unlimited Roth IRA 
in which they can put the portion of each year's income they 
save, after paying taxes and living expenses.
    After five years, all funds in the account may be withdrawn 
for any purpose, and all withdrawals, including accumulated 
interest and other earnings and principal are tax-free.
    Nothing could be simpler and nothing could give people a 
better opportunity to save, especially young people. Because 
only new income earned after enactment of SUSAT can be put into 
the USA Roth IRA, young people starting to move into their 
higher earning years are the ones who will benefit the most for 
the longest time.
    The Tax Code should give everyone the opportunity to keep 
what they save and, if they wish, to pass it along to 
succeeding generations. Therefore, the death tax would be 
repealed under my proposal.
    Under a new tax code, tax rates, in my view, should be 
lower, especially for wage earners who must now pay both an 
income tax and a 7.65 percent FICA payroll tax on the same 
amount of wages.
    It is my intention that the final tax rates under SUSAT, 
after all adjustments are made, will be as low as possible, 
consistent with budget limitations.
    At present, the USA Tax starts out with quite low rates, 15 
percent at the bottom, 25 percent in the middle, and 30 percent 
at the top.
    These rates are reduced even further by allowing wage 
earners a full tax credit for the payroll tax that is withheld 
from their paychecks under current law.
    I do not propose to repeal the payroll tax because to do so 
would imperil Social Security.
    However, I do allow a credit for it, and when the credit is 
taken into account, the rates of tax on workers' wages are very 
low, and the seven percent to 17 percent range for nearly all 
Americans.
    Under the simplified USA Tax, the tax rate on the first 
$40,000 of taxable income from wages cannot exceed 7.35 percent 
which is the basic USA rate of 15 percent less 7.65 percent.
    Under the current Code, the combined payroll tax/income tax 
rate is 22.65 percent.
    On the next $32,000, the rate cannot exceed 17.35 percent 
which is the middle USA rate of 25 percent less the payroll tax 
credit.
    Under the current code, the combined payroll tax/income tax 
rate is 35.65 percent. The Simplified USA Tax provides tax 
relief for all Americans, especially when they own their own 
home, give to their church, educate their children, and set 
aside some savings for a better tomorrow.
    Under this proposal, everyone gets a deduction for the 
mortgage interest on their home and for charitable 
contributions they make. Child support is also deductible.
    Generous personal and family exemptions are also allowed 
under this proposal.
    The Simplified USA Tax is simplicity itself. The tax return 
will be short, only a page or two for most of us. But more to 
the point, the tax return will be understandable. For the first 
time in a long time, America's tax system will make sense to 
citizens who will file their tax returns and pay their taxes.
    SUSAT also contains a new and better way of taxing 
corporations and other businesses, that will allow them to 
compete and win in global markets in a way that exports 
American-made products, not American jobs.
    If enacted in the United States, we have some reason to 
believe this innovative approach to business taxation will soon 
become the worldwide standard by which other countries model 
their systems.
    All businesses, corporate and non-corporate, are taxed 
alike at an eight percent rate on the first $150,000 of profit 
and 12 percent on all amounts above that small business level.
    This system would be border adjustable. It would also 
address the territoriality problem which is at the core of our 
fight with Europe over FSC. If we were to pass this business 
portion alone of my tax system, it would address the FSC 
problem and, at the same time, it would allow us to import a 
foreign tax base.
    The new revenue from the import tax will be, we estimate, 
about $160 billion, a large portion of which will never become 
a cost to the U.S. economy. We do not know exactly how much 
will be shifted back to the foreign companies that sell in the 
U.S. market, but both basic economics and common sense tell us 
that a large portion will be absorbed by foreign sellers and 
therefore will never enter the U.S. economy.
    I think the point here is that the amount is large and that 
the Simplified USA Tax provides a correspondingly large tax cut 
for Americans. At the same time, it gets rid of the AMT, the 
death tax, and depreciation.
    Mr. Chairman, wrapping up, for too long, the Tax Code has 
been an albatross around the neck of the economy. This is not 
very smart and it is certainly not fair to those citizens whose 
standard of living are substantially lower as a result.
    It is time to restore people's faith in the integrity and 
competence of their tax system, and in the process take a major 
step toward helping U.S. companies compete in the global 
marketplace.
    SUSAT is the product of a great deal of work by many people 
and I want to compliment them here. I am proud to be the 
sponsor of H.R. 134.
    I invite the Committee to look in a bipartisan fashion at 
this issue and consider providing the American people the fair 
and sensible tax system that they deserve.
    Mr. Chairman, I appreciate the opportunity to testify.
    [The prepared statement follows:]

Statement of the Hon. Phil English, a Representative in Congress from 
the State of Pennsylvania

    Good morning, Chairman Archer and my distinguished 
colleagues on the Ways and Means Committee. I appreciate the 
opportunity to testify before you today on the issue of 
fundamental tax reform. I commend the Chairman for scheduling 
these hearings as we agree that this is an issue whose time has 
come.
    I have introduced the Simplified USA Tax Act, H.R. 134, 
because I want to reform the American tax system in a way 
sensible to the average citizen and that will pass the test of 
time. Not only do we need a tax system that is fair and 
sensible, we need one that is stable. As bad as the current 
system is--and I am one of its severest critics--the last thing 
we need is to enact reform that is so radical and experimental 
that Congress will be faced with revamping it all over again in 
a few years.
    The Simplified USA Tax is revolutionary in that it 
addresses the strongest points of concerns with the current 
system while at the same time addressing concerns about the 
equity of other tax reform proposals being considered. The 
Simplified USA Tax is based on principles that I feel are vital 
to any meaningful reform:
     Imposing a simple tax to encourage efficiency
     Ensuring that income is taxed only once
     Establishing trade equity for American products
     Taking the double tax burden off of savings--so as 
not to discourage individuals from saving
     Providing incentives for investment in physical 
capital and human capital
     Including an accommodation with respect to the 
Social Security payroll tax--the most regressive tax of all.
    In my tax reform proposal, USA stands for ``Unlimited 
Savings Allowance.'' Everyone is allowed an unlimited Roth IRA 
in which they can put the portion of each year's income they 
save after paying taxes and living expenses. After five years, 
all funds in the account may be withdrawn for any purpose and 
all withdrawls--including accumulated interest and other 
earnings and principle--are tax free. Nothing could be simpler 
and nothing could give people a better opportunity to save; 
especially young people. Because only new income earned after 
enactment of the Simplified USA Tax can be put into the USA 
Roth IRA, young people starting to move into their higher-
earning years are the ones who will benefit the most for the 
longest time.
    The tax code should give everyone the opportunity to keep 
what they save, and if they wish, to pass it along to 
succeeding generations. Therefore, the federal estate and gift 
taxes would be repealed under my proposal.
    Under a new tax code, tax rates should be lower, especially 
for wage earners who must now pay both an income tax and a 
7.65% FICA payroll tax on the same amount of wages. It is my 
intention that the final tax rates under the Simplified USA Tax 
Act, after all adjustments are made, will be as low as possible 
consistent with budget limitations. At present, the USA Tax 
starts out with quite low rates--15% at the bottom, 25% in the 
middle, and 30% at the top. Then, these rates are reduced even 
further by allowing wage earners a full tax credit for the 
7.65% Social Security and Medicare payroll tax that is withheld 
form their paychecks under current law. I do not propose to 
repeal the payroll tax because to do so would imperil Social 
Security, however, I do allow a credit for it and when that 
credit is taken into account, the rates of tax on workers' 
wages are very low--in the 7% to 17% range for nearly all 
Americans.
    Under the Simplified USA Tax Act, the tax rate on the first 
$40,000 of taxable income from wages cannot exceed 7.35% which 
is the basic USA rate of 15% less the 7.65% payroll tax credit. 
Under the current code, the combined payroll tax/income tax 
rate is 22.65%. On the next $32,000 (up to the maximum payroll 
tax base of $72,000), the rate cannot exceed 17.35% which is 
the middle USA rate of 25% less the 7.65% payroll tax credit. 
Under the current code, the combined payroll tax/income tax 
rate is 35.65%.
    The Simplified USA Tax Act provides tax relief for all 
Americans, especially when they own their own home, give to 
their church, educate their children and set aside some savings 
for a better tomorrow.
    Under this proposal, everyone gets a deduction for the 
mortgage interest on their home and for the charitable 
contributions that they make. In addition, the Simplified USA 
Tax Act allows for a deduction for tuition paid for college and 
post-secondary vocational education. The annual limit would be 
$4,000 per person and $12,000 for a family.
    Generous personal and family exemptions are also allowed 
under this proposal. On a joint return, the family exemption is 
$8,140 and there is an additional $2,700 exemption for each 
member of the family. Therefore, a married couple with two 
children pays no tax on their first $18,940 of income.
    The Simplified USA Tax is simplicity itself. The tax return 
will be short, only a page or two for most of us, but more to 
the point, the tax return will be understandable. For the first 
time in a long time, America's tax system will make sense to 
the citizens who file the tax returns and pay the taxes.
    The Simplified USA Tax Act also contains a new and better 
way of taxing corporations and other businesses that will allow 
them to compete and win in global markets in a way that exports 
American-made products, not American jobs. Experts who have 
studied it believe that, if enacted by the United States, this 
innovative approach to business taxation will soon become the 
worldwide standard by which other countries will model their 
systems.
    All businesses, corporate and non-corporate, are taxed 
alike at an 8% rate on the first $150,000 of profit and at 12% 
on all amounts above that small business level. All businesses 
will be allowed a credit for the 7.65% payroll tax they pay 
under current law. All costs for plant, equipment and inventory 
in the Unites States would be expensed in the year of purchase. 
All export sales income is exempt, as is all foreign-source 
income, and all profits earned abroad can be brought back home 
for reinvestment in the United States without penalty. Because 
of a 12% import adjustment, all companies that produce abroad 
and sell back into U.S. markets will be required to bear the 
same tax as companies that both produce and sell in the U.S.
    The new revenue from the import tax will be about $160 
billion, a large portion of which will never become a cost in 
the U.S. economy. We do not know exactly how much will be 
shifted back to the foreign companies that sell into the U.S. 
market. But both basic economics and common sense tell us that 
a large portion will be absorbed by foreign sellers, and, 
therefore, will never enter the U.S. economy. A middle ground 
estimate would be $80 to $120 billion. The point is not the 
exact amount. Rather, it is that the amount is large and that 
the Simplified USA Tax Act provides a correspondingly large tax 
cut for Americans.
    For too long the tax code has been a needless drag on the 
economy. This is not very smart and certainly is not fair to 
those citizens whose standard of living are lower as a result. 
It is time to restore people's faith in the integrity and 
competence of their tax system and, in the process, take a 
major step helping U.S. companies compete in the global 
marketplace.
    The Simplified USA Tax Act is the product of much work by 
many people over a period of years. I am proud to be the 
sponsor of H.R. 134 , a simplified version of the USA Tax first 
introduced by Senators Nunn and Domenici in 1995. I hope that 
this committee will be able to work in a bipartisan fashion to 
provide the American people the fair and sensible tax system 
that they deserve.
    Thank you Mr. Chairman for the opportunity to testify 
before you today. I would be happy to answer any questions you 
may have at this time.

                           Simplified USA Tax

    The Simplified USA Tax (SUSAT) would completely replace the 
current income tax system, both corporate and personal. SUSAT 
consists of two parts:
     An 8 to 12 percent business tax paid when income 
is produced.
     A 15, 25, and 30 percent progressive rate tax paid 
by individuals when they receive wages, interest, dividends and 
other income.
    Wage income and capital income are taxed exactly the same. 
Income from equity capital is no longer taxed more heavily than 
income from debt. Incorporated businesses are no longer taxed 
more heavily than unincorporated ones. Most importantly, income 
that is saved is no longer taxed more heavily than income that 
is consumed. Both are taxed exactly the same.
    To further assure equal treatment of wage income--whether 
consumed or saved--a full income tax credit is allowed for the 
current OASDHI (Social Security and Medicare) payroll tax. 
Because of the payroll tax credit, wage earners will 
immediately begin paying less taxes.
    The business tax is internationally competitive. Imports 
are taxed, but export sales of American-made goods and services 
are not. Further, U.S. companies are no longer penalized when 
they make money abroad and bring it home to reinvest in 
America.
    Both the individual tax and the business tax are extremely 
simple. Only a few steps exist in order to calculate the taxes. 
All are clearly stated and readily understandable, thereby 
relieving taxpayer confusion and leaving little opportunity for 
the IRS to interfere.
    Moreover, because SUSAT repeals federal estate and gift 
taxes, the IRS will no longer take away a part of anyone's 
lifetime savings.

[GRAPHIC] [TIFF OMITTED] T2159.001

    The USA Tax for individuals is simplicity itself; a truly 
minimalist approach that achieves a great deal without a lot of 
complex rules. Basically, all anyone needs to do is (1) add up 
their income, (2) subtract a few simple deductions, (3) apply 
USA's low tax rates to the balance, (4) take credit for 
employee-paid OASDHI payroll tax and income taxes withheld by 
employers, and (5) pay the additional amount, if any, that is 
due.

[GRAPHIC] [TIFF OMITTED] T2159.002

[GRAPHIC] [TIFF OMITTED] T2159.003

          USA Roth IRA: The Centerpiece of the Individual Tax

    The USA Tax would eliminate the double tax on income that 
is saved, and, therefore, make taxes a neutral factor in the 
choice between consuming income immediately or saving it in 
order to consume later.
    USA accomplishes this feat in the simplest and fairest way 
possible by allowing everyone to contribute after-tax income to 
a USA Roth IRA patterned after the one in Section 480A of the 
current code with certain modifications. Although called an 
``IRA,'' the USA version is in reality a universal savings 
vehicle that can be used for any purpose, not just retirement.
     Everyone is eligible to contribute all or any 
portion of their current year's taxable income to a specially 
denominated account (like present IRA accounts at all banks and 
financial institutions).
     Because no deduction is allowed, the person must 
first pay the tax on all income and then contribute to the USA 
Roth IRA. Further, all contributions must be made in cash.
     Because all money that goes into the USA Roth IRA 
represents post-effective date after-tax income, no additional 
tax is imposed either on the accumulated principal amount or on 
the earnings on principal inside the account.
     Accumulated principal and earnings on principal 
can be withdrawn at any time and for any purpose.

                      Overview of USA Business Tax

    The USA business tax is a cash flow tax on all forms of 
business organization, corporate or noncorporate.\1\ The 
calculation of a business's tax liability for the year is a 
simple five-step process:
---------------------------------------------------------------------------
    \1\ Like the present corporate income tax, however, the USA Tax 
exempts all religious, charitable and other nonprofit organizations 
described in section 501(c) of the current code.
---------------------------------------------------------------------------
    1. Add up total sales during the year from operations in 
the United States;
    2. Exclude sales of goods and services for export;
    3. Deduct all purchases from other businesses, including 
expensing of capital equipment, inventory items, supplies, 
etc.;
    4. Apply the rate schedule to the remaining gross profit to 
determine tentative tax;
    5. Subtract from tentative tax a credit for the 7.65 
percent employer-paid OASDHI payroll tax.
    The ``gross profit'' tax base in No. 4 is the amount the 
business earns on a cash basis after expensing its capital 
equipment and paying its suppliers, but before paying its 
employees, stockholders and its creditors. Because the USA 
business tax allows no deduction for wages, dividends or 
interest, it collects a uniform tax on all forms of income--
labor and capital. Such ``neutrality'' is essential to basic 
fairness and economic efficiency. Under international treaties, 
it is also an essential ingredient of the important export and 
import features of the USA Tax.

  The most important operational components of the USA business tax, in comparison to the current code, are set
                                                  forth below.
----------------------------------------------------------------------------------------------------------------
       Item                           Business Taxation                         USA Tax           IRC of 1986
----------------------------------------------------------------------------------------------------------------
             1        Corporations Taxed Separately from Individuals                 Yes                 Yes
             2           All Business Entities Taxed as Corporations                 Yes                  No
             3                          Deduction for Dividends Paid                  No                  No
             4                           Deduction for Interest Paid                  No                 Yes
             5          Deduction for Compensation Paid to Employees                  No                 Yes
             6             Credit for Employer-Paid FICA Payroll Tax                 Yes                  No
             7           Requires Depreciation of Capital Investment                  No                 Yes
             8                Allows Expensing of Capital Investment                 Yes                  No
             9      Deduction for Contributions to Qualified Employee                 No                 Yes
                                                               Plans
            10      Taxes Foreign-Source Income on A Worldwide Basis                  No                 Yes
            11      Applies Territorial Rule to Exclude Foreign-Source               Yes                  No
                               Income Derived from Operations Abroad
            12        Taxes Export Sales of American-Made Products &                  No                 Yes
                                                            Services
            13      Taxes Imports of Foreign-Made Products & Services                Yes                  No
----------------------------------------------------------------------------------------------------------------


            The USA business tax rate schedule is as follows:
------------------------------------------------------------------------
            Gross Profit                             Rate
------------------------------------------------------------------------
         $0 to $150,000                                   8%
   Excess over $150,000                                  12%
------------------------------------------------------------------------

                    Repeal of Estate and Gift Taxes

    Not only does The Simplified USA Tax allow all Americans a fair 
opportunity to save and invest, it repeals the federal estate and gift 
taxes and, therefore, allows them a fair opportunity to pass their 
accumulated savings on to their children and succeeding generations.
    This repeal applies across the board to everyone and to all assets 
presently owned and acquired in the future, whether held in USA Roth 
IRAs or held outside such accounts.

                                


    Chairman Archer. Congressman English, thank you so much for 
bringing this alternative before the Committee. I doubt that we 
will have adequate time this morning to fully explore all of 
the details, but I look forward to examining them in great 
detail.
    And so, at this time, I have no questions.
    Mr. Rangel?
    Mr. Rangel. Mr. Chairman, I did not have the opportunity to 
make an opening statement.
    Chairman Archer. Nor did I.
    Mr. Rangel. But I want to apologize to my friend and 
colleague, Congressman English. He has put a lot of work in 
trying to get a better way for us to raise the revenue that is 
necessary to run our government.
    We can see that the timing of this type of hearing makes it 
very difficult for the Members to listen to his ideas. At the 
same time, we are trying try to protect our jurisdiction on the 
House Floor.
    So I do not know whether this was thought out by our 
leadership. Yesterday, while we were here listening to the 
merits of a federal sales tax, there were people on the House 
Floor--get this, Mr. English--a Republican by the name of Mr. 
Terry who brought a bill up on the Floor to approve the 
President's increase in taxes. But, he recommended that they 
vote no against it.
    The Republicans brought up the bill to show what the tax 
raises would be. When I asked why they did it, they said 
because the President's taxes were as a tiger in a cage, and 
that they wanted to kill the tiger before it got out.
    So you can see, from a tax point of view, that did not make 
much sense.
    Now, while we are here are trying to figure out the 
complexities of your bill, they have got another revenue-
Constitutional issue, on the House Floor saying that we cannot 
close tax loopholes unless we have two-thirds vote in support.
    Well, people may support that but we cannot do it sitting 
here listening to you.
    Tomorrow, at long last, we get a chance to pull up the tax 
code by the roots. That is, to abolish it. To sunset it and say 
there is no more tax code for anybody. It is all over.
    But then I read the fine print. It will not be the Ways and 
Means Committee that would be replacing the old tax code.
    Guess what?
    It will be a private commission, not even Congressional. 
They will come out and they will have the hearings. They will 
listen to you. They will listen to me. And, they will listen to 
the private sector. Maybe they will listen to our Chairman, but 
only four Members of Congress will be there. Then, they will 
report back some legislation. Guess what it is supposed to be 
for? For new taxes.
    So they are changing the rules just when I have reached 
almost the top of my game. They have turned everything over to 
the private sector. The Ways and Means Committee's jurisdiction 
is being taken away on the Floor and given to outsiders.
    So please do not be disappointed because the Members are 
not here. They are trying to protect their jurisdiction. They 
are on the Floor. They are listening, and it is very difficult.
    But you have done a tremendous job over the years.
    Mr. English. Thank you.
    Mr. Rangel. And I just hope that we in the Congress will 
have a chance to listen to your ideas and that they will not 
get some cockamamie private sector group to study your 
legislation. The Constitution says it is the Ways and Means 
Committee, and as long as I am around, we will do the tax law.
    So you keep sticking with us and not those private groups.
    I want to thank you, Mr. Chairman.
    Mr. English. And I would like to thank the gentleman for 
being here despite all of the distractions and let me reassure 
him there are no caged tigers in my proposal. Thank you.
    Mr. Rangel. Thank you.
    Chairman Archer. Well I have listened to the gentlemen's 
comments, and I am beginning to wonder that whatever activity 
we have in this room, there will always be some reason to 
complain about it.
    I hear complaints about procedures. I hear complaints about 
substance. I hear complaints about me personally. It just seems 
to be ``there you go again.''
    Mr. Crane?
    Mr. Crane. Thank you, Mr. Chairman.
    I simply want to commend my colleague, my distinguished 
colleague, Phil English, for his tax proposal and we have had 
several and we will continue to get hearings on several, as you 
know, and any one of them is superior to the existing obscene 
code.
    So any chance we have to move forward, you can count on me. 
And thank you for appearing and testifying.
    Mr. English. I thank the gentleman.
    Chairman Archer. Mr. Weller?
    Mr. Weller. Well thank you, Mr. Chairman. I want to commend 
you for your leadership in bringing these hearings to this 
Committee room.
    I also want to commend my colleague, Mr. English, for 
having the courage and the commitment of time and effort to put 
forward his own reform proposal. Because one thing I have 
learned is that in every provision in the Tax Code there is 
always a reason it was put there and there is somebody who 
wants to keep it there.
    I have learned that over the last several years serving on 
this Committee. So I salute you for your proposal.
    You know, one of the top priorities of this Congress, the 
Republican majority, is bringing fairness to the Tax Code. And 
of course I know that is your goal of your proposal is making 
the Tax Code more fair.
    And I am just really proud that, you know, last week the 
President signed our effort to bring fairness to the Tax Code 
by wiping out the Social Security earnings penalty on seniors 
between the age of 65 and 70 who want to continue working or 
who are forced to continue working.
    And I am also very proud that the House overwhelmingly 
passed--and in fact 48 Democrats voted with, rejected their 
leadership's pressures and voted with every House Republican to 
wipe out the marriage tax penalty with the passage of H.R. 6.
    And our legislation--which eliminates the marriage tax 
penalty essentially wipes it out for 25 million married working 
couples who on average pay $1400 more in higher taxes just 
because they are married--is a big victory if you want to bring 
about tax fairness.
    And I am so pleased that the Senate has moved quickly. The 
Senate at this moment is of course considering their proposal 
which is pretty similar to H.R. 6, the Marriage Tax Elimination 
Act, which wipes out the marriage tax penalty.
    My hope is that the House and Senate can reconcile their 
differences relatively soon, and we can put on the President's 
desk another major initiative which will benefit 50 million 
married working individuals who suffer the marriage penalty 
just because they are married.
    Mr. English, I was just wondering from the perspective of 
your tax proposal, how do you address the marriage tax penalty 
in your proposal?
    Mr. English. We would effectively dramatically reduce it 
because of the structure that we have put in place. I will 
leave it to others to describe where a marriage tax penalty 
might creep in.
    I have retained multiple tax rates and the implication of 
that is there is always a danger of a marriage tax penalty 
being reintroduced.
    I would welcome the gentleman to take a look at my proposal 
and come back to us with any suggestions he might have of 
addressing that problem in our code.
    As the gentleman knows, because he has immersed himself in 
this issue more than anyone, it is very difficult to completely 
eliminate the marriage tax penalty and there is always a 
potential when you have progressive taxation that when people 
get married, as a couple they will end up paying more taxes 
than they did as two individuals.
    I am not sure we have addressed that as fully as we should 
in this tax proposal and I would welcome the gentleman's input.
    Mr. Weller. Well, you know, Mr. English, one of the things 
I have observed also is, particularly in the last seven-and-a-
half years, there has been a desire by some to target tax cuts, 
target tax relief, which means you pick and choose politically 
who benefits.
    It usually means very few get very little in tax relief and 
unfortunately that targeting has caused more so- called 
marriage tax penalties in the last few years than any other 
consequence of the code.
    Of course the biggest consequence of the Tax Code is for 
joint filers. You know, a married couple. They are both in the 
work force. Their combined income usually pushes them into a 
higher tax bracket, creating the marriage tax penalty.
    But if you talk with those who are tax preparers, they will 
tell you that there are over 60 marriage tax penalties in the 
code, primarily resulting from means' testing and targeting of 
tax cuts because the income eligibility is never twice that for 
married couples filing jointly compared to that of a single 
filer.
    And clearly as we look at bringing fairness to the tax 
code, not only do we want to eliminate the marriage tax penalty 
for joint filers, but we need to look at those so-called 
targeted provisions because they create a lot of consequences 
for those who work hard and happen to be married.
    Mr. English. I thank the gentleman. I would point out to 
him that what we tried to do was eliminate many of these 
targeted provisions which after all are adjustments for other 
problems in the Tax Code.
    What we tried to come up with was a clean and very simple 
tax system that in the process does eliminate many of those 
marriage penalties that you discussed, and makes the Tax Code 
far simpler.
    We found that the complexity in the Tax Code did not arise 
from multiple rates as much as from many of these very 
complicated and overlapping policies that were loaded into the 
Tax Code.
    So as a result we think we have gone a considerable 
distance toward finding an equitable and global approach to 
these problems.
    And I thank the gentleman.
    Mr. Weller. Well your point is a good one.
    You know particularly in education one of our goals is to 
make college more affordable. That is why we have worked to 
expand opportunities with the student loan interest deduction. 
And of course for married couples, not only is there a marriage 
tax penalty on the income eligibility for joint filers, but if 
you have got a couple kids getting married right out of 
college, they are paying off their student loans, you know they 
are eligible for the full student loan interest deduction. But 
once they choose to get married, they discover that interest 
deduction is cut in half because they have to share it as if 
they were just one person.
    And that is just not fair and that is just one more reason 
that as we look at tax reform, I think we really have to take a 
good look at the so-called targeting and preferences and means' 
testing and how it is created marriage tax penalties as well as 
other consequences that just are not fair.
    Mr. English. The gentleman makes an excellent point. Let me 
say that instead of providing many of the targeted tax breaks 
for tuition that had existed and that we have recently put into 
law, what we have tried to do is consolidate these into a 
substantial deduction that would be available per student, 
$4,000 per student up to $12,000 total for a family.
    And we think that when you run the TRAPs on that, the tax 
relief is very substantial to families and makes up for some of 
the other adjustments that we have tried to make in the last 
few years to help use the Tax Code to support higher education.
    Mr. Weller. My last question----
    Chairman Archer: The gentleman's time has expired.
    Mr. Weller. Thank you, Mr. Chairman.
    Chairman Archer. Mr. English, thank you for the work you 
have done on this and giving us another alternative to look at. 
And unless you have something important to say, you are 
excused.
    Mr. Weller. Thank you, Mr. Chairman.
    Chairman Archer. Our next panel will please come to the 
witness table. Congressman Frenzel, Mr. Christian, Dr. Foster, 
and Mr. Hufbauer.
    While you are being seated, I officially welcome each of 
you to the Committee. Certainly some of you are no strangers to 
this room and to this Committee, and we are particularly happy 
to have you back in our presence and to hear your sage 
comments.
    The Honorable Bill Frenzel is no stranger to any of us up 
here at the dias having been seated up here for many years 
yourself, and we are particularly happy to have you back and to 
listen to your wisdom which has always been present whenever 
you speak in this room.
    And so we welcome you again, and if you will lead off, we 
will be pleased to hear your testimony.

 STATEMENT OF THE HON. BILL FRENZEL, GUEST SCHOLAR, BROOKINGS 
            INSTITUTION [FORMER MEMBER OF CONGRESS]

    Mr. Frenzel. Thank you, Mr. Chairman.
    Chairman Archer. And I think Mr. Rangel also wants to 
welcome you.
    Mr. Rangel. I want to welcome all of you, particularly, my 
friend Congressman Frenzel. Please give my best to your lovely 
wife, Ruth, and I want tell you how much you have been missed 
around here.
    The one thing that makes serving in Congress exciting is 
the memories of the good old days. Thank you for coming back.
    Mr. Frenzel. Thank you----
    Mr. Ramstad. Mr. Chairman? Mr. Chairman?
    Chairman Archer. Mr. Ramstad, I apologize.
    Mr. Ramstad. Not at all, Mr. Chairman.
    Chairman Archer. Mr. Ramstad has a very----
    Mr. Ramstad. I just want to join in the chorus of singing 
the praises of my predecessor, somebody I am proud to call my 
mentor and my friend, and without whose tutelage, I would not 
be sitting here today. Somebody who distinguished himself on 
this panel for 16 years serving the Third Congressional 
District of Minnesota.
    He also served as ranking member of the Budget Committee 
and the House Administration Committee.
    Bill Frenzel is, as one person who introduced him put it 
best, if you look up in the dictionary, the word ``statesman,'' 
you will see Frenzel's picture.
    It is a pleasure, Bill, to welcome you back to the 
Committee.
    [The opening statement of Mr. Ramstad follows:]

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

    Mr. Chairman, thank you for commitment to reforming our 
deeply flawed tax system and for giving the American people a 
public forum through this week of hearings to examine the 
options available to us.
    We already know that the current system flunks the critical 
tests of efficiency, simplicity, flexibility, political 
responsibility and fairness.
    Americans spend billions of dollars complying with an 
incomprehensible system that discourages saving and investment. 
Our tax code robs Americans of time, privacy, economic 
opportunities and incentives to be innovators.
    Our complex tax code puts American businesses at a 
disadvantage with their foreign competitors, robbing them of 
the opportunity to create jobs and find new markets for 
American products.
    We want Americans to work and save for their family's 
future. But as you point out, Mr. Chairman, our tax system 
tells Americans that the more you work and save and succeed, 
the more you pay.
    I appreciate the opportunity to examine alternatives which 
meet the important goals of rewarding work, encouraging savings 
and improving our competitiveness abroad.
    Again, Mr. Chairman, thank you for convening these critical 
hearings. I look forward to hearing the testimony today.
      

                                


    Mr. McCrery. Mr. Chairman, I would say me too.
    Chairman Archer. Let me just add one other thing since we 
are getting into this friendly colloquy here.
    The last major battle I think that you and I and Phil Crane 
fought on the Floor of the House was the opposition to I think 
the ill-considered Tax Reform Act of 1986, and unfortunately we 
barely lost that battle but I think history will show that we 
were right.
    And maybe the next major battle that we participate in, 
whether from the inside or the outside, we will win. So we are 
happy to have you before the Committee.
    Mr. Frenzel. Thank you Mr. Chairman and Committee members. 
You have brightened the life of an old man by putting wings on 
the dog, and I am really pleased to be back here in this 
marvelous room with you distinguished Committee members.
    Mr. Chairman, on this Committee all of us who have ever 
served here have been very frustrated with the Tax Code. We 
have seen the complications, the difficulties, and looked for 
ways to improve it. We have always been frustrated in what we 
have tried to do.
    Size and complexity are major problems for our 
constituents, but they are less serious than the perverse 
incentives that have worked their way in the Code. They have 
gotten into the Code for good reasons, but there are a couple 
that have always bothered me, and led me in the chase for some 
kind of responsible tax reform.
    The most prominent of these has been the inadequate 
incentives for savings. Secondly, I have followed international 
taxation for some time and been disappointed that we have had 
more incentives to import than to export.
    I have also been concerned about regressivity and job 
creation disincentives in our Social Security taxes. And of 
course, the general layering of the Code as we try to repair it 
has been a problem as well.
    H.R. 134, Mr. English's bill, answers these problems.
    I have tried to follow this bill and its predecessors over 
a period of at least ten years since I left the Congress, and 
was interested in the original Nunn-Dominici proposal which was 
one of the predecessors of this bill.
    It is not a simple bill but it does some things right. One 
of the reasons that we have had trouble in the past with any 
kind of tax reform bill is it presents such a big, ugly bundle 
that it is easy to form a majority against it.
    If you are going to truly reform the Code, you have to 
change alot of things, and those changes hurt an awful lot of 
people.
    I want to talk about four aspects of H.R. 134. The first 
one is international. H.R. 134 has the international parts 
right. We should not tax foreign income. We need to relieve 
taxes on exported goods and services and we need to assess 
taxes on imports to equalize the burdens that the domestic 
producers bear.
    The FSC has been a pretty lonely incentive for us, and it 
is weak compared to the combination of incentives offered by 
many of our foreign competitors. Now, even its existence is in 
peril.
    H.R. 134 provides powerful savings incentives. Once the 
taxes are paid on income going into the investment account, 
there is no additional tax on inside buildup or on withdrawals.
    Congressman English has used the simple mechanism of the 
Roth IRA to solve one of he major complexity problems of the 
original USA Tax.
    Third, H.R. 134 relieves problems of regressivity and 
disincentives of job formation caused by our high Social 
Security taxes.
    We have made the Tax Code, the Income Tax Code, more 
progressive over the last 30 years, but because the Social 
Security taxes are levied on the first dollar of earnings, the 
overall tax burden has probably become more regressive.
    And, of course, other than in times of full employment, 
which we are enjoying now, those taxes can be a real job 
creation disincentive.
    So I believe that Congressman English in H.R. 134 has done 
a pretty good job of giving us some simple principles which can 
be put into a total tax reform bill.
    I would like to note here that tax rates under this tax 
bill can be flattened or made even more progressive. 
Congressman English has structured it to make it roughly equal 
to the current burden tables. I think that is the right place 
to start even though you may not want to finish there.
    Mr. Chairman, I commend this tax bill because it gives some 
promise for achieving the things that I have always thought 
were most important in tax reform.
    It is probably an exaggeration to call it simple because 
life is not simple, and it does not tear the system out by the 
roots as you, Mr. Chairman, have always wanted to do, but it 
does rough up the system pretty well.
    I think it can do the tax reform job, and I believe it is 
workable and understandable, at least for a starting place for 
this Committee.
    And I thank you and the Committee for your kind words and 
for allowing me to testify today.
    [The prepared statement follows:]

Statement of the Hon. Bill Frenzel, Guest Scholar, Brookings 
Institution, (Former Member of Congress)

    Mr. Chairman and Members of the Committee:
    It is, as always, a pleasure to return to the scene of 
one's former crimes. I appear here today on my own behalf and 
my testimony does not represent the opinions or conclusions of 
The Brookings Institution. I congratulate the Chairman and the 
Committee for holding these Tax Reform hearings. The time is 
ripe.
    You are all, as was I, very fortunate to be able to serve 
on this distinguished and historic committee. I hope you are 
less frustrated than I was about our ability to produce a Tax 
Code in which our country can have more confidence.
    The need for major surgery on the U.S. Tax Code has been 
obvious for years. Over the years, complications and 
``simplifications'' alike have created a system of bewildering, 
and indefensible, size and complexity. Nobody intended that it 
be so cumbersome, but it got that way for a variety of reasons 
well known to the committee (we live in a complex society and 
economy; politicians run on platforms of change; its easier to 
amend than to delete; simplicity and fairness are sometimes in 
conflict). Whatever the reasons, today many taxpayers cannot 
comply (without help) with the Code, and tax collectors have 
great difficulty enforcing it.
    But, size and complexity are problems that are less serious 
than the perverse incentives that have worked their ways into 
the Code. Four that I have found particularly troublesome are: 
(1) inadequate incentives for saving; (2) more incentives to 
import than to export; (3) regressivity and job creation 
disincentives in our Social Security taxes; and (4) the endless 
layering of good, and, at the time, necessary, adjustments 
which have led to unacceptable complexity. Each of you could 
list many more.
    The origins of most of these policies go long way back in 
history. They undoubtedly made good sense when enacted. Now, 
the world has changed, and it will continue to change even more 
swiftly. Regulators are already having difficulty keeping up. 
Relatively small, targeted Tax policy changes, like the ones 
this committee has regularly made in the past, are not able to 
keep pace with the speed of change. I believe that you must 
make bold and massive changes to meet the new challenges.
    But size and boldness usually mean a tax package so full of 
fish hooks that no one will touch it. I, myself, was, for many 
years in this Committee, a supporter of the theory of 
``creeping incrementalism.'' Later, I have come to believe that 
Band-Aids, even giant ones like TRA 1986, are more likely to 
extend the problems than they are to solve them.
    H.R. 134, the Simplified USA Tax, appears to me to be a 
workable solution to the Tax Reform dilemma. In the interests 
of full disclosure, I must admit I was exposed to the general 
concept nearly 10 years ago when I attended, with about a dozen 
accountants, tax lawyers and economists, a series of 
brainstorming sessions which began with David Bradford's 
``Consumed Income Tax'' and went through to the original Nunn-
Domenici USA Tax.
    That original Nunn-Domenici proposal was an important 
milestone in the development of H.R. 134, but, like many of its 
ilk, it was too complicated. The cleverest of us could not have 
explained it to our constituents very quickly or concisely. 
That kind of bill is an easy victim for interests, which want 
to retain the old code, or for partisan squabbling.
    H.R. 134 cannnot be called simple, but it is 
understandable. It is a suitable vehicle for the Committee's 
Tax Reform efforts. I can't review the whole bill, but here are 
some of the aspects, which appeal to me:
    1. H. R. 134 has the international parts right. We should 
not tax foreign income; we need to relieve taxes on exported 
goods and services; and we need to assess taxes on imports to 
equalize the burdens on domestic producers. We have had only 
the lonely FISC as an export incentive. It's a weak one 
compared to the combinations of incentives offered by many of 
our foreign competitors, and now, its existence is imperiled.
    2. H.R. 134 provides powerful savings incentives. Once the 
taxes have been paid on income going into the investment 
account, there is no additional tax on either inside build-up 
or on withdrawals. Congressman English has used the relatively 
simple mechanism found in the Roth IRA to solve the major 
complexity problem of the original USA Tax. Withdrawals from 
these after-tax savings accounts can be made for any purpose.
    3. H.R. 134 relieves problems of regressivity and of 
disincentives to job formation caused by Social Security taxes. 
Since I first came to Washington, the income tax Code has 
become more progressive as more people at lower levels of 
income have been taken out of the code completely. But, because 
the Social Security taxes are levied on the first dollar of 
earnings, the overall tax burden has become more regressive. 
And, in times of less than full employment, those taxes are a 
real jobs disincentive for employers.
    I personally support progressive income tax rates, with a 
couple of caveats. The present highest rate is too high. The 
EITC which I supported originally has been expanded to a point 
where it could be better managed and enforced as an 
appropriation entitlement rather than a tax entitlement.
    It should be noted that tax rates under the Simplified USA 
Tax could be flattened, or made even more progressive than 
present rates. Congressman English has structured it to make it 
roughly equal to the current burden tables. That may not be the 
place you want to finish, but , to me, it's the right place to 
start.
    Finally, Mr. Chairman, I recommend H.R. 134, the Simplified 
USA Tax, for the Committee's consideration because it gives 
real promise of achieving most of the things I have always 
sought in Tax Reform. It may be an exaggeration to call it 
simple, because life is not simple. It isn't perfect, because 
there is no such thing as a perfect tax bill.
    And it doesn't tear the system out by the roots as you have 
always wanted to do, but it does rough up the system pretty 
well. Not only will it do the Tax Reform job, but its is 
workable and understandable. Those two virtues may be able to 
stand as proxies for the simplicity which has always been so 
elusive.

                                


    Chairman Archer. Thank you, Mr. Frenzel.
    Mr. Christian?

  STATEMENT OF ERNEST S. CHRISTIAN, ESQUIRE, WASHINGTON, D.C.

    Mr. Christian. Thank you, Mr. Chairman, Mr. Rangel, Members 
of the Committee.
    Congressman English's simplified USA Tax is, in my opinion, 
a landmark achievement. I say that from the perspective of 
having spent about 25 years in the Treasury Department and in 
the private sector working on these concepts.
    He is to be greatly commended.
    His bill shows how the Tax Code can be simplified without 
having to repeal the deductions for either home mortgage 
interest or charitable contributions.
    It shows how the double tax on savings and investment can 
be removed without enacting a consumption tax.
    How tax equity for working men and women can be achieved by 
allowing them a credit for the payroll tax they already pay.
    It shows how the archaic tax barriers to U.S. 
competitiveness in world markets can be removed in a way that 
protects and enhances American jobs.
    Marginal tax rates can be lowered, a laudable goal.
    Progressivity can be preserved.
    Transitional dislocations can be avoided.
    Congressman English's bill Simplified USA embodies some new 
approaches. One is to include in the tax base of the United 
States of America, for the first time in history, all amounts 
derived by foreign-owned companies from selling goods and 
services in our market.
    The result of this shift may be to reduce, by something in 
the area of $100 billion per year, the tax burden borne by U.S. 
labor and U.S. capital, an enormous, implicit tax cut for the 
American economy paid for by foreign-owned companies that 
presently derive income from the U.S. market on nearly a tax-
free basis.
    The largest beneficiaries of this implicit tax cut would 
seem to me to be the wage earners of America. They receive a 
full credit for the payroll tax they now pay.
    Simplified USA is a plain-language, stripped-down version 
of the current income tax, individual and corporate. It is 
concentrated on the main goals of tax reform.
    The basic amendments necessary to achieve these results are 
neither unfamiliar nor shocking. First-year expensing of plant 
and equipment is already allowed under the current Code for 
small businesses.
    It only remains for Simplified USA to make expensing 
universal, which it should be.
    There is nothing radical about removing the double tax from 
personal saving and thereby taxing saved income no more heavily 
than consumed income.
    The Roth IRA already does this under the current Code for 
retirement savings. Simplified USA uses exactly the same simple 
mechanism for all savings.
    There is also nothing new or radical about the idea of not 
imposing U.S. tax on the income that American companies derive 
from developing new markets abroad, or about the related idea 
of not taxing exports of American made goods.
    The Foreign Sales Corporation provision, commonly known as 
FSC in the current Code is a flawed attempt to go halfway 
toward these goals in the international competitiveness arena, 
but FSC has run afoul of the WTO. Simplified USA, Congressman 
English's bill, does the job correctly in a way that is 
consistent with U.S. tax traditions and treaty obligations.
    There is also nothing radical about bringing foreign-owned 
companies into the U.S. tax base, and using he revenue to cut 
taxes on American citizens. Europeans and others have been 
doing this same thing in reverse to the United States for 
decades.
    The truly remarkable thing about Congressman English's 
bill, Simplified USA, is that it has figured out how to level 
the international playing field in a way that is consistent 
with American tax tradition and history.
    I submit, for your consideration, Mr. Chairman and members 
of the Committee, that the usual reasons for not proceeding 
with tax reform do not apply to the USA tax by Mr. English.
    Genuine tax reform within the basic framework that he has 
outlined, which can be improved, is an available option for the 
Congress to choose if the Congress wishes to do so.
    I strongly recommended Simplified USA to you as a great 
place to start on the road to genuine tax reform.
    Thank you very much for your attention.
    [The prepared statement follows:]

STATEMENT OF ERNEST S. CHRISTIAN, ESQUIRE, WASHINGTON, D.C.

Introduction To Simplified USA Tax

    The Simplified USA Tax by Congressman Philip English (H.R. 
134) is a landmark achievement that shows how genuine tax 
reform can become a reality without resorting to radical 
experimentation. The tax code can be simplified without 
repealing the deductions for home mortgage interest and 
charitable contributions; the double tax on saving and 
investment can be removed without enacting a ``consumption'' 
tax; tax equity for working men and women can be achieved by 
allowing them a credit for the payroll tax they pay; the 
archaic tax barriers to U.S. competitiveness in world markets 
can be removed in a way that protects and enhances American 
jobs; a simple deduction for the cost of post-secondary 
education can, for the first time in history, help put 
investments in human capital on a par with investments in 
physical capital; marginal tax rates can be lowered; 
progressivity can be preserved; and transitional dislocations 
can be avoided.
    Simplified USA embodies a new approach that has the effect 
of including in the U.S. tax base for the first time in history 
all amounts derived by foreign companies from selling goods and 
services in the U.S. market. It seems to me that the result is 
an enormous tax cut for the U.S. economy--perhaps $100 billion 
per year or more--paid for by foreign companies that presently 
derive income from U.S. markets on a nearly tax-free basis.
    The biggest beneficiaries of this tax cut would seem to me 
to be the wage earners of America who receive a full credit for 
the payroll tax they pay now.

How Simplified USA Works--Structural Framework

    Like current law, Simplified USA consists of a business tax 
and a personal tax with multiple personal rates. The 
illustrative tax rates below trace back to H.R. 4700 in the 
105th Congress and were carried over without change into H.R. 
134 when Simplified USA was reintroduced in the 106th Congress.
    (1) A Business Cash Flow Tax is paid by corporations and 
other businesses. The rate is 12% of gross profit. Profit is 
computed using cash accounting; capital equipment is expensed 
because the income it produces is fully taxed when received; no 
deduction is allowed for interest or dividends paid for the use 
of capital, or for wages paid for labor, but a full credit is 
allowed for the 7.65% OASDHI payroll tax which is the 
equivalent of a deduction for about 65% of wages up to $72,000 
per year for each employee. Export income and all foreign-
source income is excluded from tax. A 12% import tax is 
collected when foreign-based companies sell into the U.S. 
market.
    (2) A Progressive-Rate Personal Tax is paid by individuals 
when they receive interest, dividends, wages, salaries, and 
gains. The two bottom rates are 15% and 25% and the top rate is 
30% on taxable income computed after deducting a Family 
Allowance of $8,000, personal exemptions of $2,700 per family 
member, home mortgage interest, charitable contributions and 
post-secondary education expenses of up to $4,000 per family 
member. Individuals are allowed a full tax credit for the 
employee's share of the 7.65% OASDHI payroll tax withheld from 
their wages and, if the amount of that credit exceeds their USA 
income tax for the year, the excess is refunded. All 
individuals are also allowed an unlimited USA Roth IRA for 
personal saving--except that, unlike the current Roth IRA, 
saving is not limited to retirement and can be withdrawn for 
any purpose. Because tax is paid on the money going into this 
special savings and investment account, there is no additional 
tax on the inside build-up in the account or on withdrawals 
from the account. For the first time in history, the double tax 
on all personal savings will be removed and everyone will be 
allowed to save for whatever purpose they desire.
    Simplified USA is a plain-language, stripped-down version 
of the current income tax (individual and corporate) that is 
concentrated on the main goals of tax reform--which are (1) to 
be evenhanded as between labor income and capital income; (2) 
to be neutral in a person's choice to consume income or save; 
(3) to remove the archaic barriers to international 
competitiveness; and (4) to be neutral as between equity and 
debt financing and evenhanded among all forms of business 
organization.
    The basic amendments necessary to achieve these results are 
neither unfamiliar nor shocking. First-year expensing of plant 
and equipment is already allowed for small businesses and 
probably would have been made universal long ago except for 
revenue limitations under the current code.
    The idea of removing the double tax from personal saving--
and thereby taxing saved income no more heavily than consumed 
income--has been around a long time. Since the enactment of the 
Roth IRA in 1997, the simple yield-exemption approach to 
removing the double tax is now familiar and standard fare. With 
the Roth IRA already very much part of the tax landscape, it 
only remains for Simplified USA to make it universal by 
eliminating the dollar caps, the income limitations and the 
restriction to retirement savings.
    For decades, Treasury reports and bipartisan Congressional 
studies on corporate/shareholder tax integration have 
recommended uniform treatment of all forms of financing and all 
forms of business.
    There is nothing new about the idea of excluding foreign-
source income from taxation or about the related idea of not 
taxing exports. The Foreign Sales Corporation (FSC) provision 
in the current code is a flawed attempt to go halfway, but FSC 
has run afoul of the WTO and it remains for Simplified USA to 
do the job correctly in a way that is consistent with U.S. tax 
traditions and WTO requirements.

The Road to Simplification

    Once the basic amendments necessary to achieve neutrality 
and international competitiveness are made, some of the most 
complex portions of the code become moot. Substantial 
simplification automatically occurs. Simplified USA also 
undertakes to eliminate an array of miscellaneous deductions, 
credits, exceptions and exceptions to exceptions that are 
unnecessary when the basic rules are correct to start with. But 
Simplified USA does not make a fetish out of repealing long-
standing and familiar deductions under the misguided belief 
that they are the source of complexity in the code.
    The existing and long-standing exclusions from income for 
parsonage allowances, combat pay, municipal bond interest or 
employer-paid health insurance are not the reason that Form 
1040 is monstrously long and incomprehensible. Simplified USA 
retains these and several other exclusions and deductions that 
are easily understood and of nearly universal application 
without any special eligibility requirements and that do not 
require any side calculations. What, for example, is 
complicated about the deduction for home mortgage interest? All 
the homeowner does is take one number off the annual statement 
from the mortgage lender and put that one number on one line of 
the tax return.
    Simplified USA will reduce the size and complexity of the 
tax code by about 75 percent and the personal tax return (long 
Form 1040) will be only a few pages--about like it was in 1960 
before four decades of complexity ruined it.

Neutrality Between Saving and Spending

    Simplified USA taxes income (whether saved or consumed) 
only once. It does that by taxing income when received (first 
tax) and then excluding the earnings on after-tax savings from 
a second tax.
    The current code's bias against income that is saved is 
easily illustrated by a simple example: Mr. Jones earns $100, 
pays a $40 income tax, and has $60 after-tax income left over. 
If he uses the after-tax $60 to buy a car to drive to work (in 
lieu of paying bus fare), he will not have to pay tax on the 
value of the transportation services the car provides him; nor 
should he. After all, he has already paid tax on the $60 once. 
On the other hand, if instead of buying the car, Mr. Jones 
saves the after-tax $60, he will have to pay bus fare (having 
no car) and he will have to pay tax on the interest earned by 
the $60 of savings. This is not a correct result. It biases Mr. 
Jones's choice against saving.
    Simplified USA produces the correct result: once Mr. Jones 
has paid his tax, he is not taxed again, either on the interest 
earned by his after-tax savings or on the value of the 
transportation services provided by the car.

International Competitiveness

    Simplified USA is carefully crafted to allow American 
companies to compete and win in world markets without in any 
way providing a tax incentive for American companies to move 
their plants and jobs offshore. In fact, it makes the United 
States of America a very attractive place to be for the purpose 
of conducting a worldwide business.
    Simplified USA does this by the combination of three 
things. First, it replaces the current archaic and inconsistent 
worldwide tax rule with a territorial rule consistent with 
modern practice in other countries. Thus, when necessary, U.S. 
companies will be able to invest and compete directly in 
foreign markets without having to pay U.S. tax on the profits 
they make in some other country's economy and bring home for 
investment in America. Second, export income will be excluded 
from U.S. tax. Thus, a U.S. company can stay home, manufacture 
in the U.S. and sell into a foreign market without paying U.S. 
tax. Third, an import tax will be imposed at the same rate as 
the regular USA business tax rate--12%. Thus, while a company 
may operate abroad when necessary to gain foreign-market sales 
that cannot be reached by exports from the U.S., if it goes 
abroad for the purpose of selling back into the U.S. market, it 
will have to pay a U.S. tax at the border without the benefit 
of any deductions.
    International competitiveness will flourish under 
Simplified USA, but there will be no runaway plants.

The Way Border Tax Adjustments Work--A Major Shift in the Tax 
Burden

    The border tax adjustments in USA have been borrowed from 
the European VAT (which is a form of sales tax) and appended to 
the business portion of the USA Tax in a WTO-permissible way--
but when appended to a business cash flow tax like the USA 
business tax, the border tax adjustments operate quite 
differently from they way customarily are thought of in the VAT 
context.
    Because the USA business tax is a tax on net cash flow 
instead of a tax on goods, USA excludes from tax the revenues 
derived by a business from exports. This full exclusion of 
export revenues is similar to the partial exclusion provided by 
the Foreign Sales Corporation (FSC) rule in the current 
corporate income tax which the USA business tax resembles in 
many ways.
    Except for exports, USA includes in the tax base all GDP--
which, in turn, is equal to the sum of all returns to labor 
(wages and salaries) and all unreinvested returns to capital 
(interest and dividends).
    By means of an import adjustment, USA also includes in the 
tax base an additional amount which represents the amount of 
goods and services that are produced by foreign-sited labor and 
capital but sold into the United States market. The 12 percent 
import tax might appear to make imported products more 
expensive, and, in some cases, it will, but both neoclassical 
economic theory and common sense say that in many more 
instances involving a very large portion of the total dollar 
value of imports, the foreign companies who sell these imports 
into the U.S. market will have to absorb all or a major part of 
the 12% import tax. They will do this by adjusting their pre-
tax price downward so that the after-tax price to the U.S. 
purchaser is the same or nearly the same amount that purchasers 
had previously been paying. When foreign companies do lower the 
pre-tax prices, they are, in effect, paying the U.S. tax and 
when a company pays a tax (whether it be U.S. tax or home 
country tax), the burden of that tax will ultimately be borne 
by its employees (in the form of lower wagers or fewer jobs) 
and its shareholders and debtholders (in the form of lower 
returns to capital).
    As of the end of 1999, imports were $1.3 trillion involving 
an almost uncountable number of U.S. buyers and foreign sellers 
of an almost uncountable variety of imported goods and 
services. Out of all this, no one knows how many of the foreign 
companies will be ``price takers'' who will absorb all or part 
of the import tax or how many will be ``price setters'' who 
will not absorb any of the import tax. Therefore, no one knows 
the precise dollar value of the import tax that will be passed 
back to foreign labor and capital, but we do know that much of 
it will be. The U.S. market is, after all, the largest market 
in the world and the pressure on foreign companies to absorb at 
least a part of the tax will be large. Only those who sell a 
unique product for which there is no substitutable alternative 
will be totally immune from that pressure, but there are not so 
many of those situations and, even when they do exist, what may 
be a unique product today may not be tomorrow.
    The point is not to be precise about the exact amount of 
import tax that will be borne by foreign labor and capital. 
Rather, the point is to know that the dollar amount is large 
and that even if 60 percent of the $160 billion import tax 
revenue increase is borne by foreign labor and capital, that 
mans that the U.S. economy has received roughly a $100 billion 
per year tax cut.

Payroll Tax Credit--An Offset to Implicit and Explicit Taxes on 
Wages

    Not only is the payroll tax credit an historic breakthrough 
in fairness, it is essential to the evenhanded treatment of 
labor and capital that is the hallmark of Simplified USA and 
the foundation on which genuine tax reform must be built.

A. Implicit Withholding Tax Offset by Payroll Tax Credit

    Like the current corporate income tax, the USA business tax 
is an implicit withholding tax on dividends. (Unlike the 
current corporate income tax which favors debt over equity, the 
USA business tax also serves as an implicit withholding tax on 
interest as well.) This implicit withholding on interest and 
dividends arises because the business pays tax on its as gross 
profit without any deductions for interest paid or dividends 
paid.
    Like the current employer-paid OASDHI payroll tax, the USA 
business tax also serves as an implicit withholding tax on 
wages--because the business pays tax on its gross profit 
without deducting wages.
    But for the credit that Simplified USA allows for the 7.65% 
employer-paid payroll tax (which reduces the implicit 
withholding), the implicit withholding on wages up to $72,000 
per employee per year would be 19.65% (12% + 7.65%); whereas 
the implicit withholding on wages in excess of $72,000 and on 
interest and dividends would be only 12% (the USA business tax 
rate).

 With the payroll tax credit, the implicit withholding tax is uniform as
                                follows:
------------------------------------------------------------------------
                                                                Interest
        Wages up to $72,000             Wages above $72,000       and
                                                               Dividends
------------------------------------------------------------------------
                               12%                       12%    12%
------------------------------------------------------------------------


B. Explicit Tax Offset by Payroll Tax Credit

    When wages, interest and dividends are received by 
individuals, the remainder of the tax on that income is 
collected from the individual, and, in the case of wages, all 
or part of that tax may be withheld at the source by the 
employer as under current law.
    In the case of wages up to $72,000, however, current law 
imposes an additional 7.65% employee-paid OASDHI tax that is 
explicitly withheld at the source by the employer.
    Simplified USA allows the employee a credit for the 7.65% 
OASDHI tax explicitly withheld from wages. With this credit, 
wages, interest and dividends are all taxed equally, the only 
variation being the rate bracket of the particular individual--
15%, 25% or 30%.

Resisting Analogies--Simplified USA Is Sui Generis

    The Simplified USA Tax combines some elements that may also 
be found, variously, to some extent, and in different forms, in 
taxes said to be based on cash flow, net income, consumed 
income or business value added, but because Simplified USA is a 
hybrid, none of those analogies is altogether accurate or 
especially illuminating.
    Simplified USA is best understood as the current income tax 
amended to allow (1) first-year expensing of capital equipment, 
(2) an unlimited Roth IRA for everyone that applies to all 
saving (not just retirement saving) and (3) a credit for OASDHI 
payroll taxes. Internationally, it adopts a ``Super FSC'' for 
outbound transfers (exports) and a ``Super Sec. 482'' 
adjustment on inbound transfers (imports).
    If one insists on putting Simplified USA into some 
preexisting generic category, the USA Tax on individuals is an 
``income tax'' and the USA Tax on businesses is a ``business 
cash flow tax'' (a concept which is well-known and long-
standing in the tax literature).

                                


    Chairman Archer. Thank you, Mr. Christian.
    Our next witness is Dr. Foster. We will be pleased to 
receive your testimony.

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

    Mr. Foster. Thank you, Mr. Chairman. It is a pleasure to 
appear before the Committee again.
    Tax reform obviously raises a great many issues. I am going 
to focus on two in the international area.
    The U.S. currently imposes tax on our citizen's foreign 
earnings and allows a limited tax credit against foreign income 
taxes paid.
    Most tax reform proposals, such as Simplified USA, wisely 
drop this policy, taxing instead only economic profits earned 
at home, a system known as territoriality.
    In the global economy, companies hire, produce, and sell 
globally. The companies that best integrate these activities 
over functions, product lines, and geographic areas, are the 
most successful.
    Current tax policy distorts our companies' pattern of 
investment so they cannot maximize their global efficiency. The 
price of this lost efficiency is jobs at home and abroad, and 
the price gets higher every year.
    If current policy is so wrongheaded, why do we keep it? 
Because of misperceptions and misleading statements.
    Our international tax policy is a tax based form of 
protectionism and nothing more.
    Protectionism seeks to bar foreign production that out-
competes domestic production. Recognizing that protectionism is 
unsound, we have had a long history in this country in support 
of free trade.
    However, our tax policy erects tax barriers to 
international investment by our citizens in the usually 
mistaken belief that it would otherwise occur at home. This tax 
barrier to international investment is solely intended to 
protect jobs at home. The result, however, is that our current 
policy prevents our companies from maximizing their 
productivity, thereby costing us jobs.
    Worse, the lost jobs are most likely to be higher-wage, 
high-productivity jobs because therein lies our competitive 
advantage. So we protect a few relatively low-wage jobs at the 
expense of other higher-wage jobs--the typical result of 
protectionism.
    Most tax reform proposals, including the English proposal, 
embrace free trade by allowing U.S. companies to achieve their 
greatest efficiencies globally and so create more high wage 
jobs at home.
    Fundamental tax reform also opens the way for border tax 
adjustments or BTAs in the form of an export rebate and a new 
import levy.
    An export rebate excludes from tax the profits made on the 
export of domestic production. If the United States adopted 
territoriality, then export rebates naturally address concerns 
that territoriality would induce U.S. companies to shift 
operations overseas. A company would pay no U.S. tax on goods 
and services sold abroad, whether those goods are produced at 
home or abroad.
    Once markets adjust to the new tax regime, the value of the 
tax rebate would shift back to U.S. labor in the form of higher 
wages or back to U.S. capital in the form of higher returns, 
permitting an expansion of the capital stock and therefore 
increasing employment and output for foreign markets.
    The counterpart to the export rebate is the import levy. 
Initially, some of this levy would increase the price of 
imports. The vast majority of these price increases would 
quickly disappear, however, as U.S. consumers and businesses 
substituted domestic for foreign production.
    This in turn would force foreign suppliers to absorb much 
of the tax. Thus, both the export rebate and the import levy 
would encourage the creation of high wage jobs at home.
    Business taxes, in almost all instances, fall on labor and 
capital, but especially capital. If we imposed a BTA import 
levy, it would also fall on capital and labor. However, if 
would fall on the capital and labor of the countries producing 
goods and services sold into the United States.
    In other words, a BTA import levy effectively imports tax 
base from abroad, shifting some amount of the domestic tax 
burden to foreign workers and foreign capital owners.
    For example, if the U.S. had a trillion dollars, of imports 
a year, and we imposed a 12 percent import levy, that would 
raise $120 billion in receipts. Even if the net shift of this 
tax liability to foreign taxpayers were only half the suggested 
amount, that would still mean a $60 billion annual cut in taxes 
for U.S. citizens.
    The important point here is that the BTA import levy shifts 
U.S. tax burden onto foreign taxpayers, providing U.S. citizens 
with a very significant effective tax cut, without reducing 
revenues to the U.S. Treasury one cent.
    One might expect that the Europeans and our trading 
partners would not care for our shifting our tax burden onto 
their citizens very much.
    I would note, however, that many of our trading partners 
have tax systems that allow them to do that very thing to us, 
and they have been doing it to us for decades. One way to look 
at this is we are recapturing tax base that they have been 
stealing from us for decades.
    Tax reform creates a welcome occasion to abandon a 
counterproductive protectionist tax policy and allow our 
workers and our companies to maximize their productivity. It 
also means that we can implement border tax adjustments that 
would further improve the competitiveness of U.S. labor and 
U.S. companies.
    In both cases, the clear result is higher employment and 
higher wages.
    Thank you.
    [The prepared statement follows:]

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

    My name is J.D. Foster and I am the Executive Director and 
Chief Economist of the Tax Foundation. The Tax Foundation is a 
non-partisan, non-profit research and education institution. It 
was established 63 years ago to provide the American people and 
policy makers with relevant, timely, and accurate information 
and analysis on fiscal policy matters at the federal, state, 
and local levels.
    The sustained interest in tax reform should come as no 
surprise. More than any other aspect of government the federal 
income tax directly and repeatedly influences Americans' lives. 
We may be most aware of this now during the tax season, but 
every week our lives are touched and our decisions colored by 
the income tax. How much should I save in my 401(k)? Should I 
sell some stock and pay the capital gains tax to buy the stock 
I would prefer? Should I go to college, to graduate school or 
night school to get a better job and earn a higher salary if it 
means a much higher tax rate? Should I take out a home equity 
loan to buy a car? Should I buy a home or rent? If I rent and 
lose the home mortgage interest deduction, can I afford to make 
as big a charitable contribution to my church, synagogue, or 
mosque?
    The income tax is like an old machine tilling the fields of 
the economy, reaping a harvest of revenue for the federal 
government. Fourteen years ago the Congress performed a major 
overhaul through the Tax Reform Act of 1986. In the intervening 
years the Congress has passed hundreds of changes in the nature 
of ongoing maintenance. But it has also passed scores of 
changes asking the old machine to do even more: To supplement 
welfare spending, to encourage saving for education, and so on. 
Meanwhile the fields have changed steadily as has the pressure 
to produce, putting ever greater demands on the tax machine. 
Even under ordinary circumstances, another major overhaul would 
be past due today.
    Circumstances are far from ordinary, however. The growing 
breadth of the economy combined with the rapid escalation of 
computing power have spawned a degree of complexity in the tax 
code affecting both individuals and businesses that was 
unthinkable not long ago. This complexity has led to a growing 
animus and distrust of the tax system, the Internal Revenue 
Service, and the federal government in general.
    It is unwise to impose upon citizens any system that is 
torturously complex and affects so many areas of their lives. 
This complexity of the code leads to a sense of imbalance and 
unfairness. Some instances are obvious, like the marriage 
penalty which the Congress is seeking to address this year. 
Others are a matter of perception. We come to believe our 
neighbor knows of some twist to the tax code that allows him to 
pay less tax than we do.
    Circumstances are also extraordinary because there is a 
growing sense that an income tax is not the best type of tax 
for any country. At issue is not whether the income tax 
machinery can be made to work better, but whether it is the 
right machine for the job. When the income tax was advanced and 
adopted, it was well understood that it overtaxed saving and 
investment. It was also understood that this bias would reduce 
economic growth, but this was considered a reasonable price to 
pay for the redistribution of income and wealth for which the 
income tax is so adept. Today, the prosperity foregone is 
unacceptable and the transfer of income and wealth can be 
achieved by other means. Further, the income tax's deleterious 
effects on international competitiveness that could essentially 
be ignored fifty, forty, or even twenty years ago cannot be 
ignored today.
    To be sure, the federal income tax is not about to 
collapse. There is no crisis. We could skip fundamental tax 
reform, choosing instead to make repairs minor and major and 
keep this old machine running a while longer. We could also 
have set aside welfare reform, and foregone its many benefits. 
We could postpone Social Security Reform and Medicare reform. 
We could choose to do all these things, but that would not be 
the wise or rational choice, not when the lives of millions of 
Americans can be bettered by sound reforms.

What Is ``Fundamental'' Tax Reform?

    The phrase ``fundamental tax reform'' is now code in tax 
policy. To some it stands for a specific proposal, like the 
Flat Tax or the National Sales Tax or the Simplified USA Tax. 
To some it stands for a threat to stability and the status quo. 
To others it stands for an alternative set of principles that 
should guide tax policy and that undergird most tax reform 
proposals: principles such as simplification, fairness, and 
economic neutrality. As these principles are nearly universally 
applauded, it is immediately clear how extensive the changes 
must be for legislation to rise from being a run-of-the-mill 
tax bill to the level of ``fundamental'' reform. The 1997 
Taxpayer Relief Act, for example, included a great many 
provisions, but no one would argue that this constituted 
``fundamental'' reform.

    Neutrality and Saving

    One distinguishing feature of fundamental tax reform is the 
meaning of the word ``neutrality.'' Does one mean neutral 
within the framework of a classical income tax, or neutral in 
some other sense? Our current system is a mutated income tax 
that often taxes the returns to saving even more heavily than 
would be appropriate under a normal income tax. The 
unintegrated corporate income tax, the capital gains tax, and 
the gift and estate tax are monuments to excessive taxation. On 
the other hand, the federal income tax contains many features 
consistent with a consumption tax, such as the pension and 
savings provisions that effectively ensure that only one level 
of tax is paid at the individual level on labor income that is 
saved.
    Given its current usage, at the individual level 
``neutrality'' today clearly means taxing all labor income once 
and only once, uniformly and consistently. In other words, for 
individuals fundamental tax reform means shifting the tax base 
from a combination of labor and capital income, to labor 
income. For businesses, it means taxing only profits earned in 
the United States. Neutrality for businesses also means only 
taxing economic profits rather than financial profits, which is 
achieved by allowing businesses to expense their purchases of 
plant and equipment. Thus, it means changing a fundamental 
principle on which the tax system is based.

    Neutrality and Education

    Neutrality also means imposing no higher a tax burden on 
human capital income than on physical capital income. In the e-
world, a well-educated work force is vital. The ``e'' in e-
commerce could just as well represent ``education'' as 
``electronic.'' The New Economy is built on technology, 
communications, and information, all of which have value only 
to the extent employees, investors, entrepreneurs, and managers 
can use the technology to communicate and process the 
information productively. In other words, it depends on people 
with the education to use the tools effectively.
    The tax code should not create a bias in favor of 
education, neither should it have a bias against education as 
it often does today. Neutrality means businesses should be able 
to expense their physical capital acquisitions. It also means 
individuals should be able to deduct in full the costs 
associated with their education. We already do this to an 
extent insofar as local school systems are funded with 
federally tax-deductible property taxes. This same treatment 
should extend to all reasonable expenses incurred by 
individuals seeking to invest in their own human capital.

Pursuing Fundamental Tax Reform

    Defining the goal of tax reform leaves a remarkable number 
of options from which to choose. For example, one can ``scrap 
the code'' as many advocate, suggesting that remedial action is 
infeasible or impractical, and replacing the income tax with 
some apparently new system. I say apparently new because, in 
fact, none of the main proposals advanced to date are truly as 
new and revolutionary as their advocates would have us believe.
    The Congress could achieve the essential substance of the 
Simplified USA Tax, for example, by allowing an unlimited 
Individual Retirement Account and other pension savings, while 
allowing businesses to expense all of their purchases of plant 
and equipment. Similarly, while the Federal government has no 
experience with broad sales taxes, it collects numerous 
targeted excises while most states collect general sales taxes. 
Thus even a National Retail Sales Tax, clearly the most radical 
of the popular proposals, and the most problematic, is not 
entirely alien. The ``revolution'' in fundamental tax reform is 
not the novelty of the new tax system, per se, but the shift in 
the tax base from a mutated definition of income to 
consumption.
    An alternative to ``scrapping the code'' would be to 
``clean the code.'' It is entirely possible to achieve all the 
goals of fundamental tax reform by radically amending the 
existing system. For example, step one would be to allow people 
to save as much as they want in tax-deferred accounts, without 
regard to their current incomes or to when they choose to take 
the money out of the accounts for consumption. Alternatively, 
one could tax all labor income however employed, and forego 
taxing all forms of future capital income.
    Step two would be to eliminate the Alternative Minimum Tax 
and all the other horrors of current law. The true source of 
complexity in the tax code is not the home mortgage and the 
charitable contribution deductions, and the others listed on 
Schedule A. For individuals the true complexity lies in the 
phase-in and phase-out of the Earned Income Tax Credit, the 
phase-out of the other tax credits and other bells and whistles 
enacted in recent years, the phase-out of itemized deductions, 
the phase-out of personal exemptions, the Alternative Minimum 
Tax, and the modern nightmare that is Schedule D for capital 
gains and losses. For businesses the true complexity lies in 
the system of depreciation allowances, the taxation of foreign 
source income, and the special rules and rulings that go into 
defining taxable income.
    Step three would be to allow individuals a deduction for 
personal expenses associated with education--to put human 
capital formation on par with physical capital formation.
    Step four would be to allow businesses to expense their 
purchases of plant and equipment.
    Step five would be to tax only income earned in the United 
States, rather than seeking to cast an extraterritorial net in 
a feat of veiled protectionism.
    A great many other steps would be needed to ``clean the 
code'' properly. The federal income tax is very much like a 
vast mansion that has collected dust and all manner of rubbish 
over decades of relative neglect, and in many areas may have 
fallen into disrepair. It is possible to clean the mansion 
again, to repair the walls, and to modernize the facilities. 
Whether one should level the income tax edifice and start over 
or just give it a thorough cleaning is a tactical and political 
decision. The former may be more unsettling though more 
thorough; the latter may appear easier, but it is less certain 
to achieve the desired result.

    A No-Cost Tax Cut

    Some level of compliance and administrative costs are 
inevitable with any tax system. Any amount in excess of the 
minimum wastes the nation's resources. It is, in effect, a tax 
with no offsetting benefit. Reducing those costs is therefore 
equivalent to a tax cut in that it leaves more resources in the 
private sector. But it is a tax cut that, at worst, leaves the 
Federal government with no fewer resources than it had before.
    Estimates of the compliance costs associated with the 
Federal income tax often reach into the hundreds of billions of 
dollars. Four years ago the Tax Foundation concluded that a 
lower-bound for such an estimate was $157 billion. Today, that 
figure might be closer to $175 billion. This is a lower bound, 
so the actual figure is almost certainly much higher. For 
argument's sake, suppose it is $200 billion.
    Using the same methodology employed to find the lower bound 
for compliance costs for the income tax, in 1996 the Tax 
Foundation estimated the compliance costs associated with the 
Flat Tax and the National Retail Sales Tax. In both cases the 
analysis showed that compliance costs would fall by about 95 
percent once the new plan was fully phased-in, assuming the new 
tax system was enacted in its pure form. The reduction 
associated with the Simplified USA Tax would be comparable. 
Thus, even if transition issues and political considerations 
caused the percentage reduction in compliance costs to drop to 
50 percent, that still means an effective tax cut of $100 
billion annually, or $1 trillion over 10 years. That is an 
enormous amount of saving and should by itself be enough to 
compel legislative action.
The International Dimension of Tax Reform

    The foregoing discussion reveals many sound reasons for 
pursuing fundamental tax reform, including simplification, 
reducing compliance costs, improving the neutrality of the tax 
code so that it is less of a hindrance to economic growth, and 
reducing the intrusive aspects of the tax system into citizens' 
lives. Each of these has been discussed extensively in numerous 
forums, including this Committee. However, the international 
dimensions of tax reform, particularly the change in the tax 
treatment of foreign source income and the imposition of Border 
Tax Adjustments have until recently received far less attention 
than they deserve.

    Protectionism and the U.S. Tax on Foreign Source Income

    Subject to a vast array of special provisions, tests, and 
rules, the essential features of U.S. international tax policy 
are that the U.S. imposes federal income tax on U.S. citizens' 
foreign earnings. The U.S. also allows a limited tax credit 
against any resulting tax liability for foreign income taxes 
paid. This policy goes under many names, the most common of 
which is ``worldwide taxation,'' the most accurate of which, 
however, is ``extraterritoriality.'' Most tax reform proposals 
wisely move away from extraterritoriality to a system whereby 
only economic profits earned in the United States are subject 
to U.S. taxation, a system known as ``territoriality''.
    Extraterritoriality violates tax neutrality as the term is 
commonly used. A non-neutral tax system is hurtful to wage and 
job growth because it directs our national resources of land, 
capital, and labor away from their most productive and 
beneficial uses. A driving motivation for tax reform must be 
the recognition that a more neutral tax system is in our best 
interests, and this is true whether the issue is economic risk-
taking, education outlays, the level of saving, the level of 
investment, the forms of investment, or the locations of 
investment.
    The immediate effect of extraterritoriality is to distort 
the pattern of international investment by U.S. companies and 
therefore to reduce their competitiveness at home and abroad. 
This loss of international competitiveness translates into 
lower shareholder returns, but it also means a loss of jobs and 
lower wages at home. One obvious consequence of the global 
economy is that companies must hire, invest, produce, and sell 
globally. The companies that are best able to integrate each of 
these activities across product lines, across functions, and 
across countries are the most successful. A U.S. tax policy 
that distorts the pattern of activity of U.S. companies 
inhibits them from maximizing their efficiency. Space 
limitations prevent me from elaborating on these points. 
However, I have written about these matters elsewhere in 
greater detail, (See ``Promoting Trade, Shackling our 
Traders,'' Tax Foundation Background Paper No. 21).
    If extraterritoriality is so harmful to U.S. interests, it 
is reasonable to ask why it remains the basis for U.S. 
international tax policy. The answer is that its true nature 
has largely been hidden behind fear mongering claims and 
misleading statements. Extraterritoriality is a sophisticated, 
tax-based form of protectionism. Tariffs, quotas, and other 
devices seek to erect a wall against foreign goods that are in 
some way less expensive or of better quality than domestically 
produced goods. The only motivation for such policies is to 
protect the businesses and the their employees who cannot 
compete fairly with foreign goods. While some benefit from such 
policies, consumers and other businesses that buy these goods 
must accept either lower quality or higher prices and, on 
balance, the nation suffers a loss.
    The United States has long and consistently been the world 
leader in the fight for free trade and open markets. This has 
been a bi-partisan policy and a sound policy as history has 
proven time and time again. Free trade countries prosper; 
closed economies stagnate. Free trade encourages each nation to 
do those things it does best while giving consumers the widest 
array of choices at the lowest possible prices. There are, of 
course, always bumps in the road and occasional backsliding. 
But the broad support for free trade is remarkable, and well-
founded.
    The essential goal of extraterritoriality is to ensure that 
U.S. companies pay at least as much income tax on their foreign 
activities as they would if those activities had taken place in 
the United States. This sounds reasonable at first blush, but 
if this principle is reasonable, why should we not require U.S. 
companies to be subject to the same labor laws abroad as at 
home? Certainly our stricter labor laws protect our workforce, 
but they also raise labor costs and therefore put U.S. workers 
at a competitive disadvantage. Why not subject these companies 
to the same environmental laws they face at home? Again, our 
more stringent rules generally protect the environment, but 
they also raise producers' costs. Indeed, we have in recent 
years heard calls for exactly such policies, and it is no 
coincidence that these same voices have also consistently been 
at the forefront of the fight against free trade.
    Proponents of extraterritoriality will argue that if the 
U.S. fails to tax the foreign income of U.S. companies, then 
the tax code will create an incentive for those companies to 
shift their operations to lower-taxed, foreign jurisdictions. 
The proper way to express this, however, is that eliminating 
the tax would eliminate a disincentive for companies to invest 
globally and most efficiently, unfettered by U.S. tax policies.
    Classic protectionism seeks to erect barriers to the 
importation of goods and services to protect jobs at home. 
Extraterritoriality seeks to erect barriers to international 
investment by U.S. citizens in the usually mistaken belief that 
this investment would otherwise occur at home. Thus this tax 
barrier to international investment is also intended to protect 
U.S. jobs.
    Perhaps the most unfortunate aspect of the protectionism of 
extraterritoriality is not that it unfairly protects U.S. jobs, 
but that it may cost U.S. jobs, on balance, and reduce wages, 
on balance. As noted above, U.S. companies organize their 
operations on a global basis. Each element, subsidiary, and 
division performs a specific set of roles and company 
management strives to optimize the efficiency of each piece of 
the corporate whole. The effects of a lost or foregone 
opportunity in one area will negatively affect the efficiency 
of many of the company's operations, including those based in 
the United States. Sometimes these secondary effects are minor 
and can be overcome; sometimes they are highly significant. 
Thus a lost or foregone opportunity due to the U.S. imposition 
of a protectionist, extraterritorial tax policy will often 
reduce employment in a company's other operations throughout 
the world, including in the United States.
    The U.S. has one of the best educated, most productive work 
forces in the world. If a U.S. company were considering an 
increase in its foreign operations, it is very likely those 
operations would represent lower-wage, less productive jobs. On 
the other hand, the U.S. operations that would support these 
low-wage jobs would tend to be higher wage, high productivity 
jobs, such as those associated with research and development, 
and support functions such as accounting, finance, marketing, 
and management. Thus extraterritoriality protects a few low 
wage jobs at the expense of other, higher-wage U.S. jobs.

    The Many Roles of Border Tax Adjustments

    Fundamental tax reform permits the adoption of Border Tax 
Adjustments (BTAs), in the form of a rebate upon export of the 
U.S. business tax and the imposition of the U.S. tax on the 
value of imports. BTAs are a common feature of many national 
tax systems and are an important feature of the Simplified USA 
Tax.
    The importance of BTAs to tax policy is better recognized 
today in the United States thanks to the recent World Trade 
Organization (WTO) ruling against the U.S. Foreign Sales 
Corporation (FSC) provisions. The FSC is an important, though 
relatively modest attempt to grant an income tax rebate on U.S. 
exports. Fundamental tax reform and BTAs solve the FSC problem 
by, in effect, making the export rebate total, universal, and 
WTO compliant.
    The role and consequences of BTAs, however, go well beyond 
replacing the FSC. Their major effects are to enhance prospects 
for U.S. companies and U.S. workers to compete globally; to 
offset similar provisions adopted by our trading partners, 
further enhancing our international competitiveness; and 
effectively to ``import'' tax base from abroad, thereby 
reducing the federal tax burden on U.S. citizens without 
reducing revenues to the Federal government. I will address 
each of these, briefly, in turn.

    Export Rebates

    An export rebate allows a U.S. producer to exclude from 
taxable income the profits made on the export of domestically 
produced goods and services. If the United States adopted 
territoriality, then export rebates naturally address any 
remaining concerns that territoriality would induce U.S. 
companies to shift some operations overseas. If the United 
States adopted both territoriality and export rebates, then a 
company would pay no U.S. tax on goods sold abroad whether 
those goods are produced at home or abroad.
    Business taxes are generally and ultimately borne by the 
factors of production, namely labor and capital. To be sure, 
there are instances in which a new tax can be shifted, at least 
temporarily, onto consumers. But in an increasingly global and 
competitive world economy, consumers have a great ability to 
opt for alternative, lower-priced goods and services, and this 
is especially true in the United States because there is very 
little we do not ourselves produce in quantity. Consequently, 
consumers can effectively resist bearing business taxes, and 
hence they are shifted back on to labor and especially on to 
the owners of capital.
    Upon initial introduction, an export rebate would allow 
U.S. exporters either to enjoy higher profits on their exports 
or to charge lower prices in an effort to capture a greater 
market share. Once markets at home and abroad have adjusted to 
the new tax regimes, the relative prices of U.S. exports would 
largely return to their previous levels, and the value of the 
tax rebate would be shifted back to U.S. labor and U.S. 
capital. Any shift of the rebate to U.S. labor would be in the 
form of higher wages. Most of the shift of the rebate, however, 
would be in the form of higher returns to capital that the 
market would translate into a larger capital stock permitting 
more output for foreign markets. In other words, the export 
rebate would be immediately beneficial, but it would be even 
more so in the long run by raising wages, increasing jobs, and 
increasing the competitiveness of U.S. exporters.

    Import Levies

    The counterpart to the export rebate is the import levy on 
the full value of all imported goods and services. When first 
introduced, some of this rebate would doubtlessly appear as an 
increase in the price of imports. The vast majority of these 
price increases would quickly disappear, however, as U.S. 
consumers and U.S. businesses substituted domestically produced 
goods and services for foreign goods and services. In large 
measure, the ability to substitute domestic for foreign 
production would force foreign suppliers to absorb much of the 
tax.
    As with the export rebate, once markets have fully 
adjusted, most domestic prices would return to their pre-tax 
reform levels at least insofar as the effects of BTAs are 
concerned. Once the adjustment has been completed, importers of 
foreign goods and services would have shifted some of their 
demand to U.S. producers, with obvious beneficial effects for 
domestic job and wage growth. Thus both the export rebate and 
the import levy have the same effects in terms of raising U.S. 
economic activity by increasing the international 
competitiveness of U.S. labor and U.S. companies.

    On Offsetting Exchange Rate Adjustments

    One counterargument against the foregoing analysis is that 
exchange rates would adjust to offset any price effects of 
Border Tax Adjustments. I believe this argument is essentially 
correct. What I do not know, and what nobody knows, is how long 
this exchange rate adjustment would take to occur. It could be 
instantaneous or, more likely, it could take many years.
    Economists know a great deal about the fundamental forces 
of exchange rate determination over the long run. They also 
know a great deal about many of the forces that cause exchange 
rates to evolve over time. For example, we know that exchange 
rates move to clear the markets for foreign exchange and that 
these markets are buffeted by changing international capital 
and trade flows, by changing expectations about how these flows 
will adjust in the future, by changes in tax policies, and by 
changing expectations of relative inflationary pressures.
    Given all these factors it should not surprise that 
economists enjoy little success predicting exchange rate 
movements over the next day or two, and they do no better 
forecasting when exchange rate movements will take place and 
how far they will move in the short and medium terms. This is 
especially true within the context of fundamental tax reform. 
Whatever influences BTAs might have on exchange rates would 
almost certainly and for a long time be overwhelmed by the 
shifting patterns of trade and capital flows into and out of 
the United States in response to changes in the incentives to 
save and invest.
    What we can say is that if exchange rates move to offset 
fully the competitive benefits of BTAs, then the worst that can 
happen is that these benefits will not materialize. Such an 
adjustment would likely take a long time to occur, however, and 
unless and until it does the benefits will manifest themselves 
and they could be very substantial.

    ``Importing'' Tax Base

    The tax base is the amount that is subject to tax. In the 
case of the income tax, for example, the tax base is the total 
of labor and capital income generated in a year. The federal 
gasoline excise tax base is the amount of gasoline purchased by 
consumers in a year. The tax base is often manipulated to 
exclude certain items and in the case of the income tax to 
include others more than once. The net of these manipulations 
yields an amount which, when subjected to the tax rates, 
produces tax revenue. The growing Federal tax take in recent 
years primarily result from the growth in the economy, which is 
another way of saying it results from the growth of the tax 
base.
    Repeating a basic principle, business taxes in most 
instances fall on capital and labor, the factors of production. 
If the U.S. were to impose an import levy in the form of a 
Border Tax Adjustment, this levy would also fall on capital and 
labor. However, it would fall on the capital and labor of the 
countries producing the goods and services for importation into 
the United States. In other words, a Border Tax Adjustment 
import levy effectively imports tax base from abroad, shifting 
some amount of the domestic tax burden to foreign workers and 
foreign capital owners.
    To give some idea of the magnitude of these effects, 
suppose once tax reform has been enacted with its Border Tax 
Adjustments that the U.S. imported $1 trillion of goods and 
services a year. Assuming a 12 percent levy, that would imply 
$120 billion in import levy receipts. If, when all adjustments 
were completed, U.S. consumers resisted all efforts by foreign 
exporters to raise prices to compensate for the import levy, 
then the U.S. would have effectively imported $1 trillion of 
tax base and shifted $120 billion of tax liability onto foreign 
taxpayers.
    Of course, in some instances foreign producers would be 
able to force U.S. consumers to bear some of the tax in the 
form of higher prices, and in rare instances U.S. consumers 
would bear all of the tax. Clearly, however, such situations 
would create powerful incentives for affected consumers to 
shift consumption toward lower-price domestic goods and 
services. Thus much of the expected decline in imports from 
imposing an import levy would occur in precisely those areas 
where consumer resistance to the tax-induced price hikes was 
incomplete.
    Even if the net shift of tax liability to foreign taxpayers 
were only half the amount of the hypothesized upper-bound, this 
would still imply a reduction in taxes paid by U.S. citizens of 
$60 billion annually. Whatever the figure in a given year, the 
important point is that the Congress has within its means the 
ability to shift tax burden onto foreign taxpayers, providing 
U.S. citizens with a very significant effective tax cut, 
without reducing revenues to the U.S. Treasury one cent.
    Given the reaction of many of our trading partners to our 
Foreign Sales Corporation provision, one might reasonably 
expect them to object to the adoption of Border Tax 
Adjustments. True, they would not likely be happy over this 
development, but they would have no cause for complaint. Many 
of our trading partners, especially the Europeans, have 
employed such BTAs for decades as part of their consumption tax 
systems. In other words, they have been importing tax base from 
the United States for many years, effectively imposing their 
tax burden on U.S. citizens. By adopting BTAs, the U.S. would 
simply be recapturing U.S. tax base these trading partners have 
claimed for all these years.

Conclusion

    There is a great deal to commend comprehensive, fundamental 
tax reform. Most of the problems associated with the federal 
income tax are well established and virtually all of them can 
be effectively addressed through sound reform. Fundamental tax 
reform can dramatically reduce complexity and compliance costs. 
It can free individuals from much of the intrusiveness that is 
the hallmark of the income tax. It can put people and education 
at least on par with machines by making the tax system neutral 
with respect to human and physical capital formation. It can 
free the economy to create more and better jobs, higher wages, 
and more wealth.
    Fundamental tax reform also creates a welcome occasion to 
abandon a counter-productive protectionist policy of taxing 
foreign source income in favor of a policy that will allow U.S. 
companies to maximize their international competitiveness and 
thereby contribute even more to the promise of greater 
prosperity at home.
    It goes even further by creating the opportunity to 
consider implementing Border Tax Adjustments that would further 
improve the competitiveness of U.S. labor and U.S. companies.
    And, not to be overlooked, it creates a powerful 
opportunity to provide American taxpayers with an effective tax 
cut, both in the reduction of compliance costs and in the 
importation of foreign tax base. This tax cut potentially could 
total in the hundreds of billions of dollars annually, without 
reducing receipts to the Federal Treasury. This is literally, 
money left on the table that the Congress can sweep up and 
bestow on the U.S. taxpayer.

                                


    Chairman Archer. Thank you, Dr. Foster.
    Our last witness, Gary Hufbauer, welcome back to the 
Committee. We will be pleased to hear your testimony.

   STATEMENT OF GARY HUFBAUER, REGINALD JONES SENIOR FELLOW, 
             INSTITUTE FOR INTERNATIONAL ECONOMICS

    Mr. Hufbauer. Thank you very much, Chairman Archer and 
members of the Committee. Thank you for inviting me to testify 
this morning.
    Chairman Archer. Mr. Hufbauer, would you just briefly 
identify yourself for the record?
    Mr. Hufbauer. Sure. I am Gary Hufbauer at the Institute for 
International Economics here in Washington, D.C.
    The United States has a dysfunctional tax system for 
business activity and in other areas as well, but I am going to 
concentrate on business activity.
    Our system poses burdens that are unknown to competitor 
firms based in Europe, Asia, Latin America. It is true today 
that the U.S. economy is the marvel of the world. Every place 
you travel, you hear this.
    But our magic ingredients are being adopted by our 
competitors abroad. Those ingredients are an open economy, a 
flexible labor force and the Internet.
    Meanwhile, we continue to be handicapped by our tax system. 
We follow an antiquated and impractical general rule. We tax 
the worldwide income of our firms, but we do not tax the income 
of firms abroad which are shipping goods and services into the 
United States.
    This rule dates from the earliest days of the Internal 
Revenue Code when international commerce was in its infancy and 
of course multinational corporations were unknown.
    Successive Congresses, in their wisdom, have modified that 
general rule, at least in terms of U.S. business operating 
abroad, so we have the foreign tax credit and we have deferral 
and we had the DISC and we have the FSC. But these tensions, 
which date back to 1918, have created the extraordinarily 
complicated tax system that we are coping with today.
    The problems were highlighted by the recent ruling by the 
WTO against the Foreign Sales Corporation.
    As my colleagues on this panel have pointed out, European 
countries routinely shift their tax burden abroad. They 
routinely exempt their exporters from value added tax, which 
amounts to about $100 billion a year. And of course European 
firms use foreign sales subsidiaries, saving at least another 
$10 billion a year.
    By comparison, the Foreign Sales Corporation, as 
Congressman Frenzel pointed out, was a tiny little measure, 
saving about $3.5 billion a year for U.S. exporters.
    Meanwhile, we face the problem of international tax 
competition. At one time that was called ``the runaway plant 
problem.'' Ross Perot, with his gift of sound bytes, 
rechristened it ``the great sucking sound.'' That was 
exaggeration, but it is true that we live in a world where 
international tax competition is growing more important. We 
also face the new issue of Internet sales, especially business-
to-business sales which our present tax code is incapable of 
handling.
    The Simplified USA business tax would eliminate the steep 
tilt against U.S. exports because U.S. companies, like their 
European competitors and their Asian competitors, would pay no 
tax on exported goods and services.
    And it would eliminate the tax motive for ``runaway 
plants'' and that motive may get stronger in the years ahead. 
Under the simplified USA business tax, any firm that produced 
abroad, whether it is an American firm or a Latin American firm 
or whatever, would be taxed when it sells goods and services 
into the U.S. market.
    Following these general principles, the simplified USA tax 
would handle the very rapidly growing business-to-business E-
commerce.
    At a stroke, the Simplified USA Tax would deal with some of 
our most pressing international competitiveness problems.
    Thank you very much.
    [The prepared statement follows:]

STATEMENT OF GARY HUFBAUER, REGINALD JONES SENIOR FELLOW, INSTITUTE FOR 
INTERNATIONAL ECONOMICS

    Chairman Archer and members of the Committee, thank you for 
inviting me to testify. The United States has a dysfunctional 
system for taxing business activity. The corporate income tax 
is enormously complex, it invites firms to establish production 
abroad and sell goods and services back into the U.S. market, 
it discourages U.S. exports, it is an open sesame for 
international tax shenanigans, and it is not equipped for E-
commerce. Like learning Latin, learning the Internal Revenue 
Code is great mental discipline for young lawyers. Otherwise, 
it is a curse.
    The U.S. system imposes burdens on business unknown to our 
competitors in Europe, Asia, or Latin America. Today the U.S. 
economy is the marvel of the world. But other countries are 
learning the magic ingredients: a flexible labor force, an open 
economy, and the internet. To stay competitive in the world, we 
need a dramatically simplified system of taxing business 
activity. Representative Phil English (R.-PA) has pointed the 
way with his Simplified USA Tax, drawing on the concepts 
pioneered by former Senator Sam Nunn (D-GA) and Senator 
Domenici (R.-NM). My testimony concerns the international 
aspects of business tax reform.
    The United States follows an antiquated and impractical 
general rule: it taxes worldwide business income. This rule 
dates from the earliest years of the Internal Revenue Code, a 
time when U.S. international commerce was in its infancy, and 
the term multinational enterprise had not been coined. Under 
the general rule, when a U.S. company makes and sells products 
in France, the U.S. taxes the income. In the converse case, 
France does not tax the income of French firms operating in the 
United States.
    The worldwide tax approach was born in a different era as a 
method of administrative convenience, but it is defended today 
by emotion not logic: ``Every U.S. corporation should pay U.S. 
tax, whether it operates in Indiana or India, New Mexico or old 
Mexico.'' Carried to its extreme, the general rule would render 
U.S. firms totally non-competitive in a global economy, both as 
exporters and producers.
    Successive Congresses, in their wisdom, have modified the 
general rule with practical exceptions, ranging from the 
foreign tax credit, to deferral, to the Domestic International 
Sales Corporation (DISC) and the Foreign Sales Corporation 
(FSC). But the tensions stretching back to 1918 between the 
impractical general rule of worldwide taxation and the 
practical exceptions have generated an extraordinarily complex 
system for taxing the international income of U.S. firms and 
the U.S. income of foreign firms. The administrative burden is 
a nightmare for the IRS and business alike.\1\
---------------------------------------------------------------------------
    \1\ Gary Clyde Hufbauer assisted by Joanna M. van Rooij, U.S. 
Taxation of International Income: Blueprint for Reform, Institute for 
International Economics, 1992.
---------------------------------------------------------------------------
    These problems were brought into focus by the recent WTO 
Appeals Court decision against the Foreign Sales Corporation. 
Elsewhere, I have severely criticized this decision.\2\ It 
ignores legal history and it misreads the WTO text. But 
Congress must now reckon with a WTO decision that tossed aside 
the tax bargain painstakingly negotiated between the United 
States and Europe twenty years ago.
---------------------------------------------------------------------------
    \2\ Gary Hufbauer, ``A Critical Assessment: The World Trade 
Organization Panel Report (dated 8 October 1999) and Report of the 
Appellate Body (dated 24 February 2000), United States--Tax Treatment 
for ``Foreign Sales Corporations' '' ', Institute for International 
Economics web site www.iie.com, March 11, 2000.
---------------------------------------------------------------------------
    European countries (and many others) routinely exempt their 
exports from value added tax. This saves European exporters 
about $100 billion a year of tax payments on export sales. 
European firms routinely sell these same exports through tax-
haven sales subsidiaries located in exotic places like Bermuda 
and Hong Kong. This saves European exporters another $10 
billion a year of corporate income tax. By comparison, the 
Foreign Sales Corporation saves U.S. exporters about $3.5 
billion a year. Most of the 6,000 firms that use the FSC are 
small and medium-sized exporters with little or no production 
abroad.
    As the FSC decision illustrates, the WTO honors an archaic 
tax distinction that has no economic basis. WTO rules allow 
corporate taxes measured by value added (Europe) to be excused 
on exports and imposed on imports. But WTO rules forbid similar 
adjustments for corporate taxes measured by income (United 
States)--even though the distinction between the two tax bases 
is more form than substance.\3\
---------------------------------------------------------------------------
    \3\ Gary Clyde Hufbauer and Carol Gabyzon, Fundamental Tax Reform 
and Border Tax Adjustments, Institute for International Economics, 
January 1996.
---------------------------------------------------------------------------
    Meanwhile, old and new problems fester in the world of 
international taxation. One old problem is the ``runaway 
plant,'' re-christened by Ross Perot as ``the great sucking 
sound.'' Will U.S. firms pull up stakes and move abroad, and 
then sell back into the United States--free of U.S. corporate 
tax? Legislators in many countries understand that low business 
taxes are a good way of attracting investment, and econometric 
evidence bears out their sentiments. Perot exaggerated for 
political effect, but the possibility of fierce tax competition 
in a global economy cannot be lightly dismissed.
    A new problem is E-commerce. Will U.S. firms be taxed on 
their internet sales to customers abroad? Can foreign firms 
sell into the U.S. market free of tax?
    Congress could, in a single historical stroke, level the 
field of export taxation, end anxiety about runaway plants, 
resolve much of the looming debate over E-commerce, and discard 
volumes of tax complexity. It could achieve all these goals by 
replacing the corporate income tax with the Simplified USA tax.
    Under the Simplified USA business tax, taxable income would 
be determined by subtracting permitted deductions from taxable 
receipts. Taxable receipts cover revenue from sales in the 
United States, but not exports or production abroad. Permitted 
deductions cover all costs of business purchases from taxpaying 
U.S. firms. Payments for imports are either not permitted as a 
deduction or are taxed directly. By excluding exports from 
taxable receipts, and by either excluding imports from 
deductible expenses or taxing them directly, the Simplified USA 
business tax provides ``border tax adjustments''--just as in 
Europe, but without adopting a sales tax.
    When U.S. firms sell into foreign markets, their receipts 
would not be counted in taxable income, and therefore would not 
be taxed by the United States. The steep tilt in export tax 
practices would be leveled because U.S. companies, like their 
European, Asian and Latin American counterparts, would pay no 
tax on exported goods and services.
    The Simplified USA business tax would eliminate the tax 
motive for runaway plants. Any firm that produces abroad and 
sells in the U.S. market would effectively pay the same tax as 
a competitor located in the United States. When U.S. or foreign 
firms sell goods and services into the U.S. market, the U.S. 
importer would be liable for the Simplified USA tax 
(alternatively, no deduction would be permitted for the 
purchase of imported goods and services). For example, shoes 
made in Brazil and retailed by Walmart in Denver would pay 
Simplified USA tax, and so would sophisticated software written 
in Bangalore and sold to Citigroup in New York. The United 
States would collect the Simplified USA business tax on about 
$1.3 trillion annually of imported goods and services.
    When U.S. firms both produce and sell abroad, they would 
pay tax to the host country, not the United States. In fact, 
under current law, the U.S. Treasury collects practically no 
corporate tax revenue on active business conducted abroad by 
U.S. firms. But this practical outcome results from the 
interaction of outlandishly complex rules dealing with foreign 
tax credits, foreign losses and deferral. The same outcome 
would be a straightforward result of the Simplified USA tax. 
U.S. firms would compete on a level tax playing field, whether 
they produced in China, Germany, Mexico, or anyplace else.
    How would the Simplified USA tax handle E-commerce? As 
explained, business-to-business E-commerce (B2B) would not be 
included in taxable receipts, and B2B imports would be taxed 
directly (or deductions for imports disallowed). B2B is by far 
the largest dollar volume of E-commerce transactions. At a 
stroke, the most immediate E-commerce tax problem would be 
resolved.
    America's first income tax began 1861 to pay for the Civil 
War. The Union imposed a 3 percent tax on incomes over $800.00 
a year, which exempted most wage earners. The tax rate was 
raised to 5% in 1862 on incomes over $10,000.00. Shortly after 
the Civil War the income tax was repealed, the Bureau of 
Internal Revenue remained in existence. Budget-balancing 
statement have turned to income tax even in peacetime to 
replace revenue lost by import and export duties. That was the 
purpose of the income tax passed by congress in 1893 and ruled 
unconstitutional by the Supreme Court in 1895. President Taft 
pushed a constitutional amendment to revise that decision, and 
an income tax was passed as soon as the 16th Amendment was 
ratified in 1913 by only 31 states.
    The new income tax was a luxury tax. Top rates remained 
below 10 percent and most Americans didn't pay at all. Then 
came World War I, which raised the federal budget from $1 
billion in 1916 to $19 billion 1919; income tax rates rose to 3 
percent on $2,000 and 70 percent on $1 million. After the war, 
Treasury Secretary Andrew Million reduced the top rate to 25 
percent and got most taxpayers off the rolls by raising the 
minimum income subject to tax. But he also cooperated with the 
Congress to create preferences, exemptions, deductions and 
other tax breaks. The income tax had gotten the federal 
government deeper into the business of allocating economic 
resources, mostly out of public view.
    During World War II, as federal spending rose from $9.6 
billion in 1940 to $95 billion in 1945, income tax rates were 
raised 19 percent on $2,000 and 88 percent on $220,000, and the 
number of taxpayers rose from 14 million to 50 million.
    The World War II tax is recognizable ancestor of today's 
federal income tax. The $500 per dependent exemption of 1944, 
raised to $600 in 1947, was a generous allowance no income tax. 
Over time, inflation eroded the value of the exemption. The 
Republican leaders of the 1950's feared voter's resentment of 
the rich and did not reduce top rates. In the 1960's, JFK 
stimulated the economy by reducing taxes significantly.
    The experiment in maintaining the wartime's high tax rates 
during peacetime in order to pay for the cold war and 
redistribute money to the middle class and poor worked-both 
economically and politically-for a generation and then stopped 
working economically. In the 70's, runaway inflation, fueled in 
part by Lyndon Johnson's refusal to raise taxes to pay for the 
Vietnam War, propelled ordinary families into tax brackets 
intended for the rich, while the myriad tax breaks available to 
the wealthy made a mockery of fairness. As state, local, and 
other tax rates also rose, a middle-class tax revolt helped 
fuel the Reagan Republic victories of the 1980's and 1994. 
Politicians have been struggling ever since to reduce income 
tax rates to peacetime levels that the public and the economy 
will tolerate.
    Quoting the Federalist papers #35 penned in 1788 by 
Alexander Hamilton, ``There is no part of the administration of 
government that requires extensive information and a thorough 
knowledge of the principles of political economy, so much as 
the business of taxation. It might be demonstrated that the 
most productive system of finance will always be the lest 
burdensome.''
    In a few days, I have been able to gather signatures from 
disgruntled American's who support the Fair Tax plan. Be it 
known that these signatures cross all lines of division in that 
they represent ditch diggers to lawyers, truck drivers to 
stockbrokers, Black, White, Hispanic, and Asians. To further 
discern a more accurate consensus of the people, all you need 
do is refer to the petition filed by the people of Arizona. On 
Thursday, July 2, 1998, 170,000 Americans required of this 
congress to abolish income tax and establish a National Sales 
Tax. The Fair Tax Plan before you at this time is what the 
people want and require of you now.
    One thing that amazes me is that the national news media 
has all but ignored this legislation. The rhetoric we as 
Americans have been subjected to implied that the wealthy in 
this country do not pay taxes, and that the tax burden has been 
shouldered by the ``working poor and middle class.'' To this I 
quote the designed Commander of Bastognne in his response to 
the Nazis to surrender in World War II ``Nutz.'' Figures 
recently released by the National Revue project quiet a 
different notion. The quintile of taxpayers from lowest to 
highest to outlined as such:
    Lowest -2%
    Low 1%
    Middle 7%
    High 16%
    Highest 78%
    When confronted with the truth in these matters of income 
tax and this Administrations quest for an America steeped in 
fairness, it is apparent that we are trying to shoot a game of 
pool with a nylon rope.
    I would like to thank the members of this committee for the 
opportunity to address you regarding the Fair Tax plan, and 
close with another quote from Alexander Hamilton's Federalist 
Papers #36:
    ``It has been asserted that a power of internal taxation in 
the national legislature could never be exercised with 
advantage, as well from the want of a sufficient knowledge of 
local circumstances, as from as interference between the 
revenue laws of the union and of the particular States. The 
supposition of a want of proper knowledge seems to be entirely 
destitute of foundation. If any question is depending in a 
State legislature respecting one of the countries, which 
demands a knowledge of local details, how is it acquired? No 
doubt from the information of the members of the county. Cannot 
the like knowledge be obtained in the national legislature from 
the representatives of each State? And is it not to be presumed 
that the men who will generally be sent there will be possessed 
of the necessary degree of intelligence to be able to 
communicate that information?'' I hope so!
    If William Jefferson Clinton so feels the pain of the 
American people, let him with unanimous consent of US Congress 
and Senate sign the Fair Tax Plan now. I implore you to 
preserve our freedom, our liberty, and Save this Union by 
Passing this legislation NOW!!
            Thank you.
    [Attachment is being retained in the Committee files.]
      

                                


    Chairman Archer. Thank you, Mr. Hufbauer.
    Again, my thanks to each one of you.
    I have several questions. I had not intended to get into 
this today but you have prompted my inquiry.
    The USA Tax was originally designed as a consumption tax, 
as I recall, and introduced by Senator Domenici, is that not 
correct.
    And is it under the revisions that have been presented 
today still a consumption tax?
    Mr. Christian. It, Mr. Chairman, it does not double tax 
saving, and by an economist's definition, that is what a 
consumption tax is.
    The difference between the original USA and the simplified 
USA in this respect is straightforwardly as follows:
    Under the proposal sponsored by Senator Domenici and 
Senator Nunn, a deduction was allowed for personal saving. When 
income was earned, if that income was saved, the tax was 
deferred because a deduction was allowed, and then the tax was 
imposed when the original amount saved----
    Chairman Archer. Mr. Christian, because time is limited 
today, I personally do not feel that I have the time to get 
into all of those details.
    I just simply wanted to know whether this is still a 
consumption tax?
    Mr. Christian. By an economist definition, yes.
    Chairman Archer. But it does tax savings once?
    Mr. Christian. That is correct.
    Chairman Archer. Which, by my definition, would not be a 
straight out consumption tax.
    The mere fact you eliminate double taxation means that 
there is still a single tax on savings, and a true consumption 
tax does not tax savings at all.
    And I am not trying to make an argument against it; I am 
just trying to understand it.
    The payroll tax credit that is a part of the system, as it 
is presented today, I assume that is refundable?
    Mr. Christian. That is refundable, that is correct.
    Chairman Archer. All right. So in effect, what you are 
really doing is you are replacing payroll taxes with general 
income tax revenues coming out of the Treasury?
    Mr. Christian. There is no change in the payroll tax 
itself.
    Chairman Archer. No. I understand that. But you are 
offsetting the burden of the payroll tax with general Treasury 
money?
    Mr. Christian. That is correct.
    Chairman Archer. Okay. Why not simply abolish that part of 
the payroll tax and let the general Treasury make a 
contribution each year in an amount equal to what the payroll 
tax would have been directly into the Social Security fund?
    Would not that be much simpler than having everybody have 
to deal with a refundable tax credit? Because that is the end 
result.
    Mr. Christian. You could do it that way.
    Chairman Archer. You are reducing the revenue in the 
general Treasury fund by your tax credits, which is the 
equivalent of the Treasury writing a check to the Social 
Security Trust Fund.
    And it just seems to me that would be far simpler, the end 
result is the same.
    Rather than going through all of this bit of the tax 
credit, having the payroll tax withheld, so people foregoing 
that amount of their paycheck until the end of the year when 
they can get a refundable tax credit, why not just wipe out the 
employees' side of the payroll tax, and at the end of the year, 
have the payroll records which are being sent in determine the 
amount of money and let the Treasury just write a check to the 
Social Security Trust Fund?
    Would that not be much simpler?
    Mr. Christian. You could do that, Mr. Chairman.
    The thought behind this approach was to not mess with 
Social Security at all, not touch it, and not get into the 
business of the Treasury writing checks out to people that are 
not related to their incomes--other than as part of what 
amounts to a tax refund----
    Chairman Archer. Okay, but the Treasury will be writing 
checks to people in this refundable tax credit. But the people 
will have to wait for the entire year before they get their 
check.
    And it just seems to me that in the name of simplicity, 
which we are always searching for in the Tax Code, that rather 
than dealing with all of these multiplicity of tax credits that 
have to be enforced and administered by the IRS, that we just 
simply abolish that. Workers would love it, and simply make the 
transfer in one transfer, rather than a multiplicity of 
transfers coming out of the general Treasury.
    That is just a thought that I had.
    I must say to my friend and counselor and comrade-in-arms, 
Bill Frenzel, that one comment that you made disturbs me a 
little bit. And that is when you said there can be open upward 
mobility for the marginal tax rates. That strikes terror into 
my heart because we saw exactly that happen after the '86 Act 
reduced the rates, and then there was upward mobility for the 
rates in '90, and then there was further upward mobility for 
the rates in 1993, and I just worry a little bit about deja vu 
all over again, so you might want to comment on that.
    Mr. Frenzel. I do want to comment on that, Mr. Chairman. 
You are right. That was one of the reasons we opposed the Act, 
because with the bubble in there, we knew that top rate was 
going to go up again. And, as you suggested, it did go up a 
couple years later.
    I have indicated in my testimony that I believe the top 
rate is too high now, but also I have indicated that I believe 
in a system of progressive taxation.
    And I only suggest that any tax rate can be raised or 
lowered and of course is that kind of a system. You can 
structure it anyway you want.
    Mr. Chairman, if I could go back to your original question 
to Mr. Christian?
    Chairman Archer. Sure.
    Mr. Frenzel. About whether it is an income tax or a 
consumption tax. One of the early developers of this bill was a 
David Bradford, a professor at Princeton who served in the CEA, 
I believe. He always called it a ``consumed income tax'' and I 
do not know if that is a euphemism, or whether it helps, but 
that was his description of some of his early thinking.
    Chairman Archer. I do remember that. I thank you for 
reminding us of it.
    Can you tell me what deductions under the current law are 
eliminated in the USA Tax?
    Mr. Christian. One very prominent deduction that is 
eliminated is the deduction for state taxes.
    Chairman Archer. State income taxes?
    Mr. Christian. All state taxes, yes, sir.
    Chairman Archer. Well, sales taxes are already non-
deductible.
    Mr. Christian. They are non-deductible.
    Chairman Archer. But would it also eliminate property 
taxes?
    Mr. Christian. Yes.
    Chairman Archer. Okay. So no state income taxes or local 
property taxes would be deductible?
    Mr. Christian. That is true.
    Chairman Archer. All right. What else?
    Mr. Christian. There are a number of miscellaneous 
deductions. I cannot recall any further right now, Mr. 
Chairman. There are quite a few small ones. Everything other 
than charitable and home mortgage interest, I believe, of the 
miscellaneous itemized deductions is repealed.
    Chairman Archer. What about the child credit the Hope 
Scholarship credit, the EIC credits?
    Mr. Christian. All of the credits, those that you 
mentioned, the child credit, the earned income tax credit, and 
the others are repealed. There are only two credits under the 
bill. That is for the payroll tax paid and income tax paid 
through withholding or estimated tax.
    Chairman Archer. What about deduction for health expenses? 
You did not mention that?
    Mr. Christian. The personal itemized deduction or the 
business deduction?
    Chairman Archer. No, personal.
    Mr. Christian. Personal. The medical deduction is not there 
under this version of the bill.
    Chairman Archer. So the deduction currently in the Code for 
medical expenses to individuals is no longer available?
    Mr. Christian. It is replaced by the Roth-IRA savings 
mechanism. It is no longer available.
    Chairman Archer. Okay.
    Can you think of any other salient deductions under the 
current code that are not available?
    Mr. Christian. No, Mr. Chairman, not at the moment.
    Chairman Archer. What portion of the stream of federal tax 
revenues is border-adjustable under your plan?
    In other words, today the entire cost to the federal 
government is included in the price of the products that are 
exported which has been estimated to raise the price of those 
products by 20 to 25 percent on average.
    What portion of that cost that is represented by the 
federal tax burden has become border adjustable under the USA 
proposal?
    Mr. Christian. The business taxes are approximately, 
including unincorporated business, about $320 billion. Personal 
income taxes are about 8.5 or 9.
    It is the business tax that is border adjusted. The 
business tax does not apply to exports.
    Chairman Archer. Can you just roughly say what percentage 
of the total stream----
    Mr. Christian. About 25 percent, I believe.
    Chairman Archer. How much?
    Mr. Christian. It would be, the numbers I gave, the 
mathematical result is about 25 percent.
    Chairman Archer. About 25 percent of the federal cost of 
taxation will not be passed through in the price of the 
product?
    Mr. Christian. That is certainly correct.
    Chairman Archer. Okay. Thanks.
    And I assume you still have tax exempt foundations?
    Mr. Christian. The organizations, such as universities, 
schools, et cetera, that are exempt under present law, continue 
to be exempt from the business tax under the USA.
    Chairman Archer. And how do you go about taxing foreign 
imports mechanically?
    Mr. Christian. The mechanics under this version, the 
English Bill, is there is an import tax imposed at the border 
on the importation of goods from abroad.
    Chairman Archer. So then the Customs Service then does that 
when the product enters the country?
    Mr. Christian. Well, it is primarily the importer. The 
importer or the importer's agent is a U.S. taxpayer subject to 
U.S. tax jurisdiction. They are the ones who owe to the 
Internal Revenue Service the import tax.
    Chairman Archer. So mechanically it becomes a burden of the 
importer?
    Mr. Christian. It becomes a payment responsibility of the 
importer.
    Chairman Archer. All right. And lastly, how do you avoid 
the double taxation of corporate income, or am I mistaken? I 
think that is what the presentation was that you eliminated the 
double taxation?
    Mr. Christian. The double tax on saved income is eliminated 
by means of the Roth-IRA mechanism. I think you are asking 
about the two-tier tax where----
    Chairman Archer. What about dividends? You have got your 
new uniform business tax type operation on corporations to 
replace the current corporate income tax which, by the way, I 
think is a very positive step forward.
    What about the taxation of corporate dividends to the 
owners of the corporation?
    Mr. Christian. Those are taxed, as are interest payments 
and as are wages----
    Chairman Archer. Okay, okay. So you do not eliminate the 
double taxation of corporate earnings?
    Mr. Christian. In the sense you are asking it, that is 
true, Mr. Chairman.
    Chairman Archer. Okay, all right. I am not trying to pick 
at you. I am just trying to understand this bill.
    Mr. Christian. I am grateful for the attention, Mr. 
Chairman.
    Chairman Archer. I need to know what the proposal is.
    Mr. Rangel?
    Mr. Rangel. Mr. Chairman, I have to go on the House Floor 
to protect our Committee's jurisdiction. But, before I leave, I 
want to ask Bill Frenzel a question, since he enjoys the 
expertise of former Members, as well as an advocate of tax 
reform.
    If we were going to dramatically change the tax system, 
would you agree that the American people should first be 
educated about the replacement proposal before they would 
expect the Members of Congress to have the political courage to 
eliminate the code?
    Mr. Frenzel. Mr. Chairman, Congressman Rangel, I agree with 
that. I do not think you can make major changes in the tax code 
without some kind of a national debate and without the pretty 
full cooperation between the Executive and the Legislative 
branches of the government.
    Mr. Rangel. Now, assume we accept, as a matter of fact, 
that the composition of the Congress currently gives the 
Republicans a very slight margin for the Majority. And, that if 
there are any changes as a result of the election in November 
and the Democrats win the Majority. Our advantage too would be 
slight. Would you agree, if we are going to make any progress 
at all towards reforming the existing system, that it has to be 
done in a bipartisan way?
    Mr. Frenzel. It has been my observation, Congressman 
Rangel, that your statement is correct. It is very difficult to 
pass a major piece of tax legislation without cooperation 
between the parties and the Congress, and between the branches 
of government as well.
    Mr. Rangel. Well, I do not know really what is going to 
happen, and no one else does in November. But there is one 
thing I can tell you as a friend that Democrats have learned in 
being in the Minority. That is: we can be in the Majority and 
not cooperate and do absolutely nothing, or we can reach out to 
the minority and work with the other side in trying to find out 
how we can move the country and the Congress toward a better 
system.
    I think that, no matter who wins, the best thing for the 
country and the coming campaign is to state upfront that we 
cannot do it alone. There is not going to be any Democratic way 
to reform the tax code and there certainly is not a Republican 
way to do it.
    But working together, we can find a way. And I think if we 
had the confidence of the American people, then it is no 
profile in courage to do the right thing in this Committee and 
on the Floor and the Senate.
    But we miss people like you because we could differ and we 
could fight and then when it was all over. We could still talk 
about the areas that we agreed on and how we can make progress, 
and that has been missing.
    And while we miss it from a friendship point of view. I 
think, more importantly, the lack of talking together the lack 
of cooperation means really that the Congress has not been 
productive. We have taken advantage of that for political 
purposes on both sides of the aisle. No one knows what impact 
that will have in November, but it certainly has not done well 
for us as a body.
    The whole idea that we would turn over our tax writing 
authority to a non-congressional committee bothers me a great 
deal.
    But in any event, please do not go too far away. We always 
need you to remind us when we were working well together. And I 
thank you for hanging in there always.
    Mr. Frenzel. Thank you, Mr. Rangel. If I could comment just 
briefly. The three largest tax reforms that I can remember were 
'54, '69, and '86, and in each case we had a president and a 
Congress of different parties, and they both managed to work 
together. In '86, even when the Congress did not take my good 
advice on that bill, there was very close cooperation between 
the parties, as you will recall. I hope we can get back to that 
kind of cooperation. Maybe this is an issue that will help draw 
us back to that kind of working arrangement.
    I thank you very much, but I assure you that other than an 
occasional bit of testimony, I am not looking to threaten any 
member's position on this Committee.
    [Laughter.]
    Mr. Crane: [Presiding]. Thank you.
    Mr. Collins?
    Mr. Collins. Mr. Chairman, the only comment I have is to 
the previous member who questioned, and that is talk is cheap.
    Mr. Crane. Any responses?
    [Laughter.]
    Mr. Crane. Mr. Portman?
    Mr. Portman. Thank you, Mr. Chairman.
    I have got so many questions and I appreciate the comments 
from my friend from New York. I do not know why he is against 
the Commission, but as I told him earlier, I think it is 
exactly the way to do what he wants to do which is educate the 
public, which is to make it bipartisan and which is to get 
outside expertise, and then give it as a recommendation to 
Congress and this Committee just like IRS reform and other 
things would go through the normal process.
    And I think it would be a tremendously positive and helpful 
step in getting tax reform.
    I want to commend all four of you. It is great that you 
have come up with this plan. I have talked to Ernie a lot about 
it and J.D. some. And I have been, as you know, struggling with 
some of these issues too since IRS reform because you cannot 
reform the IRS without a simpler tax code.
    I do not come out quite with this proposal but I think 
there are positive things in it.
    I have a few questions, and I guess the two key issues of 
course are first, what would the rate be. You have got some 
rates here.
    I guess my question to you would be, and you all have 
impeccable integrity. So many of these folks who have come 
before us have come up with rates that just are not accurate, 
and without knowing what the rate is, whether you are for a 
Fair Tax or a flat tax or a USA tax, or something that I have 
talked to you about Ernie, more that I am thinking about that 
has to do with a VAT tax and some other aspects, the rate is 
absolutely critical.
    The rate is absolutely critical, and I wonder about these 
rates. So without questioning you about them today, I would 
just say I hope that you can come up with current estimates of 
the rates. Maybe these are them. They seem a little low to me 
based on what we have done with some other analysis.
    I hope you will use Joint Tax models so that we can compare 
apples to apples.
    The second question I would have is border adjustability. 
Do you have good legal analysis which shows you that somehow we 
would be able to tax imports at 12 percent, that we would be 
able to cut out the export tax, and not have it be considered 
by the WTO to be discriminatory.
    There is no precedent for this. No other country does it. 
And as you know, the VAT tax is something that is tested, 
battle-tested, and we know that we can border adjust, and why 
do you think this would be border adjustable.
    Mr. Hufbauer. Congressman, I wrote a little monograph on 
this and I will send a copy to you.
    Mr. Portman. I would appreciate that.
    Mr. Hufbauer. It is called Fundamental Tax Reform and 
Border Tax Adjustments.
    Of course, you do not know how the WTO will rule until the 
case is actually before it. Nobody can say with 100 percent 
confidence.
    But the Simplified USA Tax, in its business aspects, as 
proposed by Congressman English, is very similar to existing 
systems which have been ruled to be border tax adjustable. Thus 
I think the chances are very good that the U.S. would prevail 
in any litigation that occurred on this issue.
    Mr. Portman. Well those are two sort of fact issues. I 
mean, it is difficult to know factually when there is not a 
precedent. As you said, the chances are it would but it is a 
big risk because it is an incredibly important part of the 
proposal. And the second is it at an $80,000 level where you 
have to kick in the 30 percent tax rate?
    These are obviously going to be the deciding points on what 
kind of tax reform makes sense.
    If I could ask a couple of other questions quickly that go 
to some of the things that Chairman Archer was I think trying 
to get at.
    The refundable tax credit experience with the EITC has been 
miserable. And I would appreciate, Ernie, your response to 
that, whether you could look at something where maybe you have 
a more sort of honest direct transfer, as the President's 
proposing now in Social Security. Everybody has a transition 
cost in the Social Security proposal.
    Because to have the IRS in the position of enforcing a 
refundable payroll tax credit I think would be very difficult.
    Also, what do you do with folks who are on the EITC now? I 
assume you eliminate the EITC?
    Mr. Christian. Mr. Portman, the earned income tax credit, 
as it exists today, is eliminated. The earned income tax 
credit, as it exists today, is a great problem of complexity, 
it is a great problem of fraud. None of those considerations 
seem to me to, in any way, apply to the credit that exists 
under the English Bill. It is very straightforward. There are 
no threshold requirements or anything of that nature, and the 
big difference is as follows:
    Under the English Bill, a credit is given for a tax that 
has been paid. That tax is fundamental to the system. It has 
been around a long time. It is well-tracked. The payroll tax is 
a simple mechanism for tracking----
    Mr. Portman. Ernie, if I could because my red light is 
already on.
    The challenge here, as I see it, is I think there will 
still be some compliance issues but I agree with you, it would 
be better because you will have a record of what the FICA tax 
would have been.
    But as you know, with the EITC, about 85 percent of it is 
refundable as to payroll, about 50 percent as to income. You 
still end up with some people who pay no payroll taxes in 
effect, no income taxes in effect, and get the EITC.
    How do you take care of those people, the working poor who 
currently get EITC?
    Mr. Christian. I do not know how anyone would be working 
and not paying payroll tax, but perhaps that is possible.
    Mr. Portman. No. I am saying the EITC is so generous that 
it takes care of all of the payroll taxes, it also credits all 
of the income taxes that some individuals pay and yet those 
people get a transfer from the government. They are working 
people but you are not covering those people. And I just wonder 
how you would cover them?
    Mr. Christian. The welfare element is definitely not 
present in this credit.
    Mr. Portman. I am sorry?
    Mr. Christian. I said the welfare element that is present 
in----
    Mr. Portman. No, I am not talking about welfare, I am 
talking about the EITC. You need to address that problem, or 
you need to say you are not addressing it, I guess.
    Mr. Foster. Mr. Chairman, I would like to take a quick shot 
at this to put it in a framework.
    The refundable part of the EITC is often considered to be a 
tax-based system of welfare. And in fact, that is how CBO 
scores it. It is not treated as a tax, it is treated as an 
outlay.
    This tax system, like many tax systems, provides a 
framework within which we can make changes.
    The Chairman was asking earlier about deductions that might 
be in or out of the system. If a deduction was deemed 
politically necessary or worthwhile, it can be put back in.
    The system as current designed does not have the earned 
income tax credit. There is absolutely no reason in the world 
it could not be added on, much as one adds on an extra piece of 
equipment on a car.
    This is a frame work for taxing within which we can make 
adjustments with rates, higher rates, lower rates, more 
progressive, less progressive, adding in deductions, taking 
them out, or adding in credits or taking them out.
    Mr. Portman. I understand that, J.D., and we need to do 
that. With the indulgence of the Chair, I looked at the '86 
experience, what has happened since then, and that is the great 
fear the Chairman has, and again, I really applaud you and 
Congressman English for taking the leap and proposing this.
    On the EITC, it is just a very simple question really and 
not a simple answer, but you are covering most of the current 
recipients of EITC because you are covering payroll.
    You are not covering, though, folks who currently not only 
have their payroll taxes offset by EITC, but also their income 
taxes, and some folks who have both income and payroll tax, and 
still get a transfer from the government under this Program for 
the Working Poor, and I think you need to address that. There 
are lots of ways to do it and I will not make suggestions, but 
I think it needs to be addressed. Otherwise you have a hole 
that I think the states and localities and others are not going 
to be able to fill.
    I have some questions on the pension side and on the health 
care side that maybe we can talk about later. I think they are 
very important because you do not have an employer match here, 
so you do not have a 401K type proposal, although you say in 
the materials, it preserves the 401K.
    Mr. Christian. It is preserved.
    Mr. Portman. I would like to talk to you about the fringes, 
as well.
    Thank you.
    Thank you, Mr. Chairman.
    Mr. Crane. Thank you.
    Mr. English?
    Mr. English. Thank you.
    And on that point, Mr. Christian, do you want to comment on 
the 401K situation?
    Mr. Christian. Yes, sir.
    Your bill, as you know, following up Mr. Portman's point, 
the bill does retain the 401K provision. And it retains the 
ability for the employer to match. The difference is that the 
contribution to the 401K under the English approach is not 
deductible, whereas it is presently. That is the difference 
between--the employer match is not deductible under this 
proposal.
    But the 401K and that mechanism still exists and employer 
matching is encouraged.
    Mr. English. And I thank you.
    Mr. Frenzel, you heard the exchange with regard to EITC and 
the excellent points that my colleague from Ohio made with 
regard to the hole that he identified that I frankly have been 
very much aware of, because I have a lot of people on the EITC 
in my district.
    In your testimony, I believe that you commented that 
perhaps rather than treating this as a tax program, we should--
and I hate the notion of tax program--rather than trying to 
deal with this through the Tax Code, maybe this could be most 
efficiently administered as a program through the federal 
government, an expenditure.
    Can you comment on that
    Mr. Frenzel. Yes. I was a strong supporter of the EITC when 
it was first effected here, and I thought the concept was 
wonderful. But it was a very small program at that time.
    Nowadays, because the program has gotten big and because 
people have found out how to game the system, it has been my 
judgment that we would do far better to make that into an 
appropriations entitlement, rather than a tax entitlement, 
where it could be enforced much better, and probably managed 
better.
    That is a personal comment on my part.
    Mr. English. And one that I agree with.
    Thank you, sir.
    Mr. Foster, in your testimony, you touch on the notion that 
by establishing this border adjustable system, which I believe, 
having researched it, is GATT consistent, that we are, in 
effect, importing a foreign tax base.
    Would you care to comment on that further?
    Mr. Foster. Yes, sir.
    If you start from the proposition, as I do and most 
economists do, that business taxes ultimately fall on labor and 
capital, when you have a border tax adjustment import levy, 
that levy, too, falls on labor and capital. The question is on 
whose labor and whose capital.
    Now some of this import levy obviously gets translated into 
higher prices to consumers, and in some cases, that is 
permanent. But in most cases, consumers will substitute 
domestic for foreign production so that they are able to resist 
the attempt by the importer to raise prices. When they are able 
to effectively resist those price increases, the tax then gets 
pushed back onto the foreign producer of those goods and 
services sold into the United States.
    Well, if they are being pushed back into the foreign lands, 
that obviously means that the BTA import levy is paid by the 
foreign labor and capital. Another way of expressing that is we 
are importing their tax base.
    Mr. English. And on that point, Mr. Portland made the 
excellent point that none of our tax competitors have quite 
this kind of a tax system as is being proposed here, but many 
of them do have border adjustable systems.
    How many of them, would you say that we compete with, what 
proportion of our industrialized competitors have border 
adjustable systems?
    Mr. Foster. Well, probably 90 percent or more because we 
are talking all of Europe, Japan, and Canada.
    Mr. English. And we are at a competitive disadvantage with 
them.
    Finally, Mr. Hufbauer, you make an excellent point that 
this tax system would eliminate the tax motive for runaway 
plants. That is something that resonates in a district like 
mine.
    Would you care to elaborate?
    Mr. Hufbauer. Sure.
    The runaway plant phrase, as you well know, Congressman, 
dates back to the Burke-Hastke bill of the early seventies.
    The idea was that a U.S. firm would shut down its 
operation, for example, in Ohio, and would move to, for 
example, Mexico or Singapore, and would ship exactly the same 
goods back to the U.S. And it would do this for a lot of 
reasons. Wages were often cited. Other reasons as well. Taxes 
were often mentioned as part of that business decision.
    To the extent that taxes are part of that business 
decision, under the simplified USA tax no firm escapes taxes in 
the U.S. market by moving its production to a foreign country, 
because when the goods are shipped back into the U.S. market, 
they would be taxed just as if they had still be produced in 
Ohio. That is, in my view, a huge improvement over the 
situation that we have today.
    Mr. Crane. I thank you gentlemen, and I am impressed with 
the quality of the testimony today. We appreciate your 
participation.
    Mr. Hulshof?
    No questions from Mr. Hulshof.
    Well, then, this panel has concluded its work and I want to 
thank you all and congratulate you for your presentations.
    And any additional material you may have, submit in writing 
and it will be part of the permanent record.
    Now, with that, I think we are going to change the schedule 
as it was originally presented, because we are going to break 
for lunch.
    So I would like to call our last panel up first, because 
our next two panels--well our next one in line is not 
available, and the one after is going to be longer in session 
than we have left before the lunch break--so I would like to 
invite Mr. Steven Worley from Lawrenceville, Georgia, and Mr. 
James Moore from Smithtown, New York, and Frank L. Davis, 
Alexandria, Virginia. I do not think he is yet here, but if he 
appears after you two have made your presentations, we will 
listen to his.
    And gentlemen, we will proceed in the order I presented 
you, and if you can limit your oral presentations to roughly 
five minutes, any additional remarks will be made a part of the 
permanent record, and we will start with you, Mr. Worley.

          STATEMENT OF STEVEN WORLEY, COLBERT, GEORGIA

    Mr. Worley. Thank you, Mr. Chairman.
    My name is Steven Worley. I am actually from Colbert, 
Georgia. I am a horse breeder and I am also in the construction 
industry.
    America's first income tax began in 1861 to pay for the 
Civil War. The Union imposed a three percent tax on incomes 
over $800 a year, which exempted most wage earners.
    The tax rate was raised to five percent in 1862 on incomes 
over $10,000. Shortly after the war, the tax was repealed but 
the Bureau of Internal Revenue remained in existence.
    Budget balancing statesmen have turned to income tax even 
in peace time to replace revenues lost from imports and export 
duties. That was the purpose of the income tax passed by the 
Congress in 1893 and ruled unconstitutional by the Supreme 
Court in 1895.
    President Taft pushed a constitutional amendment to revise 
that decision and an income tax was passed as soon as the 16th 
Amendment was ratified by only 31 states.
    The new income tax was a luxury tax. Top rates remained 
below ten percent and most Americans did not pay at all, and 
then came World War I, which raised the federal budget from $1 
billion in 1916 to $19 billion in 1919.
    Income tax rates rose three percent on $2,000 and 70 
percent on one million dollars.
    After the War, Treasury Secretary Andrew Million reduced 
the top rate to 25 percent and got most taxpayers off the rolls 
by raising the minimum income subject to tax. He also 
cooperated with Congress to create preferences, exemptions, 
deductions, and other tax breaks. The income tax had gotten the 
government deeper into the business of allocating economic 
resources, mostly out of public view.
    During World War II, as federal spending rose from $9.6 
billion in 1940 to $95 billion in 1945, income tax rates were 
raised 19 percent on $2,000 and 88 percent on $200,000. The 
numbers of taxpayers rose from 14 million to 50 million 
Americans.
    The World War II tax is the recognizable ancestor of 
today's federal income tax.
    The Republicans of the 1950s feared voter resentment of the 
rich and did not reduce top rates.
    In the 1960s, John Fitzgerald Kennedy stimulated the 
economy by reducing taxes significantly. The experiment in 
maintain the War-time high tax rates during peace time in order 
to pay for the Cold War and redistribute money to the middle 
class and the poor worked both economically and politically for 
a generation, and then it stopped working economically.
    In the 1970s, runaway inflation, fueled in part by Lyndon 
Johnson's refusal to raise the taxes to pay for the Vietnam War 
propelled ordinary families into tax brackets intended for the 
rich, while the myriad tax breaks available to the wealthy made 
a mockery out of fairness.
    As state, local, and other taxes rose, the middle class tax 
revolt helped fuel the Reagan Republican victories of the 1980s 
and 1994.
    Politicians have been struggling ever since to reduce the 
income tax rates to peace time levels that the public and the 
economy will tolerate.
    Quoting the Federalist Papers Number 35, penned in 1788 by 
Alexander Hamilton, ``there is no part of the administration of 
government that requires extensive information and a thorough 
knowledge of the principles of the political economy so much as 
the business of taxation. It might be demonstrated that the 
most productive system of finance will always be the least 
burdensome.''
    In just a few days, I have been able to gather signatures 
from disgruntled Americans who support the Fair Tax plan. Be it 
known that these signatures cross all lines of division in that 
they represent ditch diggers to lawyers, truck drivers to 
stockbrokers, Black, White, Hispanic and Asians.
    To further discern a more accurate consensus of the people, 
all you need to do is refer to the petition filed by the people 
of Arizona on Thursday, July 2, 1998. One hundred and seventy 
thousand Americans required of this Congress to abolish income 
tax and establish a national sales tax.
    The Fair Tax before you at this time is what the people 
want and require of you now.
    One thing that amazes me about the national news media has 
all but ignored this legislation. The rhetoric we, as 
Americans, have been subjected to implies that the wealthy in 
this country do not pay taxes, and the tax burden has been 
shouldered by the working poor and the middle class.
    To this I quote the besieged Commandeer of Bastognne in his 
response to the Nazis to surrender in World War II ``Nutz.'' 
Figures recently released by the National Revue project quiet a 
different notion. The quintile of taxpayers from the lowest to 
highest is outlined as such:
    The lowest wage earners pay--2 percent.
    The low 1 percent.
    The middle 7 percent.
    The high 16 percent.
    The highest wage earners 78 percent.
    When confronted with the truth of these matters of income 
tax, and this Administration's quest for an America steeped in 
fairness, it is apparent that we are trying to shoot a game of 
pool with a nylon rope.
    I would like to thank the members of this Committee for the 
opportunity to address you regarding the Fair Tax plan, and 
close with another quote from Mr. Alexander Hamilton's 
Federalist Papers Number 36.
    ``It has been asserted that a power of internal taxation in 
the national legislature could never be exercised with 
advantage, as well as from the want of a sufficient knowledge 
of local circumstances, as from as interferences between the 
revenue laws of the union and of the particular States. The 
supposition of a want of proper knowledge seems to be entirely 
destitute of foundation. If any question is depending in a 
State legislature respecting one of the counties, which demands 
a knowledge of local details, how is it acquired? No doubt from 
the information of the members of the county. Cannot the like 
knowledge be obtained in the national legislature from the 
representatives of each state? And is it not to be presumed 
that the men who will generally be sent there will be possessed 
of the necessary degree of intelligence to be able to 
communicate that information?''
    I certainly hope so.
    If William Jefferson Clinton so feels the pain of the 
American people, let him with unanimous consent of this 
Congress and Senate sign the Fair Tax Plan now. I implore you 
to preserve our freedom, our liberty, and save this Union by 
passing this legislation.
    [The prepared statement follows:]

STATEMENT OF STEVEN WORLEY, COLBERT, GEORGIA

    America's first income tax began 1861 to pay for the Civil 
War. The Union imposed a 3 percent tax on incomes over $800.00 
a year, which exempted most wage earners. The tax rate was 
raised to 5% in 1862 on incomes over $10,000.00. Shortly after 
the Civil War the income tax was repealed, ominously, the 
Bureau of Internal Revenue remained in existence. Budget-
balancing statesmen have turned to income tax even in peacetime 
to replace revenue lost by import and export duties. That was 
the purpose of the income tax passed by congress in 1893 and 
ruled unconstitutional by the Supreme Court in 1895. President 
Taft pushed a constitutional amendment to revise that decision, 
and an income tax was passed as soon as the 16th Amendment was 
ratified in 1913 by only 31 states.
    The new income tax was a luxury tax. Top rates remained 
below 10 percent and most Americans didn't pay at all. Then 
came World War I, which raised the federal budget from $1 
billion in 1916 to $19 billion in 1919; income tax rates rose 
to 3 percent on $2,000 and 70 percent on $1 million. After the 
war, Treasury Secretary Andrew Million reduced the top rate to 
25 percent and got most taxpayers off the rolls by raising the 
minimum income subject to tax. But he also cooperated with the 
Congress to create preferences, exemptions, deductions and 
other tax breaks. The income tax had gotten the federal 
government deeper into the business of allocating economic 
resources, mostly out of public view.
    During World War II, as federal spending rose from $9.6 
billion in 1940 to $95 billion in 1945, income tax rates were 
raised 19 percent on $2,000 and 88 percent on $200,000, and the 
number of taxpayers arose from 14 million to 50 million.
    The World War II tax is the recognizable ancestor of 
today's federal income tax. The $500 per dependent exemption of 
1944, raised to $600 in 1947, was a generous allowance to the 
parents of the baby boom generation. It meant the average 
family paid almost no income tax. Over time, inflation eroded 
the value of the exemption. The Republican leaders of the 
1950's feared voter's resentment of the rich and did not reduce 
top rates. In the 1960's, JFK stimulated the economy by 
reducing taxes significantly.
    The experiment in maintaining the wartime's high tax rates 
during peacetime in order to pay for the cold war and 
redistribute money to the middle class and poor worked-both 
economically and politically-for a generation and then stopped 
working economically. In the 70's, runaway inflation, fueled in 
part by Lyndon Johnson's refusal to raise taxes to pay for the 
Vietnam War, propelled ordinary families into tax brackets 
intended for the rich, while the myriad tax breaks available to 
the wealthy made a mockery of fairness. As state, local and 
other tax rates also rose, a middle-class tax revolt helped 
fuel the Reagan Republican victories of the 1980's and 1994. 
Politicians have been struggling ever since to reduce income 
tax rates to peacetime levels that the public and the economy 
will tolerate.
    Quoting the Federalist Papers #35 penned in 1788 by 
Alexander Hamiliton, ``There is no part of the administration 
of government that requires extensive information and a through 
knowledge of the principles of political economy, so much as 
the business of taxation. It might be demonstrated that the 
most productive system of finance will always be the lest 
burdensome.''
    In a few days, I have been able to gather signatures from 
disgruntled American's who support the Fair Tax plan. Be it 
known that these signatures cross all lines of division in that 
they represent ditch diggers to lawyers, truck divers to 
stockbrokers, Black, White, Hispanic, and Asians. To further 
discern a more accurate consensus of the people, all you need 
do is refer to the petition filed by the people of Arizona. On 
Thursday, July 2, 1998, 170,000 Americans required of this 
congress to abolish income tax and establish a National Sales 
Tax. The Fair Tax Plan before you at this time is what the 
people want and require of you now.
    One thing that amazes me is that the national news media 
has all but ignored this legislation. The rhetoric we as 
Americans have been subjected to implies that the wealthy in 
this country do not pay taxes, and that the tax burden has been 
shouldered by the ``working poor and middle class.'' To this I 
quote the besieged Commander of Bastognne in his response to 
the Nazis to surrender in World War II ``Nutz.''Figures 
recently released by the National Revue project quiet a 
different notion. The quintile of taxpayers from lowest to 
highest is outlined as such:

Lowest   -2%
Low     1%
Middle  7%
High    16%
Highest  78%

    When confronted with the truth in these matters of income 
tax and this Administrations quest for an America steeped in 
fairness, it is apparent that we are trying to shoot a game of 
pool with a nylon rope.
    I would like to thank the members of this committee for the 
opportunity to address you regarding the Fair Tax plan, and 
close with another quote from Alexander Hamilton's Federalist 
Papers #36:
    ``It has been asserted that a power of internal taxation in 
the national legislature could never be exercised with 
advantage, as well from the want of a sufficient knowledge of 
local circumstances, as from as interference between the 
revenue laws of the union and of the particular States. The 
supposition of a want of proper knowledge seems to be entirely 
destitute of foundation. If any question is depending in a 
States legislature respecting one of the counties, which 
demands a knowledge of local details, how is it acquired? No 
doubt from the information of the members of the county. cannot 
the like knowledge be obtained in the national legislature from 
the representatives of each state? And is it not to be presumed 
that the men who will generally be sent there will be possessed 
of the necessary degree of intelligence to be able to 
communicate the information?'' I hope so!
    If William Jefferson Clinton so feels the pain of the 
American people, let him with unanimous consent to the U.S. 
Congress and Senate sign the Fair Tax Plan now. I implore you 
to preserve our freedom, our liberty, and Save this Union by 
Passing this legislation NOW!!
    [The attachment is being retain in Committee files.]
      

                                


    Mr. Crane. Thank you, Mr. Worley. That was a very good 
history lesson, too.
    Mr. Worley. Thank you, sir.
    Mr. Crane. Mr. Moore.
    [Pause.]
    Mr. Moore?

        STATEMENT OF JAMES O. MOORE, SMITHTOWN, NEW YORK

    Mr. Moore. Oh!
    I am not here to castigate you guys for what you are doing 
in Congress. I am here to offer some solutions for the problems 
of us taxpayers which I am sure is within the realm of 
possibilities of what you fellows do in writing the laws that 
govern how we operate in the United States of America.
    Good morning, Mr. Chairman. I want to thank you and your 
Committee for having this much-needed hearing and for the 
privilege of my having the opportunity to offer ways in which 
to possibly achieve its stated purpose ``to make taxes fair and 
as easy as possible,'' which is an almost universal desire of 
every taxpayer in our country.
    People with whom some items have been discussed have called 
them radical in their diversity, but since there is a 
connotation of negativity in it ``extensive changes'' should be 
more appropriate.
    Our Constitution is generally thought to be possibly the 
best document human beings have ever written. One reason had to 
do with its intent. freedom for people's self help with minimal 
government interference. As President Eisenhower is credited 
with having said, a government should do for its people only 
those things they cannot do for themselves.
    And was based on the fact that our Constitution does not 
require government to feed, clothe, house, educate, nor provide 
health care for its people. However, ours does so today in some 
ways with funds collected from people equitably but too often 
unfairly distributed.
    Particularly, if not living to receive the benefits paid 
for. Two examples: Social Security and Medicare, Monies are 
collected equitably in that the same appropriate percentage is 
applied to each person up to the same earning limit but only on 
wages.
    Unfairness is due to the fact that monies paid by a great 
many people for promised benefits but who do not live to 
receive them but is kept by the government.
    In other cases, some of the monies goes to spouse and/or 
children meeting some requirements but there is no provision 
for any other beneficiary. That is taxation without recompense.
    This is my second trip to Washington to testify to a 
government entity. The first was an IRS hearing on December the 
4th, 1987, at which I proposed changes in IRA withdrawals which 
correctly requires withdrawals to commence at age 70-and-a-
half.
    As explained in my written statement which has been sent to 
you, it enable selective withdrawals if owning two or more IRAs 
and eliminate the requirement that custodians make sure 
withdrawals were made from each one.
    Provisions of Notice 88-38 effected this change and was 
signed 12 years ago today, and thus coincidentally I am 
celebrating it in the City where it was signed.
    Although that trip benefitted a great many people and 
custodians, what this Committee intends to do is very much more 
important; that it would benefit every citizen in this country 
and possibly even non-citizens who pay income tax.
    It would change April 15th from a dreaded day to just one 
that happens to be the day the easily-done-tax-return is due in 
the amount fair assessment has required to be paid.
    What a relief. I am absolutely sure it is a doable 
government operation provided fair is a must.
    Again, thanks for this opportunity to testify and I feel 
sure others who testify will have proven same thing I feel is 
certain. Fair and easy taxes will come sooner than later. 
Income tax is the only way to correctly collect from people 
fairly because it is based on one basic fact. ability to pay. 
No other tax reaches that commitment.
    I have asked two gentlemen to come to see me in a telephone 
call to Al Crenshaw yesterday afternoon, and to Howard Gleckman 
this morning, because I know them both from my twelve-years-ago 
visit to Washington, and they both promised to be here but they 
had commitments elsewhere that's made them uncertain as to 
whether or not they could.
    But anyway, the complete story is told in the statement 
that I sent you previously, and originally I was going to bring 
with me two other supporting documents. The statement says 
there are no enclosures, which was true. However, the staff 
told me the two things that I wanted to bring with me to give 
to you today they felt it better that I send them to you. So 
therefore, those two addendums are also in the package that was 
received by you folks from me recently.
    Gentlemen, it's up to you. We want fair taxes, properly 
assessed, and so simple that the one that I proposed I believe 
could be prepared on two 8\1/2\  11 sheets of paper 
with all the instructions necessary and the forms required to 
be incorporated in that. And a kid who is in the 4th grade and 
knows how to add, multiply, subtract, and divide can do it 
without a calculator.
    Thank you, very much.
    [The prepared statement follows:]

STATEMENT OF JAMES O. MOORE, SMITHTOWN, NEW YORK

    Mr. Chairman and the committee members, I am Jim Moore from 
Smithtown, New York but born in Birmingham, Alabama 84 years 
ago last Wednesday. And as a Financial Planner, the 
difficulties of my clients regarding tax returns have served to 
make me aware of the need for reforms intended to be achieved 
by this committee resulting in both simplification and fairness 
in income tax laws. Therefore I am grateful for this 
opportunity to offer some suggestions for your consideration 
and action which might be analogous to the statement credited 
to Mark Twain, ``Everybody talks about the weather but nobody 
does anything about it.'' The analogy to you would be almost 
everyone COMPLAINS about income taxes but this committee is 
proposing to `DO' something about it.'' As a patriotic citizen 
concerned about my fellow taxpayers, I want to congratulate 
Congressman Archer and this committee for that ``DO SOMETHING'' 
attitude and attempt!
    Although not considering myself to be a tax expert, the 
following brief biographical sketch may serve to explain how 
this patriotic citizen has developed some suggestions for tax 
revision to do what Congressman Archer stated as basis for this 
hearings to ``make taxes fair and easy as possible'' and also 
to have said ``to examine proposals to replace the current tax 
code.'' As I will explain in my summary, I am against 
replacement.
    My high school diploma was received in 1932 at age 16 from 
Lyman Ward Military Academy in Camp Hill, Alabama. My 
graduation at age 34 in 1950 from NYU as a night school student 
after returning in 1945 from overseas service during WWII and 
also have a continuing 60 year connection with the 7th regiment 
in New York as first an active member and then in its Veterans 
Association including seven years on its Governing Board and a 
44 year working career, the last 37 with a large international 
oil company before retirement in preparation for an active 
retirement in that field of endeavor.
    Activity as a Financial Planner made me greatly aware of 
the need for revisions to provide the ``fair and easy'' income 
tax laws called for by the Congressman Archer. One such needed 
change had to do with IRS regulations for the requirement that 
persons who are owners of IRA's must commence withdrawals upon 
reaching age 70 \1/2\ in which I concur but did NOT agree that 
those with multiple IRA's had to withdraw from each of them. 
Therefore, at an IRS hearing on December 4, 1987, with support 
from ICI, AARP, ACLI, Senator D'Amato, Congressman Carney and 
mutual fund companies, etc. I proposed that investors could 
aggregate their value and based on age, determine total 
required to be withdrawn and then make withdrawal from one or 
more to maintain the best investment resulting balance. The IRS 
Notice 88-38 issued on April 12, 1988 effected that procedure. 
And, the 100% vote of congress eliminating the $1 penalty 
reduction of Social Security for wage earners would have been a 
non-starter if my suggested tax revisions had been in effect as 
set forth in the following summary:

SUMMARY:

    The varied tax problems of my Financial Planning clients 
gave me a much broader knowledge of intricacies of the tax laws 
than I would have gotten in just preparing my own tax returns. 
That resulted in proposed revisions set forth in the below 
verbatim copy of the statement I made at the tax hearing of 
Congressman Carney and Senator D'Amato on September 5, 1985. 
The notes thereon show the continuing effort to get public and 
then hoped for Congressional interest in effecting the much 
needed revisions of personal tax laws. Although affecting 
businesses, problems of its taxation are not addressed. Its 
monetary items must be increased to reflect inflation over the 
last 15 years to get to their equivalents of 1985 amounts.

Statement for tax hearing of Congressman Carney and Senator D'Amato at 
Ward Melville High School, Setauket, NY on thursday, September 5, 
1985--by James O. Moore, Smithtown, NY

    My name is Jim Moore from Smithtown and I am on Social 
Security. (Will be 70 on April 5 next year).
    Almost everyone agrees (1) the current Tax System is ridled 
with inequities that favor special interests (2) is so 
voluminous and confusing that experts in the IRS sometimes give 
different rulings on he same question and (3) now feel tax 
simplification is essential.
    Many tax simplification proposals are being considered. 
Some include proposals that are anathema to Elected Officials 
and Legislators of this State. Understably, they want to comply 
with the wishes of their Constituents BUT, when Legislators are 
Congressmen and Senators, they have a HIGHER duty to Legislate 
for the whole country even to the extent of voting for programs 
that are good for the country but not liked by local 
Constituents!!
    With this as basis for your decisions in House and Senate 
on Tax simplification, herewith is a program for personal tax 
returns on a basis that treats EVERYONE equally and fairly. The 
proposed exemptions and tax rates may require adjustments to 
assure they are revenue neutral and do not RAISE taxes in 
totality.
    First: all income received would be repotable including 
social security, SSI, Welfare (including value of housing 
allowance and clothing) but payments from social security would 
not be reportable until all contributions by individual and 
spouse have been recovered. Cola's would be included at full 
rate and the special social security calculations would be 
eliminated. Municipal bond interest, capital gains, tax 
shelters, etc. would be reportable fully as income. however, 
income credited but not withdrawn would not be reported until 
withdrawn as is now done with IRA accounts return of principal, 
of course, would not be reportable. This would apply to savings 
accounts, mutual funds, cash and stock dividends held in 
brokerage accounts etc etc.
    Second: no deductions for anything!!!! including 
contributions to religious & charitable groups, interest, 
taxes, etc etc.
    Third: states should eliminate sales tax on any item 
costing less than $25, and neither they nor the Federal 
government should consider value added tax as it is the most 
harmful to the poor.
    Fourth: eliminate all tax shelters, (not just those the 
administration deem bad) so that economic viability rather than 
tax advantages would be basis for investments.
    Fifth: family income should be basis for personal 
exemptions and currently suggest $5,000 for first. $4,000. 
Second, $3,000. Third and $2,000. All others. A family of four 
would pay no tax until income exceeded $14,000. approximating 
current poverty income level. A suggested flat 20% rate or 
better still, graduated scale of 10 to 40% might be used or 
whatever is needed to give a revenue neutral income. Social 
security taxes may also require adjustment. But, in order to 
have everyone contribute to this great country for the 
privelege of living here, assess \1/2\ of 1% on gross income so 
that the family of four would pay $70, on its $14,000. 
Exemption. This would be returned to the states from which 
taxpayer files his return to offset no sales tax on $25.00.
    This is an eminently fair and even handed program which 
should eliminate the feeling that ``That guy makes X number of 
dollars and pays no taxes. Why should I pay so much?'' Also, it 
would end confusion on tax laws, reduce the volume upon volume 
of tax laws; Myriads of pamphlets, files and paperwork, cut irs 
staff considerably and save money for government, business and 
individuals in the multi-millions of dollars. I believe such a 
program would be welcomed by all taxpayers and businesses 
except those whose livelihood depends on the present unfair 
system!!!!
    Note: Subsequent to this statement, a 6-5-86 letter to 8 
people (Congressmen, Senators & Pres. Reagan) added provision 
for a $5,000 allowance for fringe benefits. Thus any amount 
paid by employers for pensions, INS, etc. would be reported on 
W-2's BUT only any amount in excess of $5,000 allowance would 
be taxable income. However, if amount paid by employer is less 
than $5,000 or none at all, the taxpayer could purchase 
protection desired or invest in IRA's etc. and deduct up to 
$5,000 on tax return. Senator Bradley's 10-9-86 reply called 
this an ``intriguing idea!!!'' Seniors could apply this against 
medical expense as well as insurance premiums.
    Added in 1994: If health care revisions provide for 
deductibility of health care costs, they would be eliminated 
from fringe benefits allowances for everyone not just seniors.
    The first note refers to a 6-5-86 letter to 8 addresses on 
adding fringe benefits deduction and the ``added in 1994'' item 
on Health care relates to my 8-25-94 article on ``Declaration 
of Independence from Socialized Medicine'' printed in local 
Smithtown Messenger. It proposed 100% deductibility of medical 
expenses, including health insurance premium less reimbursement 
by the insurance company for claims. Then in 1999, I offered 
some ideas to economic Security 2000 to be discussed at its 
January Forum in D.C. but suggested tax revisions would solve 
some of the problems of Social Security for which forum was 
being held.
    Referring only to items in the 9-5-85 statement, everyone 
with whom I have discussed items therein have agreed they WOULD 
provide the fairness intended but said IMPOSSIBLE!! Why? 
Because they felt politicians would not agree to them and said 
the effort was as useless as Don Quixote jousting at windmills. 
I have never felt that way. Instead, I believe such revisions 
ARE possible, and like the Lone Ranger, want to help people in 
distress. Taxpayers?
    My optimism is based on the fact that the IRS amended its 
regulations on IRA withdrawals as covered above while I was 
continuing this now 15 year effort at tax revision.
    In connection with the vexing tax problem, I have recently 
initiated an effort towards formalization of an organization to 
be called COFEHATT, which is the acronym for ``Citizens 
Organization For Equitable Health and Tax Treatment.'' However, 
we intend to go one step further than ``equitable'' which can 
apply by treating everyone the same at inception but be UNFAIR 
in distribution. Thus, our additional requirement is ``FAIR.'' 
Implementing the suggested revisions, while keeping the laws 
FAIR, the biggest benefit is the simplification which enables 
everyone to prepare tax returns perhaps by IRS using the 
equivalent of two 11 by 8 \1/2\ sheets of paper to explain and 
provide form on which to prepare the return.
    It is our view that the ability to pay is the only 
criterion on which to base taxes and that ability is predicated 
on income which should be generic and include in it every 
source which would be wages, commissions, profit from self-
employment, profit from sale of material assets or securities, 
dividends on investments and interest on savings and finally 
ALL bonds whether commercial or municipal.
    We feel absolutely sure that neither a FLAT nor National 
Sales Tax is fair. If we are wrong, please let us know since we 
do NOT want COFEHATT to provide erroneous information and lose 
our credibility. The flat and sales tax could be instantaneous 
but our proposal cannot be done in one ``fell swoop'' 
prohibited by contractual termination dates and some must be 
put into effect incrementally or they would be calamitous 
disaster to our economy.
    If the committees's review of proposals received from all 
participants in this hearing finds ours to be FAIR, we hope 
some of our suggestions will be incorporated in laws that will 
provide the intended benefits to ALL OF US.
    However, should any proposal be either NOT ``doable'' for 
reasons other than fairness or NOT considered fair we would 
also appreciate being advised accordingly just as we hope for 
your opinion regarding our position on FLAT and NATIONAL SALES 
TAX.
    It has been gratifying to make a second trip to Washington 
on thus two matters so important to every citizen and also even 
to every non-citizen taxpayer and much appreciated.
    My thanks to your staff as well for ``squeezing me in'' 
after initially being told there was no vacancy.
    Our is a wonderful country and I am proud to have served it 
militarily and as a contributor to some degree in other ways.
    [The attachments are being retained in the committee 
files.]
      

                                


    Mr. Collins: [presiding] And thank you, Mr. Moore. You can 
be assured that your full statement and any other accompanying 
documents that you have presented will be entered into the 
record.
    Mr. Hulshof, do you have any questions, please?
    Mr. Hulshof. Thank you, Mr. Chairman.
    Let me first extend my appreciation, Mr. Worley and Mr. 
Moore, for your efforts in being here today.
    Mr. Worley I think you, if I am not mistaken, were here 
through the entirety of yesterday's hearing as well.
    Mr. Worley. Yes, sir.
    Mr. Hulshof. I noticed you probably had better attendance 
than many of us did, but I appreciate the fact. Just as a 
general point, let me say that even as we are here discussing 
fundamental tax reform, that elsewhere on the Capitol grounds 
about 10,000 American citizens are gathered to express their 
viewpoints about certain matters that Congress will be taking 
up.
    It just reminds me again of what an awesome thing that we 
have, a representative form of government, that citizens are 
allowed to come before a Committee such as this, or to stand on 
the steps of the United States Capitol and to express their 
opinion freely.
    Whether it means petitions, Mr. Worley, as you have 
submitted for us and gathered here, I think again it is just an 
extraordinary testament to the type of government that we have.
    Let me say--and, Mr. Worley, I am going to ask you a couple 
of questions because there was something in your written 
testimony, and as you mentioned it today, that really struck 
me.
    You pointed out that one thing that amazes you, as it does 
me, is that some that report the news nationally have not 
really given a full focus of attention as we are of these 
series of hearings.
    In fact, let me just quote you again because I think it 
bears repeating.
    ``The rhetoric''--and this is you writing, I assume?
    Mr. Worley. ``The rhetoric we as Americans have been 
subjected to implies that the wealthy in this country do not 
pay taxes and the tax burden has been shouldered by the working 
poor and middle class'' to which you paraphrased the word 
``nutz.''
    Let me ask you about that. Because we have had a variety of 
different opinions already over this day-and-a-half talking 
about, for instance, whether we should have the fair tax as you 
support, Mr. Worley.
    We have had flat tax proponents. I suspect Congressman 
Armey will be here to talk about that.
    Mr. Moore, as I understand it from your testimony you do 
not support a national sales tax or a flat tax, but a different 
type of tax. I know my colleague, Mr. English, has got his 
idea.
    Again I think it is useful that we debate and discuss these 
things. One thing that is frustrating for me especially, Mr. 
Worley, being on this Committee, having the honor of serving on 
this Committee, is the rhetoric that seems to percolate among 
other Members, that if we try to provide tax relief, for 
instance, we are ``giving tax breaks to the wealthy,'' when in 
fact we may be trying to simplify the tax code.
    Can you give us any guidance as a--and I do not mean this 
in a derogatory term--but as a common, ordinary citizen who 
watches what we do, how do we pierce that rhetoric so that we 
can have an honest discussion about the best policy?
    Mr. Worley. If I knew that, I would probably be the 
President of this Nation.
    I do not see, without a grassroots organization, or just by 
citizens like myself stepping forward and talking to other 
citizens, and saying this is what is going on and this is what 
we can do if we will take it upon ourselves to do that. I do 
not know that the national news media is going to give us any 
kind of regard in this.
    I do not know what we could do to cause them to do this 
other than a revolt. Now that certainly, if a million Americans 
came to the Halls of this Congress and said we demand tax 
reform, it would certainly gather some sort of attention from 
the national news media.
    Mr. Hulshof. Let me ask you, how did you first get 
involved, or have your interest peaked by this piqued by this 
and the fact that you would try to collect signatures on a 
petition, and then come from Georgia, or your home to come to 
the Halls of Congress?
    I mean what has motivated you to become an activist in this 
area?
    Mr. Worley. As an American Citizen, I have been abused by 
the Internal Revenue Service. I purposely left out my personal 
problems with them from this because I did not want to make it 
just a personal matter.
    My personal problems with the Internal Revenue Service are 
neither here nor there. This is a total problem throughout the 
country and it affects every American. And we have got to do 
something.
    If you have a car and it breaks down, you fix it. Well we 
have been fixing our problem with the Internal Revenue Service 
and our taxation of income for years now, and we are still 
broken.
    So maybe it is time that we junk the old car and go buy a 
new one.
    Mr. Hulshof. Well again I see my time is up. The red light 
is on. Let me just again--and I see Mr. Davis has also joined 
us here with the panel. But let me just again express my 
appreciation that each of you would take the time, and probably 
at your own expense, too, to come here to help enlist our 
support on these various different ideas of the way we collect 
revenue in this country.
    Again, I think it is just testament to the type of Nation 
that we have that you would have the opportunity to come here 
and have your voices heard.
    So thank you for that.
    Mr. Worley. Thank you.
    Mr. Moore. Thank you.
    Mr. Collins. Thank you, Mr. Hulshof.
    I know Chairman Archer will be back in just a few moments, 
but I wanted to take the time and the opportunity to extend my 
appreciation to Mr. Worley, being a fellow Georgian, for coming 
and bringing a lot of common sense with him to address this 
Committee, and also the list of names who signed your 
petitions.
    And I am sure if you had more time and had travelled a lot 
more throughout Georgia you would have had a stack that would 
have been much, much taller because I hear about this quite 
often as I am travelling throughout the Third District of 
Georgia, which goes from Clayton County down to Muskogee 
County, which you are very familiar with.
    I also understand from your opening that you are in the 
concrete business?
    Mr. Worley. Yes, sir.
    Mr. Collins. And you have had 18 years of experience in the 
ready-mix concrete business. And having pushed many a 
wheelbarrow of concrete and finished some myself, too, I 
appreciate the work and the hard work that you have endured.
    We will take Mr. Davis' testimony at this time, and Mr. 
Chairman will be back very shortly.
    Mr. Davis?

     STATEMENT OF FRANK L. DAVIS, JR., ALEXANDRIA, VIRGINIA

    Mr. Davis. Thank you, Mr. Chairman.
    Mr. Chairman, Members of the Committee, my fellow 
Americans:
    It is a privilege to be asked to testify this morning. My 
name is Frank Davis. I am a retired Naval Reserve Aviator, 
having spent 28-and-a-half years in Active and Reserve Service 
to my country.
    I consider myself still serving, albeit in a somewhat 
different capacity, but with the same goal in mind. Protect my 
country from all enemies foreign and domestic.
    As you might expect, I consider that the duty of every 
citizen.
    I am co-founder and Executive Vice President and National 
Director of Legislative Affairs for the National Retail Sales 
Tax Alliance.
    The National Retail Sales Tax Alliance is a nonpartisan, 
nonprofit, grassroots organization working to replace the 
federal tax system with a National Retail Sales Tax and abolish 
the Internal Revenue Service.
    I cannot think of a more fitting goal in life than to 
bequeath my country, my children, and my grandchildren a free 
society without an income tax and without an IRS.
    I am a citizen activist. I speak as a very concerned 
private citizen. My remarks reflect both my own thinking in 
this matter and the advice and counsel of countless thousands 
of American citizens who are likewise concerned about the ship 
of state.
    For example, the Internet has proven very helpful to the 
National Retail Sales Tax Movement and tax reform in general.
    FReeRepublic.com is an especially helpful site for keeping 
a pulse on the American public with respect to fundamental tax 
reform.
    A number of prominent public servants have provided 
outspoken leadership for the National Retail Sales Tax tax 
reform movement and are noted in my extended remarks.
    I want to personally thank you, Chairman Archer, for your 
foresight and leadership these past five years. Notice, if you 
will, ladies and gentlemen, that this is a bipartisan movement. 
It is not about partisanship. It is about doing what is right 
for America.
    In addition, articles published in influential opinion 
journals have contributed to the dialogue. I highly recommend 
Dr. Allen Keyes' article ``The Case For Repealing The 16th 
Amendment To The United States Constitution. Abolish The Income 
Tax!'' published in Human Events Magazine on April the 17th, 
1998.
    I also commend to the Committee the testimony for the 
record of Mr. Charles Adams, Historian.
    A number of well-known organizations are invaluable in our 
work and are noted in my extended remarks.
    The National Retail Sales Tax Alliance supports both H.R. 
2001 and H.R. 2525. We know that neither bill will pass in its 
present form. We also know that there may well be additional 
NRST bills added to the mix and that there will be provisions 
added and subtracted until such time as the Committee has 
reached consensus and a measure goes to the Floor of the House.
    My promise to all Americans, to you Mr. Chairman, to the 
Committee and the Congress and to all interested parties is 
this:
    The National Retail Sales Tax Alliance will work to ensure 
that America gets a modern, national retail sales tax system 
which will meet America's needs for the 21st Century and 
beyond.
    Mr. Chairman, there are at least three fundamental reasons 
why the Income Tax System must be replaced with a national 
retail sales tax:
    Freedom.
    Economic Growth.
    And a quality of treatment under the law.
    America is the only nation in world history whose founding 
was based on the notion that certain unalienable rights are 
handed down from God to the People and then are loaned to 
government.
    Since the dawn of man, governments have claimed that rights 
are handed down from God to government, the Divine Rights of 
Kings, and then loaned to the people. And this is a very 
important distinction.
    To the degree that America has become the great Nation is 
it today and has the capacity to even become greater, the 
concept of a citizen's unalienable rights is very important. 
This concept differentiates the United States from every other 
country in the world. Every U.S. Citizen's unalienable rights 
are guaranteed by our Founding Fathers in the Declaration of 
Independence and the Constitution.
    Why then does the United States have a tax system which 
severely restricts its citizens' Constitutional rights, 
artificially limits their ability to work, save, and invest and 
exacerbates class warfare by dividing them one from the other 
on the basis of types and amounts of income?
    These perverse disincentives to succeed and resultant 
lower-than-it-should-be U.S. economic growth in recent years 
are fueled by our oppressive Income Tax Code.
    It defies comprehension.
    The United States of America has a Tax Code based on the 
19th Century Marxist class warfare notion of ``from each 
according to their ability, to each according to their need.''
    Do we really want to begin the 21st Century with a tax 
system based on class envy and warfare? Which punishes those 
who work, save, and invest and rewards those who do not?
    Do we want to retain a tax system that annually invades our 
privacy and usurps our Constitutional rights?
    Or do we truly want to be free people?
    Mr. Chairman, I would submit that we can never be a truly 
free society so long as we allow the income tax and the 
Internal Revenue Service to exist.
    If we are to restore to American Citizens those freedoms 
guaranteed by the Constitution, we must replace the federal tax 
system with a national retail sales tax and, in the process, 
abolish the Internal Revenue Service.
    And while we are at it, we must also repeal the 16th 
Amendment to the Constitution to complete the tax reform 
process and to ensure that America will never have to suffer 
another tax.
    Dr. Keyes refers to the income tax as a slave tax 
inherently incompatible with freedom. Abolishing it is 
therefore not just economically feasible; it is a moral 
imperative if we are to meet our obligations to bequeath 
liberty to future generations.
    Mr. Collins. Mr. Davis?
    Mr. Davis. Yes.
    Mr. Collins. I hate to interrupt you, but your entire 
statement will be entered into the record. You have kind of 
exceeded your time already, but we will give you about another 
minute to wrap it up if you could, please.
    Mr. Davis. Well let me go straight to a letter that I have, 
an anonymous letter, which will take about a minute to read 
that was sent to me:
    Dear Friends and Buddies,
    Most of you know that one of my most treasured beliefs is 
that we are a free people. I am deeply saddened that every day 
we lose more of those freedoms as the government usurps them in 
the name of protecting us from ourselves.
    Our current tax code is extremely damaging in that it 
punishes success--the very thing this country was founded on 
and so many lives were lost over--and it requires disclosure of 
every aspect of our lives for public consumption.
    My spirit is personally so broken by this that, after doing 
our taxes, I realize I am chipping my--and she said it in 
French--joy of life; I can't pronounce it--and very life away 
and have become enslaved by the government.
    I have decided to end it.
    I am selling our business and will not continue to 
contribute to this folly. It was a grim realization. Although 
we have a lot to contribute to this country and its future with 
our technology information and teaching, it is not worth the 
payback anymore.
    I give up.
    The American dream has vanished. I am joining the ranks of 
the crushed in spirit, the squashed, the oppressed. And yes, if 
you are wondering, I am depressed about the whole thing. A good 
cry sometimes helps, but that has been way too common of late.
    And in a short note to Mr. Archer:
    ``Please record my support FOR the National Retail Sales 
Tax to replace the tax code in this country. We must abolish 
the oppressive tax code and REPLACE it. The FLAT TAX does not 
accomplish replacement of the complexities of the code; it 
merely masks them and simplifies computations. Therefore I urge 
you to please support the FAIR TAX/National Retail Sales Tax.
    ``I also urge you to abolish the illegal agency known as 
the IRS.''
    I will close with that.
    Thank you, Mr. Chairman. Thank you, Members of Congress, 
for your time.
    [The prepared statement follows:]

STATEMENT OF FRANK L. DAVIS, JR., ALEXANDRIA, VIRGINIA

    Mr. Chairman, Mr. Rangel and Members of the Committee; my 
fellow Americans. It is a privilege to be asked to testify this 
afternoon. My name is Frank Davis. I am a retired Naval Reserve 
Aviator, having spent 28 = years in active and reserve service 
to my country. I consider myself still serving, albeit in a 
somewhat different capacity, but with the same goal in mind: 
protect my country from all enemies, foreign and domestic. As 
you might expect, I consider that the duty of every citizen.
    I am a co-founder and the Executive Vice President and 
National Director of Legislative Affairs for the National 
Retail Sales Tax Alliance. The National Retail Sales Tax 
Alliance is a nonpartisan, non-profit grass roots organization 
working with like-minded individuals, think tanks, other public 
interest advocacy groups and businesses to replace the federal 
tax system with a National Retail Sales Tax (NRSTA) and abolish 
the Internal Revenue Service.
    I cannot think of a more fitting goal in life than to 
bequeath my country, my children and my grandchildren a free 
society without an income tax and without an IRS.
    I am a citizen activist. In my testimony today, I will 
relate to the committee the viewpoint of a very concerned 
private citizen. My testimony reflects both my own thinking in 
this matter, and the advice and counsel of countless thousands 
of American citizens, who are likewise concerned about the ship 
of state.
    For example, the Internet has proven very helpful to the 
NRST movement; we are able to mine a rich field of pertinent 
research, communicate with and share opinions with expert 
economists and political scientists and more important, find 
each other. In this regard, FReeRepublic.com is an especially 
helpful site for keeping a pulse on the American public with 
respect to fundamental tax reform.
    A number of prominent public servants have provided 
outspoken leadership for the NRST tax reform movement. I want 
to personally thank you, Chairman Archer, for your foresight 
and leadership these past five years. Also, now retired 
Congressman Dan Schaefer, who was the primary sponsor of the 
first NRST legislation introduced on March 7, 1996. Senator 
Richard Lugar has long been an advocate of the NRST. In the 
present Congress, leaders such as Congressmen. W.J. ``Billy'' 
Tauzin, Jim Traficant, John Linder and Colin Peterson, along 
with the cosponsors of their respective Bills, are to be 
congratulated. Congressmen Largent and Cox also deserve 
recognition for their efforts in tax reform.
    Notice, if you will, that this is a bipartisan movement. It 
is not about partisanship, it is about doing what is right for 
America.
    In addition, articles published in influential opinion 
journals have contributed to the dialogue. I highly recommend 
Dr. Alan Keyes' article, The Case for Repealing the 16th 
Amendment Abolish the Income Tax! published in Human Events 
magazine on April 17, 1998.\1\
---------------------------------------------------------------------------
    \1\ Dr. Alan Keyes. The Case for Repealing the 16th Amendment. 
Abolish the Income Tax! Human Events, April 17, 1998.
---------------------------------------------------------------------------
    Well known organizations such as The Americans For Fair 
Taxation, the Tax Foundation, the Tax Education Association, 
Heritage, the CATO Institute, The Argus Group, Citizens for an 
Alternative Tax System, Citizens for a Sound Economy, and the 
National Taxpayers Union have proven to be invaluable in our 
work. And there are others.
    Curiously enough, the article that constitutes my 
``defining moment'' in respect of fundamental tax reform was 
also published on April 17th--in 1991. Pat Buchanan's 
nationally syndicated column that day was entitled ``A tax 
whose time has gone?'' \2\ That is the day I became a tax 
reform citizen activist. Mr. Buchanan has since published two 
more articles favorable to the National Retail Sales Tax.\3\
---------------------------------------------------------------------------
    \2\ Patrick Buchanan, ``A tax whose time has gone?,'' Tribune Media 
Services, April 17, 1991.
    \3\ Patrick Buchanan, ``Brave new world: no tax forms, no IRS,'' 
Tribune Media Services, April 15, 1994; Patrick Buchanan, ``Sales tax 
alternative,'' The Washington Times, July 14, 1997, p. A12.
---------------------------------------------------------------------------
    A quick word about the National Retail Sales Tax Alliance. 
NRSTA does not support either H.R. 2001 or H.R. 2525; we 
support both bills. We know that neither bill will pass in its 
present form. We also know that there may well be additional 
NRST bills added to the mix, and that there will be provisions 
added and subtracted until such time as the Committee has 
reached consensus and the measure goes to the floor of the 
House.
    Our promise to all Americans, to you, Mr. Chairman, to the 
Committee and to all interested parties is this: The National 
Retail Sales Tax Alliance will work to ensure that America gets 
a modern National Retail Sales Tax system which will meet 
America's needs for the 21st Century and beyond.
    Mr. Chairman, there are at least three fundamental reasons 
why the income tax system must be replaced with a National 
Retail Sales Tax: freedom, economic growth and equality of 
treatment under the law.
    America is the most envied nation in the world. Not only 
are we envied by the world's governments, we are envied by the 
world's people. America is the only nation in the history of 
the world whose founding was based on the notion that certain 
unalienable rights are handed down from God to the people, and 
then are loaned to government. Since the dawn of man, 
governments have claimed that rights are handed down from God 
to government [Divine Right of Kings] and then loaned to the 
people, a very important distinction.
    How important? To the degree that America has become the 
great nation it is today, and has the capacity to become an 
even greater nation, the concept of a citizen's unalienable 
rights is very important to keep in mind as we consider 
fundamental tax reform. This concept differentiates the United 
States from every other country in the world. Every U.S. 
citizen's unalienable rights are guaranteed by our founding 
fathers in the Declaration of Independence and the 
Constitution.
    Why, then, does the United States have a tax system which 
severely restricts its citizen's Constitutional rights, 
artificially limits their ability to work, save and invest and 
exacerbates class warfare by dividing them one from the other 
on the basis of types and amounts of income?
    These perverse disincentives to succeed, and the resultant 
lower (than it should be) U.S. economic growth in recent years, 
are fueled by our oppressive income tax code. It defies 
comprehension--the United States of America has a tax code 
based on the Nineteenth Century Marxist class warfare notion of 
``from each according to their ability, to each according to 
their need.'' Do we really want to begin the 21st Century with 
a tax system based on class envy and warfare, which punishes 
those who work, save and invest and rewards those who don't? Do 
we want a tax system that annually invades our privacy and 
usurps our Constitutional Rights? Or do we truly want to be a 
free people?
    We can never be a truly free society so long as we allow 
the income tax and the IRS to exist.
    If we are to restore to American citizens those freedoms 
guaranteed by the Constitution, we must replace the federal tax 
system with a National Retail Sales Tax (NRST), and in the 
process abolish the Internal Revenue Service. While we are at 
it, we must also repeal the 16th Amendment to the Constitution 
to ensure complete tax reform and to ensure that America will 
never have to suffer another income tax.
    Dr. Keyes refers to the income tax as a. . . ``slave tax--
inherently incompatible with freedom. Abolishing it is 
therefore not just economically feasible, it is a moral 
imperative if we are to meet our obligation to bequeath liberty 
to future generations.'' \4\
---------------------------------------------------------------------------
    \4\ Keyes, op. cit.
---------------------------------------------------------------------------
    Under the NRST, Americans would no longer have to annually 
divulge to a faceless bureaucrat their most private and 
personal financial information. How much money an American 
earns becomes his or her own private business. Taxes will be 
paid on the basis of how much a person ``takes out'' of the 
economy rather than how much a person earns. Under the NRST, 
those who consume the most, will pay the most in taxes. All 
Americans will be encouraged to work, save and invest, and 
government interference in their personal economic activities 
will cease. That, my fellow Americans, is Freedom.
    The next question before us is: Why does the United States 
have a tax system that discourages and penalizes those 
activities which grow the economy?
    The progressive income tax system punishes those personal 
and business activities that encourage economic growth. The 
more a person works, saves and invests, the higher his or her 
taxes become. Likewise, the more successful his or her 
business, the higher his or her tax bill (which is passed along 
to the consumer in the form of higher retail prices).
    And there is the matter of hidden taxes and compliance 
costs in the business income tax. The current tax system holds 
both people and business back, rather than encouraging them to 
move forward and become even more successful.
    The change to a National Retail Sales Tax will cause (and 
these are very conservative estimates) the Gross Domestic 
Product rate of growth to double and the national personal 
savings rate will triple.\5\ America will become the investment 
``sponge'' of the world--attracting billions of dollars 
invested elsewhere, further expanding the investment pool of 
capital available for business expansion and job growth. 
Interest rates will decline by 2 basis points, making it easier 
and less expensive for business to borrow money for growth and 
expansion and for individuals to qualify for home loans and 
other big ticket items.\6\ The NRST will eliminate compliance 
costs for individuals and reduce business compliance costs by a 
factor of 90%. \7\ And, those who chose to participate in the 
underground economy will pay taxes at the check out counter, 
just like everyone else.
---------------------------------------------------------------------------
    \5\ Laurence J. Kotlikoff, ``The Economic Impact of Replacing 
Federal Income Taxes with a Sales Tax,'' CATO Policy Analysis No. 193, 
April 15, 1993.
    \6\ Americans for Fair Taxation Policy Paper, ``The Impact of a 
National Retail Sales Tax on Interest Rates,'' April 21, 1997.
    \7\ Tax Foundation Special Brief, ``Compliance Costs of Alternative 
Tax Systems II, House Ways and Means Committee Testimony,'' March, 
1997, pp 8, 9.
---------------------------------------------------------------------------
    And the economic benefits of a switch to the National 
Retail Sales Tax do not stop with these gains. Picture even 
lower unemployment, more and better jobs for people willing to 
work, higher wages, and more robust export markets.
    In respect of exports, let me say that the recent WTO 
ruling declaring the Foreign Sales Credit provision of the 
current tax code illegal presents a challenge to America that 
the National Retail Sales Tax handles very well. The National 
Retail Sales Tax is a territorial border adjustable tax; 
meaning it is not applied to exported goods and is applied to 
goods imported for sale in America. The NRST is legal under the 
terms of the WTO. The NRST levels the playing field between 
domestic and foreign companies in respect of tax policy--it 
treats them exactly the same.
    The NRST, when implemented, will cause America, in your own 
words, Mr. Chairman, to become ``the economic juggernaut of the 
world.'' \8\ Foreign capital will flow into America and 
expatriated capital will return to America. As you know, with a 
NRST, jobs and companies that have ``gone offshore'' will 
relocate to America. Foreign businesses will locate new 
facilities here. In your words, Mr. Chairman, the NRST will 
``allow our nation and its people to soar to unparalleled 
prosperity in the next century.'' \9\
---------------------------------------------------------------------------
    \8\ Rep. Bill Archer (R-TX), Chairman, House Ways and Means 
Committee, ``Opening Statement of Chairman Archer Fundamental Tax 
Reform Hearing,'' June 6, 1995.
    \9\ Ibid.
---------------------------------------------------------------------------
    The final point I'd like to make is that America's founding 
fathers guaranteed that the Rule of Law (as opposed to the Rule 
of Man--the ``Divine Right of Kings''--prevalent throughout the 
world prior to America's founding) would apply in America. The 
phrase ``Equal Justice Under the Law.'' is chiseled in granite 
over the entrance to the Supreme Court Building, reminding us 
of the absolute importance of this founding principle.
    The progressive income tax makes a mockery of the Rule of 
Law. The Rule of Law provides for equality of treatment before 
the bar of justice. We are violating one of America's basic 
founding principles by continuing to keep a progressive income 
tax system in place.
    The progressive income tax system, which divides us into 
economic classes for the purpose of levying taxes, is 
conceptually wrong and at its core, un-American. You will 
recall that the founders were opposed to income taxes, and 
insisted that the country finance itself through excise taxes 
and tariffs.
    In 1913 the 16th Amendment to the U.S. Constitution, the 
single worst piece of legislation ever passed by any Congress, 
was adopted. It fundamentally altered the relationship of the 
American people and their government, as the founders in their 
infinite wisdom knew would happen. The government became the 
master, and the people became the slave. Dr. Keyes addresses 
his remarks about the morality of the slave tax to this very 
point.
    But it got worse. The instigators of the first legal U.S. 
income tax could have adopted a flat rate income tax, but they 
chose a different course and thereby changed the American 
political landscape. They accepted the second plank of the 
Communist Manifesto as the core principle of the U.S. tax 
system in 1913, and adopted a progressive rate income tax 
system. Thus, the progressive income tax system, with its built 
in appeal to those who practice the art of divide and conquer 
by encouraging class warfare became institutionalized in 
America. The progressive income tax intentionally pits 
Americans of different economic classes one against the 
another, and is used by demagogues for their own political 
gain.
    How can America enter the 21st Century with a 19th Century 
Marxist tax system in place? And why would we want to?
    Eighty seven years of tinkering has produced an unknowable 
tax code full of social engineering experiments. This social 
engineering has served only to make the code more complex and 
further disunite the American citizens. Tax policy should be 
focused on raising the funds necessary to operate government, 
not as a laboratory to ``fix'' this or that perceived social 
problem.
    Americans are the most generous people on the face of the 
earth; social programs that we agree upon (within 
Constitutional bounds, of course) should be funded from the 
spending side of the federal ledger, not the taxing side.
    As we are guaranteed equality of treatment before the bar 
of justice, all Americans must be guaranteed equality of 
treatment before the bar of economic justice. The best way to 
do that and to put an end to class warfare is to tax 
consumption, not earnings. With, and only with a consumption 
tax such as a single rate National Retail Sales tax, can we 
Americans be guaranteed equality of treatment under economic 
law.
    I call upon the Congress to eliminate the social 
engineering in the tax code by adopting the National Retail 
Sales Tax. With the NRST, the economic class warfare that has 
so divided this country over the past 87 years will eventually 
go away--everyone will be working, saving and investing and we 
won't have time to be envious of ``the Joneses.''
    Americans believe that all men are created equal by their 
Creator, and have an unalienable right to be treated equally by 
their government. The progressive income tax violates that 
fundamental principle.
    Mr. Chairman, we are all stakeholders in America. As such, 
we should be enjoying equality of treatment under the law. As I 
have gone to great lengths to point out, we are not.
    The NRST, because it is applied uniformly and taxes 
everyone at the same rate, will be a constant reminder to each 
of us that we are a stakeholder, and that taking an interest in 
the affairs of this nation is an important duty of citizenship. 
By demolishing the myth that there is a ``Free lunch,'' the 
National Retail Sales Tax can become a unifying theme for all 
Americans.
    Accordingly, I call for all Americans to unite, to come 
together and demand of our elected officials that the income 
tax system be replaced with a simple, fair, flat National 
Retail Sales Tax and that the IRS be abolished.
    Mr. Chairman, I have in my possession (Appendix 1) an 
eloquent message from a taxpayer, who prefers to remain 
anonymous, that neatly sums up the frustrations millions of 
Americans have about our tax and regulatory system. I would 
like to read it for the record.
    America will never be a truly free society so long as we 
allow the income tax and the IRS to exist. America will never 
realize its true economic potential so long as we allow the 
income tax and the IRS to exist. Americans will never be 
treated with equality so long as we allow the income tax and 
the IRS to exist.
    What better way to restore Americans' Constitutional 
freedoms, invigorate America's economy through more robust 
economic growth and ensure that every American is treated with 
equality?
    Isn't that what our Grand Vision of America is? One Nation, 
under God, with liberty and justice for all?
    Thank you, Mr. Chairman for allowing me to testify.
    Dear Friends and Buddies,
    Most of you know that one of my most treasured beliefs is 
that we are a free people. I am deeply saddened that every day 
we lose more of those freedoms as the government usurps them in 
the name of protecting us from ourselves. Our current tax code 
is extremely damaging in that it punishes success (the very 
thing this country was founded on and so many lives were lost 
over) and it requires disclosure of every aspect of our lives 
for public consumption.
    My spirit is personally so broken by this, that after doing 
our taxes I realize I am chipping my [joy of life] and very 
life away and have become enslaved by the government. I have 
decided to end it.
    I am selling our business and I will not continue to 
contribute to this folly. It was a grim realization. Although 
we have a lot to contribute to this country and its future with 
our technologoy info and teaching, it is not worth the payback 
anymore. The exhaustion of teaching, the aching legs and feet, 
the sleepless nights waking up with leg pains after teaching 
all day, the stress of it, the technology ``Keep-up'' issues 
have all mounted too high unless there is big bucks in it. 
Running our own business has meant learning too much about 
regulations, forms, accounting etc. and handing over in excess 
of 63% of our earnings. And that is before property and gas and 
sales tax, let alone how to finance retirement and pay for 
college and all that.
    I give up. The American Dream has vanished. I am joining 
the ranks of the crushed in spirit, the squashed, the 
oppressed. And yes, if you were wondering, I am depressed about 
the whole thing. A good cry sometimes helps, but that has been 
way too common of late. Oh well.
    [The following is a personal letter to the Committee, from 
the same taxpayer]
    To the House Committee on Ways and Means:
    Please record my support FOR the National Retail Sales Tax 
to replace the tax code in this country. We must abolish the 
oppressive tax code and REPLACE it. The FLAT TAX does not 
accomplish replacement of the complexities of the code; it 
merely masks them and simplifies computations. Therefore I urge 
you to please support the FAIR TAX/National Retail Sales Tax.
    I also urge you to abolish the illegal agency known as the 
IRS. It was not properly established according to our 
constitution and has powers way beyond those ever envisioned by 
our forefathers. The IRS simply MUST be eliminated, as everyone 
in good conscience must admit.
    May this committee please take this challenge to right the 
wrongs perpetuated for many years by this agency called the 
IRS. We need a constitutional, non-invasive, and non-
``targeted'' tax code, that treats us with equality. And enact 
a tax code that preserves life, liberty and the pursuit of 
happiness. . . not one that causes us to fear running afoul of 
the IRS and requires keeping every scrap of evidence from every 
sector of our lives, should it ever be demanded.
    Thank you for your time

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    Mr. Collins. Thank you, Mr. Davis. I expect by the close of 
day next Monday when people, when most people finalize their 
tax forms and write their checks, that we will be able to get 
many, many more letters and also a lot more signatures on 
petitions.
    Mr. English?
    Mr. English. Mr. Chairman, I have no questions. But I want 
to thank these gentlemen for taking the time to exercise their 
sacred right to petition Congress and to testify.
    We appreciate your willingness to come forward and share 
your views. And, frankly, I hope you are able to motivate many 
more of our fellow citizens to get involved in this debate, to 
provide their ideas, but to push this institution to reform a 
tax code which has become an octopus which has reached into 
virtually every part of our life.
    I thank you for being here.
    Mr. Davis. Thank you.
    Mr. Collins. Thank you, Mr. English.
    Mr. Hulshof, do you have any further questions for Mr. 
Davis?
    Mr. Hulshof. No. Thank you.
    Mr. Collins. Thank you.
    Mr. Archer, do you have any questions, sir?
    Chairman Archer: [presiding] No, sir.
    I simply want to thank all of the witnesses for coming and 
presenting their views. We are very grateful for that. We know 
some of you have come from a long way and together, some way or 
another, we are going to work our way through and find an 
answer.
    Mr. Collins. [presiding] Thank you, gentlemen.
    Mr. Worley, we do appreciate you sitting through the entire 
service of yesterday and today.
    Gentlemen, that concludes this panel and we will now recess 
for lunch. Thank you. For those of interest, 1:00 o'clock will 
be our time to reconvene.
    [Whereupon, at 11:55 a.m., the Committee recessed, to 
reconvene at 1:23 p.m., the same day.]
    Chairman Archer. The Committee will come to order.
    Continuing with our hearing, we have our next panel of our 
colleagues: the Honorable Dick Armey, and the Honorable Billy 
Tauzin, and the Honorable James Traficant, to talk about their 
individual perspectives and potential alternatives for the 
current income tax.
    Welcome, gentlemen. We will start off with our friend Dick 
Armey. We will be pleased to hear your testimony and your 
recommendations.

    STATEMENT OF HON. RICHARD K. ARMEY, A REPRESENTATIVE IN 
  CONGRESS FROM THE STATE OF TEXAS, AND HOUSE MAJORITY LEADER

    Chairman Archer. Thank you, Mr. Chairman.
    First let me appreciate you and your leadership in this 
whole area of tax law. I have said many times, and I am happy 
to say again, never could we have had a finer Chairman of the 
Ways and Means Committee more devoted to a professional 
commitment on the tax code.
    I have had my own interest in the matter for some time, and 
particularly in January of 1994 when I focused on the issue at 
a level I had not done before.
    I wrote the Flat Tax Bill. He later wrote his National 
Sales Tax. We teamed up, as you know, and have spent the better 
part of the last two years travelling across the country 
speaking frankly to very large audiences where we have had a 
clear commitment to end this nightmare called the current tax 
code.
    In our presentations before those audiences, we always 
start off with a discussion of the burdens of the existing 
code. I have on the billboards up here an example of how we 
make the presentation.
    For example, we divide the difficulties of the existing 
code up between myself and Billy, and we point out that 
families pay more in taxes, food, clothing, and shelter, and 
now we also add transportation, combined.
    Americans work an hour and fifty-seven minutes of every day 
to pay federal taxes. Taxes are at peacetime record highs. And 
I think one of the very big issues. $200 billion in annual 
compliance costs for the current tax code.
    Billy, when he opens his presentation, then will present 
further facts. And by this time what we see in the audience is 
a congealed understanding. Yes, this current tax code is a 
horrible mess in our lives. It confounds us. It complicates our 
lives. It costs us time, money, and energy, and it is generally 
all-around depressing and we want to be rid of it.
    I think, Mr. Chairman, you yourself have seen in your own 
travels that there is a fairly clear agreement among the 
American people. We want to be rid of this current tax code.
    The next part of our presentation then focuses on:
    All right, once we agree that we want to get rid of the 
current tax code and replace it with something that is of 
better service and less intrusion in our lives, where do we go?
    It is at that point that I present what I still will argue 
is the best alternative, the flat income tax, based on my 
desire to have a tax code that does not intrude government 
organization into the affairs of the family or the business.
    No family or business decision about how to use your 
income--whether it be consumption, savings, or investment--
should be made on the basis of tax considerations but should be 
on family and business considerations.
    So our tax code to be correct in my estimation should be 
fair. It should be simple. It should be easily understood and 
easily complied with.
    It should eliminate double taxation and accept a standard 
of fairness that I believe is the unique American definition of 
``fairness.''
    ``Fair'' is when you treat everybody the same as everybody 
else.
    And it should forsake the sophistry that underlies so much 
of what we have in our current tax code, overburdened as it is 
with efforts of social control and income redistributions, a 
sophistry that we hear pronounced so many times as the false 
distinction between earned and unearned income that would give 
rise to a justified sense of it is fair to treat some forms of 
income differently than others.
    The flat tax is very simple. It says to the individual. 
Take your total income earned in a given accounting period, 
deduct from it a generous family allowance--for a family of 
four that could be as high as $33,800--multiply the remainder 
by 17 percent, and your taxes are filed.
    If you are a business, you take your total business income, 
deduct your business expense, multiply the remainder by 17 
percent, and your taxes are filed.
    We can cut that compliance cost down by 95 percent with 
this.
    Now let me just say, the flat tax is filed on a form like 
this, the size of a postcard, 10 lines. In the original 
iteration of the flat tax I had written it so that we would put 
an end to withholding tax.
    Your joint tax scorekeepers whacked me for $10 billion on 
that. In those deficit days, that seemed like a terrible 
burden. I took it out. But I would tell you, Mr. Speaker, when 
you mark up the flat tax in your Committee to bring it to the 
Floor, I would encourage you to follow my original advice and 
drop the withholding tax.
    You will have a chance in this Committee--and this is very 
important for us to understand--by Constitutional authority we 
will write the modern, up-to-date, civilized respectful tax 
code for the American people in this Committee.
    When this Committee does that work, you will find the flat 
tax is a bill easily written, congenial to the taxpayer, and 
one that you will get a fulfillment of what I think is one of 
the great, heroic American ideals. voluntary tax compliance.
    I look forward to your proceeding with this. I encourage 
this Committee to move forward. Certainly you will be fair and 
you will be judicious as you judge all of the alternative ways 
in which you might write a new tax code for America. And I 
stand fully confident that when you begin this prospect in 
earnest you will find, as I have found, the only way to do this 
job is to do it with the flat income tax.
    Thank you.
    [The prepared statement follows:]

STATEMENT OF THE HON. RICHARD K. ARMEY, A REPRESENTATIVE FROM THE STATE 
OF TEXAS, AND HOUSE MAJORITY LEADER

    Mr. Chairman, I appreciate your affording my colleague 
Representative ``Billy'' Tauzin and me the opportunity testify 
together. We have traveled to over 40 ``Scrap the Code'' 
debates to educate the American people on tax reform. Our 
effort has been intended to elucidate the details of two major 
alternatives to our current tax system to the public. I commend 
you for your own commitment to this cause. I know from our 
years of hard work together on this issue and our many 
conversations that we share the same goal for tax reform. I 
want to take this opportunity to thank you again for your 
leadership, friendship and advice on this issue.

The Tax Code is Broken

    Mr. Chairman, there is an emerging consensus among the 
public policy community, members of Congress, and the public 
that our current tax system is broken and needs to be scrapped 
and replaced with a system that is fair, simple, low, and 
honest. This growing consensus centers around the belief that 
the current tax code is complex; inhibits saving, investment 
and job creation; imposes a heavy burden on families; and 
pollutes Washington's political culture. It cannot be fixed or 
replaced. It must be scrapped.
    At the beginning of the 20th century, federal taxes 
accounted for less than 3 percent of U.S. gross domestic 
product (GDP) and the entire tax code and regulations filled 
just a few hundred pages. Today, federal taxes account for 20 
percent of GDP, and a complete set of federal tax rules spans 
over 46,000 pages. I'd like to focus my remarks today on the 
problems with the current tax structure and how my bill, H.R. 
1040, The Flat Tax, corrects these problems.

Current Code: Complex

    This year, the tax code itself is 2,840 pages and about 2.8 
million words. Taxpayers have to choose from 481 forms, a rise 
of 20 percent from 403 forms in 1990. The system is steadily 
growing more complex, causing over half of individual taxpayers 
to use a tax preparer for their income tax return, up from less 
than 20 percent in 1960.
    Even the well trained are stumped by the complexity. 
Unsurprisingly, the IRS receives over 110 million phone calls a 
year from taxpayers asking for assistance. In 1999 the IRS was 
only able to answer 73 percent of the phone calls correctly. 
The inability of the IRS to answer over 25 percent of calls 
signals an inherent failing of the current system.
    In 1998, Americans spent 5.7 billion hours filling out IRS 
forms--equal to 2.7 million workers doing nothing but IRS 
paperwork. With spring in the air, my family wants our time 
together to be better spent than digging deep in drawers 
searching for receipts or trying to make sense of complicated 
forms. I am confident there are many families like mine who are 
forced to sacrifice time with their loved ones to spend time 
making sense of the maze of forms and paperwork.

The Tax Code is Unfair

    The unfairness of receiving a penalty for a wrong answer 
given the tax codes' complexity strikes at the heart of the 
American principles of fairness, justice, and equality before 
the law.
    In one typical case, according to the non-partisan General 
Accounting Office, it took the IRS 18 months to correct an 
erroneous $160,000 assessment to an individual who was actually 
due a refund. The American people deserve fairness and they 
deserve to be rewarded for their honesty, integrity, and 
responsibility.
    Yet the current tax code gives rise to legions of tax 
lobbyists fighting for their own particular deduction, credit, 
or other special preference in the law. Besides contributing 
vastly to the complexity, taxpayers with similar incomes can 
pay vastly different amounts. How much you pay in taxes is 
correlated to how much time you have to study and learn the tax 
code, and whether or not you have a lobbyist in Washington.

Record Peacetime Tax Burden

    The total tax burden is at 20.7 percent of GDP--a post-
World War II high. In fact the tax burden is a major impediment 
to our new digital economy. Some may argue that rising tax 
burdens as real incomes increase is the appropriate outcome of 
our current tax system. However, a progressive tax system is 
designed to make the rich pay a higher amount than the poor--
not to increase the total tax burden on all citizens. The 
disincentives imposed by implicit and explicit marginal tax 
rates are growing and these disincentives reduce savings, 
investment, and growth.
    The only legitimate purpose of a tax code is to raise 
revenue, and do that while doing the least harm to the economy 
and to the people. Yet the high burden imposed on us by the tax 
code also punishes us financially for activities and values 
that we should encourage.
    --If we marry, we pay higher taxes than when we were 
single. We save for our children's education, only to pay taxes 
on savings from those earnings. We work hard to do more for our 
family, only to pay a higher tax rate on every new dollar that 
we earn. We die and pass our farm or business to our family, 
only to have them break up the business due to the punitive 
``death tax.''

The Flat Tax Solution

    The legislation I reintroduced this year with Senator 
Shelby of Alabama, (H.R. 1040) scraps the entire income tax 
code and replaces it with a flat-rate income tax that treats 
all Americans the same. This plan would simplify the tax code, 
promote economic opportunity, and restore fairness and 
integrity to the tax system. The flat rate would be phased-in 
over a three-year period, with a 19--percent rate for the first 
two years and a 17-percent rate in subsequent years.
    Individuals and businesses would pay the same rate. The 
plan eliminates all deductions and credits. The only income not 
subject to tax would be a generous personal exemption that 
every American would receive. For a family of four, the first 
$35,400 in income would be exempt from tax. There are no breaks 
for special interests. No loopholes for powerful lobbies. Just 
a simple tax system that treats every American the same.

Simplicity

    The flat tax replaces the current income tax code, with its 
maze of exemptions, loopholes, and targeted breaks, with a 
system so simple Americans could file their taxes on a 
postcard-size form. The Tax Foundation estimates that a flat 
tax would reduce compliance costs by 94 percent, saving 
taxpayers more than $100 billion in compliance costs each year.

Fairness

    The flat tax will restore fairness to the tax law by 
treating everyone the same. No matter how much money you make, 
what kind of business you're in, whether or not you are 
married, or even when you die, you will be taxed at the same 
rate as every other taxpayer.

Prosperity

    Because the flat tax treats all economic activity equally, 
it will promote greater economic efficiency and increased 
prosperity. When saving is no longer taxed twice, people will 
save and invest more, leading to higher productivity and 
greater take-home pay. When marginal tax rates are lower, 
people will work more, start more businesses, and devote fewer 
resources to tax avoidance and evasion. And because tax rules 
will be uniform, people will base their financial decisions on 
common-sense economics, not arcane tax law.

Lower Taxes

    The flat tax was not designed to be revenue neutral. It 
reduces unfairness. Because of the high tax overpayment, there 
is room to provide tax relief. And the flat tax would provide 
significant tax relief. When the rate is reduced to 17 percent 
in the third year of the proposal, there would be significant 
further tax reduction.
    But the flat tax does have a progressive element. Under the 
flat tax, the more you earn, the more you pay. In fact, because 
of the high family exemption, the more a taxpayer earns the 
greater the share of his income he pays in tax. A family of 
four earning $35,000 would owe no tax under the proposal. A 
family of four earning $50,000 would pay only six percent of 
its income in income taxes while a family earning $200,000 
would pay 14 percent.
    The flat tax is pro-family. The flat tax eliminates the 
marriage penalty and nearly doubles the deduction for dependent 
children. By ending the multiple taxation of saving, the flat 
tax provides all Americans with the tax equivalent of an 
unlimited IRA. This will make it easier for families to save 
for a home, a vacation, a college education, or retirement.
    The flat tax also has a powerful political virtue in that 
it excites the public. The crucial importance of this should 
not be underestimated. Policy experts can and do sit in a room 
and write their version of the ideal tax code but it will 
remain a purely academic exercise if they cannot rally public 
enthusiasm for change.

        In fact, a Zogby poll shows that the following breakdown:
------------------------------------------------------------------------
                            Percent  Favorable     Percent  Unfavorable
------------------------------------------------------------------------
        Democrats                       60                      31
      Republicans                     75.1                    19.1
------------------------------------------------------------------------

    To the many Americans who have grown profoundly skeptical 
of the federal government, politicians, and lobbyists, the flat 
tax has spectacular appeal because it offers the American 
people a straightforward deal. It also rids Washington of many 
of the special interests' reason for existing: the current, 
unfair tax system.
    The flat tax scraps the current code and gives taxpayers a 
new code that is simple, low, fair and honest. America deserves 
no less.

                                


    Chairman Archer. Thank you, Congressman Armey.
    Congressman Tauzin, you may proceed.

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

    Mr. Tauzin. Thank you, Mr. Chairman.
    Mr. Chairman, you asked us to focus today on three points.
    The first was the fairness and simplicity of the 
alternative plans.
    The second was the impact on trade and commerce.
    And the third was the compatibility with state tax 
collection systems.
    Let me first acknowledge that I am accompanied today by Jim 
Traficant, my chief Co-Sponsor, who I am always pleased to 
share a podium with. He will also be available to answer any 
questions you might have.
    Let me touch upon those three points. Without going into 
all the great reasons why we need to scrap the code, I adopt 
your great admonition that it is time to pull it out by its 
roots and destroy it so it never returns again.
    Moving to a consumption tax does that. It allows us to get 
rid of the income tax code completely, to abolish the IRS, and 
to move to a simple, fair tax code.
    Why is consumption taxes on retail sales fair?
    First of all, let me suggest to you that there is something 
about an income tax code that is hidden from the American 
public that is not very apparent until you examine it closely.
    At your desk, in addition to the wonderful little book I 
have written entitled the National Sales Tax. April 15th Just 
Another Day, is also a copy of an article by Dale Yargenson, 
the Chairman of the Department of Economics of Harvard 
University, in which Dale Yargenson points out something that I 
think Americans are not aware of. That is, that the income tax, 
the fact that we currently tax income on individuals and 
corporations and businesses, adds about 25 percent to the 
finished product cost of everything made in America.
    So the pervasive effect of income taxes, however you style 
them--complex, simple, or flat--is that they add to the cost of 
products made in America.
    So the perverse effect of an income tax code is that it 
punishes an American worker for buying his own products. It 
punishes those products in export trade, and it rewards him 
only when he buys a foreign product that comes in very often 
exempt from foreign VAT, value added taxes.
    So when you think about income taxes in comparison to 
consumption taxes, you need to think about a single consumption 
tax at the retail level compared to not one but two taxes on 
the same money. the tax we pay from our paycheck that comes out 
as withholding, and the tax we pay in higher American prices 
for everything we make because income taxes have added 25 
percent to the cost.
    Take local bread for example. Studies indicate that 35 
percent of a loaf of bread is income-tax related. If you get 
rid of the income tax, according to Dale Yargenson, you reduce 
the cost of a loaf of bread by that much in a competitive 
marketplace.
    A loaf of bread, instead of costing $2, should rightfully 
cost $1.30. When you put a sales tax on the back of it at the 
retail sale, you still have a much lower price for bread than 
you have in America today. It is eminently.
    In our plan that Jim Traficant and I have devised, you 
remember that this is a plan that we introduced years ago and 
have reintroduced every Congress. In this plan we go even 
further to make it fair.
    We also repeal all of the payroll taxes that are collected 
from a worker's income up to the poverty line so that all 
income under the poverty line is not only free of income taxes 
under our plan, but also free of the payroll tax.
    Now that is an extra 15 percent that goes into the workers' 
income and fully makes up for the effect of the sales tax on 
all the products you buy to take care of your family with 
income earned under poverty.
    Now think about that. You have got more money to spend. you 
have got all of your paycheck, plus your payroll taxes that are 
no longer going to the government. And you are buying products 
made in America that can cost as much as 25 percent cheaper. 
That is pretty fair. Pretty simple. It puts you in charge of 
how much taxes you pay instead of a government that writes a 
code and regulatory structure of 7 million words and nobody can 
understand anymore.
    On trade, Dale Yargenson points out that if we got rid of 
the income tax and so reduced the cost of American products by 
25 percent, the export trade from the United States would jump 
29 percent annually and would be at least 15 percent higher 
than it is every year thereafter.
    In short, we would eliminate the trade deficit. American 
products would go out tax free. No income tax effect on them. 
And they would be taxed once in the place of destination 
instead of being taxed in America and also taxed there. A 29 
percent jump in exports.
    Dale Yargenson also indicates if we were smart enough to do 
what we recommend in a consumption tax at retail sale, we would 
also increase investment in jobs and manufacturing in this 
country by a factor of 80 percent. A huge increase in jobs, in 
manufacturing, a huge increase in exports, a simple plan that 
works for Americans that is fair, it is decent, it cuts the 
cost of American prices, and also rewards workers for buying 
their own products instead of punishing them.
    That is a pretty good deal and one we ought to consider in 
this room. What a great gift we could give to this country if 
we ever pull that off.
    Now you asked also about compatibility with state 
collection systems. The good news is that 45 states currently 
have sales tax collection systems. Under our plan, those states 
do the collecting. We would encourage the last five to put up a 
collection system, but if they do not we of course would set 
one up in those five states.
    But in 45 states, the states would do the collecting. Our 
bill provides them with a one percent commission to cover the 
cost of the collection. Our bill rewards the retailer with a 
half of one percent to make sure the retailers' cost are 
covered in the collection system, and the balance is then 
remitted to the Federal Treasury.
    Here is the good news on the collection system, how easy it 
works. In most sales tax jurisdictions, 80 to 90 percent of the 
sales taxes are paid by 8 percent of the retailers. The bulk of 
it is done by the big national retailers.
    Under our plan, they can remit directly to the Federal 
Treasury if they want it on a national retail basis. In short, 
the minimum amount of sales tax collection is then left to the 
states for which they are paid a commission and for which the 
retailers are paid a commission.
    One final thought and then I know my time is up. We even in 
our bill make provision to help the retailers with the software 
they might need to make their collection systems for the 
federal sales tax compatible with whatever plan may exist in 
their states for state sales tax collection.
    Mr. Chairman, I yield back.
    [The prepared statement follows:]

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

    Mr. Chairman, it is my honor to address the Committee on 
the benefits of a national retail sales tax and my proposal, 
H.R. 2001, the National Retail Sales Tax Act of 1999. I first 
introduced this legislation, along with my friend, former 
Congressman Dan Schaefer in the 104th Congress. Since then I 
have been joined in this effort by Congressman James Traficant 
and others, that understand the economic benefits of a national 
retail sales tax. I look forward to working with you and the 
members of the Committee to overhaul our current system and 
lift the burden of the income tax from the shoulders of all 
Americans.
    The federal government's outdated, flawed and unfair 
income-tax system has become a nightmare for all Americans. It 
has grown from 14 pages in 1914 to more than 2,000 pages of 
law, 6,000 pages of regulations and hundreds of thousands of 
rulings and interpretations. Tax preparers and income-tax 
experts who routinely testify before Congress admit that even 
they do not fully understand all of the provisions and 
ramifications of the Internal Revenue Code.
    Since I last appeared before this committee in 1997, 
Majority Leader Armey and I have taken our message of tax 
reform to tens of thousands of people in over thirty cities on 
the ``Scrap the Code'' tour. At every stop on our tour we have 
been met by hundreds of Americans yearning to learn more about 
the major alternatives to the current code.
    While Congressman Armey and I may differ on which tax-
reform bill is best for America, we agree that Americans work 
too hard for their money, have too little to show for it and 
should not have to tolerate our inherently-unfair and overly-
complex federal income tax code. What's worse is that the 
federal income tax code tells Americans how to live their 
lives--encouraging some types of actions and discouraging 
others.
    Mr. Chairman, you have asked that these hearings focus on: 
whether our respective fundamental tax reform proposals are 
simple, fair and enforceable; the relevance of these proposals 
to the increasingly global marketplace; and, their 
compatibility of our proposal with State tax laws. First, let 
me briefly explain my proposal, H.R. 2001, the Tauzin-Traficant 
National Retail Sales Tax Act of 1999 (NRST).
    My legislation would eliminate the personal and corporate 
income tax code--including taxes on capital gains and savings, 
inheritance and gift taxes, and all non-trust funded excise 
taxes, abolish the Internal Revenue Service and replace them 
with a 15 percent national sales tax on the retail purchase of 
all goods and services.

Simple, Fair, Enforceable

    Unlike the current income tax code or even the flat tax, 
the national retail sales tax requires no federal individual 
tax returns of any kind. Americans are forced to spend in 
excess of 5 billion hours trying to calculate the amount of 
income taxes owed to the federal government. This is absurd. 
Individual Americans will pay their taxes when they make 
purchases of retail goods and services. No receipts, no tax 
returns, no audits, no hassle.
    All goods and services for consumption would be taxed at 
the same rate--no exceptions. If we exempted food, clothing, 
and housing--which represents a substantial amount of the 
American economy--the rate would have to be significantly 
higher. The broader the NRST base the lower the rate. Exempting 
entire categories of goods or services would inevitably lead to 
an administrative nightmare of definitions.
    The NRST will empower all Americans by giving them the 
choice as to how much tax they pay. Our present income tax 
system takes our money through withholding before we even 
receive it. Most of us now consider that our wages are really 
the ``take-home pay'' that we get net of all the deductions. 
Under the present system, it doesn't matter if one of us is 
more frugal than the other because we all pay the same amount 
of tax. In fact, if we are more frugal than our neighbor we are 
actually going to pay more and more tax because our earnings on 
our savings will be taxed each year.
    With the national retail sales tax we receive all of the 
money we earn. Our checks are increased by the amount 
previously deducted for federal income tax. With this money in 
hand, we have the power to determine the amount of federal tax 
we pay based on how much we choose to spend. The more you 
consume the more you will pay in taxes. The less you consume 
the less you will pay in taxes. The American people, not 
Congress or the IRS, will have the power.
    Also because of the way that the present income tax system 
hides the amount of taxes we pay in the price of goods and 
through withholding, I don't think any of us can really tell 
how much tax we are paying to the federal government. By 
eliminating the individual and corporate income tax, the estate 
and gift tax and all non-trust fund excise taxes and replacing 
them with a simple national retail sales tax, all of us will 
see the amount of federal tax we pay each time we make a 
purchase.
    Critics of the NRST often claim that it is regressive--that 
the poor have to devote a greater percentage of their income to 
pay the NRST than do the rich. Under H.R. 2001, a tax credit 
would be allowed for thousands of households with incomes below 
the poverty line. This assures that all workers below the 
poverty level will pay no taxes. The formula will be made 
adjustable for non-working spouses and children by reducing 
FICA deductions on every paycheck.
    Enforcement is an serious issue for any tax plan. Will 
there be people who try to evade the national retail sales tax? 
Yes. There are always going to be people who refuse to pay any 
tax. The current code has become so complex that it makes it 
easier for people to cheat the system..
    Under the NRST there will be dramatically fewer collection 
points to watch. Instead of having to audit and collect 
information on 250 million taxpayers and millions of 
businesses, the government will have to watch a smaller number 
of collection points. All but five states levy state sales 
taxes. The other 45 states and the District of Columbia already 
have the mechanisms and experience in place to enforce the 
sales tax. Local administration and collection will translate 
into better compliance rates. States will also have an 
incentive to enforce the tax because the more they collect, the 
more they receive to cover their administrative costs.
    The NRST would ensure that the underground economy, those 
individuals and businesses that don't file income taxes, would 
pay their fair share. The underground economy encompasses not 
only illegal sources of income, such as drug dealing, gambling, 
and prostitution, but also the ordinary citizen who accepts a 
lower price for cash payments and doesn't report the income or 
the businessman who keeps two sets of books and pockets a 
portion of the sales or takes improper deductions.

Relevance to the International Marketplace

    Currently, Americans, in effect are taxed twice by the IRS. 
Americans pay a federal tax on their income, and pay what 
amounts to a ``hidden'' sales tax (believed to be as high as 15 
to 20 percent) on the retail purchase of all goods and 
services. The federal government calls this the ``corporate 
income tax''--as if it were really paid by corporations. But, 
in reality, consumers pay this tax in the price of goods they 
buy. So under the present code, American income is literally 
taxed coming and going. The net effect of the NRST, is to 
eliminate two taxes and replace them with one clearly defined 
tax on goods and services sold at the retail level.
    This ``hidden'' sales tax makes it harder for American 
goods to compete overseas. Due to the income tax and its 
burdensome compliance costs, American products produced for 
export leave the U.S. at a 15-20 percent competitive 
disadvantage.
    What's worse is that products imported into the United 
States enjoy a 15-20 percent competitive advantage over our 
American-made products. Most industrialized countries simply 
exempt products for export from most of their taxation. This 
exacerbates our trade deficit and translates into millions of 
lost American jobs. Mr. Chairman, that's unfair to American 
workers, products and companies.
    Members of this committee are well aware that the World 
Trade Organization (WTO) has determined that the Foreign Sales 
Credit (FSC), a portion of the income tax code created to 
mitigate the effects of the income tax code, constitutes an 
illegal subsidy. In its October 8, 1999 Panel Report on FSC's, 
the WTO found that ``...the United States is free to maintain a 
world wide tax system, a territorial tax system or any other 
type of system it sees fit. This is not the business of the 
WTO. What it is not free to do is to establish a regime of 
direct taxation, provide an exemption from direct taxes 
specifically related to exports, and then claim that it is 
entitled to provide such an export subsidy because it is 
necessary to eliminate a disadvantage to exporters created by 
the US tax system itself..''\1\
---------------------------------------------------------------------------
    \1\ Adoption of a national retail sales tax would eliminate the 
need for Foreign Sales Corporations. Under the NRST, no tax will be 
placed on a product exported from the United States. In addition, since 
the NRST is designed to only tax consumption, all purchases made for 
business purposes would NOT be subject to the 15 percent tax. As our 
country becomes more and more dependent on foreign markets for our 
goods and services it is becoming increasingly clear that we must 
fundamentally modernize our tax code to increase U.S. competitiveness 
around the world.
---------------------------------------------------------------------------
    There will also be what some economists call the ``sponge 
effect.'' The U.S. is the world's largest market and has the 
best infrastructure of any country on earth. When the income 
tax is replaced with the national retail sales tax, it will 
become the world's largest tax haven and a ``sponge'' for 
capital from around the world.

Compatibility with State Tax Laws

    Currently, 45 States and the District of Columbia levy 
sales taxes (Alaska, Deleware, Montana, New Hampshire and 
Oregon do not). These states have the experience and mechanisms 
in place to administer the NRST. Under the Tauzin-Traficant 
plan, States would collect the 15 percent national sales tax 
from the retailers within the state and remit the tax to the 
United States Treasury. Participating States may keep 1.0 
percent of their collections to offset their collection 
expenses. Similarly, any business required to collect and remit 
the sales tax would be permitted to keep 0.5 percent of tax 
receipts to offset compliance costs.
    In closing, I believe that we should re-examine the basic 
ideas on which this government was founded. Our Founding 
Fathers insisted on the use of indirect taxes on individuals 
and specifically forbade direct taxes like the income tax. We 
have an opportunity to eliminate the income tax, the IRS, tax 
returns, audits, and the penalties on our work, savings and 
investments and replace them with a national retail sales tax. 
We must free Americans from the trappings of the income tax 
code.
    The beauty of the national retail sales tax is its 
simplicity and fairness. Those who spend the most will pay the 
most. Those who spend the least will pay the least. No more 
income tax forms. No more compliance costs. No more hidden 
taxes. No more loopholes for the corporations and the rich.
    What's important now is to begin a national dialogue and a 
dialogue within this committee on tax reform. This debate isn't 
simply about a flat tax vs. a national sales tax. This is about 
fundamental tax reform vs. preserving the status quo. 
Revolutionary change, such as scrapping the federal income tax 
and abolishing the IRS, will never happen unless Americans 
demand it.
    Mr. Chairman, thank you again for holding these hearings 
and for your leadership on this critical issue.

                                


    Chairman Archer. Thank you, Congressman Tauzin.
    Congressman Traficant.

STATEMENT OF HON. JAMES A. TRAFICANT, JR., A REPRESENTATIVE IN 
                CONGRESS FROM THE STATE OF OHIO

    Mr. Traficant. I would just like to amplify upon Mr. 
Tauzin's statement and commend you, Chairman, for your 
leadership.
    I believe if there is a possibility of changing a tax code 
that is un-American, it has the greatest shot with Bill Archer 
as Chairman.
    I want you to know that your reform bill made a dramatic 
impact in America. I want to thank you for working with me on 
two of those issues, in changing the burden of proof and 
judicial consent.
    I wanted to give you one statistic before I give you my 
statement:
    Seizures of farms, homes, and businesses in 1997 were 
10,037. In 1999, they were 161. Thanks to you, Chairman Archer. 
And I want to thank the Republican Party for working with me.
    One point I would like to amplify upon Billy's statement is 
that the Consumer Price Index plays a big part in the analysis 
of this particular bill. If there is any upward trend in cost, 
then there would be a reciprocal upward allotment in the cost 
of living allowance for seniors which are going to be very much 
panicked over this legislation.
    Where I can help I believe Mr. Tauzin and the Congress is 
in trying to get hardcore democrat opposition to look at the 
salient points of this legislation, because it will have to 
have some Democrat support or they will continue to be at the 
back of the bus in the minority for many, many years, because 
the time has come.
    I want to talk about attitude. General tax attitude.
     If you fix up your home, you pay more taxes. If you let it 
run down in America, you pay less. I am not talking about a 
federal system, am I? But if you work real hard and you are 
very industrious, you get hit over the head and pay more taxes.
    If you do not work, you get a check.
    We must reward people for industry and work. But here is a 
point I would like to amplify upon what Mr. Tauzin has stated I 
think very eloquently. Let me say this. I have great respect 
for the Majority Leader. I believe a flat tax is absolutely 
necessary--not an income tax, but a flat tax on final retail 
sales consumption--for the following reason.
    In my District we make the Cavalier, and Phil English is 
right across the border and his people work there as well. That 
Cavalier carries a 25 percent disadvantage against the Toyota 
that is imported from Japan.
    For the first time in history you would have a border-
adjusted tax. My Cavalier is made with a 25 percent overload 
from the tax code, gets shipped to some other country overseas 
and they put a value-added tax on that baby.
    Then they come in under an agreement of some trade of some 
sort with basically free access to our market, and then we are 
worried about keeping our Cavalier plant in Lordstown, Ohio, 
Mr. Chairman.
    So I think when you look at the final retail sales tax, 
here is a big issue. And here is one concern I have. I support 
that 15 percent national retail sales tax, but ask you to 
ensure that is going to be enough.
    Now I heard this 30 and 50 percent crap, and this 
opposition crap I think is distorting it to the American 
people, but I think you will come up with that particular 
number that is necessary.
    But I think what is most important that we all take a look 
at is that FICA and senior citizens. I think if there can be an 
improvement to our bill, and I would ask the Chairman to look 
at these machinations as you look at changing the code, that 
rather than have the opportunity to politically scare seniors, 
which I believe will be an opposition tactic and I predict it, 
to leave FICA alone as we do and put a study in there with that 
transition that would allow for a study and a natural 
transition to, if it in fact proves to be worthy in that 
regard.
    But I think we leave open the opportunity to quantify 
income. And that is how we in fact evaluate those that are in 
hard times and those that are in good times. So I know that you 
are working on that, and you are working on many of those 
issues. But I would like to just close by talking about the 
attitude of our tax scheme.
    When people work hard, they get penalized in America. That 
is not the type of scheme we need. We should be rewarding 
industry and industrial strength.
    And finally, I think American companies will come back 
home. I think they will relocate in districts like mine, and I 
would ask for special legislation to help my District.
    With that, I thank you for allowing me the opportunity to 
appear with two of the most distinguished Members of Congress, 
and I am glad Mr. Portman has shown.
    Thank you, Mr. Chairman.
    [The complete statement of Mr. Traficant follows:]
    Chairman Archer. I am grateful to all three of my friends 
who are at the witness table today because all three of you 
want to put your shoulder to the wheel to drive this tax system 
to where it is not an odium on the American people, and rather 
that it can be transferred into a position to where it can be a 
strength.
    All taxation, no matter how we collect it, is not a happy 
thing for the American people. There is no tax system that is 
going to be perfect without complaint. But the system should be 
fairer. It should be simpler. And what you, Congressman Tauzin, 
and you Congressman Traficant said, it should be one that is 
designed to improve our competitiveness in the world 
marketplace which in the next Century is going to be essential 
to meeting the needs of the American people.
    It must furthermore level the playing field between foreign 
products and services entering this country and those that are 
manufactured and produced and ideated in this country.
    And if we go through tax reform and we do not do the 
latter, we will have missed the golden opportunity for future 
Americans. And so I thank you for what you have presented 
today, all of you.
    I say to my friend, Dick Armey, you have designed a system 
that is much, much better than the current income tax system 
and I applaud you for that.
    I do wonder if--and I would like your response to this--is 
there upward mobility on the rate structure in your system?
    Mr. Armey. Well, Mr. Chairman, let me just say, no. There 
is a single rate. Now if I make $100,000 a year, I pay 17 
percent of that. If my good friend Sam Donaldson makes $500,000 
a year for talking about what I do, he pays 17 percent of that. 
Now he will pay more in taxes than I will, but we will pay the 
same rate.
    There is an adjustment at the low end in that the standard 
deduction is a larger share of the percentage of total income 
for low income earners than it is for high income earners, so 
there is some progressivity put in there. But it must be 
understood. When I wrote the flat tax, I said somebody has got 
to be stubborn about this.
    The first point about which you must be stubborn is it can 
only be one rate. Immediately upon trying to introduce two 
rates, you will bring complexities to the tax code that will 
make it an unbearable thing.
    And if I might say one other thing, when I tried to write a 
tax code I wanted to fulfill a variety of objectives. 
simplicity, honesty, fairness, neutrality. I have not found any 
effort to put border adjustability into any tax code that does 
not first violate the principle of neutrality and does not also 
simultaneously trespass against all the other principles, and 
would not in fact in the long run be eliminated and made 
ineffective by adjustments and exchange rates.
    So I do not place a lot of store in efforts to achieve 
border adjustability in the tax code. I think that is--I think 
it is an objective that is, first of all, errant, and secondly 
comprises the rest of your effort.
    Chairman Archer. But relative to my specific question, 
there is no provision in your bill to prevent future Congresses 
from raising the rate and going to marginal rates in your 
system, is there?
    Mr. Armey. No. Let me just say that first of all as we saw 
in 1986, it is impossible for any Congress to protect America 
from a future Congress.
    We do put a provision in that says it takes a two-thirds 
vote of both the House and Senate to either increase the rate, 
reduce the family exemption, or add any complexities back into 
the system. But that is about the best protection you can get, 
and in the end it stands upon the ability of the American 
people to hold their Congress's feet to the fire.
    As we saw in 1986, future Congress's can fowl up anything.
    Mr. Tauzin. Mr. Chairman, might I----
    Chairman Archer. Mr. Tauzin, I know you were a little 
nervous there in wanting to get into this question of border 
adjustability, so what is your response?
    Mr. Tauzin. Well first let me agree with Dick on this two-
thirds provision. We have it in our bill as well.
    Let me say, this is how it works today under GATT. Many of 
our trading partners have value-added taxes in their tax 
system. If you go buy something today in London you will be 
charged a value-added tax. But if you bring it to America, you 
get that value-added tax back. It is rebated.
    The effect of that is to allow those countries under GATT 
to sell their products in the American market value-added tax 
free.
    Chairman Archer. Will you suspend for a moment?
    Mr. Tauzin. Yes.
    Chairman Archer. When the gentleman mentions GATT, he is 
talking about currently the WTO.
    Mr. Tauzin. The General Agreement on Trades and Tariffs.
    Chairman Archer. Yes, which has been replaced by the WTO.
    Mr. Tauzin. Yes, the WTO.
    Chairman Archer. Correct.
    Mr. Tauzin. The bottom line is that under these trade 
agreements, value-added taxes can be rebated back when the sale 
is made to another country.
    So in effect the foreign product comes in and is purchased 
value-added-tax free. We can't do that with our income tax code 
under those agreements.
    Our income tax code adds this 25 percent to the cost of the 
automobiles made in America to any product we make in America. 
It is shipped overseas and, guess what, the value-added tax is 
then assessed on those products overseas.
    So they pay both the income tax in America and the value-
added tax overseas. Whereas the foreign product pays whatever 
income tax they have in that country with the value-added taxes 
rebated. That is a natural advantage to the foreign product.
    And let me say it again, Mr. Chairman. When you get rid of 
the income tax, you get rid of that 25 percent hidden tax on 
American products both consumed in America and shipped 
overseas.
    So suddenly if you do this, if you go to a national sales 
tax, the American exported product gets taxed only once with 
the VAT tax overseas, instead of being taxed here in America 
first for the 25 percent burden, as Mr. Traficant pointed out, 
and then getting taxed twice.
    You do achieve border adjustability.
    Now let me concede to Mr. Armey. Nobody can say what is 
going to happen in future trade agreements, future exchange 
rates, but it is inconceivable to me that we can suffer this 
huge trade deficit with 19,000 American jobs lost for every $1 
billion of that trade deficit, and not adjust our own tax code 
to deal with it. And we can and we should, if we adopt a 
national sales tax.
    Chairman Archer. Do you believe--and, Mr. Traficant, I will 
recognize you in a minute--do you believe that it is fairer for 
foreign products to be able to enter this country under an 
income tax system and pay no share of our cost of government or 
to have to hear some of the burdens of this society?
    Mr. Traficant. Absolutely not, Mr. Chairman. This is a 
Final Retail Sales Tax Act. That Cavalier made in Lordstown is 
only taxes at 15 percent if it is bought in America.
    If that baby is exported, it carries no 15 percent and 
would only be subject, as Billy said, to the VAT or the taxes 
of those particular countries.
    I know you are working feverishly on leveling the playing 
field, but that is an awful big part of that. But let us also 
look at the double taxation.
    Now we sell that Cavalier, or we sell that Toyota that is 
made overseas. It comes in. It carries now that 15 percent tax 
just like the Cavalier.
    Now we pay $20,000 for the car. Now it is $23,000. We sell 
it in four years for $12,000. Now $12,000 of that car we did 
not use. So there is a deduct for the unused portion of the 
consumption that we originally paid.
    So we are not taxing everybody twice, which we are also 
doing. We take that dollar on income. We pay an income tax on 
it. We put it in the bank. We take it out to buy the car, pay a 
tax on the interest, then pay a sales tax on the car with a 24 
percent cost factor due to the tax code.
    So I think the only reasonable tax scheme that has to be 
thoroughly investigated is one which adjusts that border-tax 
issue, or our trade deficit will continue to balloon because 
our free enterprise system is designed to produce at the lowest 
cost, thus forcing our manufacturers into Mexico, forcing them 
over into China to produce an item which we could perhaps 
produce in America competitively by reducing that heavy load.
    Chairman Archer. I am trying to understand the disconnect 
between what Mr. Armey is saying and what the two of you are 
saying.
    He says that he is leveling the playing field with his 
proposal. You are saying I take it that he is not leveling it?
    He is further saying that your proposal creates an unlevel 
playing field which benefits the United States of America, and 
that unlevel playing field runs contrary to what he is 
attempting to achieve in his tax proposal.
    I am just trying to understand the difference between you.
    Mr. Tauzin. Let me try. Mr. Armey's proposal does level the 
playing field of paying taxes in America. It is a flat rate. 
Everybody pays the same once you take your family deduction.
    I applaud that. I think it is a much better plan than our 
current income tax code.
    But there is another playing field outside of the one that 
we play on here in America. That is the global economy. In that 
playing field, simply flattening income tax rates will not do 
anything about the inequity of American products being taxed 
twice in global trade, and foreign products only being taxed 
once when they are brought to America.
    That is the second playing field, if you will, that ought 
to be leveled.
    Now you can argue about whether our bill levels it fairly 
or not, but it aims at leveling it. It aims at not only 
leveling the playing field inside our country with the simple 
flat rate everybody pays above the poverty line because we take 
care of income under poverty, but it also levels the playing 
field at the border which is the second one that as you pointed 
out, Mr. Chairman, may be the most important in the long run as 
this country goes more and more into global economic trade.
    Mr. Traficant. Mr. Chairman, I would like to amplify on 
that. There is a third playing field. And let me say this. I 
think Mr. Armey has done a great service, and it may be his 
legislation enacted into law, because I do not know if America 
is progressive enough yet to take a hard look. It takes years 
to make changes.
    But there is a third playing field no one is looking at, 
and Mr. Armey's tax scheme does not even attempt to challenge 
it let along our current system. That is. The underground 
economy that avoids the payment of income tax, that many times 
is selling drugs on the street and getting an SSI check, where 
we are sponsoring literally with our tax dollars, subsidizing 
individuals who are paying no taxes.
    Remember this. If that drug dealer buys a car, he is going 
to pay the same tax as Mr. Armey will, or Mr. Archer will. 
Every final retail sale is taxed with provisions to protect 
those on the bottom, and with the Consumer Price Index being 
calculated each year and adjusted for a COLA increase for those 
at the top.
    So are we concerned about our seniors? We must be. We must 
be very careful.
    Second of all, we are concerned about those at the bottom 
end of the ladder. I have many of them. But why should I 
continue to have an underground economy that goes untaxed with 
the continuing complication of submitting any forms when we can 
do away with forms and truly simplify it and raise revenue from 
all transactions.
    That is the third playing field that I think is not being 
addressed by Congress and should be a salient point in the 
discussion.
    Chairman Archer. Mr. Armey, you are outnumbered there. You 
certainly deserve to have an opportunity to respond.
    Mr. Armey. Let me comment on both things.
    I know this Committee is going to seriously undertake the 
task of writing a new tax code and I applaud you for that. I 
think this Committee should try to write a national sales tax, 
or even try to write a national value-added tax. I think you 
ought to try.
    But in this process of doing that, I think you ought to 
take a hard scholarly look at border adjustability. It is a 
very complex and difficult subject fraught with a lot of 
misconception, almost mysterious at times, and you should have 
if you are going to try to sacrifice one of the what I think 
precious principles of tax law and engage in social engineering 
and income redistribution scheme called border adjustability, 
then I think you ought to have some very sober assessment as to 
whether or not it would work.
    Because border adjustability is about trying to 
redistribute income between Americans and foreigners, and 
trying to encourage Americans specifically to buy American-made 
products as opposed to foreign. Those are social engineering 
objectives.
    I think you will find when you study it thoroughly that it 
is ill advised and does not achieve the desired results.
    Now the question of the underground economy must also be 
understood. It is wrong to say that you will capture the 
underground economy with a sales tax and you will not do so 
with an income tax.
    In a world of income tax, a person who otherwise earns his 
income honestly pays income tax on his income and then buys 
cocaine from someone who earns his income dishonestly who does 
not in turn pay income tax on his ill-gotten gains through the 
peddling of cocaine.
    In a sales-tax world, a person who otherwise earns his 
income honestly does not pay sales tax on his purchase of 
cocaine and the person who receives the income dishonestly may 
in fact pay sales tax on his purchase of an automobile.
    But I can tell you, if the guy is smart enough to figure 
out how to acquire and sell cocaine and avoid taxes in that, he 
will figure out how to avoid paying his sales tax. Indeed, 
empirically speaking, we know as a matter of fact that every 
nation state in the world that has ever tried to implement a 
national sales tax has found the size of their underground 
economy has in fact grown.
    The most recent case is Canada where they found that the 
use of cash in the Canadian economy doubled within six months 
of their implementing a national sales tax. Because the fact of 
the matter is, a national sales tax does not capture the 
underground economy; it encourages it to grow larger.
    Now I too am concerned about the underground economy. There 
are two aspects of the underground economy. I think my flat tax 
addresses the one that breaks your heart the most.
    The first part of the underground economy, the one we like 
to talk about, is people dealing in illegal transactions--
contraband, dope dealers, bank robbers, people like that. Well 
obviously that is a question of criminal law not tax law.
    The second, and the one that breaks your heart, is the guy 
who looks at the current tax code--he is otherwise normally 
very honest in his dealings in life and would love to be a 
person who would fulfill all of his contract with America by 
saying, yes, I will voluntarily pay my taxes but the tax code 
is so unfair in the way it gives breaks to people other than 
myself that I have a right to give myself a break.
    It is so complex in terms of all the data points it must 
track, that they are never going to find me if I do give myself 
that tax break.
    And that person succumbs to the temptation to, while 
otherwise is almost perfectly honest in his life, cheat on his 
taxes because it is a corrupt system and administered in a 
nonfair way by mean-spirited people. And besides that, they are 
treating my brother-in-law different than they are treating me, 
so I have got a right to give myself a break.
    The flat tax ends that. The flat tax, you know I have a 
simple, decent, honest, fair tax code that is perfectly well 
understood not only by me but by my 8th grader, and it treats 
my brother-in-law exactly the same as it treats me so I have no 
excuse to cheat on such a fair system. And besides that, it has 
to track so few data points they would catch me if I did.
    And you will get rid of most of the underground economy, 
but you will have to take care of the drug dealers with another 
method.
    Chairman Archer. I have got one last question to ask for 
both of you, and then I have presumed too much on the time of 
the other Members.
    Mr. Armey, what percent rate on your flat tax is required 
to give us revenue neutrality, to raise the same amount of 
revenues we currently raise from the income tax?
    Mr. Armey. Let me say first of all, I appreciate that. I 
never strived for revenue neutrality when I wrote the flat tax. 
I wrote the flat tax in 1994, and I was perfectly content to 
get within $30 billion of total expenditures. That is based on 
my personal belief that the Federal Government is already too 
big and spends too much of our money and spends it too 
wastefully.
    So given the formula the formula that I worked out at the 
time and the size of the personal exemption that I chose to 
give to the family, I came up with 17 percent. That is 
something that would be wholly in the discretion of the 
Committee of course as you wrote the bill.
    I believe that if I went back in these surplus times and 
went through the scoring process to rewrite the flat tax, that 
I might come up with a different rate and it might be lower 
than 17 percent.
    It troubles me a little bit. As you know, you can read 
about the flat tax on my web site at flattax.house.com, or you 
can buy and read my book in which case we would both profit, or 
you can find out.
    There is a tendency on the part of people to believe that a 
flat tax must be 17 percent. I know the Canadians are talking 
about that and one or two other countries are talking about it. 
So we should never get ourselves fixed to a percentage as the 
necessary percentage.
    My own view is in these surplus times we could get the 
level of revenue neutrality we have found acceptable, given our 
other budgetary patterns and still be under 17 percent, but 
that would have to be something the Committee would have to 
work out.
    Chairman Archer. Well, Mr. Armey, that is all very 
interesting, but on that basis, Mr. Tauzin could say, well, we 
are only have a ten percent sales tax. We are going to 
arbitrarily pick that, and give a tax reduction to everybody.
    And do not bother us with trying to duplicate current 
revenues.
    But as this Committee begins to pursue alternatives to the 
current tax system, we must put them all, as you say, on a 
level playing field.
    Mr. Armey. Umm hmm.
    Chairman Archer. So we must know what the rate is on your 
proposal to duplicate current revenues, which is the level 
playing field on which we compare every proposal.
    Mr. Armey. I would be more than happy to have you apply 
that test with the apparatus of your joint tax committee and 
your scoring apparatus. When you mark up the flat income tax, I 
know you will apply that test, and you will come up with a 
rate. Whatever that rate is, it will be still welcomed by the 
American people.
    By the same token, should you decide to mark up a national 
sales tax, or a national value-added tax, again, this committee 
making that mark would have to determine what that rate would 
have to be.
    Chairman Archer. Well, it just so happens that the Joint 
Committee has done an updated analysis of your proposal, and 
the rate on that is somewhere around 26 percent to duplicate 
current revenues.
    If we went with a 17 percent rate, which I continue to 
still hear promoted by the advocates of the flat tax, we are 
going to run massive deficits and we will more than use up the 
amount of tax relief that is provided for in the budget that we 
are voting on tomorrow.
    Mr. Armey. Well, the first thing I would ask you, Mr. 
Chairman, is give me the joint tax committee's report, and I 
will, within a day or two, find out what their mistakes are. I 
do not believe they have evaluated my flat tax. We will take a 
look at it but I have not seen any scorekeeping on the flat tax 
that has ever come anywhere near that figure.
    Treasury, a few years ago, came out with a figure like 
that. Within a day-and-a-half, we showed them their mistakes 
and they retracted their study because in fact, under their 
study, they found out that they could get--when made the 
adjustment for the errors, they came back to 17 percent.
    Chairman Archer. Your proposal is in statutory language and 
it has been specifically been submitted to the Joint Committee.
    Mr. Armey. Well, I will have to go over their work.
    Chairman Archer. And the Joint Committee's estimates in the 
end, whether it is the AFT proposal, whether it is a Tauzin-
Traficant proposal, whether it is the USA proposal, will be 
judged based on the Joint Committee's estimates.
    Mr. Armey. No doubt about it.
    Chairman Archer. And I have debated with them for many, 
many years about their estimates on capital gains and a lot of 
other things and I have always lost.
    And whatever they say will be the criteria for what we do 
in this Committee. And the proponents of the flat tax have got 
to get honest with the American people, along with the 
proponents of every other proposal, and admit to a rate that 
will duplicate current revenues.
    And to make comparisons on rates that do not do that is not 
level playing field.
    Mr. Armey. Well, Mr. Chairman, let me just say I have not 
seen the joint tax committee's evaluation of it. I have not 
seen any evaluation like this from them or anyone else except 
the errant one that the Treasury Department retracted three or 
four years ago.
    I would be happy to look at it.
    The last thing that I want in arguing for a decent, honest, 
simple, neutral tax code is for me to make arguments that are 
not themselves honest.
    I reserve the right, when joint tax works, to look at that. 
It is possible they have not in fact scored my bill as I wrote 
it or think I wrote it, and if they point some error in the 
interpretation of the bill that causes such an aberration in 
the scoring, I would be happy to address that in a rewrite of 
the bill, as I am sure the Committee would be.
    But I do not think it is appropriate for you to suggest 
that I have not been honest on the bill based on some scoring 
made by the Joint Tax Committee that I have not seen.
    Chairman Archer. Well, the Treasury scoring is not what we 
abide by in the Congress, as you well know. So that needs not 
be referred to.
    What we do abide by is the Joint Tax Committee scoring, and 
they have never scored your proposal as being revenue neutral 
at 17 percent.
    Mr. Armey. I have never asked them to.
    Chairman Archer. From the beginning until today. And the 
argument in the past has been, no, we know it is not revenue 
neutral, we wanted to give tax relief to the American people.
    That is fine. But if we are going to compare on a level 
playing field, then we have got to have a percent that will 
duplicate current revenues. Then if want to give tax relief, we 
can make an adjustment.
    Mr. Armey. Mr. Chairman, I have never at any time since I 
first rewrote the flat tax in 1994 ever suggested it was my 
objective to be revenue neutral. I have always allowed that it 
would be the Committee's objective to do that, should they ever 
decide to mark it up.
    And I have always been more than willing to work with any 
agency or persons that wanted to try to score this code.
    If the Joint Tax has scored my proposal and come out with a 
conclusion that it would take 26 percent to get revenue 
neutral, I would like to look at that. I believe they have made 
a mistake.
    I think I have a right to challenge their scorekeeping. You 
certainly exercise that right. But I do not appreciate having 
it suggested in here that I have been out before America being 
dishonest about this proposal, especially in light of the fact 
that I have not even seen this scorekeeping and have not had a 
chance to evaluate it.
    Four years ago, when the Treasury Department made these 
pronouncements, in a day-and-a-half, we had them retracting 
their study because they were wrong. And I fully accept the 
possibility that the Joint Tax Committee has as much chance to 
be wrong as I do, but I certainly will not have my integrity 
impugned on the basis of a study I have not seen.
    Chairman Archer. Let me say to my friend, I am not 
impugning your integrity because I think you have honestly said 
that the 17 percent is short and that you want to give a tax 
relief to the American people.
    But if we are going to compare alternative plans before 
this Committee, then we cannot have every proponent say, oh, 
well I intended to give tax relief.
    We have got to have a rate that compares on a level playing 
field. And the ultimate determinator of that will be the Joint 
Tax Committee, not the Treasury. And irrespective of what 
arguments any of us might have with them, they will be the 
supreme court, as they always are.
    And we must follow that and go with it.
    Mr. Armey. I think, Mr. Chairman, if you do not mind, we 
find ourselves in perfect agreement. I am offering you a form, 
a structure within which to write the tax code. It will be 
scored by Joint Taxes, as will everybody else's.
    And I am going back to where I began this conversation, 
when this Committee sits down and goes about the business of 
writing a new tax code, you will, even if you try to write a 
national sales tax or a national value-added tax, quickly come 
to the conclusion that your time is better spent forsaking that 
impossible task and writing the flat tax.
    Chairman Archer. Mr. Tauzin, what percent on your sales tax 
will duplicate current revenues?
    Mr. Tauzin. Here is how we calculate it, Mr. Chairman?
    Chairman Archer. Do you have a Joint Committee estimate 
yet?
    Mr. Tauzin. I do not think we do. But it is a very simple 
formula. I will describe it to you, and I would do what Mr. 
Armey has suggested it, submit it to the Joint Tax Committee.
    Chairman Archer. Yes, I think that would be very helpful.
    Mr. Tauzin. Yes. I think they have done some work on the 
Fair Tax you heard yesterday.
    Ours does not repeal all the payroll taxes, nor does it 
contain an extra rebate, so it will differ dramatically from 
any scoring you already have on the Fair Tax.
    Let me tell you how we came to it.
    We took the total amount of taxes we repealed, the income 
tax, the gift tax, inheritance taxes, certain amount of excise 
taxes, we added to it the commissions that would be paid to the 
state and the retailers for collecting our tax, we divided that 
total into the total consumption as reported by the Department 
of Commerce, and we came up with a percentage.
    Pretty simple formula. The percentage you come up with, if 
you do that work, will be 12.9 percent, 12.9 percent national 
retail sales tax would duplicate the income lost from all the 
taxes we repealed.
    We did not stop there. Because our plan also repeals the 
payroll savings tax on all income earned under poverty.
    We took that amount of taxes, divided that into the amount 
of total consumption, and you get a two percent rate. That is 
the amount of sales tax it would take to compensate Social 
Security, Medicare for the loss of payroll taxes collected on 
all income under poverty.
    That two percent was added to the 12.9 percent to arrive at 
our 15 percent national rate. That is the rate that according 
to this simple math, replicates the amount of income that would 
be produced from the following totals.
    The income tax repeal on individuals and corporations, from 
the gift taxes we repealed, from the death taxes we repealed, 
from the commissions we pay to the states, and for the payroll 
taxes we repeal under the poverty line.
    Add up all those totals, divide it into the total 
consumption as reported by the Department of Commerce, and you 
will get a little less than a 15 percent rate.
    Chairman Archer. I would appreciate it if you would get a 
copy of your proposal to me so that I can get it scored by the 
Joint Tax Committee.
    Mr. Tauzin. Count on it, Mr. Chairman. We will do that 
immediately.
    Chairman Archer. And then just finally, before I yield to 
other members, Mr. Armey, does your proposal repeal the death 
tax too?
    Mr. Armey. Yes, it does. It ends all forms of double 
taxation.
    Chairman Archer. Okay, thank you.
    Okay, Mr. Doggett.
    Mr. Doggett. Thank you very much.
    Mr. Armey, if I understand correctly, despite your obvious 
affection for Mr. Archer and Mr. Tauzin and Mr. Linder, you are 
unalterably opposed to their proposal for a national sales tax.
    As you told Fox News on Sunday, ``it does not work and 
furthermore it is regressive and it inevitably adds to a tax 
code that is equally as complex as today's income tax.''
    Does that remain your opinion?
    Mr. Armey. My opinion is that, first of all, the current 
tax code must be forsaken, we have got to get rid of it, get 
behind it. The best way to do that, the most effective way to 
do that is the flat tax. It is the only proposal I know of that 
can be written, can be enacted, and can be complied with by the 
taxpayers.
    Mr. Doggett. But I have accurately quoted your interview 
with Fox. And that remains your position.
    You think that their idea is a very bad idea that this 
Congress should reject?
    Mr. Armey. I think their idea is a much better idea than 
the current tax code as we know it. I believe that in the 
effort to actually sitting down, writing it out, enacting it, 
that you will find it is an impossible task.
    Mr. Doggett. Thank you.
    And there was some reference to a Joint Tax Committee 
analysis of your proposal. The only one I have seen, Mr. 
Chairman, is the one yesterday that said that this sales tax 
would have to be at a 59 percent level.
    Is there one now available analyzing this flat tax too?
    Chairman Archer. I am told that three is and I am 
requesting a copy of it in writing which I will be happy to.
    Mr. Tauzin. Mr. Doggett?
    Mr. Doggett. Thanks. I am going to get to you in just one 
minute because I have got some questions I want to ask you too, 
Billy.
    And as far as you mentioned a markup, has a markup been set 
on this flat tax yet. Mr. Armey was referencing a flat tax 
markup.
    Chairman Archer. I am not sure to what he refers.
    Mr. Doggett. Okay. Well, let me move on to something else 
then. Am I correct in understanding, Mr. Armey, that you remain 
opposed to requiring the Section 527 political bank accounts, 
like Mr. DeLay has set up to disclose their contributors and 
expenditures on the same basis that all of us, as federal 
candidates and political action committees already do?
    Mr. Armey. No. I have never said I am opposed to that. I 
think I would be happy to have that kind of disclosure and for 
the 527, for the labor unions, for any number of other 
organizations that are out there now mucking around in our 
world with relative anonymity spending other people's money.
    What I am opposed to is just taking part of the issue to 
the floor without this Committee exercising its jurisdiction on 
it.
    Mr. Doggett. As far as 527 political organizations, whether 
the money comes directly out of a labor union treasury from the 
Chinese government, from a corporate treasury, or from anyone 
else, do you think that this problem of them taking unlimited 
amounts of money and not telling what the source was is a 
problem that requires prompt action by this Congress and a 
floor vote?
    Mr. Armey. I have mixed emotions about that. For the most 
part, if the 527 complies with the performance requirements of 
such an establishment, that is, does what is legally done under 
the law given their charter, I am not sure that I have a need 
to know where they receive their resources.
    If in fact though, we want to make that disclosure 
requirement, I would be happy to live with it, as long as it 
was evenly imposed on all such organizations.
    Mr. Doggett. But basically you do not think the fact that 
they hide their contributors is a problem that this Congress 
needs to deal with soon?
    Mr. Armey. From my point of view, I do not care who is 
paying your bills if you are minding your manners.
    Mr. Doggett. Okay. And with reference to another issue that 
you have expressed an opinion on, do I understand it is your 
view that instead of the House acting promptly to address the 
problem of abusive corporate tax shelters, as recommended by 
the American Bar Association Tax Section and the Treasury 
Department, that it remains your view that this Congress should 
instead encourage corporate tax, I believe in your words, 
``avoidance is necessary and legal and legitimate.''
    Mr. Armey. Tax avoidance is legal; tax evasion is illegal. 
This government writes the laws. We ask the American people, 
whether through individual or corporate behavior, to comply 
with the laws. If they comply with the laws that we write, we 
have no complaint about them.
    If we want to rewrite the law, we should do so. That is why 
we have a Ways and Means Committee, that is why we have a 
Senate Finance Committee, and it is our prerogative and our 
duty to write the law.
    Mr. Doggett. But, again,----
    Mr. Armey. But as we write the law, we should never 
exercise any prerogative to complain about the legal compliance 
with the law we write.
    Mr. Doggett. In terms of your priorities, you do not see 
abuse of corporate tax shelters as something this House needs 
to move on promptly to address?
    Mr. Armey. I believe that is addressed. Chairman Archer has 
addressed that repeatedly and recurringly and consistently 
throughout all his efforts----
    Mr. Doggett. You see nothing further that needs to be done 
in----
    Mr. Armey. I did not say that. I am saying that I am not on 
this Committee and I am not an expert of it. I have a Chairman 
though that is distinguished in the respect that he commands 
across the nation is unparalleled in his understanding of the 
Tax Code, and I am more than happy to work with him and this 
Committee as they move forward.
    Mr. Doggett. As far as tax avoidance, does your proposal 
that you are advancing here in front of the Committee, repeal 
those sections of the Internal Revenue Code that currently 
prohibit tax avoidance?
    Mr. Armey. Tax avoidance is legal, is a legal activity. 
Anybody has a right to minimize their tax burden within the 
existence of the law. This accounting 101. Everybody knows 
that.
    Tax evasion is illegal activity. I do not believe that tax 
evasion should be tolerated, and tax avoidance is a basic right 
of every taxpayer.
    Mr. Doggett. You indicate that your concern in your written 
testimony with the many pages and the millions of words that 
are in the Tax Code.
    Can you advise us of how many hundreds or thousands of 
pages have been added to the Tax Code during the time you have 
been majority leader?
    Mr. Armey. I have no idea, but I can tell you it is 
impossible to do much of anything with this existing code 
except to abolish the separate parts like we did with the 
marriage penalty or like we did with the earnings limitation, 
cut it out. It is like cancer. You cut out the lump completely 
and throw it away.
    But this is one of the problems with the existing Tax Code. 
You cannot either lower it or raise it without making it more 
complex.
    Mr. Doggett. Is the number of pages or sections or pounds 
or words that have been added to the Tax Code during the time 
you have been majority leader something you could advise the 
Committee on?
    Mr. Armey. I do not know the answer to that. It is roughly 
the same as the number of pages that have been increased since 
you have been on this Committee.
    Mr. Doggett. Well, I have only been on it for about a year-
and-a-half. But in the last six years, you have added much more 
than that, have not you?
    Mr. Armey. I have no idea.
    Mr. Doggett. No idea?
    Mr. Armey. I do not count such things.
    Mr. Doggett. Mr. Tauzin, let me see if I can get one idea 
from you, and I only have one question for him, Mr. Chairman.
    Do I understand that under your proposal, that you would 
view as a significant federal revenue source, particularly in 
future years, electronic commerce?
    Mr. Tauzin. No, we have not addressed the issue of 
electronic commerce.
    Mr. Doggett. Well, you are going to tax, as a federal 
revenue source, all the sales over electronic commerce, are you 
not?
    Mr. Tauzin. No, we have not addressed that issue at all in 
the plan. The plan was written before electronic commerce even 
began.
    If you will let me answer.
    Mr. Doggett. You cited some testimony and then you can 
elaborate on that. Your written testimony----
    Mr. Tauzin. Well, I am trying to answer you, Mr. Doggett, 
give me the courtesy of an answer.
    Mr. Doggett. Sure, if you would, sir. Your written 
testimony indicates you do not want to exempt anything, that it 
is important that it be a broad-based tax. So if you would tell 
us if you plan to or to not impose a sales tax on electronic 
commerce?
    Mr. Tauzin. Let me try it again. Let me try it again.
    When the Joint Taxation Committee reviewed the Fair Tax 
plan you heard yesterday, they stated very clearly that the 
estimate did not assume that retail Internet sales would be 
subject.
    We have not made an assumption one way or the other because 
Internet retail sales now amount to less than two percent and 
80 percent of those are in services that are not subject to 
sales taxes today.
    So let me make the point to you. The plan we wrote was 
written to the advent of the beginning of this electronic 
commerce technology phenomenon.
    If the decision of this Congress is, at any point, to 
subject Internet sales, goods or services, to taxation by any 
jurisdiction, that is a decision we will make separate and 
apart from the decision we make on changing the income tax code 
to a consumption tax code.
    We did not assume Internet commerce sales in our numbers. 
They were not in our 15 percent projection. If Internet 
commerce becomes a major part, as it certainly will be, we will 
have to address that as a separate issue as written----
    Mr. Traficant. Will the gentleman yield.
    Mr. Doggett. Mr. Tauzin, as written, and as presented to 
the Committee today, your bill contains no exemption for 
Internet commerce sales, does it?
    Mr. Tauzin. Let me say it again. The bill was written prior 
to the advent of Internet sales and sales taxes on the Internet 
even becoming an issue.
    Let me make a point to you. If the decision of our 
Congress, at some point, was to reject a recommendation of the 
Commission that we created, that is, recommended no taxes on 
Internet, if we reverse that decision and decided that the 
states and localities did have a right to collect the sales tax 
on those, or if we wanted to impose the national sales tax on 
those numbers, those numbers would then be calculated----
    Mr. Doggett. I appreciate that. But you understand, of 
course, since you referred to the Joint Tax Committee, that 
when scoring the Fair Tax, they included Internet sales and 
said it would be substantially higher than 59 percent sales tax 
if you did not include Internet sales.
    And if we passed your bill as you presented it today, it 
would impose a sales tax on every bit of E-commerce in this 
country today.
    Mr. Tauzin. Let me say it again. The assumptions we made in 
our bill were based upon the current economy. The current 
economy without the advent of substantial----
    Mr. Doggett. In what year?
    Mr. Tauzin. I am sorry?
    Mr. Doggett. In what year?
    Mr. Tauzin. We started the bill in 1996, I think it was.
    Mr. Doggett. We had pretty good E-commerce going down our 
way in 1996.
    Mr. Tauzin. Yes. No. You did not have any E-commerce?No, 
sir. In fact, a browser was presented to the American public in 
1995. If you had a lot of E-commerce going in 1996, Texas was 
substantially ahead of the world.
    Mr. Doggett. It usually is.
    Mr. Tauzin. It usually is. And guess what Texas did, sir? 
Texas does not have any income tax, it has a sales tax. And 
when Mr. Armey talking about there being no great country in 
the world that has ever gotten rid of the income taxes and 
adopted a sales tax and done well with it, he neglected to say 
that the great country of Texas has made that decision and has 
done fairly well with it.
    In fact, the states that have gotten rid of their income 
taxes and have gone to sales taxes do substantially better 
economically than the states who either have income taxes or a 
combination of the two. Texas is a good example why we ought to 
do this for the country.
    Why does it make sense to locate in a state which has an 
income tax that is going to add to the cost of doing business, 
when you can locate in the great State of Texas and pay no 
income taxes, and simply have others pay the taxes when they 
buy your products?
    Texas understands that.
    Mr. Doggett, you ought to understand it too, sir.
    Chairman Archer. That is a good place to terminate this.
    Mr. Traficant. Mr. Chairman, I want to make one quick 
response, if I could, to my fellow Democrat.
    Our bill would repeal corporate income taxes, shelters 
would not be a big problem.
    Second of all, if this Committee would ever decide to tax 
the Internet, it would raise more revenue with our bill.
    And I think that the numbers you are throwing around are 
very arbitrary, and I do not think they come from sound, 
pragmatic information.
    Now let me just close by saying this. You had about ten 
minutes. One thing I think is important in this process, 
whether you are Democrat or Republican. We are trying to help 
the American people. And one thing we do not want to do is 
scare the American people by pushing partisan concepts.
    And I would just like to say that I believe that our plan, 
at 15 percent, is tentative. And I have talked to the Chairman 
myself. I believe that it is something we can work out and make 
manageable at a figure much lower than a flat income tax.
    Chairman Archer. Let me speak just briefly to what my 
colleague, Mr. Doggett, alluded to which appeared to me to be 
an effort to say that Republicans have complicated the Tax 
Code.
    Now maybe I am misreading the inquiry.
    First, the number of pages that we have to comply with and 
the number of words that we have to comply with is primarily 
being churned out by regulations out of the Treasury and the 
IRS. And they are spewing out by the hundreds of thousands.
    The number of additional pages to the Tax Code that have 
occurred in the last six years, I regret. But the gentleman 
from Texas realizes that the only tax bill that has been passed 
was the one in 1997 that was negotiated with the Administration 
which insisted on provisions that I could not prevent that 
thoroughly complicated the Code and required many, many extra 
pages.
    Now you cannot have it both ways. On the one hand, you 
cannot say the Administration is responsible for the wonderful 
economy, but the Congress is responsible for extra pages in the 
Tax Code. That does not wash.
    And so let the record be very clear about that.
    Mr. English?
    Mr. English. Thank you, Mr. Chairman.
    And Mr. Chairman, I want to compliment your performance 
chairing this hearing in that you have given a great deal of 
time for a variety of views to be heard and you have not 
strictly honored the time limits.
    I am going to keep my remarks brief. I want to compliment 
these two gentlemen for the exceptional job they have done and 
the majority leader has done of framing the issues of tax 
reform.
    You were not present earlier today when we heard testimony 
with regard to my tax proposal which has some similarities to 
yours.
    And on the business side, there are some clear similarities 
that I would like you to comment on.
    Mr. J.D. Foster from the Tax Foundation described the value 
of border adjustability very clearly.
    And Mr. Tauzin, you and Mr. Traficant have also made a 
strong case for it here.
    Mr. Foster talked about, in effect, importing the tax base 
of our competitor countries when exports are taxed.
    Mr. Hufbauer, on the second panel, talked about how a 
border adjustable tax eliminates the tax motive for runaway 
plants.
    I know, Mr. Traficant, that has been the source of a lot of 
your interest in some of these issues.
    I wonder if either of you could comment on the effect that 
your plan would have on the cost of capital for businesses 
trying to compete in the international marketplace?
    Mr. Tauzin. Well, let me turn your attention, Mr. English, 
to the study done by Dale Yargenson at Harvard University.
    Mr. English. I am familiar with it.
    Mr. Tauzin. He indicates in there that, in the long term, 
in the long run, producer prices in America would fall by 
almost 25 percent relative to prices under an income tax code.
    Now, when producer prices fall and you are shifting away 
from a tax code that penalizes savings and investment to one 
that rewards savings and investment, and only taxes 
consumption, the combination of consumer prices falling, which 
means lower cost to produce products, and the combination of an 
incentive for savings and investments, because there are no 
taxes on interest earned or investment portfolios or capital 
gains any more, both combined to increase savings rates and to 
lower the cost of capital to those people who want to invest 
and dramatically increase manufacturing opportunities in the 
country.
    In fact, his conclusion is, production would increase in 
all industries and the rise of production of investment goods 
would be much more dramatic.
    The combination would be, according to Dale Yargenson, 
absolutely phenomenal.
    Mr. Traficant. I would like to just quickly respond 
thereto, Mr. English, and appreciate all your efforts that you 
have done on this.
    Mr. English. And we appreciate yours, sir.
    Mr. Traficant. I think that our bill will send a clear 
message to the world that if you are going to play in the 
biggest marketplace, the flea market of the world, it might be 
good to put some roots in there, rather than look at 15 or 16 
or 17 percent when the Chairman is done, ultimately looking at 
the numbers and the prices.
    And that Toyota may not be shipped into America, it is 
going to be built in America because they are going to want to 
take that competitive advantage away that American firm is 
going to have.
    When we drop the prices, the capital and the use of capital 
will raise. When you are not taxing savings and investment, 
there is going to be more savings, thus there is going to be 
more capital, thus we are going to have a downward spiral on 
inflation with a built-in hedge against inflation which will 
provide more capital the normal way, through commercial loans 
that are caused by savings, not by borrowing and foreign debt.
    Mr. English. That make excellent sense.
    Let me also quickly, gentlemen, ask you one last time so we 
can clarify.
    Neither of you are here advocating Internet taxation, are 
you?
    Mr. Tauzin. Let me say that again. No, we have not.
    Mr. English. That is all you need to say.
    Mr. Tauzin. No, we have not.
    I do want to correct the record that the Tax Committee 
report that the gentleman referred to on the Fair Tax, that is 
not our plan. That is a plan that was presented yesterday did 
make an assumption that Internet sales taxes would apply to the 
Internet.
    We made no such assumption.
    We leave it to the good sense of your Committee in drafting 
a national sales tax plan along with the other members of 
Congress who are going to have to make that difficult decision 
to decide it.
    But if we decide it as a Congress, that goods and services 
sold on the Internet were going to unfairly compromise in 
competitive terms, goods and services sold within our states 
and that are currently taxed, if we wanted to rationalize a 
system, you can do it within a national sales tax context a lot 
easier than you can trying to let 1700 jurisdictions tax the 
Internet.
    So while we make no judgment on that, Phil, we do not 
recommend it. We make the point that at least if you want to 
make a decision on that, the national sales tax is a place 
where you can reasonably and rationally make those decisions.
    Mr. Traficant. One thing I would just like to add briefly 
is if that ever did happen, and we were to tax that Internet 
sale activity, it would be very hard to avoid the tax and to 
have an underground economy, would not it?
    So I think that is a decision your Chairman and your 
Committee makes, and our bill would be, in my opinion, an 
enhancer for revenue, but we do not have it as a part of our 
construct.
    Mr. English. Mr. Chairman, I have plenty of other 
questions, but I think out of courtesy, I will leave them to 
another time. Thank you.
    Chairman Archer. I overlooked, in my preliminary comments, 
a compliment to our colleague, Mr. Traficant, who was kind 
enough to compliment me on the IRS Reform Act, and without his 
persevering efforts, I do not believe we would have shifted the 
burden of proof, because he drove that issue or the levying on 
someone's homestead without a court order.
    And those two vital provisions in that reform were driven 
by Congressman Traficant, and I was pleased to be able to be a 
vehicle to carry his ideas into law.
    Mr. Traficant. Thank you, Mr. Chairman.
    Those were some of those additional pages too, were not 
they?
    Chairman Archer. Yes.
    Mr. Traficant. Those very good things.
    Chairman Archer. Yes. Yes.
    Mr. Collins?
    Mr. Collins. Thank you, Mr. Chairman.
    You know, Mr. Chairman, I think it is interesting and good 
that we have the dialogue among members especially as we have 
seen here this afternoon. I have enjoyed listening to three 
Texans in the dialogue. I have always heard that things are big 
in Texas. Some people produce big ideas, some people produce 
big talk.
    You know, I came here in the elections of '92. I remember 
the first yea here, the approach to the budget and deficit 
reduction was a large tax increase. I do not how many pages it 
added to the Tax Code, but I do know it some somewhere around 
$250 billion over five years, and it taxed additional benefits 
on Social Security. It took the cap off the Medicare earnings 
for tax. It added an additional marginal rate. It also added a 
surtax in retroactive taxation for the first time in history 
and a 4.3 percent fuel tax increase for deficit reduction. That 
was the approach of that budget of 1993.
    I also know that in the beginning of 1995, when a new 
majority was formed in this town by the people across this 
country, that the CBO, the Congressional Budget Office, 
reported that based on the way the government was running, 
based on the previous majority, the deficits over the next ten 
years from that date would be somewhere around $3 trillion 
negative cash flow.
    Spending was wild. It was about as wild as the approach to 
the '93 tax reform and budget.
    I also know that the only tax relief that the American 
people have seen was in 1997 and then our seniors last week 
with the signing of the earnings limit repeal.
    But I do know too that at the beginning of 1999, the 
Congressional Budget Office came back to the Congress and said, 
look, based on the way the government is now operating, the 
approach that we have taken to the budget process and to 
attempted taxation relief, a strong economy that has made by 
the people of this country that the projections were over the 
next ten years, we would have $3 trillion positive cash flow. 
Now a lot of people use the word ``surplus,'' but it is a 
positive cash flow.
    And even came back the first of this year and said there 
would be another trillion, a $4 trillion positive cash flow.
    I think that is quite substantial in comparison to any type 
of regulations the IRS may have added to the pages of the Tax 
Codes.
    You know, I hear a lot and receive a lot of E-mail about 
the proposed Internet tax.
    I think one of the reasons the people get up in arms so 
about a proposed Internet tax is because they do not want an 
additional tax. It is not that they are not looking for a fair 
tax, they just do not want an additional tax. They are already 
taxed too much as it is.
    And I have always felt like that excessive taxation comes 
from excessive spending. We still have some spending that we 
need to address, even as the majority.
    Mr. Chairman, I appreciate the gentlemen that have been 
here to offer their proposals on a flat income tax and a flat 
national sales tax.
    And to quote a good friend of mine from my district that 
used to serve in the Congress of the United States, at home I 
have friends for the flat income tax and I have friends for the 
flat sales tax. And, Mr. Chairman, I am for my friends.
    We thank you for this dialogue, we thank you for this 
hearing, and we appreciate our colleagues coming with their 
comments and their proposals.
    Thank you, Mr. Chairman.
    Chairman Archer. Thank you, Mr. Collins.
    Mr. Becerra?
    Mr. Becerra. Thank you, Mr. Chairman. And let me thank my 
friend, Mr. Tauzin, for being such a sturdy character and being 
able to sit there and take all the questions. We thank you for 
your patience.
    Mr. Tauzin. Thank you, sir.
    Mr. Becerra. Let me go back to the Internet tax because I 
think it is an important point to make. And I think you were 
trying to be thoughtful in your response to that. That at the 
time you were proposing this, we did not know the impact that 
the Internet would have and the growth of sales on the 
Internet.
    I think everyone agrees that it is going to continue to 
grow. And right now, Congress has agreed on a moratorium on 
taking any action with regard to taxing the Internet.
    In your written statement, in your testimony, you do say 
exempting entire categories of goods or services would 
inevitably lead to an administrative nightmare of definitions.
    If now, if what you are saying is that because we were 
expecting the Internet to become such a major player in retail 
sales, you did not take it into account, can you reconcile that 
with your statement that if you start having exemptions of 
categories of goods or services, that this will inevitably lead 
to an administrative nightmare of definitions.
    How do you reconcile that now?
    Mr. Tauzin. Well let me explain to you what we meant by 
that, what we mean by that.
    The concern was that there are categories of purchases, 
like food and drugs, that might or should be subject to an 
exemption. Because those are items that are used by all of us 
regardless of our income and because those items tend to be 
necessities in life that the people at the bottom there has 
been a disproportionate share of their income in order to 
purchase.
    Many states give exemptions for food and drugs and other 
items. All of those states have experienced bureaucratic 
nightmares with their exemption program. Is Cheetos a food or 
an entertainment? Who knows what it is?
    So they have come with some bizarre descriptions of what is 
a food that is exempt and what is not. And we have tried to 
avoid that by simply providing the 15 percent rebate into a 
worker's salary for the amount of money that otherwise would 
have gone into the Social Security Medicare Trust Fund from 
payroll taxes.
    We make that up with a two percent add-on to the retail 
sales tax.
    In effect, we found a simple way of compensating people at 
the bottom for the taxes they would pay on necessities like 
food and drugs.
    Mr. Becerra. Now, let me keep you focused at this stage, 
and I am not asking you this is what you would do in your 
legislation. But at this stage, now knowing what you know about 
the Internet----
    Mr. Tauzin. Let's talk about it.
    Mr. Becerra.--yeah, what is your sense right now. How would 
you treat the Internet in your legislation?
    Would it be taxed so that there are no exemptions, or at 
this stage, are you saying that maybe there is a need for an 
exemption for Internet retail sales.
    Mr. Tauzin. Let's talk about it.
    First of all, understand that one of the reasons for a 
national sales tax that I think is superior to a flat income 
tax is the border adjustability question. The problem is that 
American workers are penalized when they buy their own products 
and rewarded when they buy foreign products.
    If you want to keep to that border adjustability you have 
to at least make room in your plan for the notion that you 
cannot let American consumers buy foreign goods over the 
Internet and escape the border adjustable tax.
    So you probably have to take that into the consideration in 
the context of a formal plan that we would eventually adopt 
taking into account Internet sales.
    Mr. Becerra. But then how would you account for the 
difference between prescription drugs that are produced here in 
America versus abroad? Would you now make an exemption for 
seniors on Medicare who are on fixed income who have to 
purchase drugs to now have the exempted from the tax, or will 
they have to pay a tax?
    Mr. Tauzin. I do not think that is the issue because our 
plan provides a rebate whether you buy a foreign drug or a 
domestic drug. You still get the 15 percent rebate, and we are 
still producing products in America, according to the Harvard 
study, at 25 percent less cost than we are producing them 
today.
    In effect, we are producing products in America that cost 
less and you have more money to buy them with, so you still 
come out better.
    The issue you raise, though, which is a real one, is if you 
go to a national sales tax base, in order to achieve border 
adjustability, you must apply the tax to foreign imported 
product, then must you simultaneously apply it to a domestic 
product that is purchased over the Internet as opposed to 
purchased in a brick and mortar store?
    And the answer is, you may well have to. You may end up 
with that conclusion. Because to exempt it might create a 
problem with WTO.
    Mr. Becerra. So what I hear you saying is. Probably look at 
an exemption so that you can compete with foreign sales, but 
not an exemption if it is a retail sale over the Internet 
domestically?
    Mr. Tauzin. No, what I am saying is I think you have to 
apply the same rule to both.
    Mr. Becerra. But then you would exempt domestic sales as 
well?
    Mr. Tauzin. If you ended up deciding you wanted to exempt 
all domestic sales on the Internet from the national sales tax, 
I think you would have to exempt the foreign imported purchases 
as well.
    Therefore, I think you would probably have to do what the 
Joint Tax Commission did. You would probably have to assume 
that they are all either subject to taxation or not.
    And that is, as I said, is a decision we are going to 
collectively have to make.
    Mr. Becerra. But then what you are going to end up with is 
a higher tax rate on your sales tax because, as the Joint Tax 
Committee has said, that with the AFT proposal, which is 
similar to yours, as a consumption tax, they assume that the 
Internet retail sales will be taxed, and if they are not, that 
means the tax rate you would have to impose on sales would have 
to be even higher.
    So you are going to have to impose a higher rate which is a 
higher rate for that drug purchase by that senior for those 
prescription drugs or for funeral services or for medical 
services.
    If I go have a surgery, a lifesaving surgery, I will have 
to pay taxes on that, that someone who has got the good fortune 
to be able to purchase on the Internet will have those 
particular purchases exempted from the tax.
    Mr. Tauzin. That is my point. I think you either have to 
come to the conclusion that you exempt them all, in which case 
you have a reduction in income not just to the federal system, 
but to all the state and local jurisdictions.
    You have to come to a conclusion that you have to 
rationalize the tax collection across the board. I think we end 
up, at some point, deciding the latter, but that is a decision 
we all have to make.
    If you do exempt them across the board, of course you need 
higher rates on that which is not exempted. That is why we 
start with the proposition that you ought to at least start 
with the notion that the fewer exemptions the better, because 
that applies a uniform treatment to all parties in the 
marketplace.
    And secondly, that you ought to keep the rate as low as 
possible so that you spread the burden across the spectrum of 
consumers. Always keep in mind that we protect those at the 
bottom.
    And I appreciate your reminding me of that because my 
friend from Texas asked Mr. Armey to reiterate his quote on the 
news show this weekend.
    I heard him this weekend, and I almost called him up 
because he is never said that in any of our debates, because he 
knows better than to say that the plan we have presented is a 
regressive tax plan.
    You can have a sales tax that is regressive if you do not 
take care of people under poverty. But we do. It is not 
regressive.
    You know what is regressive? What is regressive is an 
income tax code that adds 25 percent to the cost of every drug, 
every piece of bread, every bottle of milk that a family buys 
to take care of themselves. That is what goes on today.
    Mr. Becerra. And that is a notion that ultimately, if we 
were to move towards a different system, would be tested 
because it still stands to be seen if rates, prices on goods or 
services would actually go down.
    Mr. Tauzin. Let's talk about that for a second.
    Mr. Becerra. Well, I know I am running out of time.
    Mr. Tauzin. I think we got time.
    Mr. Becerra. All right, but before we go there, let me ask 
you this.
    When do you think you will have some sense about what you 
will do when your legislation with regard to Internet retail 
sales?
    Mr. Tauzin. Well, first of all, I would not do anything in 
the legislation to make that decision until we collectively 
make it as a Congress.
    You would have to decide whether, if you were going to 
national sales tax, whether you wanted higher rates on the 
goods you do not exempt in order to exempt goods on the 
Internet.
    I do not think you would make that decision. I think we 
would end up deciding to cover them all equally at some point, 
but that would be a decision we would make jointly.
    Let me mention, let me answer the question you asked about 
whether prices would fall. The answer is at your local Wal-Mart 
today. Wal-Mart and K-Mart compete bitterly right now for your 
and my dollars.
    I understand they are operating on extremely small margins. 
And if it was not a competitive marketplace, they could 
probably raise their prices 25 percent, and you and I would 
have to pay it if the only place we could go is to one or the 
other.
    But because we have a competitive marketplace, they have to 
operate on small margins. They cannot gouge us. Competition 
does that.
    If Wal-Mart all of a sudden tomorrow, because we repealed 
the Income Tax Code, is now able to buy goods for substantially 
less than they did last week, and they try to sell them to us 
at the same price as they did last week, they will find out 
that K-mart is taking their business away.
    Mr. Becerra. But how are they purchasing them for less if 
they are going to have to pay to purchase the goods that they 
are going to sell are taxed?
    Mr. Tauzin. Ah, but they do not. Read the bill. The bill is 
only a retail sales tax. There is no tax on the wholesale, 
there is no tax on the purchase of raw materials.
    Mr. Becerra. Where is the savings on the goods that was 
produced?
    Mr. Tauzin. I am sorry?
    Mr. Becerra. Where is the saving on the good that is 
produced?
    Mr. Tauzin. Here is where it comes from. In an income tax 
world, even a flat income tax world, the two professors who 
devised Mr. Armey's plan, Dr. Holland Rebushka have admitted 
this I think in testimony to this Committee.
    When you apply a tax on the earnings of individuals and the 
earnings of corporations, you are effecting applying a VAT tax. 
You are taxing the value added to the product as it goes 
through the various stages of production.
    At the very end, the consumer pays it all. It all ends up 
in the price of the finished product. And you and I pay that 
tax at the end.
    Mr. Becerra. Right. But you are talking about a wholesale 
product that has not gone through that whole----
    Mr. Tauzin. But this is my point to you. If you repeal 
income taxes, and you only apply the tax in our plan at the 
very finished product retail end, there are no taxes collected 
along the manufacturing process.
    For example, the farmer does not pay a tax on the purchase 
of seed and fertilizer because that is a tax for the purpose of 
producing a product. There is no tax on those things under our 
plan.
    There is no tax on the purchase of the tractor designed for 
business or the rental for office space. The tax does not apply 
to the miller, it does not apply to the baker, it does not 
apply to the wholesaler. The tax is only collected, under our 
plan, at the very end of the retail point of purchase.
    Mr. Becerra. Well, let's take food.
    Mr. Tauzin. Okay.
    Mr. Becerra. Anything grown in a field that is picked. Say 
there is some----
    Mr. Tauzin. Let's take wheat.
    Mr. Becerra. Wheat, or any kind of crop. There are only so 
many taxes that will be charged and that is only a certain 
percentage. In the case of particular states, whatever it might 
be, whatever the sales tax might be in that process.
    How do you get to the point where you are reducing the 
price by the 30 or so percent----
    Mr. Tauzin. Twenty-five percent.
    Mr. Becerra. Twenty-five percent. You are ultimately still 
going to have a price for that product which you are expecting 
to be able to lower as a result of the elimination of income 
taxes along the stream are all these various taxes.
    But ultimately you are talking a lot about being able to 
reduce wages to make up a lot of the difference since employees 
are no longer paying income taxes. You are assuming you will be 
able to reduce wages of employees to reduce the cost of 
employers in providing a particular good or service.
    Mr. Tauzin. No, we are not. And that is what--you have got 
to look at Dale Yargenson's study to see that. He does not 
calculate a loss, a reduction in the wages. In fact, under our 
plan, the wages go up by 7.5 percent.
    Because you not only get your total wage, you also get the 
7.5 percent your employer was formerly sending to the payroll 
system.
    Mr. Becerra. I thought you kept the payroll system? I 
thought you kept the payroll tax?
    Mr. Tauzin. Pardon me?
    Mr. Becerra. I thought you kept the payroll tax?
    Mr. Tauzin. You keep it above the poverty line. We only 
repeal it below the poverty line. So if all income earned up to 
the poverty line, the worker gets his full paycheck plus that 
7.5 percent his employer was sending in.
    See, you have got a lot more money now to go buy your bread 
and your milk and your drugs.
    In addition, because the businesses will no longer be 
paying taxes on the income earned on the raw materials, the 
wheat, eventually the flour, eventually the bread, eventually 
the packaged bed products, eventually the donuts at Krispy 
Kreme, wherever you are going, because none of the taxes are 
collected on the value-added to those products and all the 
compliance cost is done away with, all the lawyers and 
accountants the businesses have to hire to comply with the 
Code.
    That saves you 25 percent----
    Mr. Becerra. But where are the taxes on strawberries? How 
many levels of taxation are there on, say, strawberries that 
are picked and then shipped directly to a grocery store?
    Mr. Tauzin. They are processed. Strawberries are first, you 
know, there are farmers who grow them. They have to buy 
fertilizer, they have to own land, they have expenses. Farmers 
pay taxes.
    If a farmer does not have to pay a tax on the income he 
makes from the sale of his strawberries, that reduces the cost 
of the strawberries to the consumer.
    If the guy----
    Mr. Becerra. Where I think the disconnect between what you 
are proposing and what will ultimately happen is that you are 
saying a quarter of the cost of all goods and services will be 
eliminated by this particular change in the Tax Code?
    Mr. Tauzin. Yes.
    Mr. Becerra. And I think that is a big leap of faith. That 
folks are out there saying, well, if I am going to pay this new 
higher tax for a prescription drug, to bury my father, to have 
that medical surgery that I need to stay alive, I want to know 
how I am paying for it.
    And you are asking a lot of folks to believe that all of a 
sudden, we are going to see major drops in the cost of a lot of 
these products and services.
    I know I have taken up a lot of time, Mr. Chairman.
    Mr. Tauzin. All I can tell you, Mr. Becerra, is that is the 
nature of our free market competitive system.
    Let me be honest with you. If there is a product out there 
and if it is a cable service, and you have got no competitor to 
it, you know, there is no direct broadcast satellite with local 
programming into your town, and so you are bound to buy a cable 
if you want your local program, I say that is a monopoly 
provider of service, and our bill will not lower the cost 
there. Because any monopolist can charge whatever he wants all 
the time in our marketplace.
    But whenever you reduce the cost to any competitive player 
in a competitive marketplace, you will eventually reduce the 
cost to the consumer. Otherwise, somebody will take his 
business from him.
    That is the nature of competitive bread businesses and 
strawberry businesses.
    Let me make a final----
    Mr. Becerra. Before you make that final point, I agree with 
what you just said.
    If you can reduce the cost to the producer, certainly in a 
competitive world the charge for that product will be lower for 
the consumer.
    Mr. Tauzin. I think that is correct.
    Mr. Becerra. But the consumer's saying, you are telling me 
to swallow, in some cases, a 30 to 60 percent tax on these 
products and I am wondering if producers are going to be able 
to reduce the cost that much so that I will not pay more.
    That is where the leap of faith comes in.
    Mr. Tauzin. That is a fair question. The only thing I can 
tell you is, again, that it is going to be different depending 
upon how many stages of production are in a product.
    For bread, it is about 35 percent. That is not my number. 
That is numbers derived by people who have studied this 
carefully.
    Dale Yargenson is not--the School of Economics at Harvard 
is not the bastion of conservative thought. We are talking 
Harvard University here.
    They are telling us the average reduction in producer 
prices is 25 percent of you get rid of the Income Tax Code.
    Do you know what that says to you and I? That says that we 
are being punished, as workers in our society, for buying the 
products we make in America by 25 percent.
    That is terrible.
    Mr. Becerra. You know, and we can always cite studies that 
show that it would be different than the 25 to 30 percent drop 
in the price.
    The difficulty I think a number of folks have is that when 
you need an operation, you cannot ask, well did the price drop 
on the cost of that operation, which will now, under your tax 
scheme, be taxed?
    I will have to pay a tax on the $7,000 charge for that 
hospital bed, the $7,000 charge for that surgeon, the $5,000 
charge for that anesthesiologist and all of that is going to be 
taxed at a very high rate, and I have got to hope for my life 
threatening surgery that I need, the lifesaving surgery that I 
need, that in fact the prices will have dropped.
    And that could apply to the senior on fixed income who 
needs prescription drugs.
    That could apply to my father who passes away and I have 
got to pay for funeral expenses if I do not have money. That is 
the difficulty I think folks have.
    And you have been gracious and I thank you for the----
    Mr. Tauzin. Let me, let me just say one final thought.
    Mr. Becerra. Sure.
    Mr. Tauzin. You see, the perniciousness of our current 
Income Tax Code is that it hides the truth from all the folks 
you have just described who go buy those services today.
    The ugly truth is that they are buying those services with 
after-tax dollars. They have already paid taxes on their 
income, they have paid it on their savings, they have paid it, 
in some cases, on their Social Security even. And then they go 
buy those services.
    And the ugly truth is they are paying the same taxes all 
over again, because the services and the goods they are buying 
made in America contain all this hidden income tax cost.
    That is the ugly truth, and if you face that ugly truth 
that we are paying twice on the same dollars every time we buy 
necessities of life in this country, unless you buy a foreign 
product, then you come to the realization that you would be 
much better off paying it only once at the end instead of 
paying it once on your income, and then once on the purchase.
    Mr. Becerra. I do not think any American is deceived by the 
notion that we are going to be able to just get rid of the Tax 
Code and not have to pay taxes.
    I think every American believes that it is an obligation to 
keep this country a civilized society.
    Mr. Tauzin. I agree with you. But if you had a choice of 
paying once instead of twice, what would you choose?
    Mr. Becerra. I choose to pay the lower, whichever is lower, 
and I think most people will say, at the end, I do not care 
which system it is, it is the one that reduces my taxes most.
    Mr. Tauzin. That is right.
    Mr. Becerra. And I do not know if the consumer will say 
that it is fairer to pay it one time at a high rate versus many 
times at a smaller rate.
    I think we have to ultimately assure the American people 
that they are not going to be further taxed by having gone to a 
system, even if it is simpler.
    Mr. Tauzin. That is a fair evaluation. I thank you for it.
    Mr. Becerra. Thank you.
    Thank you, Mr. Chairman, for the time.
    Chairman Archer. Thank you, Mr. Tauzin.
    Mr. Tauzin. Thank you, Mr. Chairman.
    Chairman Archer. We appreciate your input.
    The colloquy you just had with Mr. Becerra I think is 
fundamental and is very constructive and important for us to 
hear.
    If I may just engage my colleague a moment further, the 
points you are making are matters of concern that we have got 
to address if we go in this direction.
    I think it is important to note that fundamentally what we 
all should try to achieve I think in how we tax is to create 
the greatest opportunity for the greatest productivity and the 
greatest competitiveness in the world marketplace so that we 
can have an economy that not only grows, which it is currently 
doing nicely today, but which creates better jobs, better 
paying jobs.
    We have full employment today. Hopefully, that will 
continue for a long period of time.
    But the important thing now is how do we elevate these 
jobs, how do we have more in the family paychecks for all 
Americans, and how much less does our tax system create 
inefficiencies, non-productivity, waste, as it were.
    We talk about waste in federal spending, but we have to 
also talk about what waste there is in our tax system. We need 
to come to grips with all of these and to make sure how it is 
going to affect an individual product is important but perhaps 
not subject to precise quantification.
    I would add a couple of things, and I will be glad to have 
a response from you because this will all go in the record and 
I think that will be very helpful to consideration in the 
future:
    That when we pay taxes, both the cost of the tax and the 
compliance costs are a cost of doing business. They must be 
recovered one way or another. They are either going to be 
recovered by the investor getting a lesser return on their 
investment, or by labor being paid less, or by the consumer 
being paid more.
    There are really only three places for this to go.
    Most people believe that in most products that it will be 
passed on to the consumer in the price of the product rather 
than going back against the investor and lowering wage rates.
    To that degree, it must be recovered. But when we say there 
is an average 20 to 25 percent, that does not mean that is the 
same on every product. And the loaf of bread might be different 
than medical care. And medical care might be different than 
purchasing an insurance policy or whatever the rest of the 
activity is.
    And yet when we talk about a loaf of bread, which is a good 
one because it is a staple in all of our lives, what the farmer 
gets in the wheat is minuscule compared to what the expansion 
of that price is through all of the middle men, the processor, 
and everything else. And those people really are on the front 
line in bearing the burden of the income tax, both compliance 
costs as well as the tax itself.
    I cannot, nor can Mr. Tauzin, for sure tell you what it is 
going to be on a loaf of bread. But we can tell you some 
averages. Because the one thing that is pretty basic is that 
compliance costs for the current income tax which must be borne 
by our society are a minimum of $200 billion a year.
    Fortune Magazine says they could be as much as $500- to 
$600 billion a year.
    Now that is all wasted effort and somebody has got to pay 
for it. It is not creating wealth. It is not creating bread, or 
any other thing of real value in our lives. It is just a part 
that has to be administered under this tax system.
    If we can cut that down by 90 percent, then the burden of 
anywhere from $180 billion to perhaps $2- or $3- or $4 billion 
dollars is going to be removed as a cost in the total economy. 
How it will relate to any individual product we cannot 
absolutely be sure.
    But I think as we seek, and this would be my overall 
objective, and I think most of us would agree with it. We may 
not agree how to get there. But that we should be very careful 
as we spend the taxpayers money to assure that it is being 
spent efficiently.
    By the same token, we should have as efficient a tax system 
as we possibly can. That is a long number of words that I have 
put out there, but I would be glad to have your response.
    Mr. Becerra. Mr. Chairman, I think most folks who may have 
just heard your remarks would be nodding right now in full 
agreement.
    Certainly any time that we are using money in the stream of 
the economy just to pay for administration, above and beyond 
what is necessary to get that product to market, is certainly 
an inefficiency and we should try to eliminate the total cost, 
or at least reduce it to the degree possible.
    In fact, I think Mr. Tauzin and everyone else who has come 
before this Committee is completely genuine in their efforts to 
try to come up with a system that just works better, whatever 
it might be.
    Obviously there are different beliefs about how we best do 
that. My concern with any system, including the one we have now 
which I agree is extremely cumbersome and every year we talk 
about its cumbersomeness but we make it more cumbersome, my 
belief is that whatever we do we have to be able to face every 
American and say we have tried to do it by a change in the Code 
so that it helped you.
    I am not certain yet that I have heard a proposal yet that 
lets me say it helped you--and by the ``you'' be able to 
reference as many Americans as possible. I am not sure if I 
have heard a proposal that includes as many ``you''s as 
possible.
    That is where I would be concerned. Because we get into 
this notion of what is on paper. It looks good on paper, but 
when you play it out the terms we use ultimately are very 
different. As I always say, it looks really good in the war 
room when the generals move the war ship here and the tank 
there, it looks really good, but on the battlefield the folks 
that have to fight the war look at it a little bit differently.
    A quick example. I know that many folks, the Chairman 
referenced this full employment. Full employment means that we 
have some 7--8 million Americans right now who are not working 
because about 4 percent of America is not employed, and that 
includes only those who are actively searching.
    I mention that because my father when he was still 
employed--now he is retired--used to be among those folks who 
would only be partially employed because his work in road 
construction was temporal. During rainy seasons he could not 
work because there was no road construction that would take 
place.
    So for three months out of the year, or sporadically 
throughout the year whenever it would rain he could not work. 
He would always work. He would find something else to do to 
earn some money. But he could not work in the field that he 
most practiced.
    And while he was unemployed and had to either get 
unemployment compensation or try to find a second job, he 
really was not unemployed. He was seeking out work. So those 
who are out there meaningfully trying to find a full-time, 
well-paying job should not be lost in the shuffle when we talk 
about full employment.
    There are a lot of folks out there.
    And in the same vein, as we try to reform the tax code to 
make it better and fairer and more efficient, I think we have 
to remember that the bottom line is the guy that does have to 
go in for the surgery. Are we going to make it easier for him 
to survive not just the surgery but the cost of the surgery 
afterwards?
    And as we buy the loaf of bread or buy the dental service 
or bury our deceased loved ones, have we made the tax code work 
better for them?
    I do not think anyone approaches this without a real 
thoughtfulness and desire to improve our taxation system. But 
it is a lot bigger bear than most people would believe.
    Chairman Archer. Well you have stated I think very well 
what we should all strive for. My comment about full employment 
was based on the economists saying we now have full employment. 
Not to think that individuals are not sometimes covered up by 
the average and are still out there looking for work.
    But the important thing is that we give the greatest 
economic opportunity to all Americans who want to get out and 
work, to be able to work, and then not be content to simply 
have a job but to improve----
    Mr. Becerra. That is right.
    Chairman Archer.--The quality of that job and the amount of 
pay.
    Mr. Becerra. That is right.
    Chairman Archer. I feel so strongly that we must win the 
battle of the global marketplace to be able to do that in the 
next Century.
    Mr. Becerra. I agree.
    Chairman Archer. Thank you very much. You are excused.
    [Laughter.]
    Chairman Archer. The next panel, and the final panel for 
the day, is Mr. Rogstad, Mr. Howard, Mr. Mack, and Mr. Rose who 
will please come to the witness table.
    A hearty welcome to each of you. Thank you for your 
perseverance in waiting in the back of the room until you come 
and give us the benefit of your input. We are most happy to 
have you.
    Mr. Rogstad, if you would, lead off. I think all of you 
know the general rules under which we operate, which is please 
identify yourself for the record before you testify and, if 
possible, do not follow in the Chair's footsteps. Try to limit 
your oral comments to five minutes, if at all possible and, 
without objection, your entire printed statement will be 
inserted in the record.
    Mr. Rogstad.

    STATEMENT OF BARRY K. ROGSTAD, ECONOMIST AND PRESIDENT, 
                  AMERICAN BUSINESS CONFERENCE

    Mr. Rogstad. Thank you, Mr. Chairman. I am Barry Rogstad, 
an economist and President of the American Business Conference. 
The ABC is a nonpartisan coalition of chief executives of fast-
growing American businesses.
    I applaud this Committee for conducting these hearings and 
highlighting recent progress toward fundamental tax reform, and 
I thank you for the opportunity to comment here today in 
particular in support of Congressman English's Simplified USA 
Tax Bill.
    My comments are made from two perspectives:
    First, as an economist and as a member of the team who 
worked with Senators Domenici and Nunn in the development of 
the first USA Tax legislation introduced in 1995.
    And, as a representative of mid-size growth companies who 
have a keen interest in tax restructuring and the contribution 
that it can make to the growth and competitiveness of the 
American economy.
    Today I am more convinced than ever that the USA Tax is the 
best and most workable framework for achieving fundamental tax 
reform.
    I say that because:
    One, it specifies the correct tax base, assuring that all 
income is taxed and it is taxed once and only once.
    Secondly, I think it drastically improves the neutrality in 
the tax code with respect to the impact of taxes on the 
behavior of individuals, households, and businesses.
    And thirdly, and I know this is controversial, it allows 
for a progressive rate structure and other provisions that, 
quite frankly in my judgment, are necessary to achieve the 
political consensus required for final passage of any tax 
reform legislation.
    I am here to support the bill introduced by Congressman 
English, H.R. 134. Congressman English recognized the USA Tax 
is a vastly superior method for treating international business 
transactions and, most importantly, incorporates the correct 
treatment of individual saving and business investment.
    The English Bill improves upon the original proposal by 
addressing provisions that were viewed by some as overly 
complex. These concerns focused on the need to assure that 
saving was taxed once and only once. Congressman English avoids 
this perceived complexity while removing the double tax on 
savings by relying on the now well established Roth IRA 
framework.
    We want to thank Congressman English and look forward to 
his continued leadership of the USA Tax Reform.
    From the perspective of American growth companies, I would 
like to mention five important issues that basic tax reform 
must address, and how the USA Tax succeeds in addressing each.
    Of greatest importance is the level of saving and 
investment as the foundation of continued economic growth and 
improved standard of living of our citizens. The current income 
tax, as you well know, is biased against saving and investment 
and in favor of the consumption uses of income. We continually 
ask ourselves as citizens and businesses, what is the rationale 
for a national policy that reduces the level of our Nation's 
seed corn that determines how our country, its businesses and 
its citizens, prepare for the future?
    Secondly, it is increasingly important in our ``new 
economy,'' that we correctly tax human capital. We have come to 
recognize that it is the skills and knowledge of our citizens 
that underscore productivity growth and our competitive 
advantage as a Nation.
    Thirdly, the international implications of the USA Tax are 
very significant to American businesses and their ability to 
compete on a level playing field. Tax policy should seek to 
ensure that these businesses make decisions based on market and 
operating conditions and not features contained in national tax 
regimes. Congressman English's bill achieves this result.
    Fourthly, moving towards a simpler and understandable tax 
system is an important objective of the business community. By 
moving from accrual accounting toward cash flow accounting, the 
USA Tax reduces the complexity and compliance costs which 
businesses now face. Expensing of all investment outlays not 
only assures the correct specification of net income from 
capital in the tax base but would be the single most important 
step in my judgment to the simplification of our tax code.
    Finally, growth companies, many of them knowledge intensive 
and with little collateral on which to borrow, are critically 
dependent on equity financing. The current tax code, as you 
know, by favoring borrowing over equity investment generates a 
higher cost of capital for growth companies. Bringing 
neutrality to debt and equity financing is a significant 
forward step achieved by the English bill.
    A couple of final comments just about the ramifications of 
the first three of these points on the international 
marketplace.
    First of all, on the saving question it is very difficult 
to argue today in this rather remarkable economy that the low 
level of personal saving is a key problem. However, it 
certainly is. It is now and will continue to be the core 
determinant of long-term growth.
    I would suggest to you that one way of looking at the 
roughly $340 billion current account deficit we incurred in 
1999 is that we are dependent to that amount on foreign saving. 
If we want to remove that dependency, tax reform is in order.
    Secondly, this question of correctly taxing labor income 
can be a great opportunity for tax reform. Tax reform is about 
getting the tax base correct. By proposing to expense capital 
outlays, the USA tax correctly specifies the net return to 
capital.
    Neutrality in tax reform requires that we focus on taxing 
net income to human capital as well so that we tax the returns 
to capital and labor equally.
    I would suggest to you that the net income to human capital 
is gross income minus the cost of producing that which are 
essentially outlays for training and investment.
    Congressman English's bill allows up to $12,000 a year per 
household for deductions for education outlays. I would suggest 
to you that at some point in the deliberations about tax reform 
you will see fit to deduct all expenses for investment in human 
capital, the same way that we do for physical capital.
    Finally, I just want to mention the international tax 
provisions of this.
    As you know, the English bill is territorial in nature. I 
think territoriality provides a generic approach to dealing 
with the FSC dilemma that we now face.
    I think border-adjustability is an appropriate way for us 
to unilaterally level the playing field with foreign 
competitors.
    I thank you, sir.
    [The prepared statement follows:]

STATEMENT OF BARRY K. ROGSTAD, ECONOMIST AND PRESIDENT, AMERICAN 
BUSINESS CONFERENCE

    Mr. Chairman and Members of the Committee:
    I am Barry Rogstad, an economist and president of the 
American Business Conference (ABC). ABC is a nonpartisan 
coalition of chief executives of fast growing midsize 
companies. The American Business Conference has never been a 
recipient of a Federal Government grant or contract.
    I applaud the Committee's actions to hold this series of 
hearings on fundamental tax reform, and its current focus on 
the effects of our tax code on the functioning of American 
businesses in the international market place. By holding this 
series of hearings you recognize that the current tax code 
remains a failed instrument. Nobody understands it. Everybody 
thinks it is unfair. It is systemically biased against saving 
and investment. It extracts revenues from the economy in a 
hideously inefficient and expensive way. And through the 
specific focus of this hearing, the Committee highlights the 
blindness of the code to the competitive realities of our fast 
moving global economy.
    I was pleased to testify before this Committee in 1995 
during an earlier series of hearings on fundamental tax reform. 
At that time my remarks focused on the path breaking efforts of 
Senators Domenici and Nunn with the introduction of the USA 
Tax. The ABC is very proud of its role in the development of 
that proposal.
    Congressman Phil English has improved upon this original 
formulation by introducing the Simplified USA Tax, H.R. 134. As 
an alternative to our current tax system, Congressman English 
recognized the USA Tax is a vastly superior method for treating 
international business transactions, and most importantly, 
incorporates the correct tax treatment of individual saving and 
business investment.
    The original USA Tax, in attempting to assure that saving 
was taxed once and only once, was perceived by some as overly 
complex. The English bill avoids this perceived complexity 
while removing the double taxation on saving by relying on the 
Roth IRA framework. This approach in H.R. 134 is technically 
correct and fully understandable to the taxpayer. It provides a 
workable blueprint from which to address the core challenges of 
tax reform. We also recognize that there is additional detail 
and refinement required before the Congress can achieve final 
consensus. We applaud Congressman English for his efforts and 
look forward to his continued leadership in tax reform.
    My remaining comments reflect the perspective of midsize 
growth companies toward basic tax reform.
    First and foremost, American business leaders understand 
the singular importance of saving and investment to continued 
national economic growth and an improved standard of living for 
our citizens. The current income tax is biased against saving 
and investment and in favor of consumption. They ask, ``What is 
the rationale for a national policy that reduces the level the 
``seed corn'' that determines how our country, its businesses 
and its citizens prepare for the future?".
    H.R. 134 removes that bias by taxing the consumption and 
saving uses of income in the same manner. It accomplishes this 
by taxing all income once and only once. The English bill does 
not, and this is a key point, offer a subsidy to saving, it 
merely removes the double taxation on saving that now occurs.
    Concern over a low level of national saving is a tough 
argument to make during these remarkable economic times. Yet it 
is, and will remain, a core determinant of the nation's future 
economic performance.
    Given the international focus of this hearing, a comment on 
the contribution of foreign saving to the current U.S. economic 
expansion is in order. In 1999 the current account deficit of 
the United States was approximately $340 billion. This deficit 
was ``financed'' through net foreign saving being invested in 
this country of an equivalent amount. If our objective is to 
lower or eliminate the trade deficit, we must address the 
serious shortfall in our own saving behavior. The shortfall in 
our national saving could become severe and obvious in the face 
of any significant reduction in foreign saving and investment. 
Said more directly, the correct tax treatment of saving and the 
trade deficit are directly related.
    Business leaders also support the integrated structure of 
the Simplified USA Tax, and the correct specification of the 
tax base contained in the proposal.
    The structure of H.R. 134 provides for an integrated 
alignment of the business and individual elements of tax 
system. Tax revenues are the returns to capital and labor 
services. Taxes can be collected where these factor incomes are 
produced, at the business level; where they are earned, at the 
individual level; or as is done under the Simplified USA Tax, 
at both levels. This two-tier, split-rate approach, combined 
with a credit for both the employer and employee shares of the 
payroll tax, assures that all sources of taxable income are 
treated equally. Income from wages is treated the same as 
income from interest, dividends, and asset sales. And all forms 
of income are treated the same in both the business and 
individual components of the Simplified USA Tax. This treatment 
assures both fairness and understandability by the American 
people.
    I believe the true revolution in tax reform is to achieve 
the correct tax base. The properly defined tax base is the net 
return to capital and labor services: or the gross returns less 
the costs of producing these returns. Tax policy has been 
replete with discussions on how to achieve the right definition 
of net returns to capital. The approach taken in the English 
bill correctly incorporates the best of these by expensing 
investment outlays immediately.
    However, economic efficiency and fairness require that we 
achieve the same neutral treatment in the taxation of labor 
services. Investments in human capital, primarily outlays for 
education and training, are costs of producing higher gross 
returns to labor and should be expensed. These and other 
intangible investments are, as you know, becoming the core of 
our ``new economy'' and our comparative advantage as a nation. 
The English bill recognizes that tax reform must include the 
expensing of these investments in human capital. It provides 
for up to $12,000 in annual deductions for education per 
household. I would suggest future deliberations by the Congress 
on this issue may well remove limitations on qualified training 
and education outlays entirely.
    The international implications of the USA Tax are very 
significant to American businesses and their ability to compete 
on a level international playing field. Public policy should 
seek to insure that businesses, both US and foreign-based make 
decisions based on market and operating conditions only, and 
not on the subsidies contained in national tax systems. 
Congressman English's bill achieves this result.
    The USA Business Tax is territorial. An American-based 
business would not include in its gross tax base the proceeds 
from sales made by subsidiaries outside the United States. It 
would also not deduct the purchase of goods or services outside 
the United States. For their part, foreign businesses with a 
commercial presence in this country would include in their tax 
base amounts received for goods sold or services provided in 
the United States and would subtract amounts paid for goods 
acquired and services provided in the United States.
    To repeat, for an American company, territoriality would 
free entrepreneurs to base their international strategies on 
business opportunities rather than on tax considerations. From 
a public policy standpoint, adopting a territorial system would 
be the best approach to resolving the current dilemma regarding 
the Foreign Sales Corporation (FSC) provisions in the code. It 
would also vastly simplify the tax structure and the agenda of 
this Committee.
    The USA Business Tax is also border adjustable. Goods made 
here and shipped abroad would receive a tax rebate. Goods made 
abroad and imported and sold in the United States would be 
subject to tax. This provision would align the tax system of 
the United States with that of most of our major trading 
partners while insuring that all products sold in this country 
carried their appropriate share of the tax burden.
    Simplification of the tax code is a longstanding objective 
of tax reformers. By moving from accrual accounting towards 
cash flow accounting, the USA Tax eliminates the maze of 
complexities and the high compliance costs which businesses now 
face. H.R. 134, by providing for expensing of all investment 
outlays, leads to the correct and desired impact on the cost of 
capital for American businesses. Its adoption would achieve a 
greatly simplified tax structure.
    The English bill would have other positive effects on the 
cost of capital. The current tax code, by favoring borrowing 
over equity investment, generates a higher cost of capital for 
growth companies. These companies, frequently knowledge-
intensive and with little collateral on which to borrow, are 
critically dependent on equity financing. Bringing neutrality 
to debt and equity financing is a significant forward step 
achieved by the USA Tax.
    The Simplified USA Tax introduced by Congressman English 
explains why tax reform is both necessary and possible. Perhaps 
now the USA Tax will get the second look it so richly deserves.
    Congressman English has championed a plan that does not 
discriminate against saving and investment, is simple, 
efficient, and understandable, is easy to administer, readily 
accommodates a progressive rate structure, offers a full credit 
for the FICA tax, and reflects international competitive 
realities by excluding from taxation export sales and income 
from foreign sources. It is fully worthy of further 
consideration by his colleagues on this Committee and in the 
Congress.
    I would be happy to answer any questions you may have.

                                


    Chairman Archer. Thank you, Mr. Rogstad.
    Mr. Howard.

     STATEMENT OF JERRY HOWARD, VICE PRESIDENT, TAXES, USX 
             CORPORATION, PITTSBURGH, PENNSYLVANIA

    Mr. Howard. Thank you, Mr. Chairman.
    My name is Jerry Howard and I am Vice President of Taxes 
for USX Corporation. Though I currently reside in Pittsburgh, I 
worked for the USX Marathon Group in the 7th Congressional 
District in Texas, and we found the 7th District to be one of 
the best represented districts in the country.
    I appreciate having the opportunity to have worked with you 
and members of your staff for an extended period of time.
    This is an opportune time to discuss fundamental tax 
reform. I appreciate the opportunity to address the Committee 
on this issue.
    USX Corporation operates primarily in the integrated energy 
and steel businesses. Our 1999 sales of over $29 billion ranks 
us within the top 25 industrial companies in the United States.
    Both our energy and steel businesses are capital intensive 
and face strong foreign and domestic competition. U.S. tax laws 
have an important bearing on our ability to compete in world 
markets.
    We have several serious concerns with the current Federal 
Income Tax on businesses. We believe the current tax system is 
anticompetitive, acts as a disincentive to investment, and is 
unduly complex.
    We support fundamental tax reform that addresses these 
concerns. Any new tax system should be a replacement for the 
current income tax system and should not result in additional 
taxes on business.
    The Simplified USA Tax proposed by Representative English 
is a significant move in the right direction. We agree with the 
fundamental concepts of his proposal since they address many of 
our concerns.
    For example, most industrialized countries rely mainly on 
border-adjustable taxes in which export income is exempted and 
imports are taxed.
    In the U.S., however, export income is taxed and imports 
are not. As a result, U.S. companies are at a disadvantage both 
at home and abroad.
    The Simplified USA Tax corrects this inequity by exempting 
export income and taxing imports.
    The present U.S. income tax system acts as a disincentive 
to making capital investments because of the long cost recovery 
periods. Since real capital costs are not fully recovered, 
there is a tax on the capital investment itself. This makes 
capital acquisition much more costly for U.S. businesses.
    The Simplified USA Tax eliminates the increased cost on 
capital by allowing an immediate writeoff of capital 
investments.
    The current U.S. income tax system is overly complex, 
requiring companies to hire a large number of accountants and 
attorneys in order to determine the amount of taxes owed and to 
resolve disputes with the IRS.
    While there will always be some complexity and uncertainty 
in any tax regime, the Simplified USA Tax will be significantly 
easier to understand and administer than the present income tax 
law.
    The aforementioned provisions of the Simplified USA Tax 
represent significant improvements to the current U.S. tax 
system. However, the following issues require further study:
    As I mentioned, the Simplified USA Tax includes a tax on 
imports which will help make U.S. companies more competitive in 
the global marketplace. That being said, it must be recognized 
that there are certain items that must be imported since 
domestic supply cannot meet demand.
    One notable example that directly affects USX is crude oil. 
The imposition of a new nondeductible tax on imported crude oil 
could cause the cost of refined products to increase and result 
in higher costs to consumers.
    Due care should be taken to ensure that consumers and U.S. 
companies are not unduly harmed by this measure. A national 
energy policy which promotes increased domestic oil and gas 
production and enhances refining capacity in the United States 
would lessen our demand on imports.
    A major issue in developing any new tax system to replace 
the present income tax law involves transition rules for costs 
that have been incurred or credits generated during the period 
that the present system has been in effect but that will not be 
deducted or taken into account by the time the new system is 
put in place.
    Accordingly, transition rules should be fair and equitable.
    In conclusion, a new tax system modeled around the 
Simplified USA Tax would be a significant improvement over the 
present system. It would eliminate the competitive disadvantage 
inherent in the current system and allow U.S. companies to 
compete more effectively with our foreign competitors.
    We believe that a national energy policy that promotes 
increased domestic oil and gas production and enhances refining 
capacity, coupled with fair and equitable transition rules, 
will cause the new system to achieve its intended results.
    USX welcomes the opportunity to participate in the process.
    Thank you.
    [The prepared statement follows:]

STATEMENT OF JERRY HOWARD, VICE PRESIDENT, TAXES, USX CORPORATION, 
PITTSBURGH, PENNSYLVANIA

    Mr. Chairman, my name is Jerry Howard, and I am Vice 
President-Taxes for USX Corporation. Though I currently reside 
in Pittsburgh, I worked in the 7th district of Texas for a 
number of years and found it to be one of the best represented 
districts in the country. I have appreciated the opportunity to 
work with you and members of your staff over an extended period 
of time. We also applaud the members of this Committee who 
announced their opposition to the Administration's budget 
proposal to impose a tax on the recipients of tracking stock. 
This ill-conceived measure would cause severe harm to companies 
with tracking stock outstanding and reduce business expansion 
while generating no benefits.
    This is an opportune time to discuss fundamental tax reform 
and I appreciate the opportunity to address the Committee on 
this issue.
    USX Corporation operates primarily in the integrated energy 
and steel businesses. Our 1999 sales of over $29 billion rank 
us within the top 25 industrial companies in the United States.
    Both our energy and steel businesses are capital intensive 
and face strong foreign and domestic competition. U.S. tax laws 
have an important bearing on our ability to compete in world 
markets.
    We have several serious concerns with the current federal 
income tax on businesses. We believe the current tax system is 
anti-competitive, acts as a disincentive for investment, and is 
unduly complex.
    We support fundamental tax reform that addresses these 
concerns. Any new tax system should be a replacement for the 
current income tax system and should not result in additional 
taxes on business. The Simplified USA Tax proposed by 
Representative English is a significant move in the right 
direction. We agree with the fundamental concepts of his 
proposal since they address many of our concerns.

    Competition Concerns

    For example, most industrialized countries rely mainly on 
border-adjustable taxes, in which export income is exempted and 
imports are taxed. In the U.S., however, export income is taxed 
while imports are not. As a result, U.S. companies are at a 
disadvantage both at home and abroad.
    The Simplified USA Tax corrects this inequity by exempting 
export income and taxing imports.

    Incentive for Investment

    The present U.S. income tax system acts as a disincentive 
to making capital investments because of the long cost recovery 
periods. Since real capital costs are not fully recovered, 
there is a tax on the capital investment itself. This makes 
capital acquisition more costly.
    The Simplified USA Tax eliminates the increased cost on 
capital by allowing an immediate write-off of capital 
investments.

    Complexity of Current Tax Law

    The current U.S. income tax system is overly complex, 
requiring companies to hire a large number of accountants and 
attorneys in order to determine the amount of taxes owed and to 
resolve disputes with the IRS because the laws are so difficult 
to interpret and administer. While there will always be some 
complexity and uncertainty in any tax regime, the Simplified 
USA Tax will be significantly easier to understand and 
administer than the present income tax law.
    The aforementioned provisions of the Simplified USA Tax 
represent significant improvements to the current U.S. tax 
system. However, the following issues require further study.

    Oil and Gas Imports

    As I've mentioned, the Simplified USA Tax includes a tax on 
imports, which will help make U.S. companies more competitive 
in the global marketplace. That being said, it must be 
recognized that there are certain items that must be imported 
since domestic supply cannot meet demand. One notable example 
that directly affects USX is crude oil.
    The imposition of a new non-deductible tax on imported 
crude oil could cause the cost of refined products to increase 
and result in higher costs to consumers. Due care should be 
taken to ensure that consumers and U.S. companies are not 
unduly harmed by this measure. A national energy policy which 
promotes increased domestic oil and gas production and enhances 
refining capacity in the U.S. would lessen our demand for 
imports.

    Transition Rules

    A major issue in developing any new tax system to replace 
the present income tax law involves transition rules for costs 
that have been incurred or credits generated during the period 
that the present system has been in effect, but that will not 
be deducted or taken into account by the time the new system is 
put into place. Accordingly, transition rules should be fair 
and equitable.
    Finally, a word about compatibility of the USA Tax with 
other tax regimes.

    Compatibility with Other Tax Regimes

    Presently, the tax base for most state income taxes uses 
federal taxable income as the starting point. Thus, any new 
federal tax regime developed to replace the current federal 
income tax will not be compatible. States should be able to 
modify their tax systems to use the new federal tax base as the 
starting point, making modifications and other adjustments 
necessary to generate the same tax revenues from businesses as 
are currently collected.

    Conclusion

    In conclusion, a new tax system, modeled around the 
Simplified USA Tax, would be a significant improvement over the 
present system. It would eliminate the competitive disadvantage 
inherent in the current system and allow U.S. companies to 
compete more effectively with our foreign competitors. We 
believe that a national energy policy that promotes increased 
domestic oil and gas production and enhances refining capacity, 
coupled with fair and equitable transition rules, will cause 
the new system to achieve its intended results. USX welcomes 
the opportunity to participate in the process.
      

                                


    Mr. Kleczka [presiding]. I have no questions of this panel, 
and the Chair is going to be right back.
    Has Mr. Mack testified? Oh, I am sorry.
    Mr. Mack, welcome. You do not win the prize for coming the 
longest distance, you know, being from McLean, Virginia. 
Welcome to the Committee and we look forward to your remarks.

    STATEMENT OF JAMES H. MACK, VICE PRESIDENT, GOVERNMENT 
 RELATIONS, ASSOCIATION FOR MANUFACTURING TECHNOLOGY, MCLEAN, 
                            VIRGINIA

    Mr. Mack. Thank you, Mr. Chairman.
    I am Jim Mack, and I am here representing U.S. producers of 
machine tools and related manufacturing technology.
    Our industry is the principal enabler of America's high 
productivity levels which are the key to our current prosperity 
and its continuation into the foreseeable future.
    Our industry translates the dizzying advances in 
information technology into the design of new manufactured 
products and the factory floor automation that more efficiently 
produces them.
    However, our current tax code actually discourages American 
manufacturing companies from acquiring new manufacturing 
technology and from producing new products in the United 
States.
    It encourages international mergers and acquisitions that 
transfer to foreign sources the ownership of technology, the 
development of future technology, and decisions as to whether 
American jobs will stay in America. The territoriality and 
border-adjustability features of the USA Tax would reverse that 
trend.
    Some have criticized the USA business tax because, in order 
to make it border adjustable in conformity with WTO rules, 
labor costs would no longer be deductible.
    The fact is, Mr. Chairman, that labor costs are not 
entirely tax free today. The current payroll tax is a heavy 
burden on businesses and on their employees--most particularly 
on skilled craftsmen and skilled factory workers. It acts as an 
incentive against hiring new workers. By providing a credit for 
the 7.65% employer-paid FICA tax, the USA Tax actually reverses 
the regressive impact of the payroll tax.
    Congressman English's USA Tax is good sound tax policy and 
AMT--The Association for Manufacturing Technology, strongly 
supports it passage.
    The USA Tax also meets all the requirements that the WTO 
laid out in requiring you to repeal the Foreign Sales 
Corporation (or FSC) and, therefore, would be a good starting 
point when looking for solutions as FSC replacement.
    FSC helps make U.S. exports more competitive in world 
markets. Many AMT members, both large and small, have FSCs. 
However, unless you act by October 1st, or unless a settlement 
is reached with the European Union by that date, billions of 
dollars in U.S. exports will be subject to retaliatory 
compensation by the EU and possibly by others.
    Simply repealing the FSC would deprive U.S. companies of a 
powerful incentive to export and effectively amount to a $4 
billion a year tax increase on U.S. exports.
    On the other hand, simply replacing FSC with a slightly 
different version could be inconsistent with the WTO decision 
and could lead to European retaliation.
    Mr. Chairman, we know that coming up with a replacement for 
FSC that is consistent with the WTO ruling will be 
extraordinarily difficult. Therefore, we believe that the best 
possible solution is to move to a territorial, border-
adjustable system of taxation like the USA Tax which would not 
tax export income at all but would impose a tax on imports.
    This is the system used by all of our major trading 
partners. The WTO Dispute Resolution Panel clearly pointed the 
way in that direction when it stated that we could not couple 
territorial treatment of exports with a system of taxing the 
worldwide income of our companies.
    Now we are not naive enough to believe that fundamental tax 
reform like the USA Tax can be enacted by the first of October. 
However, if you can achieve a bipartisan momentum for the USA 
Tax approach, you and the Administration would have a powerful 
incentive--a powerful club, if you will--to persuade the 
European Union to reverse its current headlong dash toward an 
October 1st trade war with the United States.
    Absent such bipartisan momentum, the Administration 
unfortunately has very little negotiating leverage, and the 
prospects for averting disaster on October 1st are very bleak.
    Passage of a border-adjustable cash flow territorial cash 
flow tax that allows for expensing of capital purchases like 
the USA Tax is one of AMT's top legislative priorities. We 
strongly support Congressman English's USA Tax as the best 
possible tax system for U.S. manufacturers and their workers in 
an increasingly competitive (and even hostile) global trading 
environment. It is also the best possible replacement for FSC.
    The time for fundamental tax reform is long overdue. The 
need to replace the FSC provides an excellent opportunity to 
begin the process of real reform rather than simply searching 
for a short-term fix. Thank you.
    [The prepared statement follows:]

Statement of James H. Mack, Vice President, Government Relations, 
Association for Manufacturing Technology, McLean, Virginia

I. INTRODUCTION

    My name is James H. Mack, Vice President of Government 
Relations at AMT--The Association For Manufacturing 
Technology--a trade association whose membership represents 
over 370 machine tool building firms with locations throughout 
the United States. Pursuant to House Rule XI, clause 2(g)(4), I 
am obligated to report to you that AMT has received $219,000 in 
fiscal years 1997-2000 from the Commerce Department's Market 
Co-operator Development Program to help pay for our export 
offices in China and Mercosur.
    I appreciate the opportunity to testify before the 
Committee in support of Fundamental Tax Reform. My comments 
will also address how Congress could use fundamental tax reform 
to respond to the World Trade Organization's (WTO) dispute 
resolution panel ruling that the Foreign Sales Corporation 
(FSC) violates WTO rules and must be repealed by October 2000.

II. STATUS OF THE U.S. MANUFACTURING TECHNOLOGY INDUSTRY

    The majority of AMT's members are small businesses. 
According to the 1997 U.S. Census of Manufacturers, 69% of the 
companies in our industry have less than 50 employees. They 
build and provide to a wide range of industries the tools of 
manufacturing technology including cutting, grinding, forming 
and assembly machines, as well as inspection and measuring 
machines, and automated manufacturing systems.
    Everything in this hearing room, except for the people, was 
either made by a machine tool or made by a machine made by a 
machine tool. Several years ago, the Reagan and Bush 
Administrations, responding to strong encouragement of over 250 
Members of Congress, provided temporary import relief for our 
industry, based on the threat posed to our national security 
from Asian machine tool imports. They did so because of their 
recognition that a strong machine tool industry is vital to 
America's military and economic security.
    Our industry is very cyclical. Price pressures are very 
strong, and profitability is relatively low--even in good 
years. Today, despite the extraordinary performance of our 
overall economy, domestic consumption of machine tools is 
nearly 30% lower than a year ago. Imports represent about half 
of domestic consumption. And American-made machine tools 
comprise only 13% of world supply. About 30% of our industry's 
output is exported. If, as we believe, successful competition 
in the global marketplace is the key to a strong and healthy 
economy, then we need U.S. policies that reflect that goal. I 
think most would agree that our current business tax policy is 
inconsistent with that goal.

III. THE USA TAX

    The anti-investment, anti-export biases of the current tax 
code are well documented. Our tax code discourages saving and 
productive capital investment in the United States; it 
discourages exports; and it makes it hard for U.S. companies to 
directly compete in foreign markets. America urgently needs a 
tax system rebuilt from the ground up around a new set of 
design principles to compete and win in world markets.
    Your colleague, Cong. English (R-PA), has introduced 
legislation which replaces our current tax system with a cash 
flow tax that would be both border-adjustable and territorial 
and would provide for the expensing of capital purchases. Its 
enactment would, for the first time, truly level the 
international playing field for U.S. companies in world 
markets, including the United States.
    The USA tax combines a low-rate business tax which allows 
expensing of capital equipment with border-tax adjustments and 
territoriality to produce an ideal result--a neutral, 
evenhanded tax that treats all business alike (whether 
corporate or noncorporate, capital intensive or labor 
intensive, financed by equity or by debt, large or small) and 
which, for the first time, is tilted in our favor when we 
compete in our own and foreign markets.
    The key to our current prosperity, and its continuation 
into the foreseeable future, is improved productivity. Our 
industry is the principle enabler of America's high 
productivity levels. Our industry translates the dizzying 
advances in information technology into the design of new 
manufactured products and the factory floor automation that 
more efficiently produces them. However, our current tax code 
discourages American manufacturing companies from acquiring new 
manufacturing technology and from producing new products in the 
United States. It encourages international mergers and 
acquisitions that transfer to foreign sources the ownership of 
technology, the development of future technology, and decisions 
as to whether American jobs will stay in America. The 
territoriality and border-adjustable features of the USA tax 
would reverse that trend.
    Some have criticized the USA business tax because, in order 
to make it border adjustable in conformity with WTO rules, 
labor costs would no longer be deductible. The fact is that 
labor costs are not entirely tax-free today. The current 
payroll tax on wages up to $72,000 is a heavy burden on 
businesses and their employees--most particularly on skilled 
craftsmen and factory workers. It acts as an incentive hiring 
new workers.
    By providing a credit for the 7.65% employer-paid FICA tax, 
the USA Tax reverses the regressive impact of the payroll tax. 
Under current law, the first $72,000 of employee compensation 
is taxed. Under the USA Tax, employee compensation under 
$72,000 would be partially taxed (at a 4.35% rate) and employee 
compensation over $72,000 would be fully taxed (at a 12% rate).
    Cong. English's USA Tax is good sound tax policy, and AMT 
strongly supports its passage. The USA Tax also meets all the 
requirements that the WTO laid out in repealing the FSC, and 
would, therefore, be a good starting point when looking for 
solutions to FSC replacement.

IV. FSC REPLACEMENT

    As I stated earlier, a WTO dispute resolution panel has 
ruled that the FSC law, which allows U.S. exporters to exclude 
part of their export income, violates WTO rules and must be 
repealed by October 2000.
    FSC helps make U.S. exports more competitive in world 
markets. Many AMT members--both large and small--have FSCs. 
However, unless Congress acts by October 1, or a settlement is 
reached with the European Union (EU) by that date, billions of 
dollars in U.S. exports will be subject to retaliatory 
``compensation'' by the EU and possibly by others. Simply 
repealing the FSC would deprive U.S. companies of a powerful 
incentive to export and effectively amount to a $4 billion per 
year tax increase on U.S. exports. On the other hand, simply 
replacing FSC with a slightly different version could be 
inconsistent with the WTO decision and could lead to European 
retaliation.
    Mr. Chairman, we know that coming up with a WTO-compatible 
replacement for FSC that is consistent with the WTO ruling will 
be extraordinarily difficult. But we do believe the best 
possible solution is to move to a territorial, border-
adjustable system of taxation, like the USA tax, which would 
not tax export income at all but would impose a tax on imports. 
This is the system used by all of our major trading partners. 
The WTO dispute resolution panel clearly pointed the way in 
that direction when it stated that we couldn't couple 
territorial treatment of exports with a system of taxing the 
worldwide income of our companies.
    Now, we are not naive enough to believe that fundamental 
tax reform, like the USA Tax, can be enacted by October 1. 
However, if you can achieve a bipartisan momentum for the USA 
Tax approach, you and the Administration would have a powerful 
incentive to persuade the European Union to reverse its current 
headlong dash towards an October 1 trade war with the United 
States. Absent such bipartisan momentum, the Administration has 
very little negotiating leverage, and the prospects for 
averting disaster on October 1 are very bleak.

V. CONCLUSION

    Passage of a border adjustable, territorial cash flow tax, 
like the USA Tax, is one of AMT's top legislative priorities. 
We strongly support Cong. English's USA Tax as the best 
possible tax system for U.S. manufacturers and their workers in 
an increasingly competitive (and even hostile) global trading 
environment. It is also the best possible replacement for FSC. 
The time for fundamental tax reform is long overdue. The need 
to replace the FSC provides an excellent opportunity to begin 
the process of real reform rather than simply searching for a 
short-term fix.
            Thank you.

                                

    Chairman Archer. Thank you, Mr. Mack.
    Mr. Rose, you are cleanup hitter today.

 STATEMENT OF JAMES E. ROSE, JR., SENIOR VICE PRESIDENT, TAXES 
   AND GOVERNMENT AFFAIRS, TUPPERWARE CORPORATION, ORLANDO, 
 FLORIDA; AND BOARD MEMBER AND CHAIRMAN, TAX AND BUDGET POLICY 
        COMMITTEE, NATIONAL ASSOCIATION OF MANUFACTURERS

    Mr. Rose. Thank you, Mr. Chairman, and Members of the 
Committee:
    I am very pleased to have the opportunity to testify on the 
need for fundamental reform of our federal tax laws. My name is 
Jim Rose. I am Senior Vice President for Taxes and Government 
Affairs at Tupperware Corporation. I also serve as a Board 
Member of the National Association of Manufacturers and chair 
its Tax and Budget Policy Committee.
    I am testifying today on behalf of NAM, 18 million people 
who make things in America. The NAM is the Nation's largest and 
oldest multi-industry trade association representing 14,000 
members, 10,000 of which are small and mid-sized companies, and 
350 member associations serving manufacturers and employees in 
every industrial sector and in all 50 states. Headquartered in 
Washington, D.C., the NAM has 10 additional offices across the 
country.
    The NAM has long supported fundamental tax reform. The NAM 
has a long-standing belief that our current tax system is 
fundamentally flawed and is a major obstacle to realizing the 
full potential of our economy.
    The solution calls for a new tax system that encourages 
work, investment, and entrepreneurial activity. Importantly, 
the new tax system should be competitive with our foreign 
trading partners.
    Specific changes should include:
    Incentives for savings and capital formation;
    Avoiding multiple tax system like the AMT;
    No net tax increase on businesses;
    Elimination of double taxation of corporate earnings;
     And fair and equitable transition rules.
    NAM members generally favor a system in which only income 
sourced within the United States is taxed by the United States.
    This is commonly referred to as a territorial tax system. 
Any territorial tax system should embody simple sourcing rules 
to determine where income is earned. Importantly, a territorial 
system should encourage U.S. activities including R&D and 
headquarter functions. This is accomplished, among other ways, 
by not taxing foreign royalties.
    These priorities reflect the significant challenges U.S. 
manufacturers face in today's world economy.
    While U.S. manufacturers enjoy a stable political 
environment and a creative and energetic workforce, they are at 
a significant disadvantage in the highly competitive world 
economy.
    For example, the cost of borrowing in the United States is 
often higher than that of other countries, reflecting our 
remarkably low U.S. savings rate.
    The high cost of borrowing, when combined with our 
relatively slow depreciation schedules, result in a less 
attractive recovery of U.S. invested capital. Over time, this 
will result in a less competitive U.S. asset base and, 
ultimately, the loss of U.S. jobs.
    Other signs of an uneven playing field have emerged.
    A significant negative trade balance exists that continues 
to increase. While NAM is a staunch advocate of open trade and 
is certainly not looking for protective trade barriers, U.S. 
manufacturers need and deserve a tax system that is competitive 
with those of our major trading partners.
    In a nutshell, their tax systems are all border adjusted 
and many are territorial. Our tax system is neither. That is, 
it is neither border adjusted nor territorial.
    The need for a new tax system has been heightened in recent 
months with the World Trade Organization's finding that Foreign 
Sales Corporation constitute an illegal export subsidy.
    An example might be helpful in understanding how U.S. 
exporters are disadvantaged in the global marketplace. Let us 
take a hypothetical Country A.
    Country A's tax burden consists of an income tax and a VAT. 
Companies that manufacture in Country A receive rebates of its 
15% VAT when their goods are exported to the U.S.
    Conversely, an exporting NAM member, and around 80% of its 
14,000 members do export, does not receive a tax rebate when 
its products are exported from the U.S. Instead, it finds that 
its products are subject to the 15% VAT of Country A when they 
are imported into Country A.
    Incidentally, the 15% may actually exceed the normal profit 
margin of the exported item.
    Since the U.S. does not have a VAT system, and thus does 
not impose a VAT on imported goods, imported goods from Country 
A into our market come in tax free.
    The Country A example incidentally has been adopted by 
virtually all of our major trading partners. As you can well 
appreciate, this tax environment significantly favors foreign 
imports and discourages U.S. exports.
    The story gets worse. Foreign companies competing with U.S. 
manufacturers often operate with a territorial tax system that 
does not tax foreign source income.
    Territorial systems of our competitors can essentially 
eliminate the home country income tax burden on export sales. 
It is important to note that FSC-type benefits would be 
allowable under WTO rules in the context of a territorial tax 
system.
    Furthermore, our U.S. tax system subjects foreign earnings 
of U.S. companies to U.S. taxation when these earnings come 
back to the U.S. and in certain other circumstances.
    While the U.S. Tax Code does include a foreign tax credit 
system to reduce this burden, the very complicated foreign tax 
credit rules typically result in incremental U.S. taxation when 
these funds come back to the U.S.
    Accordingly, U.S. companies are inevitably discouraged from 
investing in the U.S.
    The U.S. world-wide taxation system is having another 
negative effect on our economy. Increasingly, U.S. companies 
often large and well known, are being acquired by foreign 
companies.
    While nontax business reasons often exist in these 
transactions, the more favorable tax systems of the acquiring 
foreign companies heavily influence the structure of these 
mergers.
    For example, an NAM member last year testified before this 
Committee that the U.S. tax system was an important factor in 
why their U.S. company was acquired by its German-based merger 
partner.
    Among other factors, the German-based acquirer benefitted 
importantly from Germany's territorial tax system.
    The scenario has been repeated at an alarming rate in 
recent years. A recent study covering 1998 acquisitions 
involving U.S. and foreign entities concluded that 
approximately 85% of the combined value of the acquisitions 
resulted from foreign entities acquiring U.S. entities.
    This trend will result in a loss of American jobs as, after 
an acquisition or merger, the headquarters of an the acquiring 
entity typically survives and expands while the headquarters of 
an acquired entity often is reduced in size and sometimes 
eliminated, effectively moving jobs offshore.
    Furthermore, R&D facilities and even plant locations can be 
affected by these decisions.
    In summary, American companies have well trained employees, 
products, and technology to win in the global marketplace, but 
the U.S. Tax Code has stacked the deck against us and in favor 
of our foreign competitors, both here at home as well as 
abroad.
    The NAM is very pleased to participate in this dialogue 
over restructuring the U.S. Tax Code and applauds this 
Committee's efforts to fundamentally rewrite our tax code.
    While NAM strongly supports fundamental tax reform, at this 
time it has not endorsed any specific proposal. However, the 
proposals under consideration have many attractive features.
    Mr. Chairman, we certainly welcome the opportunity to work 
with this Committee to develop a new tax system which is 
simpler and encourages work, investment, and entrepreneurial 
activity and, importantly, one that is competitive with the tax 
systems of our foreign trading partners.
    Thank you, Mr. Chairman.
    [The prepared statement follows:]

STATEMENT OF JAMES E. ROSE, JR., SENIOR VICE PRESIDENT, TAXES AND 
GOVERNMENT AFFAIRS, TUPPERWARE CORPORATION, ORLANDO, FLORIDA; AND BOARD 
MEMBER AND CHAIRMAN, TAX AND BUDGET POLICY COMMITTEE, NATIONAL 
ASSOCIATION OF MANUFACTURERS

    Mr. Chairman and members of the Committee, I am very 
pleased to have the opportunity to testify today on fundamental 
reform of the federal tax laws. My name is James Rose and I am 
senior vice president for Taxes and Government Affairs at 
Tupperware Corporation. I also serve as a board member of the 
National Association of Manufacturers (NAM) and chair its Tax & 
Budget Policy Committee.
    I am testifying today on behalf of the NAM--``18 million 
people who make things in America.'' The NAM is the nation's 
largest and oldest multi-industry trade association, 
representing 14,000 members (including 10,000 small and mid-
sized companies) and 350 member associations serving 
manufacturers and employees in every industrial sector and all 
50 states. Headquartered in Washington, D.C., the NAM has 10 
additional offices across the country.
    The NAM has long supported fundamental tax reform, 
reflecting our belief that the current tax system is a major 
obstacle to realizing the full potential of our economy. The 
solution calls for a new tax system that is simpler and 
encourages, rather than penalizes, work, investment and 
entrepreneurial activity, and importantly, a tax system that is 
competitive with our foreign trading partners. Specific changes 
endorsed by the NAM include incentives for savings and capital 
formation; a single tax system for businesses, with no 
additional components like the alternative minimum tax and no 
net tax increase on businesses; elimination of the double 
taxation of corporate earnings; and fair and equitable 
transition rules.
    Moreover, our members generally favor a system in which 
only income earned within the United States is taxed within the 
United States. This is commonly referred to as a territorial 
tax system. However, as increasing globalization of the economy 
often makes it difficult to determine the point where income is 
``earned,'' any restructuring proposal should embody simple 
sourcing rules. Importantly, such a proposal should also 
encourage U.S. activities, including R&D and headquarters 
functions.
    These priorities reflect the significant challenges U.S. 
manufacturers face in the world economy in which they must 
compete to survive. U.S. manufacturers enjoy many advantages 
including a stable social and political environment and a 
creative and energetic workforce. Nonetheless, U.S. 
manufacturers are at a significant disadvantage in the highly 
competitive world economy. In particular, the cost of borrowing 
in the United States often is higher than that of other 
countries. This differential reflects the remarkably low U.S. 
savings rate, as compared to that of other countries. A higher 
cost of borrowing, when combined with relatively slow tax 
depreciation schedules, results in a less attractive recovery 
of U.S. invested capital. Over time, this will result in a less 
competitive U.S. asset base and ultimately a loss of U.S. jobs.
    Other signs of an uneven playing field have emerged, 
including a negative trade balance that continues to increase. 
The NAM is a staunch advocate of open trade and is not looking 
for protective trade barriers. What is needed, however, is a 
U.S. tax system that is competitive with those of our major 
trading partners. The need for a new system has been heightened 
even more in recent months with the World Trade Organization's 
finding that foreign sales corporations constitute an illegal 
export subsidy.
    Let me give you an example of how U.S. exporters are at a 
disadvantage in the global market. The tax burden on a foreign 
product often consists mainly of a combination of income tax 
and a Value Added Tax (VAT). A foreign exporting company that 
manufactures products in Country A typically receives a rebate 
of the 15 percent VAT when its goods are exported. The tax 
burden of a U.S. product consists mainly of income tax. An 
exporting NAM member (and around 80 percent do export) receives 
no tax rebate when its products are exported from the United 
States but finds that these products are subject to a 15 
percent VAT when they are imported into Country A. In some 
cases, the 15 percent tax on the value of the goods may 
actually exceed the normal profit margin of the item. As the 
United States does not use a VAT and therefore does not impose 
such on imported goods, domestically produced goods that are 
exported sustain the full effect of the U.S. tax burden plus 
the VAT of Country A, while imported products sustain only a 
portion of this heavy tax burden. This has the effect of 
significantly favoring foreign products within the United 
States and discouraging U.S. exports.
    The story gets worse. Foreign companies competing with U.S. 
manufacturers often operate within a territorial tax system 
that does not tax foreign source income. Accordingly, the 
territorial systems of our competitors can essentially 
eliminate the home country income tax burden on export sales. 
The U.S. tax system subjects foreign earnings of U.S. companies 
to U.S. taxation when this money comes back to the United 
States and in certain other circumstances. The federal tax code 
does include a foreign tax credit system to reduce this burden. 
However, too often the very complicated foreign tax credit 
rules result in incremental U.S. taxation when these funds are 
returned to the United States. In this environment, U.S. 
companies are inevitably discouraged from investing in the 
United States.
    The U.S. worldwide tax system is having another impact on 
our economy. Increasingly, U.S companies, often large and well 
known, are being acquired by foreign corporations. Last year a 
representative from a well-known NAM member company testified 
before this Committee that the U.S. tax system was an important 
factor in why their U.S. company was acquired by its German-
based merger partner. Among other factors, the German-based 
acquirer benefited from Germany's territorial tax system.
    This scenario has been repeated at an alarming rate in 
recent years. For example, a recent study covering 1998 
acquisitions involving U.S. and foreign entities concluded that 
approximately 85 percent of the combined value of the 
acquisitions resulted from foreign entities acquiring U.S. 
entities. Why should we be concerned? One reason is the loss of 
American jobs. After an acquisition or merger, the headquarters 
of the acquiring party typically survives and expands, while 
the headquarters of the acquired entity often is reduced in 
size, and sometimes eliminated, effectively moving jobs off-
shore. As part of this restructuring, R&D facilities and even 
plant locations can be affected by these decisions.
    In summary, American companies have the well-trained 
employees, the products, and the technology to win in the 
global marketplace, but the U.S. tax code has stacked the deck 
against us and in favor of our foreign competitors--here at 
home as well as abroad.
    The NAM is pleased to participate in the dialogue over 
restructuring the U.S. tax code and applauds Congressional 
efforts to fundamentally rewrite the tax code. At this point in 
the debate, the NAM has not endorsed any specific proposal. 
However, we welcome the opportunity to work with you to develop 
a new tax system that is simpler and encourages not penalizes 
work, investment and entrepreneurial activity and one that is 
competitive with the tax systems of our foreign trading 
partners.
            Thank you.
      

                                


    Chairman Archer. Thank you, Mr. Rose.
    The Chair is grateful to each of you for your outstanding 
contribution to our deliberations on fundamental tax reform.
    The points that you have made I think are pertinent, and I 
am hopeful that the Committee will take them under advisement 
and ultimately into implementation.
    Mr. Kleczka?
    Mr. Kleczka. No questions, Mr. Chairman.
    Chairman Archer. Thank you very much, gentlemen. You are 
excused.
    The meeting will stand adjourned.
    [Whereupon, at 3:40 p.m., the hearing was adjourned, to 
reconvene on Thursday, April 13, 2000, at 10:30 a.m.]


                         FUNDAMENTAL TAX REFORM

                              ----------                              


                        THURSDAY, APRIL 13, 2000

               Committee on Ways and Means,
                          House of Representatives,
                                                   Washington, D.C.
    The Committee met, pursuant to recess, at 10:35 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 is the final day of our hearings on structural 
reform, and I believe it is going to be an interesting one.
    We begin by receiving testimony from our own colleague, Mr. 
Portman, who has a deep interest in tax reform. Then we will 
hear from two pollsters, one republican and one democrat, on 
what the American people are thinking about structural reform. 
Thirdly, we will receive testimony from Mr. William Helming and 
one of my long-time friends, Jimmy Powell, about a very 
interesting tax reform proposal that Mr. Helming has developed. 
Finally, we will hear the views of the U.S. Chamber of commerce 
and testimony on the death tax and on the elements of 
fundamental tax reform.
    Mr. Rangel?
    Mr. Rangel. Thank you, Mr. Chairman.
    I don't know how we slipped up and let a Democrat get on 
one of these panels, but I will have to stick around and see 
that. This is going to be the most exciting hearing, because my 
dear friend and fellow Committee member, Mr. Portman, will be 
testifying. I say that not just out of a sense of affection but 
because, realistically, he probably is the only one that will 
be around here, as relates to witnesses, in order to do 
something about the tax code. Most of the other people are just 
giving some ideas of their frustrations before April the 15th.
    I have known about Mr. Portman's concern about the 
structure of our tax code and the constant contributions he 
makes to make it a better instrument to guide the collection of 
revenue. I really look forward to his testimony this morning 
and look forward to working with him no matter what the 
political composition will be of this committee next year.
    Thank you.
    Chairman Archer. Mr. Portman, welcome to a new position at 
the witness table, but not to a new presence in this room. We 
will be happy to receive your testimony.

  STATEMENT OF HON. ROB PORTMAN, A REPRESENTATIVE IN CONGRESS 
                     FROM THE STATE OF OHIO

    Mr. Portman. Thank you, Mr. Chairman. It is a little 
daunting, but I appreciate your words and Mr. Rangel's and my 
colleagues who have the patience and fortitude to be here this 
morning.
    I am delighted to get a chance to testify briefly. I have 
sat through, as you know, a number of the witnesses' testimony 
with this series of hearings on tax reform, and I think it has 
been very informative, I think it has been very thoughtful, and 
I want to commend the chairman for having these hearings and 
opening up a discussion. I have learned a lot about various 
alternatives, and I guess what I hope is that we can at least 
all agree that we must replace our current code with one that 
is simpler, one that is fairer, and one that is less intrusive.
    This morning, Mr. Chairman, I would like to switch gears 
just a little bit even from the testimony I had planned to 
present and talk a little bit more about why we need to change 
our process, maybe how to get to structural tax reform, rather 
than focusing so much on why a specific tax reform plan does or 
doesn't make sense. I think over the next two to five years we 
have a tremendous opportunity to move forward on tax reform. 
Unlike some in this room and elsewhere, I believe it can 
happen. In fact, I believe it must happen if America is to be 
prosperous in the increasingly-competitive new century.
    In 1996 and 1997, thanks to the chairman's support and 
others, I had the opportunity to serve as co-chairman on the 
National Committee on Restructuring the IRS. I served on that 
with Bill Coyne, who is with us this morning. It was a blue 
ribbon panel of experts, as you know, convened by Congress to 
recommend reforms to improve taxpayer service at the IRS.
    I want to touch on this commission only because I think it 
relates the to the topic here today in two regards.
    First of all, the Commission in its work found the 
complexity of the tax code was one of the major--and I would 
say the major--problem facing the Internal Revenue Service. It 
is consistent with the hearings that we have had and the focus 
of this committee on tax reform.
    Second, because I think it says a lot about process--that 
is, how to achieve reform--in the Commission we rolled up our 
sleeves, spent literally a year auditing the IRS, kind of 
turning the table and getting to the root of the key problems 
at that agency.
    It was a complex and very difficult task, but after 
careful, thorough review we recommended the most comprehensive 
overhaul of the IRS in 45 years. And, although some of those 
recommendations were viewed as controversial at the time, and 
although the Administration was initially opposed to our 
findings, at the end of the day, I think, based on the 
Commission's work and the credibility that the Commission's 
research brought, we were able to enjoy broad, bipartisan 
support and we got these important reforms enacted into law.
    Throughout our work on the IRS Restructuring and Reform 
Commission, there was one cross-cutting problem that kept 
resurfacing. Of course, I am talking about complexity of the 
tax code.
    It was an evolutionary process. When we first started out, 
folks weren't focused too much on the complexity. We were 
focused more on the inner workings of the IRS. But on a 
bipartisan basis, Mr. Chairman, commissioners came to conclude 
that the code, itself, was the greatest problem facing a very, 
very troubled agency.
    This isn't news to members of this committee, but it 
provided, I think, a clear basis for reform because we found 
convincing evidence that there were enormous organizational 
challenges that the tax code poses to the IRS.
    Again, although tax simplification was not our mandate, I 
think we pushed the envelope a bit in our recommendations, 
because the problem was so pervasive.
    As you know, our recommendations included the tax 
complexity analysis because of that which subjects all 
perspective tax bills to a Joint Tax Committee analysis to 
determine complexity for the taxpayer and for the IRS. We also 
recommended getting the IRS formally involved in the tax-
writing process, to comment on the administrative challenges, 
which we are trying to get even today from the IRS as an 
independent agency looking at this issue.
    We also made recommendations--some members of this 
committee remember those, because some were controversial--on 
60-odd specific code sections that could be simplified, 
including the alternative minimum tax, to reduce needless 
complexity. Some of these reforms, incidentally, were included 
in the 1997 Taxpayer Relief Act.
    And, finally, we recommended and passed in law that there 
be an annual meeting of the seven committees with IRS oversight 
coming together with Ways and Means and Finance on both sides 
of the Capitol to ensure this agency gets more consistent 
guidance from the Hill.
    So these reforms underscored the connection we saw between 
the problems with the IRS and complexity of the tax code.
    Now, my thinking today is, you know, how do we get from 
point A to point B. How do we get to this fairer, simpler tax 
code?
    I think a Tax Reform Commission makes a lot of sense, and 
the purpose of this commission would be to keep the ball 
rolling, to help educate the public about the problem--and Mr. 
Rangel talked about that yesterday--and the alternatives, and 
also take some of the rough and tumble of partisan politics out 
of the process to bring some non-partisan expertise to bear on 
the problem in a focused way with a specific time table.
    I do urge my colleagues to support the legislation on the 
floor today because it does have this commission as part of the 
so-called ``sunset the code'' idea. I think it is a much more 
responsible piece of legislation this year as a result of that. 
It is an 18-month commission.
    I know, again, some commissions have had a checkered past 
in this town, but others have worked very well, and the IRS 
Commission is the model upon which the commission we will vote 
on today is based--15 members appointed by both parties, both 
Houses, and the President, short time table, and report to 
Congress. It does not take away, in any sense, the 
responsibility of the Ways and Means Committee or the Finance 
Committee to work through a tax reform. Just like the IRS 
Commission, it makes a recommendation. We then go through 
normal procedures, subcommittee and committee, to come up with 
a proposal that the Ways and Means Committee and the Finance 
Committee think is appropriate to bring to the floor.
    But I think we need to have this kind of outside expertise 
brought to bear on this issue. Obviously, before we even have 
the recommendation, the committee has a lot of work to do, and 
it is doing it well this week, in laying out the framework for 
tax reform we can all agree on.
    I think part of this framework must be broad support, and 
that means it must be bipartisan. And this is really for two 
reasons. First, it is reality. It is going to be difficult for 
either party to ramrod a tax reform plan through Congress on 
its own. But second, and very importantly, is stability. We 
need to ensure that future Congresses and administrations don't 
throw out the tax code every time party control switches.
    I think if there is anything in the code that is worse than 
the complexity, it is the changes to code, and we have seen 
thousands of them since 1986. People are looking for certainty 
and consistency, so that kind of a broad-based, two-thirds 
support I think is absolutely critical.
    Revenue neutrality--I would just urge that any tax reform 
plan we come up with must deal with the current revenue 
estimates.
    We have heard, as you know, Mr. Chairman, lots of testimony 
here this week on various estimates of what rates could be, but 
I think we have got to be able to compare apples to apples, 
which is, let us deal with the issue of reducing the scope and 
size of the Government separately, which I support, but, with 
regard to tax reform, I think we have got to focus on keeping 
it revenue neutral and how do we come up with the best way to 
raise the revenue to meet our needs.
    And finally, of course, fairness. I think we have to 
recognize the progressivity of the current code. It is 
extremely progressive, and the top 10 percent pay 60 percent of 
the income taxes in this country. For political reasons, I 
think a very regressive tax has no chance of passing, so I 
don't think that we can throw the distribution tables too far 
off. At the same time, we must deal with the reality that our 
current code does penalize savings and investment, our current 
code does add enormous complexity, which is a waste of time and 
money and energy, and this is where, frankly, we have, I think, 
the most potential to make a huge difference in terms of 
economic growth in this country and, again, moving into the 
next century with prosperity.
    I think, Mr. Chairman, again, all of us have different 
ideas. You know I have some specific ideas on tax reform. I 
thought about talking about them today, but I think that is 
less useful, frankly, than it is talking about process at this 
point and moving the ball forward.
    I appreciate your allowing me to testify here today and I 
urge us to take that next step, move forward on a bipartisan 
basis to put together a plan for reform, and I thank you for 
your patience this morning.
    Chairman Archer. Thank you for your input. The committee, I 
think on a bipartisan basis, welcomes it.
    [The prepared statement follows:]

Statement of Hon. Rob Portman, a Representative in Congress from the 
State of Ohio

    Thank you, Chairman Archer, for holding this series of 
hearings on tax reform. It's been an informative and thoughtful 
discussion, and I've appreciated the opportunity to learn about 
the various alternatives to the current tax code, which I hope 
we can all agree should be replaced by a simpler, fairer and 
less intrusive system.
    This morning, though, I would like to focus, not so much on 
why a specific tax reform plan does or doesn't make sense, but 
on the process of how we might bring structural tax reform 
about within the next two to five years. Unlike some, I believe 
it can happen-in fact, I believe it must happen if we are to 
continue our current prosperity into an increasingly 
competitive 21st Century.
    In 1996 and 1997, thanks to the Chairman's support, I had 
the opportunity to serve as co-chairman of the National 
Commission on Restructuring the IRS--a blue ribbon panel of 
experts convened by the Congress to recommend reforms to 
improve taxpayer service at the IRS. We rolled up our sleeves 
and spent a year literally auditing the IRS--to get to the root 
of the key problems at the agency. It was a complex and 
difficult task, but after careful, thorough review, we 
recommended the most comprehensive overhaul of the IRS in 45 
years. Although some of the recommendations were controversial 
at the time, and although the Administration was initially 
opposed to our findings, at the end of the day, based on the 
Commission's work and the credibility it brought, we enjoyed 
broad bipartisan support and got these important reforms 
enacted into law.
    Throughout our work on the IRS Restructuring Commission, 
there was one cross-cutting problem that kept resurfacing. I'm 
talking, of course, about the overwhelming complexity of the 
tax code. On a bipartisan basis, Commissioners came to conclude 
that the tax code ITSELF was the greatest problem facing a 
very, very troubled agency. This isn't news to the Members of 
this Committee. But it provided another clear basis for reform, 
because the Commission found convincing evidence of the 
enormous organizational challenges the tax code poses to the 
IRS.
    Although tax simplification was not our mandate, we pushed 
the envelope a bit with our recommendations because the problem 
was so pervasive. Among our recommendations:

1) Tax complexity analysis-subject all prospective tax legislation to a 
    Joint Tax Committee analysis to determine its complexity for the 
    taxpayer and the IRS.
2) Get the IRS formally involved in the tax writing process to comment 
    on the administrative challenges posed by the proposed tax law 
    changes.
3) Recommendations on 60-odd specific code sections that could be 
    simplified to reduce needless complexity-some of these reforms were 
    implemented in the 1997 Taxpayer Relief Act.; and
4) An annual meeting of the 7 committees with IRS oversight 
    responsibility to ensure that the agency gets more consistent 
    guidance from the Hill.

    These reforms underscored the connection between the problems of 
the IRS and the complexity of the code itself. But I believe they've 
also had the effect of helping to convince Members of Congress and the 
public that we'll never get at the real root of the problems at the IRS 
unless we address the tax code itself.
    Now, I know what you're thinking--despite the amount of rhetoric 
devoted to tax code reform, little seems to get done (raise your hand 
if you remember the Tax Reform Act of 1986). While the general notion 
of tax reform has broad bipartisan support the devil, as always, is in 
the details. So how do we get from Point A--the current code--to Point 
B--a simpler, fairer tax code that actually makes sense for a 21st 
Century economy? Let me offer a few suggestions.
    First, let's establish a Tax Reform Commission. The purpose of the 
Commission would be to keep the ball rolling, to help educate the 
public about the problem and the alternatives, to take some of the 
rough-and-tumble of partisan politics out of the process and to bring 
some non-partisan expertise to bear, in a focused way and with a 
specific timetable.
    That's why I urge my colleagues to support the legislation that's 
on the floor today--which not only contains the ``sunset the code'' 
idea that we've debated in the past--but in the meantime also 
establishes a non-partisan NATIONAL COMMISSION ON TAX REFORM AND 
SIMPLIFICATION. It is modeled on the successful National Commission on 
Restructuring the IRS.
    I know that Commissions have a checkered past in this town, but we 
proved that they can work. The Commission will have 15 members--three 
appointed by the President, four each appointed by the Senate Majority 
Leader and the Speaker, and two each appointed by the House and Senate 
Minority Leaders. It will have a short timetable -18 months--to 
complete its work and make a report to Congress on ways to 
fundamentally reform and simplify the tax code. The Commission's 
recommendations will cut through some of the clutter and give the Ways 
and Means Committee a specific starting-point for more general debate.
    But even before we have a specific plan before us, this Committee 
should take the lead by laying out a framework for tax reform that we 
can all agree on. Any framework for tax reform should include these 
three elements:

1. BROAD SUPPORT, meaning, of course, it must be BIPARTISAN:Taxes are 
    some of the most intensely partisan issues we consider in this 
    Congress--and there are real and legitimate differences between the 
    tax policy viewpoints of both parties. But, as we consider 
    structural tax reform, we need to have a plan that can draw 
    bipartisan support. Why? (1) Reality--neither party has the ability 
    to ramrod a tax reform plan through Congress on its own; and (2) 
    Stability: Ensure that future Congresses and Administrations don't 
    throw out the tax code when party control switches. There have been 
    thousands of changes to the Code even since 1986, and it's the 
    constant changes--as well as the complexity--that causes such 
    compliance headaches.
2. REVENUE NEUTRALITY: Any tax reform plan that stands a realistic 
    chance of becoming law cannot significantly increase or decrease 
    federal tax receipts. I'm not going to mention specific plans, but 
    there have been tax reform plans that have advertised a certain 
    rate that is predicated on significant reductions in the federal 
    budget. Our focus should be on developing a vehicle for reforming 
    the tax code--we can find plenty of other opportunities to have the 
    debate over reshaping the size and shape of the government.
3. Finally, FAIRNESS: I think we have to recognize the PROGRESSIVITY of 
    the current code and--for both fairness and for political reasons--
    I just don't see a regressive tax passing. We can't have a plan 
    that throws the distribution tables too far off by shifting too 
    great a percentage of the overall tax burden onto one income level 
    or another. An important, but overlooked, part of ensuring tax 
    progressivity, in my view, is to reduce compliance costs and 
    burdens for taxpayers--particularly lower-and middle-income 
    taxpayers. If we can lower or eliminate altogether the costs of 
    complying with the code for a substantial number of taxpayers, 
    we'll have a much fairer and less intrusive system.

    As some of you know, I've been working on my own ideas for how we 
might accomplish those goals. And I know other Members of this 
Committee have offered thoughtful plans for reforming the tax code. I 
commend Chairman Archer for having these hearings to increase the 
awareness and understanding of the challenge of tax reform.
    Now, let's take the next step--on a bipartisan basis--to make tax 
reform a clear policy goal for this Congress.
            Thank you.
      

                                


    Chairman Archer. I have no questions.
    Mr. Rangel?
    Mr. Rangel. I am a little afraid of the idea of a 
commission having such broad powers in determining 
philosophically how we should collect the revenues that would 
run our country.
    With Social Security, I joined with the Chairman in 
believing that a commission was the right way to go. 
Philosophically I don't think there is that much diversity in 
terms of how do you fund a system once you have already decided 
the health care that you want to provide. But whether we are 
talking a value-added tax, a Federal sales tax, or a 
progressive income tax, I think we are elected to make those 
type of decisions.
    But I am attracted to the idea of bringing together groups 
of professionals, excluding Members of Congress, have them 
review and analyze the different systems that have been offered 
to the Congress, and to report back to the Ways and Means 
Committees the pros and cons of it.
    But it just seems to me that I would not want presented to 
the Ways and Means Committee, to the House, or however you work 
this out, something that philosophically may be diametrically 
opposed to what I think should be happening. Members are 
elected to express their views of their constituents, are would 
need to know what direction the commission would be going and 
have an impact.
    There is enough good ideas in what you are saying and I 
think that your presentation is positive. We should have more 
outside views, so that we don't waste a lot of times just with 
hearings, where experts can come together, study a situation, 
and then report back to the Congress.
    I want to thank you for your thoughtfulness. We will 
continue to rely for you for direction in assisting us. We 
hopefully will move forward in bringing some resolution to this 
problem.
    Mr. Portman. Thank you. I will.
    I would just make one quick comment, and that is that the 
educational element to this that you mentioned--I believe it 
was at yesterday's hearing--I think would be a tremendous 
benefit that would come from a commission.
    In the IRS Commission case, as Mr. Coyne knows, we held 
hearings around the country, and I think that would be 
appropriate.
    A lot of it is going to be exactly what you say, which is 
bringing experts in and also bringing people from everyday life 
who are affected by these massive changes that are being 
recommended to talk about the impact it would have on our 
businesses, on individuals, families, and so there would be an 
educational aspect to this and there would also be a lot of 
analysis, and at the end of the day there may not be a 
consensus recommendation. It may be just that--it may be just 
information that Congress can use.
    Ultimately, of course, I said earlier--which is obvious--
this committee and the elected representatives would have the 
final say.
    Mr. Rangel. Thank you.
    Chairman Archer. Does any other Member wish to inquire? Mr. 
Neal?
    Mr. Neal. Thank you, Mr. Chairman.
    Mr. Portman, you know of my regard for your opinions, and I 
am delighted with much of your testimony, but let me ask you a 
couple of specific questions that I think might focus part of 
this discussion.
    A certain amount of the tax reform debate relies upon the 
old notion that the grass is always greener on the other side 
of the fence. Certainly, retail sales tax supporters found that 
out when joint tax Tuesday estimated that it would take a 60 
percent sales tax to replace all Federal taxes.
    I react favorably to Mr. English's philosophy when he said 
yesterday that the last thing we need is to enact reform that 
is so radical and experimental that Congress will be faced with 
revamping it all over again in but a few years.
    Let me ask you this. I know you have an interest in 
simplification, especially in the pension area. I have 
introduced a bill, which even Mr. Archer has commented on 
favorably, that would eliminate 200 lines from individual 
income tax forms. Mr. Houghton has another version of that and 
has worked on international tax simplification, as well.
    Do you think it is really possible that the committee, or 
at least some of us, could hammer out a practical, reasonable, 
wide-ranging tax simplification proposal? And do you think that 
would satisfy many of the complaints about complexity in the 
current system?
    The 1986 Tax Act was intended to promote fairness, 
simplicity, and economic efficiency. Regardless of how well the 
committee achieved any of these goals, it has spent the last 15 
years unraveling at least part of it.
    Do you think that we would be any more successful this 
time, or do we need a completely different tax system?
    Mr. Portman. I guess I think both. I have always believed 
that it is worth the committee's time and the Oversight 
Subcommittee, on which I serve, to focus on simplification. 
Every day we ought to be trying to simplify the tax code. At 
the same time, and I think this gets to your question maybe 
more directly--if we just do that, we will not have done 
enough. Because of the forces in this town and elsewhere to 
find special breaks and provisions in the tax code that help 
individuals and help businesses, we will end up with the same 
complexity problems, which is why we need, also, to have debate 
on and movement toward a more fundamental tax reform measure 
which would, indeed, replace the current code.
    I also think we have to realize that, as long as we are 
just taxing income, we are, in effect, taxing success and 
taxing productivity, and all the economists with whom I have 
talked and you have talked, right, left, or center, agree that 
moving from something that penalizes savings and investment and 
the next dollar earned to a system that taxes consumption more 
would make sense from an economic perspective.
    In our current code, with all the simplification you or I 
might want to do, you can't get at that economic reality. What 
we can get at is the compliance cost, which I salute you for. I 
think your bill is a movement in that direction. But I think we 
need to go on both tracks.
    Mr. Neal. Thank you, Mr. Portman.
    Thank you, Mr. Chairman.
    Chairman Archer. Mr. Thomas?
    Mr. Thomas. Thanks, Rob.
    One of the concerns I have is that all of our focus is on 
the hated IRS, for a lot of good reasons, and a lot of the 
programs look at the domestic picture and the internal role of 
the tax code, because we have structured ourselves so long in 
that way.
    You and I and others know that our tax code, vis-a-vis 
other countries, has significant impact on trade.
    It used to be that no one really wanted to look at Medicare 
or other major Federal programs because it was, as they used to 
say, the ``third rail.'' Although President Clinton probably 
doesn't want to have credit for starting the debate by putting 
out a plan that was examined in great detail and wound up being 
found lacking, I think a significant education process went on 
among Americans and those institutions--the media and others--
in examining an area that had not been at the forefront of 
exploration, the Medicare system, and, beyond that, the health 
care system and the delivery structures that go with it.
    My concern about not wanting to put something forward--and 
you always do the best you can--is not so much to worry about 
failing, but that, absent something concrete about which debate 
could turn, we aren't going to get the kind of educational 
process among the American people that I think we need. A 
sterile, academic discussion of options isn't the same as, 
``This is what we have. This is what you are going to get. What 
do you think of the difference?'' That focuses the debate.
    The fact that we would fail, say, the first time around is 
less important to me than how far have we advanced the American 
people's understanding that we need something new, 
notwithstanding what it was they just lost.
    Having been on a commission recently dealing with 
Medicare--yours was a bit more successful than ours--we, 
nevertheless, I think, elevated to a degree the discussion, 
because we put forth a specific plan.
    Commission, us, somebody--esoteric, academic debates don't 
create the intensity to choose. Something out front that could 
be an alternative does.
    Reaction?
    Mr. Portman. I couldn't agree with you more. It is an 
action-forcing event. And let me say I didn't use Thomas-
Breaux, which was the Medicare Reform Commission, as my 
example, I used the IRS one because I am closer to it, but it 
is a perfect example of what I am talking about. A major 
difference, as you know, between the IRS Commission and Thomas 
Breaux was the two-thirds requirement. Wasn't it a two-thirds 
requirement for a recommendation to be made from the 
Commission?
    Mr. Thomas. Yes. It was 11 out of 17.
    Mr. Portman. We had a different set of rules under which we 
worked. Now, in the end we did get a two-thirds majority, but I 
think it was too bad that at the end that effort was torpedoed 
by representatives from the Administration.
    But, by the same token, it certainly focused debate and it 
certainly moved the ball forward, and I think it is a good 
example.
    People, again, say commissions don't work. Well, they have 
a checkered past. Some have, some haven't. But I can tell you 
these two examples of the IRS Commission and the Medicare 
Commission I think would lead us to be favorably disposed 
toward a commission approach to this.
    IRS reform is difficult and Medicare reform is extremely 
controversial and can become very political, but nothing is 
bigger than tax reform because it is going to affect every 
single person in America, every business, and how we transact 
every business transaction.
    As Mr. Rangel said, it is fundamentally government how we 
collect our taxes.
    I think Chairman Archer has, through the last few years, 
done incredible work in moving the ball forward, because we 
wouldn't be here at these hearings. We wouldn't have the 
headlines that we are getting. But we need to now move it to 
the next level, and I think it is helpful to take it out of 
this politically-charged environment.
    Frankly, the Administration hasn't been able to come to the 
plate on it.
    If you look to the history of tax reform, it has always 
been led by Treasury. They have the expertise. They have the 
ability to understand how it would be implemented. This 
Administration has not taken the lead on that, unlike the 
Reagan Administration in 1986. That may or may not happen in 
the next Administration.
    The wonderful thing about this commission is that, while it 
includes the Treasury Department--and actually the Secretary of 
the Treasury would make an appointment--and includes the 
Administration, it does not rely on them. Instead, it relies on 
Congress and the Administration, bipartisan, bicameral, moving 
ahead on it.
    So I agree with your observation, and I think the Medicare 
Commission is another good example.
    Chairman Archer. Mr. Portman, thank you very much.
    Mr. Portman. Thank you, Mr. Chairman.
    Chairman Archer. Our next panel is Frank Luntz and Jefrey 
Pollock.
    Welcome, gentlemen. If you will identify yourselves for the 
record, you may proceed with your testimony. And, if possible, 
we would appreciate your holding your verbal testimony to five 
minutes. Your entire printed statement, without objection, will 
be inserted in the record.
    Dr. Luntz?

    STATEMENT OF FRANK LUNTZ, PRESIDENT AND CHIEF EXECUTIVE 
     OFFICER, LUNTZ RESEARCH COMPANIES, ARLINGTON, VIRGINIA

    Mr. Luntz. Mr. Chairman, for the record, my name is Frank 
Luntz. It is an honor to be here. Having had the opportunity to 
present to a number of you in your offices and in various 
places on the Hill and now being before this tremendous 
chamber, I can tell you that distance only makes the heart grow 
fonder.
    I am sorry that the ranking member is not here. I would 
have informed him that in our polling for New York, on more 
than one occasion, he is the most popular and respected 
political figure in the State. When we asked him why, the 
number one reason was his voice. I was looking forward to 
hearing his voice after we spoke today.
    I begin with a single finding from my--
    Chairman Archer. Dr. Luntz, would you identify your 
official position in our world, for the record, before you 
commence?
    Mr. Luntz. My official position is the president of the 
Luntz Research Companies. Thank you, sir.
    I begin with a single finding from a survey my firm 
completed just last week. When asked to choose the one 
government agency or institution Americans hated the most, it 
should come as no surprise that they chose the IRS. In fact, 
the IRS was chosen more than every other Government agency 
combined.
    Mr. Chairman, that is just one reason why up to 80 percent 
of Americans want fundamental tax reform and why so many 
Americans want to rid themselves of this complicated, 
confusing, and corrupt tax system.
    I ask the members of this committee to answer one question 
that we asked the American people--which would you rather have 
happen to you, have your wallet or purse stolen or be audited 
by the IRS? Of Americans, 45 percent chose the wallet or purse 
stolen, 45 percent chose the IRS audit, and 10 percent actually 
said they couldn't tell the difference between the two.
    Now, if you ask the American people to set a fair tax rate, 
most Americans would agree to something around 20 percent. But 
what frustrates Americans the most is not the income tax rate 
so much as it is the complexity of the system and the 
perception that the rich have expensive tax attorneys and fancy 
accountants to navigate the IRS code.
    In public opinion research we have done in terms of tax 
reform, Americans have four essential requirements
    Number one, fairness. Americans want to know that the 
family with the expensive mansion on top of the hill is paying 
his or her fair share. Fairness does not mean soak the rich, 
but it does mean the wealthy must pay their fair share.
    Number two is simplicity. People do not want to pay 
accountants to prepare their taxes, yet an increasing 
percentage of working class families now need to because the 
system is so complicated and so frustrating.
    Number three, uniformity. Working families dislike having 
tax advantages parceled out to those who hire expensive 
lobbyists and tax lawyers. Americans want a Federal tax system 
that treats billionaires like Bill Gates exactly the same as 
bus drivers like Ralph Cramden.
    Consistency--Americans hate how the tax code changes from 
year to year. With all due respect, they want a tax code that 
you all up there can't tinker with from year to year.
    Tax reform is a middle class issue because it is the middle 
class who work the longest and hardest and feel the most short-
changed by not finding all the tax deductions they are entitled 
to. I ask you to think about just how often you all are 
affected by the tax code.
    When you wake up in the morning and drink your first cup of 
coffee, you pay a sales tax. You start your car, you pay a gas 
tax. You drive to work, you pay an automobile tax. At work you 
pay an income tax. You turn on the lights, you pay an 
electricity tax. You flush the toilet, you pay a water tax. You 
get home at night, you pay a property tax. You turn on your TV, 
you pay a cable tax. You make a phone call, you pay a telephone 
tax. Even when you die, you pay a death tax.
    Two-thirds of Americans believe that they are over-taxed 
and they want a break, and that is why tax reform, Mr. 
Chairman, is so universally popular and that is why, in 
particular, they want an end to the marriage penalty and an end 
to the death tax.
    It doesn't matter whether you are a republican or democrat. 
Americans believe that a recently-married couple should not pay 
more in taxes just simply because they decided to get married. 
It is one of the most sacred and important institutions in our 
society, and you are going to have a difficult time finding 
anyone who believes that they should have to pay more just 
because a man and a woman tie the knot.
    Similarly, it was Benjamin Franklin, my favorite founding 
father, who said, ``There are only two certainties in life--
death and taxes.'' But I don't think even Ben Franklin would 
have known that both those occurrences would have come at the 
same time.
    My colleague, Jef Pollock, has more numbers to share with 
you, so I will close with the following observation: most 
Americans believe you can fix the tax code, instill fairness 
and consistency, and still maintain and strengthen programs 
like Social Security and Medicare. They believe you have got 
the power to do it all, and they want you to do it all.
    And the people that I polled are not the Internet paper 
billionaires, they are not the high-priced lawyers. They are 
struggling to make ends meet. They sacrifice their own needs 
and give everything they can to their children. All they want 
to know is that you hear them and that you care, so prove it 
with a new tax code that is consistent, flat, fair, and tinker-
proof.
    Thank you, Mr. Chairman.
    Chairman Archer. Thank you, Dr. Luntz.
    [The prepared statement follows:]

STATEMENT OF FRANK LUNTZ, PRESIDENT AND CHIEF EXECUTIVE OFFICER, LUNTZ 
RESEARCH COMPANIES, ARLINGTON, VIRGINIA

    I begin with a single finding from a survey my firm completed just 
last week. When asked to choose the one government agency or 
institution they hated the most, it should come as no surprise they 
chose the IRS. In fact, they chose the IRS more than every other 
government agency--combined In fact, according to a colleague of mine, 
Democratic pollster Peter Hart, few things frighten Americans more than 
receiving an IRS notice in the mail.
    Mr. Chairman, that's just one reason why up to 80% of Americans 
want fundamental tax reform, and why so many Americans want to rid 
themselves of this complicated, confusing and corrupt tax system. In 
fact, for most Americans, the point of least favorable contact between 
them and Washington occurs sometime late in the afternoon of April 15 
when they deliver their tax return to the friendly local post office.
    I ask this Committee to answer a question I put to the American 
people: would you rather have your wallet or purse stolen or be audited 
by the IRS? Among Americans, 45% would rather be audited, 45% would 
rather have their wallet or purse stolen, and 10% said there was no 
difference!
    Now, if you asked Americans to set a fair tax rate, most would 
readily agree to something around 20 percent. But what frustrates 
Americans most is not the income tax rate so much as it is the 
complexity of the system and the perception that the rich have 
expensive tax attorneys and fancy accountants to navigate the Internal 
Revenue Code.
    In the public opinion research we have done in regard to tax 
reform, Americans have four essential requirements for any new tax 
code:

1) Fairness. Americans want to know that the family in the mansion at 
    the top of the hill is paying his fair share. Fairness does not 
    mean soak-the-rich, but it does mean the wealthy must pay their 
    fair share.
2) Simplicity People do not want to pay accountants to prepare their 
    taxes, yet an increasing percentage of working class families now 
    need to because the system is so complicated and frustrating.
3) Uniformity Working families dislike having tax advantages parceled 
    out to those who hire expensive lawyers and lobbyists. Americans 
    want a tax system that treats Bill Gates no better than Homer 
    Simpson.
4) Consistency Americans hate how the tax code changes from year to 
    year. With all due respect, they want a tax code that stops all of 
    you from tinkering with it.

    Tax reform is a middle class issue, for it is the middle class who 
work the longest and the hardest and feel the most shortchanged by not 
finding all the tax deductions they are entitled to. I ask you to think 
about just how often the working men and women of America are taxed in 
their day-to-day livesa...
    When you wake up in the morning and drink that first cup of coffee, 
you pay a sales tax. When you start your car, you pay an automobile 
tax. Drive to work, you pay a gas tax. At work, you pay an income tax--
and a payroll tax. You get home at night, you pay a property tax. Flip 
on the light--you pay an electricity tax. Turn on the TV--you pay a 
cable tax. Call a friend, you pay a communications tax. Brush your 
teeth, you pay a water tax. Even when you die, you pay a death tax.
    In short, two-thirds of hardworking American believe they are 
overtaxed, and they want a break. That's why tax reform is so 
universally popular, and why, in particular, Americans want an end to 
the so-called marriage tax and the death tax.
    It doesn't matter whether you are a Republican or a Democrat. 
Americans believe that a recently married couple should not pay more in 
taxes simply because they decided to get married. The institution of 
marriage is one of the most sacred and important in our society, and 
you would have a difficult time finding anyone who believes the 
government should penalize a man and a woman simply because they choose 
to tie the knot and start a family.
    True, it was Benjamin Franklin, my favorite Founding Father, who 
said there were two certainties in life: death and taxes. But I do not 
believe even Dr. Franklin could have told us that both would occur at 
the same time. Perhaps that is why only a fraction of Americans believe 
they will ever be impacted by the death tax, and yet a clear majority 
want that tax eliminated--now.
    My Democratic colleague has more numbers to share with you, so I 
will close with the following observation. Most Americans believe you 
CAN fix the tax code, instill fairness and consistency into the system, 
and still maintain and strengthen programs like Social Security and 
Medicare. They believe you have the ability and the power to do it all.
    And the people I poll are not the Internet paper billionaires. The 
people I poll don't have the high priced lawyers and fancy CPA's at 
their beckon call. The people I poll still struggle to make ends meet. 
They still burn the candle at both ends to put food on the table and 
keep a roof overhead. They still sacrifice their own needs and giving 
everything they've got to make sure their children have every 
opportunity for a brighter future. All they want to know is that you 
hear them and that you care. So prove it, with a new tax code that is 
consistent, flat, fair and ``tinker proof.''

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    Chairman Archer. Mr. Pollock?

STATEMENT OF JEFREY POLLOCK, PRESIDENT, GLOBAL STRATEGY GROUP, 
                    INC., NEW YORK, NEW YORK

    Mr. Pollock. Thank you, Mr. Chairman.
    My name is Jef Pollock. I am the president of Global 
Strategy Group, a public opinion research firm for the 
democrats.
    Hemlines go up. Hemlines go down. Los Angeles has forsaken 
the martini lunch for a sobering shot of oxygen. Public opinion 
waxes and wanes. But what is the one thing everyone has 
consistently agreed upon since Truman beat Dewey? Taxes, Mr. 
Chairman, are too high, and the system we endure too complex.
    Over 40 percent of Americans have considered Federal income 
taxes to be too high since the 1940s, and for the last 30 years 
that figure has risen to 60 percent, though admittedly it is 
down from its high of 69 percent in 1969.
    How much is too much? As my republican colleague, Dr. 
Luntz, has stated, almost two-thirds of Americans say the 
highest percentage we should have to pay for all taxes 
combined--that is Federal, State, and local--should be less 
than 20 percent of their income. And who is getting their free 
ride? According to most Americans, it is the rich.
    Fully two-thirds of the Nation believe that those in the 
upper income bracket pay too little in taxes, and almost half 
of all Americans say this is the aspect of our tax system that 
bothers them the most.
    Still, on a more personal level, less than half of the 
population believes that the amount of taxes they will pay this 
year is ``fair.''
    Americans are focused on their persistence that our tax 
code needs overhaul. Dr. Luntz is correct to demonstrate that 
Americans are frustrated with their increasing reliance on 
accountants. The middle class think they are being squeezed by 
a complex system. An impressive 61 percent of Americans believe 
the Federal income tax system needs major changes or a complete 
overhaul.
    The components of this overhaul encompass cutting taxes, 
simplifying the process, and regulating the power of the IRS, 
but, while these suggestions sound succinct, they come with 
strings attached, further complicating the process of reform.
    Simplicity--two-thirds of Americans find the Federal system 
too complicated; yet, although the system of taxation is 
considered too complex, Americans are unwilling to give up 
deductions to simplify it, and they oppose, by a 57 to 34 
percent margin, replacing the system with a simpler nationwide 
sales tax.
    Regulation--a vast majority of Americans, 68 percent, 
believe the IRS has more power than it needs. There is no 
``other side'' to this issue. Right or wrong, they feel the IRS 
should be better regulated.
    Tax cuts--Americans are equally in support of a tax cut for 
all Americans, as well as a cut for moderate to low income 
households. However, while 72 percent of Americans favor a cut 
in Federal income taxes, it is not their highest priority. A 
plurality, 39 percent, placed a high priority on Congress 
passing a significant Federal income tax, but only 21 percent 
say it is the top priority. And more than a third, 38 percent, 
say it should be a low or not a priority at all.
    In addition, when our firm, Global Strategy Group, frames 
the question pitting tax cuts against generic spending, 
Americans prefer tax cuts. But when you ask people about 
cutting tax as opposed to spending on programs, Americans 
choose, of course, to fund the programs they most enjoy.
    So, although they are concerned about their own purse, the 
point of contributing to the Government's coffers is clearly 
understood and accepted.
    The task that lies before you all is great. Americans are 
not happy with the current tax system, and, although they do 
offer solutions, the solutions are not without their own 
complexities.
    While Americans overwhelmingly want reform, they do not 
want it at any cost. They will not trade tax reform for a cut 
in specific spending programs, and they will not sacrifice 
deductions for a simplification in the tax codes; however, they 
will likely be receptive to a discourse on how to reform the 
code, and we can be pretty certain they will embrace a plan to 
equalize the tax contributions of all Americans and certainly 
to reduce the power of the IRS.
    As we approach April 15th, Americans are struggling to 
complete their tax forms accurately and on time. There is no 
better time to reassess the tax code and deliver a simpler, 
fair system that addresses the perceived inequality of taxation 
and the inappropriate power of the IRS.
    Let us put last century's opinion on this issue to rest 
forever.
    Thank you, Mr. Chairman.
    Chairman Archer. Thank you, Mr. Pollock.
    [The prepared statement follows:]

STATEMENT OF JEFREY POLLOCK, PRESIDENT, GLOBAL STRATEGY GROUP, INC., 
NEW YORK, NEW YORK

    Hemlines are up, hemlines are down. La Vida Loca replaces 
Duck & Cover. L.A. has forsaken the martini lunch for a 
sobering shot of oxygen. The Watergate has become just another 
fashionable address. Public opinion waxes and wanes.
    But what's the one thing everyone has consistently agreed 
on since Truman beat Dewey? Taxes, Mr. Chairman, are too high. 
And the system we endure, too complex.
    Over 40% of Americans have considered federal income taxes 
to be too high since the late 1940s. And for the last thirty 
years, that figure has risen to 60% (though it is down from 
it's high of 69% in 1969).
    How much is too much? As my Republican colleague, Dr. Frank 
Luntz has stated, almost two-thirds of Americans say the 
highest percentage we should have to pay for all taxes 
combined--that's federal, state and local--should be less than 
20% of their income.
    And who's getting the free ride? The rich. Fully two-thirds 
of the nation believes that those in the upper income bracket 
pay too little in taxes. And almost half of all Americans say 
this is the aspect of our tax system that bothers them the 
most. Still, on a more personal level, less than half of the 
population believes that the amount of taxes they will pay this 
year is ``fair.''
    Now, although everyone likes to gripe vaguely about 
situations they perceive to be out of their control, Americans 
are focused in their persistence that our tax code needs an 
overhaul. Dr. Luntz is correct to demonstrate that Americans 
are frustrated with their increasing reliance on accountants: 
the middle class think they're being squeezed by a complex 
system.
    An impressive sixty-one percent of Americans believe the 
federal income tax system needs major changes or a complete 
overhaul.
    The components of this overhaul encompass cutting taxes, 
simplifying the process and regulating the power of the IRS. 
But while these suggestions sound succinct, they come with 
strings attached--further complicating the process of reform.
    Simplicity: Two-thirds of Americans find the federal tax 
system too complicated.
     Yet, although the system of taxation is considered 
too complex, Americans are not willing to give up deductions to 
simplify it. And they oppose (57% to 34%) replacing the system 
with a nationwide sales tax.
    Regulation: A vast majority of Americans (68%) believe the 
IRS has more power than it needs.
     There is no ``other side'' to this issue. Right or 
wrong, they feel the IRS should be better regulated.
    Tax Cuts: Americans are equally in support of a tax cut for 
all Americans as well as a cut for moderate to low income 
households.
     However, while 72% of Americans favor a cut in 
federal income taxes, it is not their highest priority. A 
plurality of Americans (39%) place a high priority on Congress 
passing a significant federal income tax cut; but only 21% say 
it is the top prority. And more than one third (38%) say it 
should be a low priority or not a priority at all.
     In addition, when our firm, Global Strategy Group, 
frames the question pitting tax cuts against generic spending, 
Americans prefer tax cuts. But when you ask people about 
cutting taxes as opposed to spending on programs, Americans 
choose to fund the programs they enjoy. So although they are 
concerned about their own purse, the point of contributing to 
the government's coffers is clearly understood and accepted.
    The task that lies before you all is great. Americans are 
not happy with the current tax system and although they do 
offer solutions, the solutions are not without their own 
complexities.
    While Americans overwhelmingly want reform, they do not 
want it at any costs. They will not trade tax reform for a cut 
in specific spending programs, and they will not sacrifice 
deductions for a simplification of the tax codes. However, they 
will likely be receptive to a discourse on how to reform the 
code, and we can be pretty certain they will embrace a plan to 
equalize the tax contributions of all Americans and reduce the 
IRS's power.
    As we approach April 15th, Americans are struggling to 
complete their tax forms accurately and on time. There is no 
better time to reassess the tax code and deliver a simple, fair 
system that addresses the perceived inequality of taxation and 
inappropriate power of the IRS. Let's put last Century's 
opinion on this issue to rest forever.
    All polls cited in this testimony were conducted 
nationwide, and all polled only adults. Thus, the opinions 
cited are representative of voters across the country.
    Sources include:
    ABC News/Washington Post Poll, 3/9 -3/11, 2000, M of E 3%.
    AP Poll conducted by ICR, 3/26 -3/30, 1999, M of E 3.1%.
    Gallup Poll, 4/17 -4/19, 1998.
    __________, 3/5 -3/7, 1999, M of E 5%.
    __________, 7/17 -7/18, 1999, M of E 5%.
    __________, 1/13 -1/16, 2000.
    Gallup/CNN/USA Today Poll, Margin of Error 3%.
    __________, 4/6 -4/7, 1999, M of E 3%.
    __________, 7/16 -7/18, 1999, M of E 3%.
    FOX News/Opinion Dynamics Poll, 3/10 -3/11, 1999, M of E 
3.3%.
    NBC News/WSJ Poll, 7/24 -7/26, 1999, M of E 3.2%.
    Pew Research Center Poll, 2/9 -2/14, 2000, M of E 3.5%.

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    Chairman Archer. If I may inquire, where did you grow up?
    Mr. Pollock. I grew up in Mr. Coyne's home State of 
Pennsylvania, northeast Philadelphia.
    Chairman Archer. Well, as a Texan, I greatly enjoyed your 
statement that ``the task that lies before ya'll is great.'' 
And I thought perhaps you might have grown up in Texas.
    Mr. Pollock. Too many clients in the south, Mr. Archer.
    Chairman Archer. I would like to ask both of you what, if 
any, difference exists between the polling data that each one 
of you has been able to put together.
    Mr. Luntz. I would say that, for the most part, it is 
actually quite similar, though on some of the details it does 
differ because the focus does differ, and I would acknowledge 
to the Members that, depending on how you word the question, 
you can get a different result.
    I think we would both agree that the IRS is quite 
unpopular. I think we would both agree that the public does 
support the concept of tax reform. The question is always in 
the details of that tax reform.
    Today, more than at any other time, Americans believe that 
there should be a consistent rate, rather than this progressive 
rate, and that opinion did not exist five years ago, but it has 
existed for about the past two or three years, and that opinion 
continues to grow.
    And I think we also would agree that the public does want 
to ensure that any tax reform not subject programs like Social 
Security and Medicare to any kind of disruption.
    Mr. Pollock. I would agree with Dr. Luntz and say that the 
devil is in the details. When you look at questions about 
things like a flat tax, for example, that is when things get 
very complex, because when you ask Americans straight out they 
tend to like it, but once you ask them any single question that 
starts to whittle way at deductions, they basically flip out. 
They say, ``No. Forget it.'' And so it just takes one little 
push to push them over the edge, so the simplicity sometimes is 
deceptive in the questions.
    Mr. Pollock. And the surprise is actually republicans and 
democrats, alike, whenever we test the death tax, it is one of 
the taxes that Americans hate the most, even though it is a tax 
that very few Americans feel that they will ever face. That is 
what makes it quite interesting. They are not responding from 
their own personal benefit; they are responding from the 
principal belief that Americans should not be taxed at death.
    Chairman Archer. I am a little bit curious as to what 
appears to be a dichotomy between the results that Americans 
don't think higher-income people are paying enough, number one, 
and the comment that today a majority of them don't like the 
progressive rate structure. How do you explain that difference?
    Mr. Luntz. It is very easy, actually. It is all the 
deductions that you all have passed for various people that 
frustrate Americans. It is not the rate; it is the idea that 
the rich will have accountants and lawyers and people that can 
find in the loopholes within the current tax code that enable 
them to avoid having to pay taxes.
    Mr. Pollock. And it is interesting, Mr. Chairman. Among 
Americans, 45 percent say that the taxes they pay are fair, so 
it is not as if it is 70 percent saying that it is unfair, or 
something like that.
    I would agree with Dr. Luntz that it is the deductions, and 
that is the complexity that they feel.
    Frank had a very good line about Bill Gates and Ralph 
Cramden, that Bill Gates has all these attorneys and 
accountants and etc. who can get him out of taxes. I am not 
picking on him particularly, but that is the concept that 
Americans feel.
    Chairman Archer. Thank you.
    Mr. Thomas and Mr. Neal.
    Mr. Thomas. Actually, I believe it was Bart Simpson, wasn't 
it? Ralph Cramden is someone I recognize. I figured you were 
trying to go for the now generation with Bart Simpson.
    Thanks to both of you, but I, too, like the chairman, am 
kind of puzzled by the presentations, and then am curious about 
why and how questions are asked.
    Do you have any relevant poll data if you ask American 
people whether rich people are happier than poor people?
    Mr. Luntz. In fact, sir, we have looked at that, and the 
most happy people in America are the middle class.
    Mr. Thomas. And would you say that people are worth a 
million dollars that find themselves in the middle class, 
often?
    Mr. Luntz. The people who are worth a million dollars would 
probably define themselves as being upper middle class.
    Mr. Thomas. Well, you can put all kinds of descriptive 
terms in front of it, but I think even Bill Gates thinks he is 
middle class, so I have difficulty, again, to deal with that 
kind of description.
    Do you think people believe that the rich people get 
breaks--that is, it is easier to beat the system if you are 
rich rather than poor?
    Mr. Pollock. Absolutely.
    Mr. Thomas. I think you get the point. You can go through a 
series of stereotypical statements, and people will ascribe a 
certain profile to the rich.
    I think I could save you a lot of money and tell you 
without polling that people think rich people don't pay their 
fair share of the taxes.
    Looking at this other chart--and I am using yours. Yours is 
Powerpoint and it has a few more. That is the only reason.
    Although Americans don't like the income tax system, they 
oppose replacing part of it with a nationwide sales tax. Well, 
I don't like one, and now you are going to give me two. Did you 
try a question that said ``replacing it in its entirety,'' an 
either/or question, rather than, ``If you don't like one, how 
about two?''
    Mr. Pollock. It is a good question, but, to be very clear, 
none of these are--I am pulling from independent polling data, 
so, as you will see, this is, you know, Gallup or--
    Mr. Thomas. Yes, but it is the same fraternity.
    Mr. Pollock. That is true. I agree.
    Mr. Luntz. Mr. Chairman, you know that fraternities right 
next to each other never get along.
    Mr. Thomas. And then, of course, as you said, Mr. Luntz, in 
terms of the way you asked the question, if I said, ``Would you 
like to get rid of the income tax which would do away with the 
IRS and replace it with a different tax,'' you have now loaded 
the question, I think, sufficiently that people would go for 
whatever the rest of the sentence was if you threw in getting 
rid of the IRS.
    So I am just kind of curious as to what you could provide 
us with that would be slightly less entertaining, perhaps, but 
a bit more enlightening, because when people don't like the 
current tax system, don't like the complexity, don't like the 
IRS, but want to hang on to their deductions, you kind of just 
say, ``Don't wet your finger.'' We had better sit down and 
build the best scientific economic revenue package we can, and 
then go out and have people all agree that the unknown is not 
as acceptable as the known, notwithstanding the fact that I 
absolutely hate the known.
    You folks are going to be in the boat with us, and we are 
going to be using you, but I would really love to see somebody 
try to cipher a series of questions with pull-out sections that 
substitute back in, that, in essence, asks the same question 
with variables, and then repeat it in different circumstances 
to try to begin to build a base of at least relative 
directional signals.
    To your knowledge, has anybody begun doing this, or are we 
going to have to pay for it?
    Mr. Luntz. We have done this, to some degree, and what we 
get, quite frankly, are mixed signals--that the public is 
frustrated with what they have now, they are scared about what 
you may give them. The problem, quite frankly, is their lack of 
faith in people here to give them a system that truly is flat, 
simple, and fair. They believe that, because of the outside 
influences, they are afraid that the actual new product might 
be more disruptive than what they have now, even though they 
fundamentally don't like what they have now.
    Mr. Thomas. Well, Mr. Luntz, you made the assumption the 
flat tax is the one that we would look at. What about one that 
got rid of all income taxes and allowed us to be competitive in 
the arena of today, and especially tomorrow, in world trade.
    Mr. Luntz. I used the word ``flat'' to indicate both a 
sales tax and an income tax. I am not speaking just of the 
income tax. Flat rate means that everybody pays the same rate, 
regardless of whether it collects it based on what you spend or 
what you earn.
    Mr. Thomas. Even that, from a semantical point of view, 
makes it difficult because of the identity of the various plans 
and the terms that we use, so we are even more into a semantic 
jungle.
    Thank you very much, Mr. Chairman.
    Chairman Archer. Just very quickly, to piggy-back on the 
line of questioning of Congressman Thomas, I notice in one of 
the charts that you have given us, Dr. Luntz, that you ask the 
question, ``Should Congress completely overhaul the Federal tax 
system that includes abolishing the IRS and replacing the five 
different income tax rates with a single rate.'' It seems to me 
that is an oxymoron, because if you have still got an income 
tax, even with a single rate, you still have the IRS. I don't 
know how you can do both.
    Mr. Luntz. We were trying to get at not making a choice 
between income tax and the sales tax. The way the you read the 
question, you have assumed that it is an income tax rate.
    One of the challenges in polling and to present to you all 
is to be neutral in terms of the income tax or the sales tax 
and try to judge the public's generic support for a fundamental 
overhaul of the system. So perhaps we have not achieved that by 
the question.
    Chairman Archer. But if I were to answer the question--and, 
as you know, I want to abolish the income tax, which I have 
publicly stated for a long time, and I want to get the IRS 
completely and totally out of every individual's life, but if I 
were to answer this question and say that the IRS forever will 
be out of my life and I only have to pay a single income tax 
rate, I might be intrigued to embrace that. But I can't get 
both. I can't have a single income tax rate and have the IRS 
out of my life, because I have still got to keep the records 
for seven years, and they are still going to audit me, and I 
have still got all of the exposure, although in a more simple 
form than the current code.
    Mr. Neal?
    Mr. Neal. Thank you, Mr. Chairman.
    Dr. Luntz, I agreed with much of your testimony, but I want 
to ask you a question.
    You said that the American people view the IRS as 
``corrupt.'' Did you use that term when you tested the 
question?
    Mr. Luntz. No.
    Mr. Neal. No?
    Mr. Luntz. We asked them, ``What institution do you dislike 
the most? What Federal Government institution or agency do you 
dislike the most?''
    Mr. Neal. Let me just, if I can, address that question and 
the use of that term ``corrupt.'' That word did more to poison 
the way that we talk to each other in this institution than any 
other word I have witnessed in the 12 years I have been in the 
House. That word was used to poison the well of the institution 
across the way and the way we talk and treat each other in the 
House.
    Now, if we use that word all of the time around here to 
speak to each other or use that word when we wish to change an 
institution and its behavior, we only bring the debate to a new 
low, and that is the danger of using that term.
    I would recommend to everybody here Joe Kline's piece in 
the New Yorker about a year ago, ``The Town That Ate Itself,'' 
in which he went back and talked to Republican Members who used 
that word and now say they regret using that word because of 
what happened in the institution.
    So if we didn't test that word, I don't know why we would 
throw that word into the testimony today.
    Mr. Luntz. Because, Mr. Congressman, I would invite you, 
because this is not a partisan issue, to join me in focus 
groups and face-to-face sessions with Members, and the words 
that they use, not to describe the IRS but to describe the tax 
code.
    Mr. Neal. Right. I don't dispute that. I don't dispute 
that, Doctor.
    Mr. Luntz. It is the language--
    Mr. Neal. It is the word.
    Mr. Luntz. But it is the word that is used by the American 
people to describe what they perceive as a system that is out 
of control. And I invite you to join me in--
    Mr. Neal. I would like to do that. But let me ask you a 
quick question here. There is a Wall Street transaction called 
``exchange funds'' that exactly accomplished that. Ralph 
Cramden's wife, Alice, has to sell her stock and then pay 
capital gains tax. What happens when Bill Gates goes into an 
exchange fund and, in effect, trades stock and pays no tax? Is 
this exactly the situation you referenced when you were 
speaking earlier about the way the American people perceive the 
tax code?
    Mr. Luntz. No. I was merely using Ralph Cramden as a pop 
culture figure, although I would correct you. Ralph Cramden and 
Alice were so poor that they could never own stock, so they 
could never sell it and have to pay the capital gains.
    Mr. Neal. They were just blue collar democrats.
    Mr. Luntz. Actually, they were the first blue collar 
republicans. They were just before the Reagan democrats came 
into being. [Laughter.]
    Mr. Neal. I would suggest, Mr. Chairman, that the 
transaction I made reference to--maybe Mr. Pollock could 
comment upon it, if he would.
    Mr. Pollock. There is no doubt, Congressman Neal, that 
there is a feeling that the rich do get benefits. I don't think 
that is exactly--I mean, in terms of questioning, that is not 
something that hits them.
    When you do focus groups--and I am sure you have seen this 
up north--people, especially the middle class more and more, 
are angered by the capital gains tax and that it is no longer a 
tax on the rich, exclusively.
    But, from a rhetorical battle, if we were taking it out of 
the policy and into the rhetoric, it hasn't crossed the 
threshold yet where they say, ``Oh, yeah, that is a tax where 
we, the middle class, really need to change it,'' but it is 
coming. It is coming. There is no doubt about it.
    And with ever-increasing use of Ameritrade where the middle 
class and everybody is getting involved in trading, you are 
absolutely correct, that tax increases in prominence to them.
    Mr. Neal. I will close on this note, Dr. Luntz, that the 
Reagan democrats, which I represent, have come back home.
    Thank you.
    Mr. Luntz. I will allow you to have the last word. I hope 
so.
    Chairman Archer. I am hoping that we can wrap up this panel 
before we go to vote, so that when we come back we can take the 
next panel.
    Ms. Thurman has requested time and Mr. Coyne has requested 
time.
    Well, I guess we can't do that. All right. Ms. Thurman?
    Ms. Thurman. I will try to make this quick, and maybe you 
all can just give us these answers in writing.
    One, I would like to know, from both of you, what the 
demographics were of your poll, who the people were that you 
polled--you know, income, where they are.
    Mr. Pollock. They are all nationwide. They are all general 
population.
    Ms. Thurman. But it would be good to have that information 
available to us.
    Mr. Pollock. Sure.
    Ms. Thurman. Secondly, Mr. Pollock, when Dr. Luntz made the 
statement that everybody agreed that we ought to get rid of the 
death tax, your polling does not show that. Can you give me 
just a brief explanation of what you found, because it also 
would be counter to what Dr. Luntz has shown about the high-
paying person.
    Mr. Pollock. They are not mutually exclusive, 
unfortunately, and, unfortunately, one question doesn't cover 
it. What Dr. Luntz is talking about is, in a series of 
questions, when you ask people, ``Would you like to get rid of 
X tax, Y tax, Z tax,'' when you put them all together at once 
you will see that inheritance taxes and also the marriage 
penalty, both of which Americans favor, in general, getting rid 
of, don't rank higher, of course, than getting rid of an income 
tax or getting rid of a local property tax, which bothers them 
much more than do those. Of course, they hurt them a lot more 
financially, so it makes sense.
    So it is not dichotomous. You can have both in Americans' 
minds. It is just, when you put them all together, if I have to 
choose one or two, inheritance tax or, as they like to call it, 
``death tax,'' and the marriage penalty, they are not going to 
be number one and two. But when you ask them individually, 
certainly people do think it is unfair.
    The marriage penalty to me, when I have seen things, tests 
even more egregiously, where people say, ``Just because I am 
getting married doesn't mean I should have to pay more in 
taxes.''
    Ms. Thurman. Okay.
    Mr. Pollock. Did that adequately address, Frank?
    Mr. Luntz. And I would just say that we actually have 
tilted the question, because I could not believe that Americans 
would actually believe that someone like Bill Gates should not 
have to pay a higher percentage of his savings and investment, 
and we tilted questions so anti-death tax. But if you go out--
and, again, I invite you, as well, to come to these sessions 
that I do--Americans just believe it is a matter of principle 
that, even if you are rich, you should not lose up to half of 
your savings and income just because you die.
    Ms. Thurman. And then, I think, maybe taking off on Mr. 
Archer's last question, when he talked about getting rid of the 
IRS and then the different income tax rates, but also then to 
the polling that Mr. Pollock saw that says, ``But don't take 
away my deductions,'' so rate would be one issue. And then, if 
you added in to that same question, do you think you would get 
a different result if you said, 'but don't take away my 
deductions,' as well?
    Mr. Luntz. When you start to mention deductions, home 
deduction being the most popular of all, you start to--
    Ms. Thurman. Child credit.
    Mr. Luntz. Yes. You start to see people begin to peel away. 
But in the end they are prepared to pay more if you could 
simplify the system. If you could say to Americans that we will 
guarantee that this will take you either no time, in the case 
of a sales tax, or 15 minutes, in the case of--
    Ms. Thurman. As long as it only goes to 20 percent.
    Mr. Luntz. Once you start getting above 20 percent in 
taxation, you start to have Americans chafe at it. That is 
correct.
    Ms. Thurman. Okay.
    Mr. Luntz. But simplification is so important.
    Ms. Thurman. I think we all agree on simplification. I 
think that is the one thing that we do agree on.
    Chairman Archer. We are clearly not going to have time for 
the Members who do wish to question to do that, so the Chair is 
going to have the committee stand in recess so that we can go 
vote, and then we will return.
    [Recess.]
    Mr. Crane [presiding]. We will resume.
    We apologize for the interruption, but that is the way this 
place is run.
    I now would like to yield to our distinguished colleague 
from Pennsylvania, Bill English.
    Mr. English. Thank you, Mr. Chairman. I appreciate the 
chance to pursue a line of questioning that occurs to me, 
reading with interest the testimony of these two witnesses.
    You have provided some very interesting insights on how the 
public views tax reform and where it sees it as a potential 
priority. I wanted to get a sense of whether either of you had 
done any polling on international taxation.
    I know, Mr. Luntz, you have done more polling on trade 
issues than, I think, anyone in your profession of my 
acquaintance, so I am wondering, have you polled on the idea of 
a fair and equal tax on the imports and stop taxing exports--in 
other words, border adjustability?
    Mr. Luntz. Yes. Of course, no American will understand it 
as border adjustability. It is much too complicated. But when 
you begin to explain to them the defensive position that our 
products are put in by the Federal tax code and the advantage 
that foreign products have, again because of our tax code, not 
only do they become frustrated with it, they demand immediate 
change.
    I would acknowledge that it is not one of the highest 
priorities, but, in terms of your question, the public believes 
that, at a minimum, our products should not be put at a 
disadvantage, and preferably our products should have an 
advantage over foreign products, and nothing in our Federal tax 
code should undermine that advantage.
    Mr. English. Mr. Pollock?
    Mr. Pollock. I wish I had more to add, Congressman English, 
but Dr. Luntz has done much more on the subject than I have.
    Mr. English. Let me say one of the keys to broadening the 
debate and broadening the support for fundamental tax reform, 
in my estimation, is starting to include international tax 
issues framed in terms that working people understand.
    My colleague, Mr. Traficant, who testified yesterday, I 
think has done a good job of taking that message back to 
Youngstown, Ohio. I have tried to do the same thing in 
Pennsylvania.
    I think that international taxation, specifically border 
adjustability, moves people, and I have gotten that sense from 
discussing it at town meetings and actually just 
unscientifically trying to get a reaction in terms of a show of 
hands.
    I would invite both of you to consider polling on this 
point, and also polling on the question of, as one of our 
witnesses yesterday testified, my proposal specifically would 
end the tax incentive for run-away plans. I think that is 
something that would resonate very much with the general 
public.
    On a separate point, Dr. Luntz, I see from the polling that 
the Luntz Group did that the fairness quotient of the taxation 
of alcohol and beer is perhaps in a different category from 
other taxes. Only 20 percent feel the taxation of beer is 
unfair.
    I wonder, in polling, have you communicated to the people 
you poll the fact that 43 cents on every dollar that they pay 
for the draft of beer in a place like Eerie, Pennsylvania, is 
taxed? This gets to the question of the visibility of taxation. 
I wonder, if people are aware of what the level of excise tax 
is, would those numbers change?
    Mr. Luntz. They probably would change. In fact, in my 
presentation, in my testimony I spoke of all the different 
areas that we are taxed. Mr. Congressman, most Americans aren't 
aware that, from the moment they wake up in the morning until 
the moment they go to sleep at night, everything they do, 
everything they consume, every part of their lives are taxed. 
If they were made aware of just how much they were taxed, they 
would say, ``To heck with everything.''
    Mr. English. And do you think that insight would convert 
into opposition, potentially, to a value-added tax if it were 
applied? Most people don't know what a VAT is, but if it is 
described to them, how would you expect them to react? Or do 
you have any polling on this point, imposing a very broad and 
visible tax on the public?
    Mr. Luntz. In fact, if it were consistent, if it were 
obvious, if it were clear, if it were applied evenly, and if it 
got rid of the IRS, the American people would support it.
    Anything that simplifies, makes more consistent, makes 
flatter and fairer, any type of tax like that would be 
supported over the current system.
    Mr. English. So people don't view it as a priority to know 
how much they are being taxed, as long as they have a sense 
that the tax system is fair?
    Mr. Luntz. One of the great reforms that I would wish this 
committee would consider would be to remove withholding. If 
Americans knew exactly how much they paid in taxes, this 
committee would be cutting taxes every single year.
    Mr. English. Thank you, Congressman.
    Mr. Pollock. Congressman, I have done focus groups in 
Westmoreland, close to your home, and in that county I have 
talked to people about taxes. The fact is, we also have to 
remember that there is mass confusion about what all of their 
taxes are. I don't know what I am paying in property. Add the 
property tax into this mix, which is, to many people, 
extraordinarily egregious, property tax, income tax, sales tax, 
whatever it is, they are confused as to what tax they are 
paying at any given time, so certainly they don't know that 43 
cents of their draft is going to a tax.
    Mr. English. Very good.
    Mr. Crane. The time of the gentleman has expired.
    Dr. Luntz, I have given up on alcohol, but I have 
increased, escalated my consumption of sugar, but that is still 
a better deal, right, tax-wise? [Laughter.]
    Mr. Luntz. I am not sure how much they put on sugar. I do 
know that people have paid millions of dollars to keep that 
sugar tax either lower or higher than it is today.
    Mr. Crane. Okay.
    Ms. Dunn?
    Ms. Dunn. Thank you very much, Mr. Chairman.
    I wanted to make one comment, based on Mr. English's 
question, and that is that politics has become so personal 
these days, and communicating is also required to be personal 
for people to be able to connect government policy to what 
really happens in their everyday lives. And it seems to me 
that, if we ever began talking in terms of the number of 
dollars that people pay in taxes, whether it is that huge gas 
tax or the beer tax or property tax or death tax, and we have 
got people thinking about what they could purchase for their 
families' better quality of life for those dollars, that we 
could end up with a mutiny. I hope that never happens.
    It is shocking, Mr. Luntz, when you go through your list of 
the taxes that people pay. I mean, if they are confused about 
what taxes they pay, they pay every tax on everything every 
hour of every day. It has really gotten to be way too much, I 
think.
    I want to ask you a couple of questions. One, I would like 
to ask you gentlemen what you have learned, either from your 
survey research or from focus groups, what single people are 
thinking about our tax system.
    For example, we have succeeded in reducing taxes in lots of 
areas. We have provided for education credits when dollars are 
set aside in education accounts for their children, we have 
provided for capital gains taxes to be relieved on the purchase 
of a house. For a single person, that house is still the same 
amount of money and it still takes the same number of people 
mowing the lawn and trimming the trees and to pay for all the 
costs of owning a home. We provide for a child tax credit. We 
have provided for a child care credit. We have provided for an 
end to the marriage penalty. It goes on and on and on what we 
have done for families who have children.
    Are the singles starting to feel a little left out on this 
tax system?
    Mr. Luntz. Congresswoman, you have done a lot for hard-
working taxpayers, and I can assure you that they appreciate 
it. The great frustration for single taxpayers now can be 
summarized in two words, ``payroll tax.''
    Americans, particularly those who are just starting off 
their careers, are shocked when they find out just how much 
money is taken out of their paycheck every two weeks and how 
little confidence they have that they will actually get that 
money back at the end of their careers when they are receiving 
Social Security or other benefits.
    It is not surprising that more young Americans believe in 
the existence of UFOs than believe that Social Security will 
exist by the time they retire, and that payroll tax every two 
weeks is a frustration to them and they would like some relief.
    Mr. Pollock. There is also the current--I wish Congressman 
Johnson were here, because the current fad, of course, is to 
talk about the gas taxes. And when I say ``fad,'' it is only to 
say that they are talking about it right now. People really 
want to talk about the gas tax. It is impacting them. They are 
seeing it. They are seeing it on a daily basis. In Connecticut, 
people are seeing prices over $2. So the gas tax right now, 
which single people are looking at, also, because many of them 
are commuters--young people using a lot of their car--the gas 
tax is something that bothers them. It bothers them more on a 
State level, though, certainly.
    Ms. Dunn. Well, if I could have one change in our tax 
system--and the chairman is not here right now to hear this--
but for all singles, the group of which I am one, I wish we 
could just make one exemption in capital gains for the sale of 
a home, because the huge difference between 250,000 and 
500,000, which is what the couple gets, means that somebody 
like me, if I choose to sell my house--and there are many of 
``me's'' around this Nation--that we pay a capital gains, 
especially if we have been living in an inflationary period for 
any length of time.
    Let me just ask you to augment what you both have said 
about the death tax. I am very interested in public perception 
of this, and I am very intrigued by the fact that folks you 
have researched are fair about this tax. I am wondering, as we 
consider whether this should be brought up as a stand-alone 
bill--and somebody every now and then will question the Bill 
Gates factor--I wonder if you could talk more in-depth on why 
death tax needs to die.
    Mr. Luntz. We have done this specifically. In fact, because 
of the challenges that have been raised by people in both 
parties, we attempted to weight the question as strenuously 
against to death tax as we could, emphasizing that these people 
probably have avoided taxes, that they have got high-priced 
accountants and lawyers to help them avoid taxes, that they are 
so rich that they can afford not to have to pay it. No matter 
how hard we weight it, by two to one, at a minimum, Americans 
want to get rid of this tax, because they just don't understand 
why you should be prevented from handing down the things that 
you have saved and invested to the next generation of 
Americans, and how in this country you should have to lose up 
to half of your savings and investments just because you have 
been successful.
    Congresswoman, I can't weight it any more against it. By at 
least two-to-one, people want the total elimination of the 
death tax.
    Mr. Pollock. It is more of a common sense thing for 
Americans. When they are thinking about the death tax, and 
also, as I brought up before, the marriage tax, it just seems 
to them to be silly. Why? Why, on X occasion, one of great 
happiness and one of great sadness, does the Government get the 
opportunity to then come in and tax them on that occasion?
    In that respect, that is where Americans are looking and 
saying, ``You know, this just isn't fair,'' whereas the other 
things--as I point out, Americans will say, ``Okay, we 
understand we have to fund Government programs. We understand 
that our taxes do go to something,'' but those, in particular, 
stand out as things that just don't seem right.
    Ms. Dunn. Thank you very much.
    Mr. Crane. Thank you.
    Mr. Coyne?
    Mr. Coyne. Thank you, Mr. Chairman.
    Dr. Luntz, I was wondering, does it surprise you that your 
findings of last week indicate that the least-liked Government 
agency is the IRS, when politicians of every stripe, in order 
to make political points, continue to malign the work and the 
function of the Nation's revenue collection agency? Does that 
surprise you?
    Mr. Luntz. It has nothing to do, quite frankly, with what 
is said here or with politicians; it has to do with the fact 
that when Americans get that IRS tax form it scares them.
    Mr. Coyne. Yes. So that is your explanation?
    Mr. Luntz. Americans are afraid of the IRS. Absolutely. 
They are scared of the IRS. Even today, even with the work that 
you have done to change the system, Americans are still afraid 
of the IRS.
    Mr. Coyne. So if people were to say things about you going 
around the country, that you were stealing money out of their 
pocket and they were over-loading the U.S. Treasury by their 
collections, how popular do you think you would be?
    Mr. Luntz. Maybe a little more popular than I am without 
people saying that.
    Mr. Coyne. Well, I just think it is, in large part, a 
result of the maligning of the function and the role of the 
collection agency in this country that they are the least-
popular agency in the Government, if that is what your findings 
show.
    Mr. Luntz. I think I should make this as a formal offer to 
this committee, that I would be happy--and we can't do it 
within the beltway. We have to do it a little bit outside, but 
maybe a place like Baltimore, which ``American Demographic'' 
has labeled as the most representative city in America. I and 
my colleague will make this offer to you, at our own expense, 
to bring you to the public and have you listen to how they 
articulate their fear of the IRS. It is not the way, in this 
case, that we word the questions, and it is not what you say 
about them. It is how Americans fundamentally believe that 
there is an agency that can penetrate their lives and do things 
to them that they have no control over in an unjust and immoral 
fashion.
    I would invite this committee, for each of these issues--
the death tax, the marriage penalty, the IRS--to bring Members 
out there so you can watch from behind the mirror as real, live 
people respond to these questions. I think you might find it 
useful.
    Mr. Coyne. Well, it might surprise you to know that 
everyone in this Congress goes back to their Districts every 
weekend.
    Mr. Luntz. I am sure.
    Mr. Coyne. And that we mix with the people, and we know 
what the people are saying, and we know that, as you pointed 
out in your testimony, no one likes to pay taxes, but most 
people, the majority of the people, recognize that it is a 
necessity if we are to have any kind of civil society, and that 
when you continually malign--whether it is the IRS or the 
Defense Department or whoever it is, seem to me naturally they 
are not going to have a very high rating in public opinion 
tolls like you took.
    Mr. Pollock, in your testimony you cite Dr. Luntz' survey 
showing that two-thirds of Americans say that the highest 
percentage we should have to pay for taxes, combined, all taxes 
combined, should be less than 20 percent of income. Do you know 
of any survey that tells us what services taxpayers are willing 
to give up to achieve a 20 percent rate?
    Mr. Pollock. Congressman Coyne, that is an excellent 
question. And the point, of course, is nothing. And Americans 
are hypocritical in public opinion. There is no doubt about it. 
They don't make that rationalization. They want cuts, but not 
at the expense of their government programs. So the question is 
correct. And, unfortunately, that is the way the American 
public responds.
    Mr. Coyne. Well, do you have any specific programs that 
Americans choose to fund rather than getting a tax cut, in your 
surveys?
    Mr. Pollock. Absolutely. The ones that have been bandied 
about--and I believe that these have become prominent because, 
as you are pointing out, politicians all over are talking about 
them--but shoring up Medicare and Social Security certainly 
come before a tax cut in the voters' minds, improving spending 
on education, for example, as long as it is targeted spending, 
as long as it makes sense and not wasteful spending on 
education, and certainly some spending on health care. Those 
are the four that have come up that I have seen in the last six 
months in terms of both surveys and focus groups where people 
are saying, ``Okay, we have got to spend on these things no 
matter what.``
    Mr. Coyne. Does either of your polling show what are some 
of the reasons that Americans oppose a national sales tax?
    Mr. Luntz. No.
    Mr. Pollock. No. I haven't seen any.
    Mr. Coyne. Thank you.
    Mr. Crane. Mr. Portman?
    Mr. Portman. Thank you, Mr. Chairman.
    I want to thank Frank Luntz for the information that he is 
giving us today and has given us over the years on this and 
other issues, because it is very helpful, and these polls and 
the focus groups do focus us a little bit more on what the key 
issues are and what our constituents care about.
    I want to ask a question about tax reform, since that is 
the focus of the hearings.
    I understand that when you ask people whether they agree or 
disagree that overhaul of the Federal tax system, including the 
abolishing of the IRS, and replacing five different income tax 
rates with a single rate, that is popular, people agree with 
it. But when you do your polling, Frank, about what people care 
about, tax reform never shows up near the top. Why is that? I 
mean, is it the good economy? Is it the sense of frustration, 
that they know that nothing will happen with it? Or is it that 
for most people it is just not a very important part of their 
daily lives?
    Mr. Luntz. Half of it is the good economy, but there is 
another half. It bothers me. It troubles me to even say this, 
but they have heard about tax reform and they have heard about 
tax cuts for so long that they feel that they will never 
receive it.
    We talk about these things and make these promises, and 
then, when we don't deliver, it undermines the credibility of 
the institution and the promise, so that most Americans believe 
that if the President or Congress were to offer them a tax cut 
or tax reform, it would never actually happen.
    It is one way that you could instill a sense of confidence 
in this institution and in this body, to actually deliver on 
making their lives easier, simpler, and providing them with 
more money at the end of the day than they otherwise would have 
had.
    Mr. Portman. Over the last few years, you know, as we have 
helped to provide some relief, including the child tax credit, 
significantly, we have, in essence, begun to push the 
progressivity of the code even further so that the top 10 
percent of income earners are paying something like 60 percent 
of the Federal income tax now. Again, it doesn't include 
payroll tax, although that is also somewhat progressive because 
of the cap. But it is an issue that, frankly, republicans, I 
think, are probably of two minds about. One is we want to 
provide tax relief to middle income Americans, but second is, 
as you increasingly move middle Americans to a lower and lower 
Federal income tax rate and you increasingly move folks who are 
at the bottom of the economic ladder off the tax rolls 
altogether--I think it is about six million Americans who don't 
pay income taxes today who did a few years ago, because of the 
changes that we have made--and as you enrich the EITC program 
where more and more folks are getting a refund rather than 
paying not just payroll taxes but income taxes--and some folks, 
as you know, are paying income tax, payroll tax, then getting a 
check from the Government in the form of the EITC that covers 
both of those, plus. They are actually getting something back. 
You begin to lose kind of a constituency for tax reform, or at 
least for tax relief.
    I don't know if my question to you is do you agree with me 
or not on that. That would be the one question, I guess. Is 
that one reason that there isn't as much interest in tax 
reform, as well as maybe tax relief?
    Second is: what does that mean for the prospects of tax 
reform going forward?
    Mr. Luntz. Americans tend to respond to big ideas in terms 
of great change, and it seems very difficult to ask Americans 
to accept the same tax structure today that they had 50 years 
ago, when we have new technology and great inventions that are 
changing the way things operate; that Americans would expect 
that their laws and the things that govern them would be 
updated as times change.
    If you can attach yourself to that outlook towards the 
future, I think you would be much more successful.
    Support for tax reform will increase significantly in our 
next economic downturn as Americans become frustrated and their 
wallets and purses become tighter. It would be nice if you 
could pass tax reform before they were demanding it of you.
    Mr. Pollock. To be very clear about one thing that Frank 
said, this concept that Americans are upset, or when they think 
about the concept of a tax cut they don't actually believe it 
will happen, there is a lot of talk of it, but it doesn't 
happen, I conducted a bunch of focus groups in Connecticut 
where Governor Rowland gave back to all Connecticut individuals 
basically a per child, you got $50 a head, and even though it 
seems like a trivial amount--and even the voters were saying 
that it is silly to get a $50 check--they were all incredibly 
satisfied just because somebody had actually delivered upon 
giving them a check, getting them an actual refund, and they 
gave him a lot of credit for it, even though they thought the 
amount was trivial.
    So I think Frank is absolutely right when he says it is 
about 50 percent good economy and 50 percent they don't believe 
it is going to happen.
    Mr. Portman. Again, thank you all very much. We look 
forward to continuing to get your input as we try to pursue 
reform and simplification.
    Mr. Crane. Well, Dr. Luntz and Mr. Pollock, we appreciate 
your testimony. I think that is--unless Mr. Thurman has a 
question yet?
    Ms. Thurman. Did you all test the debt versus taxes at all? 
It just has not been talked about much, and I am just kind of 
curious how that plays in this.
    Mr. Luntz. I have not done it but it has been done, and the 
public right now is more concerned about the debt.
    Mr. Pollock. Right now, when you look at it, the public 
will take paying off the national debt over tax cuts on a 
numerical level, and if you need the numbers I can get them to 
you.
    Mr. Crane. Very good. Well, we thank you for your 
presentations. That will terminate this panel.
    The committee, however, will now stand in recess until 1:00 
p.m.
    Mr. Luntz. Mr. Crane, welcome back.
    Mr. Crane. Thank you.
    The committee will come to order.
    The Chair apologizes for being a couple of minutes late, 
but we will commence at this time.
    I welcome each one of you. We are delighted to see you, and 
we will look forward to your presentation.
    Mr. Helming, would you lead off?
    Mr. Helming. I would be more than happy to, Mr. Chairman.

 STATEMENT OF BILL HELMING, ECONOMIST AND BUSINESS CONSULTANT, 
     BILL HELMING CONSULTING SERVICES, INC., OLATHE, KANSAS

    Mr. Helming. I assume that it is appropriate to suggest 
that my written document will be submitted for the record, and 
I will just--
    Mr. Crane. Without objection, your entire written 
statements will be included in the record, and you can 
synopsize verbally, if you will.
    Mr. Helming. Yes. I will do so.
    It is, indeed, an honor and a pleasure to be here. I have 
been self-employed for 27 years, a business consultant and 
economist. I work out of my home, along with my wife, in 
Olathe, Kansas. We have been working on this tax plan, the 
Helming national consumption tax plan, for 16 years. We have 
been advancing it with the help of a lot of people, including 
the two other panelists here, and literally thousands of people 
across the country.
    We have been working on it as private citizens, paying our 
own bills to get it done.
    I think the most important introductory thing, Mr. 
Chairman, would be that, as a practical matter, I have been 
conducting focus groups for 16 years, literally a major cross-
section of the U.S. public, finding out what they liked and 
what they didn't like about this plan and the other plans.
    Bottom line: why fundamental tax reform?
    Basically, the present tax code penalizes or greatly 
restricts success, hard work in human capital, saving and 
investment, economic growth, productivity, risk-taking, and the 
transfer of family-owned small businesses from one generation 
to the next. I have designed this plan to try to send the right 
signal and to reward each of those things as opposed to 
penalizing them.
    As you know, Mr. Chairman, the marginal tax rate on labor, 
under the current Federal tax code, is 35.6 percent. When you 
put it all into one pot, it is 35.6 at the margin. The Helming 
two-tiered consumption tax plan is 30.4, or 15.2 in tier one at 
the business level, 15.2 on tier two at the retail level, times 
two is 30.4. That is basically a 14 percent differential. I 
tend to be real conservative. Let us say it is a 10 percent 
differential.
    That means that the economy would double in growth in 10 
years, compared to the way we are operating now under the 
present tax code, or the cost of goods and services would come 
down by 10 percent. In the real world, it would be some 
combination of the two.
    Basically, the major benefits of such an approach would be 
a stronger growth economy; more jobs; higher wages; more take-
home pay; lower cost of goods and services; lower interest 
rates by a significant margin--15 to 25 percent--eliminates the 
IRS from the wage-earner's perspective; major simplification; 
and major advantages--in this case, competitive advantages in 
the global market and trade arena; and a very visible tax.
    Why is this possible? Well, it is very fundamentally 
because, under such a plan, we are no longer double taxing 
income, investment, or saving, while at the same time we are 
taxing labor and capital pretty much equally, which Aldona 
Robbins is going to speak to in a few minutes, which, 
obviously, under the present tax system, we do not do.
    It is also possible for you to get these many benefits for 
the economy and the working Americans of this country because 
it has a much broader tax base and a uniform tax rate.
    The Helming NCT plan is specifically designed to achieve 
all of these specific benefits. This will particularly benefit 
lower-and middle-income wage earners.
    I came to the conclusion some time ago, and certainly 
believe it strongly today, that the status quo in terms of our 
current tax code is unacceptable. If we can accrue such 
tremendous benefits for the common working person in America 
and the working families, as well as for the business 
community, then it is clearly time to seriously embrace 
fundamental tax reform.
    Very honestly, all of these competing plans are going to 
have essentially the same impact on the economy, in terms of 
favorable benefits. Where the real differences come in is how 
they are structured as it relates to how they specifically are 
perceived to impact businesses, wage-earners and consumers, and 
that comes in the structure of the tax reform proposals.
    So, basically, the Helming NCT plan represents an excellent 
and viable compromise, Mr. Chairman, and a common ground for 
real fundamental tax reform because of its structure. It 
reflects many of the best aspects and strengths of the other 
competing proposals, while avoiding their weaknesses relative 
to perceptions in fairness, political viability, simplicity, 
and compliance issues.
    Very simply stated, my plan is a two-tiered plan. Tier one 
is a uniform and border adjustable activities tax at 15.2 
percent, wherein the tax is levied on what businesses add to 
output--i.e., internal labor costs and the return to capital 
(profit). It applies to all businesses, the self-employed, and 
nonprofit organizations and institutions and all Federal, 
State, and local government agencies, and accounts for 57 
percent of all Federal Government revenues raised.
    Tier two is a 15.2 percent sales tax levied on consumer 
purchases except for the necessities of life, which I will 
define briefly in just a moment. The tier-two sales tax raises 
43 percent of the total federal taxes.
    I also want to emphasize that this plan envisions the 
entire repeal and replacement of the complete federal tax code 
as we know it today. All income taxes, the payroll taxes, the 
self-employment taxes, and all excise, railroad retirement, 
gasoline--in other words, nothing is left out.
    It is essentially revenue neutral at two levels at 15.2 
times two, to raise the same amount of revenues.
    John Meagher just informed me today that the joint 
committee on taxation did complete the scoring on my tax plan, 
and their numbers came out very close to the numbers that we 
have been using.
    We deal with regressivity specifically by exempting the 
necessities of life. I define those as food at the grocery 
store, food mart, and vending machine, all prescribed medical 
costs, and all home purchases and/or those who rent.
    On the business side, all capital purchases and exports 
would be tax exempt for the business. The competitive position 
of U.S. businesses and the U.S. economy in the global 
marketplace would be substantially improved over what it is 
now. The reason for this is that we would be exempting exports 
and taxing, as I know you very well understand, imports on a 
border-adjustable basis. That, itself, would raise 10 percent 
of the total revenues. Basically, it would encourage many 
multi-national companies to come home, stay home, and hire more 
U.S. workers.
    Progressivity and freedom of choice are primarily an 
outcome of how much and when consumers choose to spend, save, 
invest, or reduce debt with their income over and above the 
necessities of life.
    Bottom line, Mr. Chairman, in terms of my verbal comments--
and I am looking forward to any possible questions that you 
might want to ask--I come to this conclusion: if we can benefit 
the U.S. economy in such a dramatic way and also benefit the 
common wage-earner no positively in the United States and, the 
working families of America, which clearly all the studies, 
including Aldona Robbins and her husband, Dr. Robbins, and a 
number of others who have helped me with this long and involved 
process and helping me get to this point then, I simply ask 
this rhetorical question. If so many people can be benefitted, 
then why don't we embrace fundamental tax reform along these 
lines?
    Thank you very much.
    [An attachment is being retained in the Committee files.]
    Mr. Crane. Thank you, Mr. Helming, Mr. Powell, we will be 
pleased to receive your testimony.

    STATEMENT OF JAMES L. POWELL, LIVESTOCK PRODUCER, FORT 
                        MCKAVETT, TEXAS

    Mr. Powell. Mr. Chairman, I come here today as a livestock 
producer. My interest in the Helming national consumption tax 
is to seek its passage and produce change in the method that 
Federal and State governments tax the hard-earned incomes and 
lifetime savings of individuals and families.
    Unless income, State, gift, and capital gains taxes are 
eliminated, the small business owner, the family farmer will 
continue to be liquidated at a precipitous rate.
    The evidence provided by the U.S. Census Bureau, the USDA 
National Statistical Service, each decade is compelling. These 
numbers bear serious consideration.
    In 1940, the rural population, those living in communities 
of 2,500 or less citizens, was 43.5 percent of the total. In 
1990, the rural population was 24.8 percent of the total.
    The employment status of civilian workers employed in 
agriculture in 1940 was 17.1 percent of the total workforce. By 
1990, the number of agricultural employees had decreased to 1.6 
percent of the total population. The number of farms producing 
agricultural products had been reduced from 65 percent from 
1940 to 1990. The size of those farms had increased 163 
percent--corporate farms on the increase. In the last five 
years, those farms have increased 6 percent, while the 
individual, family, and partnership farm have decreased in 
number.
    This benign trend began in the 1930s and will continue 
until some time in the future. Population increases in this 
country and a disruption in foreign nations that import 
agricultural products into the U.S. will create the beginning 
of food shortages, much like the oil shortage that developed in 
the 1970s.
    The loss of population in agriculture and the large 
increase in size of farms reflect a deterioration in U.S. 
agriculture.
    There are a number of indicators of deterioration. It is 
clear that agriculture is not the preferred choice of many 
youths. The minimum economic unit today in my area is about 
6,000 acres, a value of about $1,800,000. In 1940, the minimum 
economic unit was about 2,250 acres, a value of less than 
$50,000. Today, to transfer this unit to heirs after exclusions 
requires a heavy estate tax. An education can equip the young 
heirs with an opportunity for employment in industry that now 
offers a much higher income than agriculture. That is more 
appealing to them than coming back to the farm for an 
inheritance that will burden them with an enormous estate tax 
after they have paid a hefty income and/or capital gains tax.
    This country is losing its agricultural young, as is shown 
by the increase in the average age of the person in agriculture 
from 53.3 years to 54.3 years of age in only five years, from 
1992 to 1997.
    Another indicator of deterioration of agriculture is the 
parity index of farm commodities. The index is based on farm 
goods sold in 1914 equalling 100. That index has declined in 
the last eight years from 51 in 1990 to 42 in 1998, a reduction 
in the dollar return on goods produced of 5 percent.
    That loss of income and persistent demand for payment of 
death taxes has caused the operating debt of the farm community 
to increase from $77 billion in 1980 to $80 billion in 1997, an 
increase of 3 percent.
    Yet another indicator is an increase in agricultural 
imports for consumption. Food imports have increased 63 percent 
during the current Administration from 1990 to 1995. Imports 
will compete with domestic products and require those products 
to sell at a price close to or below production cost. The 
future of this country's food supply will gradually become 
questionable.
    With these negative trends confronting agriculture, it is 
easy to understand the exodus of productive people from family 
farming and the subsequent development of corporate farming and 
increased importation of farm products to supply to U.S. 
consumers.
    The solution for agriculture and small business to the 
problem that has just been described is the National 
Consumption Act. It will release the unbearable income, estate, 
capital gains tax from those few who now pay and place the tax 
more fairly on a much broader-based population.
    All imported products will bear a fair share of the tax 
burden and release all U.S. exports, agricultural and 
industrial, from taxes, thereby stimulating the economy.
    All the citizens of the United States would be better 
served by State and Federal governments if the Helming national 
consumption tax were implemented.
    If I might be permitted, might I quote one brief vignette? 
Before coming here this week, an employee, after hearing the 
explanation that my mission was to encourage the elimination of 
the income, State, and capital gains taxes so that many of us 
would not eventually join the ranks of the defunct, said to me, 
``Tell them I never received a paycheck from a poor man.''
    Thank you.
    Mr. Crane. Thank you, Mr. Powell.
    [The prepared statement follows:]

Statement of James L. Powell, Livestock Producer, Fort McKavett, Texas

    Mr. Chairman, ladies and gentlemen of the Ways and Means 
Committee I come here as a livestock producer. My interest in 
the Helming National Consumption Tax is to seek its passage and 
produce a change in the method that federal and state 
governments tax the hard earned incomes and lifetime savings of 
individuals and families. Unless income, estate, gift and 
capital gains taxes are eliminated the small business owner and 
family farmer will continue to be liquidated at a precipitous 
rate.
    The evidence provided by the U.S. Census Bureau and U.S.D.A 
National Statistical Service each decade is compelling. These 
numbers bare serious consideration. In 1940 the rural 
population, those living in communities of 2500 or less 
citizens, was 43.5% of the total. In 1990 the rural population 
was 24.8% of the total.\1\ The employment status of civilian 
workers employed in agriculture in 1940 was 17.1% of the 
workforce. By 1990 the number of agricultural employees had 
decreased to 1.6% of the population.\2\ The number of farms 
producing agricultural products had been reduced by 65% from 
1940 to 1990. The size of those farms had increased 163%.\3\ 
Corporate farms are on the increase. In the last 5 years those 
farms have increased .6% while the individual, family and 
partnership farms have decreased in number.\4\
---------------------------------------------------------------------------
    \1\ U.S. Census Bureau. ``Statistical Abstract of the United 
States.'' 27 July 1999. Online. http://www.census.gov/prod/www/
statistical-abstract-us.htm. Table #1412. 4 April 1999.
    \2\ U.S. Census Bureau. ``Statistical Abstract of the United 
States.'' 27 July 1999. Online. http://www.census.gov/prod/www/
statistical-abstract-us.html. Table #1430. 4 April 1999.
    \3\ U.S. Census Bureau. ``Statistical Abstract of the United 
States.'' 27 July 1999. Online. http://www.census.gov/prod/www/
statistical-abstract-us.html. Table #1100. 4 April 1999.
    \4\ U.S. Census Bureau. ``Statistical Abstract of the United 
States.'' 27 July 1999. Online. http://www.census.gov/prod/www/
statistical-abstract-us.html. Table #1441. 4 April 1999.
---------------------------------------------------------------------------
    This benign trend began in the 1930's and will continue 
until sometime in the future. Population increases in this 
country and a disruption in foreign nations that import 
agricultural products in the U.S. will create the beginning of 
food shortages, much like the oil shortage that developed in 
the 1970's.
    The loss of population in agriculture and large increase in 
size of farms reflect U.S. agriculture deterioration. There are 
a number of indicators of deterioration. It is clear that 
agriculture is not the preferred choice for many youths. The 
minimum economic unit today in my area is about 6,000 acres, a 
value of $1,800,000. In 1940 the minimum economic unit was 
about 2,250 acres, a value of less than $50,000. To transfer 
this unit to heirs after exclusions requires a heavy estate 
tax. An education can equip the young heirs with an opportunity 
for employment in industry that now offers a much higher income 
than agriculture. That is more appealing to them than coming 
back to the farm for an inheritance that will burden them with 
an enormous estate tax after they have paid a hefty income and/
or capital gains tax. This country is losing its agricultural 
young as is shown by the increase in the average age of the 
person in agriculture from 53.3 years to 54.3 years of age in 
only 5 years, from 1992 to 1997.\5\ Another indicator of the 
deterioration of agriculture is the parity index * of farm 
commodities. The index is based on farm goods sold in 1914 
equaling 100. That index has declined in the last eight years 
from 51 in 1990 to 42 in 1998, a reduction in the dollar return 
on goods produced of 5%.\6\ That loss of income and persistent 
demand for payment of death taxes has caused the operating debt 
of the farm community to increase from $77 billion in 1980 to 
$80 billion in 1997, an increase of 3%.\7\ Yet another 
indicator is an increase in agricultural imports for 
consumption. Food imports have increased 63% during the current 
administration, from 1990 to 1995.\8\ Imports will compete with 
domestic products and require those products to sell at a price 
close to or below production costs. The future of this 
countries food supply will gradually become questionable.
---------------------------------------------------------------------------
    \5\ U.S. Census Bureau. ``Statistical Abstract of the United 
States.'' 27 July 1999. Online. http://www.census.gov/prod/www/
statistical-abstract-us.html. Table #1102. 4 April 1999.
    *Parity Price--``price for a commodity or service that is pegged to 
another price or to a composite average of prices based on a selected 
prior period. As the two sets of prices vary, they are reflected in an 
index number on a scale of 100. For example, U.S. farm prices are 
pegged to prices based on the purchasing power of farmers in the period 
from 1910 to 1914. If the parity ratio is below 100, reflecting a 
reduction in purchasing power to the extent indicated, the government 
compensates the farmer by paying a certain percentage of parity, either 
in the form of a direct cash payment, in the purchase of surplus crops, 
or in a NONRECOURSE LOAN.
    The concept of parity is also widely applied in industrial wage 
contracts as a means of preserving the real value of wages. (Barron's 
definition of parity price as written in the Barron's Financial Digest)
    \6\ U.S. Census Bureau. ``Statistical Abstract of the United 
States.'' 27 July 1999. Online. http://www.census.gov/prod/www/
statistical-abstract-us.html. Table #1116. 4 April 1999.
    \7\ U.S. Census Bureau. ``Statistical Abstract of the United 
States.'' 27 July 1999. Online. http://www.census.gov/prod/www/
statistical-abstract-us.html. Table #1113. 4 April 1999.
    \8\ U.S. Census Bureau. ``Statistical Abstract of the United 
States.'' 27 July 1999. Online. http://www.census.gov/prod/www/
statistical-abstract-us.html. Table #1441. 4 April 1999.
---------------------------------------------------------------------------
    With these negative trends confronting agriculture it is 
easy to understand the exodus of productive people from family 
farming and the subsequent development of corporate farming and 
increased importation of farm products to supply the U.S. 
consumer.
    The solution, for agriculture and small business, to the 
problem that has just been described is the National 
Consumption Tax. It will release the unbearable income, estate 
and capital gains tax from those few who now pay and place the 
tax more fairly on a much broader base of the population. All 
imported products would bear a fair share of tax burden and 
release all U.S. exports, agriculture and industrial from taxes 
thereby stimulating the economy. All of the citizens of the 
United States would be better served by state and federal 
governments if Helming National Consumption Tax were 
implemented.
    If I might be permitted may I quote one brief vignette. 
Before coming here this week an employee, after hearing the 
explanation that my mission was to encourage the elimination of 
the income, estate and capital gains taxes so that many of us 
would not eventually join the ranks of the defunct, said ``Tell 
them I never received a pay check from a poor person.''
      

                                


    Mr. Crane. Ms. Robbins?

STATEMENT OF ALDONA ROBBINS, VICE PRESIDENT, FISCAL ASSOCIATES, 
  AND SENIOR RESEARCH FELLOW, INSTITUTE FOR POLICY INNOVATION

    Ms. Robbins. Thank you, Mr. Chairman.
    I am Aldona Robbins, vice president of Fiscal Associates 
and senior research fellow at the Institute for Policy 
Innovation. I want to thank you for the invitation to appear at 
these hearings.
    As the committee has heard during the last two days, there 
are lots of ways to implement fundamental tax reform. While the 
proposals have important differences, I would like to focus on 
some of what they have in common.
    First, the tax bases of most reform proposals are basically 
the same. Now, someone might say, ``Wait a minute. Doesn't a 
sales tax tax consumption, a business tax business, an income 
tax income?'' The short answer is yes, but those distinctions 
really refer more to where the tax is collected than to what is 
ultimately being taxed.
    Government gets its revenue by taxing the income going 
between households which provide labor and capital services and 
businesses which provide goods and services. Because the two 
flows--the value of the goods and services that businesses 
produce and the value of the labor and capital services 
provided by households--are made up of the same dollars, all 
taxes can be viewed as being paid out of income earned by labor 
and capital.
    A second area of commonality is the tax rate. To raise a 
given amount of revenue and holding exemptions constant, most 
reform proposals should yield similar effective rates.
    What is more, those that look to replace Federal revenues 
should, likewise, end up with average rates close to the 
current system.
    I would like to highlight some findings from a project in 
which we have rearranged the national income and product 
accounts to analyze the current tax system, as well as 
alternatives, on the basis of factor incomes.
    Currently, the effective average Federal tax rate--and this 
includes all Federal taxes--on the income of private business, 
labor, and capital is 26.5 percent. The marginal rate on factor 
income is 36.2 percent.
    Suppose we were to replace the entire system of Federal 
taxes with a comprehensive sales tax, which provides every 
family with a refundable credit equal to the poverty line. In 
that case, the effective average Federal tax rate on the income 
of private business, labor, and capital would be about 24 
percent and the marginal rate would be about 29 percent.
    What about a generic business cash flow tax with or without 
border adjustment in the same refundable credit? Again, the 
average rate on factory income would be about 24 percent and 
the marginal roughly 29 percent.
    The effective rates of the alternatives are lower than 
current law because the proposals have broader, more uniform 
tax bases and a single rate. The rates of the alternatives are 
the same because they both end up taxing the same dollars but 
at different collection points.
    Compliance is assumed to be the same as under current law. 
The effective tax rate would be the same, regardless of what 
the stated rate might be.
    If the Joint Tax Committee says that the required rate is 
really going to be 30 percent instead of 24, it simply means 
that the current law rate must be higher than the 26.5 percent 
that we had calculated.
    Doing so, however, would not change either the conclusions 
regarding the effective rates or the relative comparisons.
    I would like to close with some comments about economic 
effects. There are efficiency gains to be had in reform of the 
current system. Both capital and labor pay higher rates on the 
next dollar of income than on the average dollar, and--although 
I didn't present verbally these results, they are in my written 
remarks--capital is taxed more heavily than labor.
    A single rate which would treat capital and labor the same, 
as well as lower marginal rates, would encourage greater saving 
and investment, lead to a more efficient use of resources, and 
result in increased output.
    There are, to be sure, important differences among 
competing proposals for fundamental tax reform, but we should 
not lose sight of the fact that the economic ramifications of 
proposals that broaden the base, remove the bias against 
capital, and lower marginal rates are essentially the same.
    Thank you.
    Mr. Crane. Thank you, Ms. Robbins.
    [The prepared statement follows:]

Statement of Aldona Robbins, Vice President, Fiscal Associates, and 
Senior Research Fellow, Institute for Policy Innovation

    Mr. Chairman and members of the Committee, I am Aldona 
Robbins, Vice President of Fiscal Associates and Senior 
Research Fellow at the Institute for Policy Innovation (IPI). 
Thank you for the invitation to appear at these important 
hearings on tax reform.
    Calls for tax reform stem from growing dissatisfaction with 
record tax burdens, the complexity of the present code, and 
worries that Americans aren't saving enough. As the Committee 
has heard during two days of testimony, there are a myriad of 
ways to implement fundamental tax reform. Some, like a national 
sales tax, represent a radical departure from the current 
system. Others, like a factor payment or generic business cash 
flow tax, are less so.
    While fundamental tax reform proposals have important 
differences, they also have much in common. My remarks today 
will focus on some key similarities.
    First, the tax bases of most reform proposals are basically 
the same. Someone will undoubtedly protest, wait a minute, a 
sales tax taxes consumption, a business tax taxes business, and 
an income tax taxes income. Those distinctions, however, really 
refer more to the point of collection than to what is 
ultimately being taxed.
    Anyone who takes an introductory economics course usually 
goes through an accounting exercise called the circular flow 
describing the workings of a market economy. Businesses acquire 
the services of labor and capital from households to produce 
goods and services. Households exchange their labor and capital 
services for the goods and services produced by businesses. 
But, it is important to remember that the same people who make 
up households also own and operate the businesses. Labels 
merely serve to distinguish among economic activities.
    Government gets its revenue by taxing the income going 
between households and businesses. Here it is important to note 
that the two flows--(1) the value of the goods and services 
that businesses produce and (2) the value of the labor and 
capital services provided by households--are made up of the 
same dollars. A tax on the sale of goods and services reduces 
the income that would otherwise be paid to labor and capital. A 
tax on factor income reduces what workers and owners of capital 
can buy. Because both flows measure the same thing, that is, 
total economic activity, all taxes can be viewed as being paid 
out of income earned by labor and capital.
    A second area of commonality is the tax rate. To raise a 
given amount of revenue, and holding exemptions constant, most 
reform proposals should yield similar rates. What is more, 
those that look to replace federal revenues should likewise end 
up with average rates close to the current system.
    Demonstrating these propositions requires some complex 
accounting to attribute all taxes to factor income.\1\ Some 
taxes easily translate into this framework while others require 
more work. For example, people pay personal taxes on income 
received for labor and capital services in the form of wages, 
interest, dividends and so forth. The employer and employee 
shares of payroll taxes come out of labor compensation. Less 
obvious are taxes seemingly levied on business, but they, too, 
affect the dollars flowing to factors. For example, the 
corporate income tax reduces the pool of money available to pay 
dividends or other forms of capital compensation to 
shareholders. Even sales and excise taxes, which are seemingly 
levied on the purchases of goods and services, come out of 
factor income because they reduce the funds available to pay 
the factors.
---------------------------------------------------------------------------
    \1\ This requires rearranging the Commerce Department's National 
Income and Product Accounts to better reflect taxes. Details will be 
forthcoming in a study by Gary and Aldona Robbins entitled Road Map for 
Tax Reform from the Institute for Policy Innovation this spring.
---------------------------------------------------------------------------
    Table 1 summarizes the average and marginal tax rates on 
labor and capital in private businesses. Accounting for three-
fourths of the economy, the private sector pays close to 90 
percent of U.S. taxes.\2\ Table 2 contains average and marginal 
rates for the rest of the economy.\3\
---------------------------------------------------------------------------
    \2\ In 1999, private businesses produced 75.8 percent of the $9.3 
trillion in GDP.
    \3\ This includes federal, state and local government, government 
enterprises, domiciles (which is people employed in domestic service 
and the value of home ownership) and nonprofit institutions.
---------------------------------------------------------------------------
    On average, taxes at all levels of government claim about a 
third of labor income in the private sector. Federal taxes 
amount to 25.9 percent and state and local taxes to 7.4 
percent.\4\ Private business capital pays almost half its 
income in taxes. The average tax rate at the federal level is 
27.6 percent and 21.6 percent for states and localities.\5\
---------------------------------------------------------------------------
    \4\ Table 3 contains the components of labor income for 1999.
    \5\ Capital income is gross capital compensation less capital 
consumption allowance. Table 3 contains the components of capital 
income for 1999.
---------------------------------------------------------------------------
    Private business capital and labor pay even higher marginal 
tax rates. Out of the next dollar of income, labor pays 44.4 
percent in taxes -35.6 percent to the federal government and 
8.8 percent to states and localities. The marginal rate on 
capital is 60.6 percent -37.6 percent to the federal government 
and 23 percent to states and localities.
    Combining capital and labor, taxes claim an average 38.5 
percent of private business income. Federal taxes claim 26.5 
percent while state and local taxes take 12.1 percent. That 
implies that any proposal aiming to replace all federal taxes 
would need a tax rate of somewhere between 25 and 30 percent on 
all U.S. income, depending on the level of personal exemptions.
    Summarized below are tax rates for current law and two 
general approaches to tax reform--a comprehensive sales tax and 
a generic business cash flow tax, with and without border 
adjustment--which are assumed to replace all federal taxes. 
Average and marginal rates are expressed as a percent of 
private business income.

                  Tax Rates on Private Business Income
------------------------------------------------------------------------
                    Average Federal   Marginal Federal   Total Marginal
    Tax Regime            \1\                \2\               \3\
------------------------------------------------------------------------
              Current Law   26.5%             36.2%             49.8%
              Comprehensive 23.9%             29.2%             42.7%
      Sales Tax
Generic business            23.9%             29.2%             42.7%
               Cash Flow,
         border
     adjustment
Generic Business            23.9%             29.2%             42.7%
               Cash Flow, no
         border
     adjustment
 
------------------------------------------------------------------------
 AThe three proposals assume each family receives a refundable credit
  equal to the poverty line times the tax rate. The revenue collected is
  based on a single rate on private business income and labor
  compensation in the rest of the economy. There are no special tax
  breaks and all double taxes are eliminated.
\1\ Federal taxes as a percent of private business income (gross labor
  income plus gross capital income less capital consumption allowance).
\2\ Federal taxes on the next dollar of private business income as a
  percent of private business income.
\3\ Federal, state and local taxes on the next dollar of private
  business income as a percent of private business income.
 

    Because the tax bases for the three proposals are the 
essentially the same, the effective tax rates needed to raise 
the same amount of federal revenue as under current law also 
would be the same. Replacing all federal taxes would require an 
effective average rate on private business income of about 24 
percent and a marginal rate of about 29 percent under either 
the sales tax or the business cash flow tax, with or without 
border adjustment. These effective rates are lower than the 
26.5 percent under current law because the proposals have 
broader, more uniform tax bases.
    Even though the rate is flat, the system is progressive. In 
this example, each family would receive a refundable credit 
equal to the poverty line. While families below the poverty 
line would face the same marginal rate as everyone else, they 
still would better off than under current law. Because they 
would get money back, their average tax rate would be negative, 
and they would not have to pay FICA taxes.
    A last point about the summary table. The calculations 
assume that compliance would be the same as under current law. 
The effective tax rate would be the same regardless of what the 
stated rate may be. If the Joint Tax Committee says the 
required rate is 30% instead of 24%, it simply means that the 
current law rate must be higher than the 26.5% calculated in 
the table. Doing so would not change either the conclusions 
regarding effective rates or the relative comparisons.
    I would like to close with some comments about economic 
effects. There are efficiency gains to be had in reform of the 
current system. First, both capital and labor pay higher rates 
on the next dollar of income than on the average dollar. 
Second, capital is presently taxed more heavily than labor. A 
single rate, which would treat capital and labor the same as 
well as lower marginal rates would encourage greater saving and 
investment, lead to a more efficient use of resources and 
result in increased output.
    There are, to be sure, important differences among 
competing proposals for fundamental tax reform. But, we should 
not lose sight of the fact that the economic ramifications of 
proposals that broaden the base, remove the bias against 
capital and lower marginal rates are essentially the same.


    Table 1.--Components of Average and Marginal Tax Rates on Private
                    Business Labor and Capital, 1999
------------------------------------------------------------------------
                           Labor                       Capital
     All      ----------------------------------------------------------
  Government      Average        Marginal       Average       Marginal
------------------------------------------------------------------------
       Total          33.3%          44.4%          49.1%         60.6%
Personal \1\          14.2%          25.3%          19.5%         28.0%
            Corporate  0.0%           0.0%          11.3%         14.3%
      profits
    Indirect           5.7%           5.7%          18.3%         18.3%
 business \2\
 Payroll \3\          13.5%          13.5%           0.0%          0.0%
Federal
Total federal         25.9%          35.6%          27.6%         37.6%
    Personal          11.4%          21.1%          15.6%         23.0%
            Corporate  0.0%           0.0%           9.5%         12.2%
      profits
    Indirect           1.2%           1.2%           2.4%          2.4%
     business
     Payroll          13.3%          13.3%           0.0%          0.0%
State and
 local
 Total state           7.4%           8.8%          21.6%         23.0%
    and local
    Personal           2.8%           4.2%           3.9%          5.0%
            Corporate  0.0%           0.0%           1.8%          2.1%
      profits
    Indirect           4.4%           4.4%          15.9%         15.9%
     business
     Payroll           0.2%           0.2%           0.0%          0.0%
 
------------------------------------------------------------------------
* Taken from Gary and Aldona Robbins, Road Map for Tax Reform, Institute
  for Policy Innovation, forthcoming Spring 2000. Basic data from the
  National Income and Product Accounts, April 2000 release.
\1\ Personal income taxes for labor are on wages and salaries. Personal
  income for capital include taxes on interest, dividends, capital
  gains, rent, royalties and so forth and estate taxes.
\2\ Indirect business taxes levied on output, like sales taxes or excise
  taxes, are apportioned roughly two-thirds to labor and one-third to
  capital based on their respective shares in the production process .
  Indirect business taxes levied specifically on capital like property
  taxes are attributed only to capital.
\3\ Employer and employee contributions for social insurance.


                                         Table 2.--Average and Marginal Tax Rates by Major Producer, 1998 & 1999
                                                                    Average Tax Rates
--------------------------------------------------------------------------------------------------------------------------------------------------------
                     Private Business \1\           Households \2\             Institutions \3\          Govt enterprieses \4\       General govt \5\
                ----------------------------------------------------------------------------------------------------------------------------------------
                      1998          1999          1998          1999          1998          1999          1998          1999         1998        1999
--------------------------------------------------------------------------------------------------------------------------------------------------------
      Capital          47.5%         49.1%          8.1%          8.0%         26.2%         26.4%            na            na          na          na
      Federal          26.3%         27.6%        -10.1%        -10.2%          3.6%          3.7%            na            na          na          na
State and local        21.2%         21.6%         18.2%         18.2%         22.6%         22.7%            na            na           a          na
             Labor     33.2%         33.3%         22.4%         30.9%         28.1%         27.6%         14.8%         14.9%       15.2%       15.3%
      Federal          25.8%         25.9%         19.3%         27.8%         25.2%         24.8%         12.2%         12.3%       12.5%       12.6%
State and local         7.3%          7.4%          3.1%          3.1%          2.9%          2.9%          2.6%          2.6%        2.7%        2.7%
Total Producer         38.0%         38.5%          8.5%          8.8%         28.0%         27.6%            na            na          na          na
        Income
      Federal          26.0%         26.5%         -9.2%         -8.9%         24.1%         23.7%            na            na          na          na
State and local        12.0%         12.1%         17.7%         17.7%          3.9%          3.9%            na            na          na          na
 
                                                                   Marginal Tax Rates
 
      Capital          58.5%         60.6%         -1.4%         -1.9%         28.7%         29.0%            na            na          na          na
      Federal          35.8%         37.6%        -18.4%        -18.8%          5.8%          6.0%            na            na          na          na
State and local        22.6%         23.0%         17.0%         16.9%         23.0%         23.0%            na            na          na          na
             Labor     43.9%         44.4%         35.5%         43.5%         39.6%         39.5%         24.7%         24.9%       25.5%       25.8%
      Federal          35.2%         35.6%         30.7%         38.8%         35.2%         35.1%         20.8%         21.0%       21.5%       21.8%
State and local         8.7%          8.8%          4.8%          4.7%          4.4%          4.4%          3.9%          3.9%        4.0%        4.0%
Total Producer         48.8%         49.8%         -0.3%         -0.4%         39.0%         39.0%            na            na          na          na
        Income
      Federal          35.4%         36.2%        -16.9%        -17.0%         33.7%         33.6%            na            na          na          na
State and local        13.4%         13.5%         16.6%         16.5%          5.3%          5.3%            na            na          na          na
--------------------------------------------------------------------------------------------------------------------------------------------------------
\1\ Corporate and noncorporate businesses.
\2\ Labor services supplied by domestics and the imputed value of capital services received by those who own their own homes.
\3\ Mainly the nonprofit sector including hospitals, schools and churches.
\4\ Government-operated businesses which provide commercial services such as the Postal Service, Tennessee Valley Authority and state-controlled liquor
  stores.
\5\ Functions normally associated with government including defense, police, education, and welfare.


        Table 3.--Sources & Uses of Private Business Funds, 1999
------------------------------------------------------------------------
                                                          As % of Priv.
               Sources                    $billions          Bus GDP
------------------------------------------------------------------------
  Total sources of private business           7,062.3            100.6%
                               funds
               Private business GDP           7,018.5            100.0%
       Taxable private business GDP           7,007.9             99.2%
    Untaxable, in kind compensation              10.6              0.2%
                          Subsidies              43.8              0.6%
  Uses
Total uses of private business funds          7,062.3            100.6%
                 Gross labor income           4,195.2             59.8%
                                   Compensatio3,967.2ployees      56.5%
Untaxable employee payments in kind              10.4              0.1%
                                   Compensatio3,956.8ivate busines56.4%
                           employees
                 Wages and salaries           3,386.5             48.3%
  Employer contributions for social             279.9              4.0%
                           insurance
                 Other labor income             290.4              4.1%
   Indirect business taxes on labor             228.0              3.2%
               Gross capital income           2,867.1             40.9%
                                   Corporate pro763.3with IVA and 10.9%
              Profits tax liability             225.3              3.2%
                          Dividends             331.6              4.7%
              Undistributed profits             162.1              2.3%
Inventory valuation adjustment (IVA)           (13.0)             -0.2%
                                   Capital consum57.2n adjustment (0.8%
        Net corporate interest paid             140.8              2.0%
  Proprietors' income with IVA and CCA          646.7              9.2%
     Untaxable in kind proprietors'               0.2              0.0%
                              income
     Proprietors' net interest paid              93.8              1.3%
 Other proprietors' income with IVA               3.7              0.1%
                                and CCA
     Rental income of persons with CCA           62.4              0.9%
Other private business net interest              57.7              0.8%
                                paid
                                   Consumption o796.4ed business  11.3%
                             capital
         Business transfer payments              39.4              0.6%
                Payments to persons
          Payments to rest of world
Indirect business taxes and fees on             387.8              5.5%
                             capital
            Statistical discrepancy            -125.1             -1.8%
------------------------------------------------------------------------
 AU.S. Department of Commerce, National Income and Product Accounts,
  Tables 1.9, 1.15, 1.16 & 8.21, April 2000.

      

                                


    Mr. Crane. The Chair applauds and congratulates and is 
grateful to each of you for the work that you have done, for 
coming to the committee today and sharing with us your ideas, 
but Gary and Aldona Robbins have been well-known to me for many 
years and do excellent work in modeling what impact our 
decisions are going to have on the economy and on jobs, and 
James Powell is a tough Texan rancher, the kind of vibrant 
individual this country was founded on, and Bill Helming, you 
have spent many years in the vineyards developing your program, 
and without any desire for personal gain, but to do something 
for the good of this country. I respect all three of you, and I 
am grateful that you are here before us today.
    Tell me, let me ask you a couple of questions. I don't have 
time to examine all the details, but we have it in writing and 
we can, at another time, look through it. But can you synopsize 
why you believe your plan is better than AFT?
    Mr. Helming. Mr. Chairman, better than what?
    Mr. Crane. Than the Americans for Fair Taxation that we 
heard the first day of this week?
    Mr. Helming. Yes. Well, I would simply say two major 
reasons--and, again, from the perceptions of the common person 
that I interface with, Mr. Chairman.
    Number one, the rate differential is a dramatic difference 
in terms of the perception on the part of the taxpayer. The AFT 
Tax rate is simply too high.
    And then, secondly, the consumer and at the J.C. Penney 
level, the consumer is under the impression, and rightly so, 
that businesses aren't paying their fair share. That is the 
perception, and that is a major problem from a structural 
standpoint, not from an economic standpoint, but from a 
structural standard, in terms of political viability of what I 
am proposing versus what is being proposed under the AFT plan.
    Those are two major, critical issues.
    Mr. Crane. All right. Thank you very much.
    Mr. Helming. Could I just add one thing?
    Mr. Crane. Sure.
    Mr. Helming. In my findings over the last 15 or 16 years, 
when it is all said and done, taking the typical taxpayer 
across America, it is very clear to me after that period of 
time that the removal of the entire tax code, including the 
FICA payroll taxes and the self-employment taxes and getting 
the IRS out of the lives of the wage earner--not the business 
owner, but the wage earner--those two things are very popular 
among the common people in this country.
    Mr. Crane. Yes. All right. Thank you.
    Now I am going to ask you a more difficult question. What 
are the flaws in your program?
    Mr. Helming. Well, I think perhaps a potential concern that 
might be raised would be the exemptions that I build into the 
plan to deal with regressivity. In other words, a potential 
concern or question might be, well, okay, if we start out with 
food and shelter and medical, then who is to say that your 
committee and others in Congress might suggest something else?
    Well, my response to that is as follows: first of all, 
there is a very well-established precedent at the State level, 
basically all 50 States, that for some time at the State level 
they exempt the very things that I am talking about, so it is a 
well-established precedent.
    Secondly, I would envision that the tax--if you go to 
manipulating, if you will, the social engineering issue and 
Congress says, ``We are going to build in another exemption, or 
another two or three,'' well then that is going to raise the 
rate, and every American from Watts to Harlem is going to know 
what change in the tax rates is and that is under consideration 
and there will be a lot of negative response to that.
    Lastly, to the potential concern that I raised, my response 
and suggestion would be that any change in the new Federal tax 
code be required by a super majority of the U.S. Congress.
    Mr. Crane. Well, I think you have been very up front. I 
know, when I talk about structural tax reform in my town 
meetings, I have to say up front there is no tax system that is 
perfect.
    Mr. Helming. That is right.
    Mr. Crane. No matter how we collect taxes, there are going 
to be objections, there are going to be flaws, there are going 
to be problems, and one day when I spoke very strongly, as I 
do, about the need to get rid of the income tax in one of my 
town meetings and suggested the concept of an alternative, a 
man got up in the back of the room, raised his hand, and I 
recognized him, and he said, ``I don't like your ideas.'' And 
that is the first time anyone had ever said that to me. And I 
said, ``Well, I am curious. Why?'' And he said, ``Because we 
still have to pay taxes.'' And I said, ``You are right. We 
would love for that day to come when we didn't have to pay 
taxes, but the Government has bills to pay, and therefore we 
have to collect taxes.''
    So we should continue to seek the best way, and I thank you 
for your input.
    I am now going to recognize Mr. Coyne for any questions 
that he might like to make.
    Also, I have got to excuse myself for a very few minutes, 
and if you will preside during my absence I will return 
shortly.
    Mr. Helming. Thank you.
    Mr. Coyne [presiding]. Thank you, Mr. Chairman.
    Ms. Robbins, your testimony notes that the fundamental 
proposals for tax reform do not make poor families pay more 
taxes. What about middle class and high-income families? What 
happens with their total tax bills, the middle class and upper-
income families?
    Ms. Robbins. When I refer to proposals, I am really talking 
about the example that we structured here with the refundable 
credit up to the poverty line.
    I don't have distributional information with me at this 
point. I think, as you know, Congressman, when we are talking 
about broadening the base, there are going to be some 
deductions that are going to be lost and some people are going 
to be worse off. Others will be better off.
    I think, overall, though, the objective of tax reform is to 
try to get out as many of the distortions that exist in the 
current system and broaden the base, bring down the tax rates, 
and generate more--ultimately, the greater growth that would 
result, I believe, from tax reform would, long run, make 
everyone better off, but certainly starting out of the gate 
there are going to be winners and losers.
    Mr. Coyne. So you have no data that would show that middle 
class--
    Ms. Robbins. We have not constructed that information as 
yet. This project is still under way, so we will eventually 
have distributional tables.
    Mr. Coyne. Okay. The economy is in its longest period of 
expansion in the Nation's history, and the current tax system 
doesn't seem to have hampered that amazing achievement for all 
of us, or most of us. Do you think a sudden fundamental change 
to the tax code could threaten that prosperity that we have 
been experiencing?
    Ms. Robbins. I have done some looking at the current 
recovery and have compared it, for example, to the 1960s, 
which, up until February, when we passed, I think, 106 months 
in the 1990s, the 1960s had been the previous longest 
expansion. It is interesting on the tax issue that the average 
tax rates in the 1990s are higher than they were in the 1960s. 
That is because we have programs like Social Security and 
Medicare that are larger today, and also because State and 
local governments have expanded over time.
    So the average rates in the 1960s were actually lower, but 
what was interesting is that during the 1990s the marginal tax 
rates had been lower than they were in the 1960s, but they have 
been trending up, so right now we are getting close to marginal 
rates of where they were in the 1960s.
    I guess what I am concerned about and keeping an eye on are 
leading indicators, such as the stock market and investment, to 
see if perhaps this recovery might not be starting to stall. If 
it is, then I think the tax rate issue is certainly one area 
that needs to be revisited.
    I would argue that anything you can do to bring down 
marginal rates will be added insurance to keep this recovery 
going even further.
    Mr. Coyne. Well, I guess I am not speaking so much of rates 
as I am any structural change in the code that would come about 
by saying that in the year 2003 or 2004 we are going to have an 
altogether different method for revenue collection.
    Ms. Robbins. Right.
    Mr. Coyne. And aside from the progressive income tax that 
has served us very, very well over the years.
    Ms. Robbins. I guess, again, it would matter on what kind 
of disruptions that are being discussed, although I think if 
you look historically, when there have been changes to the tax 
code, the economy is remarkably resilient and does make 
adjustments pretty quickly.
    Mr. Coyne. Thank you.
    Ms. Robbins. You are welcome.
    Mr. Coyne. John?
    Mr. Tanner. I am sorry I got here late.
    Mr. Helming, I was reading your proposal, and in it do 
you--we had a hearing two days ago, I guess it was, and there 
was a proposal for a national sales tax--
    Mr. Helming. Yes.
    Mr. Tanner.--that would apply to the cities and counties 
and States in this country on not only their purchases, but 
also on the wages paid, as a service.
    I was reading yours. Is yours similar to that, that you tax 
local--
    Mr. Helming. No, sir. The plan that you have before you and 
that I presented here today is for the Federal level, only, but 
I can speak to the State level, if you would like me to.
    Mr. Tanner. Yes.
    Mr. Helming. The 15.2 tax rate at tier one and tier two is 
required to achieve revenue neutrality for raising the same 
amount of revenues as we do now.
    I don't know if you were here when I spoke to that. The 
marginal tax rate on labor under the current code is 35.6 
percent, and under this plan it is 30.4, about a 14 percent 
differential.
    If you were to take the same formula and applied the tier 
one and tier two to be revenue neutral--in other words, strip 
out all income tax for those States that have income taxes and 
sales taxes, property and real estate and property taxes--you 
would basically have a 7.6 percent total, or divided by two, 
3.8, so you would add 3.8 to 15.2, and you would basically have 
a 19 percent rate to cover and replace all federal and state 
government taxes.
    You see what I am saying? That would replace all Federal 
and State taxes.
    Mr. Tanner. I think I heard you say that you favor the 
super majority bill to raise taxes?
    Mr. Helming. Well, to change anything in the tax code.
    Mr. Tanner. To change anything.
    Mr. Helming. I mean, what I am suggesting, assuming our 
Nation and our American people are so fortunate to have a 
fundamental tax reform embraced, my suggestion would be then 
part of the law which you and your colleagues would be writing 
would be a requirement that any structural change or change in 
the rate in any manner would require a super majority of the 
U.S. Congress.
    Mr. Tanner. What about foreign money, raising the debt 
ceiling? Would you also favor super majority to do that?
    Mr. Helming. I am sorry. I am having a hard time hearing 
you.
    Mr. Tanner. To borrow money to raise the debt ceiling, 
would you favor a super majority to borrow money?
    Mr. Helming. I guess I probably would, but I haven't 
thought about that one near as much.
    Mr. Tanner. Well, would you agree that there is pressure in 
the here and now to not raise taxes more so than the pressure 
in the here and now from those yet unborn who are getting the 
debt that we are leaving them to just simply borrow more money, 
rather than paying for our consumption today? Would you have a 
problem with that?
    Mr. Helming. Yes, sir, I sure would.
    Mr. Tanner. So if one believed that the pressure to not 
raise taxes today is greater than the pressure from those that 
are not here yet to not borrow from them, it seems to me the 
super majority that we ought to be talking about as relates to 
the tax code ought to be to borrow money rather than to pay for 
what we do today.
    I think we should think about the efficacy of what we are 
doing with respect to our Nation's debt rather than what we are 
doing with respect to the tax code as it relates to the here 
and now, but that is just another--
    Mr. Helming. I guess my emphasis, Congressman, is that, 
when we look at a structural change and a fundamental change in 
the revamping of the current tax code, as many others have 
already said and as I have been saying for some time, if it is 
done properly, you know, everybody in the economy essentially 
wins. I mean, certainly the common wage-earner is going to 
benefit from a faster-growing economy, lower interest rates, 
lower cost of goods and services.
    Mr. Tanner. I agree.
    Mr. Helming. And so I don't think we can walk away from 
that. I think, as long as we can do it and raise the required 
amount of money to stay within the budget limitations, it seems 
to me we ought to be doing it.
    Mr. Tanner. I agree. It is curious this super majority 
thing keeps coming up, but no one wants to talk the fact that--
    Mr. Helming. The reason I bring that up is that, you know, 
one of the very nice features about the structural aspect of 
this two-tiered system is that it is levied across the entire 
economy--the business sector and obviously the consumer 
sector--and if Congress decides, for whatever reason or reasons 
at some point, assuming we were to implement such a plan, that 
it wanted to change it, it seems to me that ought to require a 
major hill to climb before it was changed. That is all I am 
trying to suggest.
    Mr. Tanner. I understand the super majority thing. The 
process, though, has always intrigued me because no one talks 
about it in relation to borrowing money. They only talk about 
it in relation to raising taxes.
    Would you require a super majority to declare war?
    Mr. Helming. Well, I think the Constitution says that is up 
to the President in one sense--
    Mr. Tanner. No, it is up to the Congress to declare war.
    Mr. Helming. It is really up to the Congress. Yes.
    Mr. Tanner. When you go down that road, what about a super 
majority to elect people to come here to make these decisions? 
I mean, when you start talking about super majorities--we had a 
vote on it this week, and I don't want to argue about it, but 
it has just always caught my attention when people talk about a 
super majority as it relates to the tax code but not to borrow 
money or do anything else around here. I wish--
    Mr. Helming. I wouldn't quarrel with you that a super 
majority conceptually is a good idea.
    Mr. Tanner. You think it is?
    Mr. Helming. Yes, I do for my tax proposal
    Mr. Tanner. Well, that is an interesting conception.
    I yield back the balance of my time.
    Mr. Archer [resuming Chair]. Mr. Coyne, thank you for 
presiding in my absence.
    Again, we thank all three of you for coming and presenting 
your proposal. It is clearly a well-thought-out proposal, and 
it is going to be very helpful to us as we try to find our way 
through to the final solution of what we can get past in 
structural tax reform.
    Mr. Helming. Mr. Chairman, my next step is to get it 
introduced into Congress, but it is a pleasure to be here.
    [The following was subsequently received:]
                                                        May 3, 2000

Congressman John Tanner
1127 Longworth Building
Washington, D.C. 20515

    Dear Congressman Tanner:

    Let me start by thanking you for being present during my 
presentation at the Tax Reform hearings conducted by the House Ways and 
Means Committee on April 13th. I am writing to clarify an answer I gave 
to you regarding having a two-thirds majority rule as it pertains to 
the tax code and specifically my proposal.
    I need to tell you that I was having difficulty hearing questions 
coming from the committee. I had to have Chairman Archer repeat himself 
a couple of times earlier during the Q & A. Upon review of the written 
transcript, I saw that I missed the concern you were trying to convey 
in the context of your question. I'll briefly make a couple of points 
that hopefully will better answer your question.
    I am aware that some in congress have advocated a two-thirds rule 
for raising taxes. I am sure there are many motivations that cause 
these individuals to take their positions. For those who sincerely 
think that such a move would help solve the inequities in the current 
system, I think they would be disappointed by the results. I am in the 
camp that believes the current code can't be fixed by tinkering with it 
and that we should take advantage of the good times to phase in a new, 
revenue-neutral code.
    As a two-thirds rule could pertain to a new tax code, I think one 
could argue for it. As it might pertain to my proposal, the two-thirds 
rule would be used to primarily keep the overall structure in tact for 
a longer period of time. Should an industry lobby for special treatment 
or exempt status, for example, the overall tax rate levied at the 
business and retail levels would go up. The two-thirds rule would make 
it harder for that kind of change to occur and there would be a good 
chance the voters would take a more active role in letting their 
positions be known. The rule would apply to raising taxes, but under my 
plan, the rule also applies to lowering the tax rate.
    My motivation for having a two-thirds rule as part of my proposal, 
is to ensure that the tax code will not change too much or too often. 
The idea is to enact a code for the citizens, businesses and government 
that will be predictable and consistent, that will remain in tact 
through the rigors of political and economic change.
    I hope this better explains my position. Again, thank you for your 
time at the hearings and I hope well have an opportunity to talk more 
about my proposal in the future.

            Sincerely,

                                               Bill Helming

    cc: Bill Archer
       John Meagher
      

                                


    Mr. Crane. Thank you so much. You are excused.
    Our next panel is Dr. Regalia, Ms. Soldano, and Mr. Entin, 
if you will come to the witness table.
    We are glad to have all three of you with us today. I think 
you probably, having sat in the room, know the general format 
that we try to follow, which is that your entire written 
statements will be put in the record without objection, and if 
you will attempt to synopsize verbally within the five-minute 
limit, we would appreciate it.
    Dr. Regalia, if you would start off.

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

    Mr. Regalia. Mr. Chairman, my name is Marty Regalia, and I 
am vice president and chief economist of the U.S. Chamber of 
Commerce.
    The Chamber appreciates the opportunity to comment on 
fundamental tax reform, and I will summarize my testimony 
briefly.
    Over the years, dissatisfaction with the Federal tax system 
has resulted in the enactment of significant code changes in 
about 11 of the last 25 years. Even these changes, however, 
have not really fixed anything, and the discontent over the 
code continues.
    The current tax system is plagued by a number of 
shortcomings. The system is cumbersome and excessively complex 
and results in high compliance costs and produces a perception 
of unfairness, as well as a lack of trust that not only 
undermines compliance with the law, but respect for the 
Government.
    The system levies multiple layers of tax on income, capital 
acquisitions, savings, and investment, and, as such, it is 
biased against savings and investment that is crucial to our 
continued economic growth.
    It contains relatively high marginal rates, which are 
economically distorting, foster tax avoidance, and reduce 
compliance.
    It suffers from a multitude of exclusions, exemptions, 
deductions, and credits, which often cause decisions to be tax 
driven, rather than made on the basis of sound economic 
reasoning.
    Clearly, the system is in need of substantial reform, or 
even replacement.
    The Chamber's members are currently evaluating a number of 
the proposals, and, while they have not yet selected a single 
approach or endorsed a specific proposal, they believe that, 
whatever system is developed, it should address as many of the 
following issues as possible:
    The tax system needs to be simple and clear, 
understandable, and relatively easy to apply.
    It should eliminate or substantially reduce the incidence 
of confiscatory multiple levels of taxation on capital savings 
and investment and on productivity growth.
    The system should have low marginal rates which imply a 
relatively broad base with relatively few exemptions.
    It should level the playing field in terms of our 
international competitiveness. It should do this by avoiding 
duplicative taxation and other jurisdictional problems and by 
adopting a territorial approach that is border adjustable.
    Fundamental changes to our tax system must also be 
accompanied by appropriate, sensible transition rules. They 
must be clear-cut, of sufficient duration to allow a chance for 
the change to be properly interpreted, understood, and applied, 
and provide an orderly movement into the new tax structure 
without the application of undue costs.
    The business world and our whole economic environment are 
rapidly evolving, in part due to new technologies and 
electronic commerce. Whether the system is reformed or 
replaced, it must be consistent with this new economy and 
afford sufficient flexibility to accommodate change with a 
minimum of tinkering.
    The task of designing and implementing a substantial reform 
is daunting, but the rewards are continued economic growth and 
a higher standard of living. We look forward to working with 
you and the other members of the committee to achieve this end.
    Thank you.
    Mr. Crane. Thank you, Dr. Regalia.
    [The prepared statement follows:]

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

    The U.S. Chamber of Commerce is the world's largest business 
federation, representing more than three million businesses and 
organizations of every size, sector and region, and we appreciate this 
opportunity to comment on reforming or replacing the federal tax 
system.

                              Introduction

    Over the years, dissatisfaction with the federal tax system has 
resulted in the enactment of major tax code changes in 11 of the last 
25 years: 1976, 1978, 1981, 1982, 1983, 1985, 1986, 1990, 1993, 1997 
and 1998, with other changes in between. Yet, perhaps due in part to 
the sheer frequency of changes, taxpayer discontent seems to have 
mounted. Not only do critics cite the weight of the overall tax burden, 
but they also point to the way the tax is collected--specifically, the 
system's high marginal tax rates; its double, triple and sometimes 
quadruple taxation of the same income; its high level of complexity; 
its inherent anti-saving bias; its special provisions for certain 
economic activities; its high cost of compliance; and its hindrance of 
faster long-term economic growth.
    As a result, from time-to-time, tax reform proposals have been put 
forth that range from relatively straightforward alterations of the 
current tax code to complete replacement of the income tax system with 
an entirely new system of taxation.

                          General Observations

    The primary purpose of a tax system is to raise revenue to provide 
for essential public goods and services. While there may be some debate 
over what constitutes an essential public good or service, and thus 
over how much an economy should be taxed, most would agree there are 
certain principles that a ``good'' tax system should embody:
    Efficiency--A tax system is efficient when the cost of collection 
and compliance is low relative to the amount of revenue raised. For 
example, spending $10 to collect $100 in tax revenues is more efficient 
than spending $50 to raise $125.
    Neutrality--The distortion to economic decision-making should be 
minimal. How is economic decision-making altered by the tax 
consequences of a particular activity? Are sound economic fundamentals 
driving economic decisions, or are individuals basing their decisions 
largely on the tax ramifications?
    Simplicity--Ease of understanding and fulfillment should be 
widespread, allowing ordinary citizens to handle their own taxes with a 
minimum of outside assistance. Firms, large and small, should be able 
to easily understand and accurately apply the tax code to their 
businesses.
    Fairness--Are those in similar economic circumstances paying 
similar taxes? This notion, termed ``horizontal equity,'' is relatively 
straightforward. Another type of fairness that is more difficult to 
measure, ``vertical equity,'' suggests that those who are in dissimilar 
circumstances should pay appropriately different amounts of tax. These 
are very
    Certainty--Are changes to the tax code capricious, frequent or 
unanticipated? Do households and businesses know much will be due and 
when? Can they readily project their tax liability in coming years 
under various sets of circumstances? Are they responding to the current 
tax code or arranging their affairs in anticipation of the next change 
to the tax laws?
    At times, some of these principles may be at odds, but, in general, 
the best tax systems would score reasonably well on these criteria.
    In addition to the above characteristics, the designers of a new 
tax system must also address a number of questions; for example, the 
degree of ``progressivity'' or ``regressivity.'' A regressive tax 
structure exists when lower-income individuals pay a higher proportion 
of their income in taxes than do higher-income taxpayers. Conversely, 
in a progressive tax structure, higher-income individuals pay a greater 
proportion of their income in taxes than do individuals with lower 
incomes.
    A key issue to understanding and redesigning our tax system is to 
recognize that it provides incentives for businesses and households to 
behave in particular ways. As such, it can be used to promote specific 
social goals or advance political agendas. Often, these social or 
political goals run counter to the aforementioned principles and force 
tradeoffs. The result can be a tax code that violates the principles of 
sound taxation and imposes numerous unintended consequences. This can 
cause significant economic damage. In designing a tax system for the 
new millennium, we should be aware of any incentive structure we may 
create and the likely response from the dynamic marketplace.
    Another key point for those wishing to construct a new system, or 
significantly alter the existing one, is the choice of the tax base. 
Should we, for instance, tax income or consumption? If we choose 
income, should it be income less a personal exemption (of how much?), 
or income less a personal exemption less savings? Should we subtract 
out charitable contributions? Mortgage interest? State taxes? If we 
believe that consumption should be taxed, should we tax sales (some, 
all, or retail?) or ``consumed income''?
    Moreover, choices made about the tax base will have a significant 
influence on the tax rate. As we narrow the tax base--i.e., as we 
exclude more and more activity from taxation--tax rates will have to 
rise to garner the same amount of tax revenue, at least in a 
conservative, static sense (i.e., ignoring any impact on economic 
growth). Other questions also arise: Should a single tax rate be used, 
or are multiple tax rates preferable? Should different rates apply to 
households and businesses?
    Finally, another important consideration for any tax proposal is 
how to get from ``here to there,'' and over what period. Regardless of 
the long-term benefits that may accrue from a new tax system, making 
the transition from the current income tax to a different tax regime 
will undoubtedly create ``winners'' and ``losers.'' How these winners 
and losers are treated could make the difference between moving to a 
new system and keeping our current system. Transition rules in many 
proposals have not been developed yet, but they will be of paramount 
importance and should be examined closely, prior to adopting any new 
system.

                            Current Tax Code

    The current tax system, overall, is steeply progressive. Families 
who find themselves in the highest quintile (top 20 percent) of pretax 
annual income bear 77 percent of the income tax burden, and 53 of the 
overall federal tax liability when income, social insurance and excise 
taxes are included. At the same time, families who are in the lowest 20 
percent have an effective income tax burden of negative two percent, 
due to refundable tax credits, and those in the second lowest quintile 
have an effective income tax burden of only one percent. Together, 
those in the lowest two quintiles, while making up 40 percent of the 
population, bear only 12 percent of the overall tax liability, i.e., 
income, social insurance and excise taxes. (Congressional Budget 
Office, Budget Options, p. 43, March 2000.)
    A degree of progressivity may achieve some measure of ``fairness'' 
in the eyes of some, via certain social goals, such as redistribution 
of income or wealth, or be reflective, in part, of ability to pay. 
However, just as taxes are necessary to operate our ``government of the 
people, by the people, [and] for the people,'' from which everyone 
derives benefits, good government is founded upon input and involvement 
from the citizenry. When so many pay so little, if anything, towards 
the operation of our government, they are not very concerned as to how 
the revenues are spent--after all, it is not ``their'' money; it's 
someone else's. They feel disinterested in, and disenfranchised from, 
``the system,'' at the same time as those who pay a disproportionately 
high rate of taxes fell cheated and oppressed by the system. A good 
example of this apathy is reflected in low voter turnout for political 
elections, and pervasive ignorance of political processes. A tax system 
that requires some fair, material participation from all segments of 
society in the funding of government invites their interest and 
participation in how our government and our country operate. Government 
is enhanced by an engaged citizenry. A system designed to replace the 
current federal tax code and structure should reflect these ideals.
    The current federal tax system is cumbersome and too complex. A tax 
system cannot be perceived as fair if it is overly complicated. Unless 
the average person can understand how the tax system works and prepare 
necessary tax paperwork without an undue amount of education and 
research, it will be held in disdain. A tax system that is so cryptic 
that only the privileged few can understand it does not gain the trust 
of the people--it seems to be written in a secret language by, and to 
serve the purposes of, an elite minority. Most people are unable to 
understand the tax laws and complete their own tax returns--well over 
one-half of all tax returns are prepared by tax professionals. This 
results in a lack of trust that not only undermines respect for 
government and compliance with the law, but renders the law more 
difficult to interpret and enforce. Difficulty in interpretation and 
enforcement breeds uncertainty and problems in administering the law, 
and results in a drain on the revenues, either through direct reduction 
due to non-compliance, or exorbitant expenses incurred in educating 
people in proper reporting and treatment of transactions; drafting and 
issuance of lengthy regulations; auditing of tax returns; and 
litigation of disputes. A new tax system needs to be simple and clear, 
understandable and easy to apply, and with a minimum of computations to 
undertake and tax forms to complete.
    Currently, our federal tax system levies multiple layers of 
taxation on capital acquisition, savings, and investment. As such, it 
is biased against savings and investment that is crucial to sustaining 
our economic growth. Take, for example, a business owner who operates 
his or her own corporation, For that individual, such layers of 
taxation can include: the income tax on corporate earnings; the 
personal income tax and FICA taxes on wages paid by the corporation; 
personal income tax on the sales of the investor's corporate stock; 
capital gains tax on subsequent reinvestments made with those funds; 
and gift, estate, and transfer taxes levied upon the remaining assets 
transferred by this unfortunate taxpayer to others. When added 
together, some income faces an effective tax confiscation in excess of 
90 percent, a truly draconian figure. A new tax system should reduce 
the incidence of such confiscatory cumulative taxes, and encourage 
productivity, savings and investment. A fair tax system must encourage 
and reward those who help grow our economy.

                     International Competitiveness

    On the international competitiveness front, a tax system should be 
``border-adjustable'' and mesh well with international tax treaties 
entered into with our trading partners. For instance, U.S. corporations 
doing business outside our borders should not be placed at a 
competitive disadvantage by multiple taxation of the same transactions 
or activities, or being subject to tax rates which are unfavorable when 
compared to those levied upon our foreign competitors. If the United 
States taxes its domestic businesses on their world-wide income, i.e., 
taxes the income of transactions or acitivites occurring in foreign 
countries in which U.S. corporations conduct their business, and they 
are also subject to tax by foreign jurisdictions, it places those 
entities at a competitive disadvantage vis-a-vis their foreign 
competitors. If the United States taxes those transactions or 
activities at a competitively unfavorable rate, our companies are 
disadvantaged. And, when our companies are disadvantages, their 
employees, owners and our country, overall, are likewise disadvantaged. 
A business, whether a corporation, partnership, sole proprietorship, or 
in some other legal form, is nothing more than people, and when the 
business is hurt, the people that ``make it up,'' are also injured.
    Our current federal tax system protects certain of our businesses 
from international competitive disadvantage through the Foreign Sales 
Corporation (``FSC'') rules. Likewise, many international tax treaties 
provide for elimination or reduction in the effect of duplicative 
taxation. However, recently, the World Trade Organization (``WTO'') has 
ruled that the Internal Revenue Code's treatment of FSCs violates the 
WTO's conventions, constituting an illegal subsidy to U.S. firms. The 
underlying bases of this dispute and preservation of border-
adjustability must be addressed and resolved in any replacement tax 
system to make the playing field level in terms of international 
competitiveness. Accordingly, our federal tax system must either be 
crafted in such a manner to integrate with existing international 
treaties or be coordinated with the drafting and adoption of new ones.

                               Conclusion

    While proposals have been advanced for the reform or replacement of 
our current federal tax code, neither our membership, nor the public, 
has yet reached a consensus as to which approach makes the most sense 
for America. Accordingly, we advocate additional study of these 
proposals and their expected impact on the taxpayers, and our economy, 
as a whole, before any one ``best'' system can be devised, embraced, 
and advanced. Nonetheless, one thing we can says it that the current 
system offers much room for improvement, whether that be through major 
retooling or redesign, to achieve: simplicity; fairness; low marginal 
rates with a broad tax base with few deductions; reasonable 
progressivity; incentives for productivity, savings, and investment and 
the fostering of international competition. At the same time, the 
government must control its spending appetite so as to require the 
smallest amount necessary to provide the goods and services demanded by 
the public, and collect the taxes in a reasonable, cost-efficient and 
effective way.
    Fundamental changes to our tax system must be accompanied by 
appropriate, sensible transition rules. They must be clear-cut; of 
sufficient duration to allow a chance for the changes to be properly 
interpreted, understood and applied; and provide an orderly movement 
into the next tax structure without undue costs.
    We must also keep in mind that the business world and the ways 
which we structure and conduct transactions are evolving at a frenetic 
pace. The advent and development of new technologies, including 
electronic commerce, are altering the playing arena and the rules of 
the ``game'' with dizzying speed. A new tax system must be carefully 
crafted to encompass and accomplish its intended purposes. At the same 
time, it must be sufficiently flexible to accommodate change with a 
minimum of tinkering. Reasoned study and foresight must be applied to 
designing the system, so that in the winds of change we do not have to 
face the prospect of scrapping that system and returning to square one. 
Let's not rush to judgment; let's do it right.
    Vital to reaching a broad consensus on the outcome of this debate, 
is the principle that everyone who is able to, should contribute to our 
system of government, in return for its benefits and protections, and 
have a stake and interest in the government. Only through the 
expression of such interest can the consensus we seek be discovered.
      

                                


    Mr. Crane. Ms. Soldano will you now give us your testimony?

  STATEMENT OF PATRICIA M. SOLDANO, PRESIDENT, CENTER FOR THE 
           STUDY OF TAXATION, COSTA MESA, CALIFORNIA

    Ms. Soldano. Mr. Chairman, I am Patricia M. Soldano, Center 
for the Study of Taxation. I am here today as president of the 
Center for the Study of Taxation, but, more importantly, as 
someone who has heard from numerous families about the effect 
of the gift, estate, and generation skipping tax, also called 
the ``death tax,'' has had on them and their businesses. Allow 
me to share some death tax facts and some horror stories with 
you today.
    To pay a tax because someone dies at the highest rate in 
our tax system on assets that have already been taxed before is 
the reason that 69 percent of the general public believes that 
the death tax is unfair--more unfair than payroll tax, income 
tax, gasoline tax, sales tax, property tax, cigarette tax, 
alcohol/beer tax, and even capital gains tax.
    Why is the death tax so unpopular? Because it is a tax on 
the American dream. Hard-working entrepreneurs who build their 
family businesses and support our Nation's economy hope that 
some day they will be in a position to will their life's work 
to their children and not pay a 55 percent tax. Within the last 
few years, new voices have called for the elimination of the 
death tax, including the National Association of Women-Owned 
Businesses, the National Black Chamber of Commerce, the 
National Indian Business Association, U.S. Hispanic Chamber of 
Commerce, U.S. Pan Asian American Chamber of Commerce, National 
Association of Neighborhoods, and the Texas Conference of Black 
Mayors.
    These minority groups have just started to build their 
businesses and they want to be able to pass on their assets to 
their children, the benefit of years of hard work, without a 55 
percent tax or an 80 percent generation-skipping tax if they 
wish to give to their grandchildren, and these people are 
represented by 47 percent of the female Members of Congress, 
who have supported repeal of the death tax as cosponsors of the 
bipartisan Dunn-Tanner bill, and I would like to thank 
Congresswoman Dunn and Congressman Tanner for their work on 
H.R. 8 and their tireless effort to repeal the death tax.
    These women and minorities are real people who are 
adversely impacted by the death tax. Money that they could use 
to send their children to college or pay their family's 
expenses is, instead, snatched by Washington. One unlucky 
victim of this tax is Lynn Marie Hoopingarner of West 
Hollywood, California, who writes to me, ``My family has 
recently experienced a triple tax. My grandfather paid income 
taxes on his income when he earned it. When he passed away two 
years later, it was taxed again. My mother than suddenly passed 
away this past spring, and it was taxed again--effectively, an 
88 percent tax.''
    In addition to the inherent unfairness and 
inappropriateness of the death tax, it actually costs the 
American economy a job. Yes, the death tax does eliminate jobs. 
How many? In a survey recently done by the Center for the Study 
of Taxation and the Policy Institute of New York, 365 
businesses responded to a survey that they had already lost 14 
jobs per business in the last five years due to the cost of 
planning for this tax and actually paying the tax. That is 
5,100 jobs in the last five years just within the 365 survey 
base. In the next five years, they anticipate losing, on 
average, 80 per business jobs. That is 80 jobs for 365 
businesses--that is 15,000 jobs in the next five years.
    In a recent survey of the National Association of Women 
Business Owners, NAWBO, there were similar results. Within the 
survey respondents of 272, on average 39 jobs have been lost in 
the last five years per business, again for paying and planning 
for this tax, and in the next five years, on average, 103 jobs 
will be lost per business. That is 28,000 jobs just within that 
survey respondent group.
    Carri Bell, a NAWBO member who owns a business in Oklahoma 
City, wrote in her response to us, ``I just settled my father's 
estate and paid three-quarters of the total estate for taxes 
and fees. Sold all of our stock and bonds and had to borrow. 
When I die, there are no more disposable assets left, so the 
business will have to be sold.''
    The death tax also impacts our global competitiveness. 
Since the United States has the second-highest death tax rate 
of any country in the world, second to Japan at a 70 percent 
rate--which you should know doesn't kick in until a $15 million 
exemption--the death tax affects the competitiveness of U.S. 
companies. Family businesses have to plan for the death tax by 
buying expensive life insurance, selling assets, borrowing or 
restructuring their business. It is expensive, time-consuming, 
energy-wasting, and constant, year after year.
    Many small-to mid-size family businesses sell out early to 
corporations who are not faced with the death tax, ending the 
opportunity of the family to carry on with the business and the 
livelihood of the family.
    In closing, I would like to tell you the story of Ida 
Prichard of Seattle, Washington. In her own words, she writes: 
``I am 77 years old. My history of work, thrifts, and efforts 
to save money is unbelievable. Here is my reward. All of my 
Social Security, plus more, goes for income taxes. I live off 
my teacher's pension, as I do not want to cash my investments. 
If I died today, I would pay about $200,000 in death tax. I am 
helping a great niece go to college. I have two great nephews 
coming up. All are bright children. I would like to help them, 
not the IRS.
    ``I had a newspaper route in college. I worked for 50 cents 
an hour doing office work under the program of President 
Roosevelt. I have lost money in investments.
    ``I went to work when I had a death sentence with lung 
cancer in 1967. I didn't miss a day when I was told that I was 
only going to live three months.
    ``I am still working. I have a tenant and I tutor ESL 
students. I do almost all my own work and cooking. I have never 
had a bill I didn't pay. The way things are now, what the 
nursing home doesn't get--if i am that unfortunate--the IRS 
will. What did I make all this effort for? Our laws need to be 
changed, but I have no clout.''
    Gentlemen and gentlewomen of this committee, I urge you to 
repeal the death tax. As the committee continues to actively 
consider proposals to reform the tax system, I urge the 
committee to recognize that outright repeal of the death tax 
should be a principal component of any proposal. Let us show 
the American people that their Government has a heart. Let us 
show the hard-working American people like Ida Prichard that 
they can pass away knowing that their life's hard work will 
benefit their families. Finally, let us show them, the so-
called ``little guys,'' that they do have clout and their 
Government is listening.
    Thank you.
    [The prepared statement follows:]

STATEMENT OF PATRICIA M. SOLDANO, CENTER FOR THE STUDY OF TAXATION, 
COSTA MESA, CALIFORNIA

    I am here today as the President of the Center for the Study of 
Taxation, but more importantly as someone who has heard from numerous 
families about the effect that the gift, estate and generation skipping 
tax (``the death tax'') has had on them and their businesses. Allow me 
to share some death tax facts and horror stories.
    Most of you are already familiar with how the death tax effects mid 
to small sized businesses because you have heard from those families 
but you may not be aware of just how much it hurts. The facts show that 
88% of the revenue generated by the death tax comes from estates $20 
million or less! So yes, the very wealthy are generating some of this 
revenue but most of it comes from families who own small and medium 
sized businesses that cannot afford to pay the tax upon the death of a 
family member without selling off most of the bequeathed assets.
    To pay a tax because someone dies, at the highest rate in our tax 
system, on assets that have already been taxed is the reason that 69% 
of the general public believes the death tax is unfair. More unfair 
than payroll tax, income tax, gasoline tax, sales tax, property tax, 
cigarette tax, alcohol and beer tax, or even the capital gains tax. Why 
is the death tax so unpopular? Because it is a tax on ``the American 
dream.''
    Hardworking entrepreneurs who build their family businesses and 
support our nation's economy, hope that someday they will be in a 
position to will their life's work to their children without paying a 
55% tax.
    Within the last few years many new voices have called for the 
elimination of the death tax including:

National Association of Women Business Owners
National Black Chamber of Commerce
National Indian Business Association
U.S. Hispanic Chamber of Commerce
U.S. Pan Asian American Chamber of Commerce
National Association of Neighborhoods
Texas Conference of Black Mayors

    These minority groups have just started to build their businesses 
and they want to be able to give to their children the benefits of 
their years of hard work without a 55% gift tax or an 80% generation 
skipping tax if they wish to gift to their grandchildren. And they are 
represented by (among others) 47% of the female Members of Congress who 
support repeal of the death tax, as co-sponsors of the bipartisan Dunn-
Tanner bill, HR-8.
    These women and minorities are real people who are adversely 
impacted by the death tax. Money that they could use to send their 
children to college or to pay other family expenses is instead snatched 
by Washington. One unlucky victim of this tax, Lynn Marie Hooopingarner 
of West Hollywood, CA writes to us, ``My family has recently 
experienced a triple tax. My grandfather paid income taxes on his 
income when he earned it. When he passed away two years ago it was 
taxed again. My mother then suddenly passed away this past spring and 
we were taxed again. Effectively an 88% tax rate.''
    In addition to the inherent unfairness and inappropriateness of the 
death tax, it actually costs the American economy and jobs. Yes, the 
death tax eliminates jobs. How many?

     In a survey done last year by the Center for the Study of 
Taxation and Public Policy Institute of New York, 365 businesses that 
responded to a survey have already lost 14 jobs per business in the 
past five years due to the cost of planning and paying the death tax, 
that is 5,100 jobs just within those 365 businesses and they anticipate 
losing on average 80 jobs per business in the next 5 years, or in 
excess of 15,000 jobs just within the survey group.
     In a recent survey of members of the National Association 
of Business Owners, (NAWBO) there were similar results. Within the 
survey respondents of 272, on average 39 jobs have been lost in the 
past five years per business or 1,000 jobs in total and 103 are 
expected to be lost in the next five years for a total of 28,000 jobs.

    Carri Bell, a NAWBO member, who owns a business in Oklahoma City, 
wrote on her response, ``I just settled my father's estate and paid \3/
4\ of the total estate for taxes and fees. Sold all of our stock and 
bonds and had to borrow. When I die there are no disposable assets 
left--so the business will have to be sold.''
    The death tax also impacts our global competitiveness. Since the 
United States has the second highest death tax rate in the world, 
second only to Japan at 70%, the death tax affects the competitive 
advantage of U.S. companies. Family businesses have to plan for the 
death tax by buying expensive life insurance, selling assets, 
borrowing, or restructuring their businesses. It is expensive, time 
consuming, energy wasting and constant, year after year. Many small to 
mid sized family businesses sell out to larger corporations who are not 
faced with the death tax ending the opportunity of the family to carry 
on the business and livelihood of the family.
    In closing I would like to tell you the story of Ida Pritchard of 
Seattle, Washington in her own words. She writes: ``I am 77 years old. 
My history of work, thrifts and efforts to save money is unbelievable. 
Here is my reward! All of my social security (plus more) goes for 
income tax. If I died today, I'd pay about $200,000 in death tax. I am 
helping a great niece to go to college. I have two great nephews coming 
up. All are bright children. I would like to help them--not the IRS. I 
had a newspaper route in college. I worked for 50 cents an hour doing 
office work under the program set up by President Roosevelt. I have 
lost money in investments. I went to work when I had a death sentence 
with lung cancer in 1967. I didn't miss a day when I was told I could 
only live three months at the most. I am still working. I have a tenant 
and I tutor ESL students. I do almost all my own work and cooking. I 
have never had a bill I didn't pay on time. The way things are now what 
the nursing home doesn't get (if I'm that unfortunate) the IRS will! 
What did I make all this effort for? Our laws need to be changed but I 
have no clout.''
    Gentlemen and gentlewomen of this committee, I urge you to repeal 
the death tax. Let's show the American people that their government has 
a heart. Let's show the hardworking American people like Ida Pritchard 
that they can pass away knowing that their life's hard work will 
benefit their families. And finally, let's show them, the so called 
``little guys'' that they do in fact have clout and that their 
government is listening.

            Thank you.
      

                                


    Mr. Crane. That lady sounds like my kind of American.
    Mr. Entin?

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

    Mr. Entin. Thank you, Mr. Chairman, members of the 
committee. My name is Stephen Entin. I am the president of the 
Institute for Research on the Economics of Taxation. Thank you 
for this opportunity to discuss fundamental tax reform.
    I am speaking on my own behalf, but I will present to you 
today a tax system developed by the Institute's late founder, 
Dr. Norman B. Ture. It is a simple saving-deferred cash flow 
tax for individuals, which he called the inflow-outflow tax. It 
has two chief attributes.
    First, it gets the tax base right, using the correct 
measure of income for tax purposes, one that maximizes economic 
efficiency and yields the optimal growth of income.
    Second, it shows the taxpayers the cost of government more 
clearly than any other system.
    Other advantages of the tax are that it uses concepts 
familiar to most taxpayers, it easily incorporates tax relief 
for the lowest-income citizens, and it greatly simplifies the 
tax system.
    A good tax reform would have two main objectives--namely, 
economic neutrality and high visibility. The current income tax 
is biased against saving and investment. The bias depresses 
productivity and wages and keeps people's income some 10 
percent or more below their potential.
    Neutrality requires that the tax system treats saving on 
par with consumption in one of two ways: saving should be tax 
deferred until it is withdrawn for consumption, as with the 
deductible IRAs and pensions; alternatively, income saved 
should be taxed, but the earnings should be tax free, as with 
Roth IRAs and tax-exempt bonds. All saving should get one or 
the other treatment.
    In addition, the extra layers of tax on saving imposed by 
the corporate income tax and the estate and gift tax must be 
eliminated.
    Visibility requires that the tax system show the voting 
public what they are paying for government so that they may 
make an informed decision as to how much government spending to 
support. Ideally, all citizens, except the very poor, should 
pay something to help fund the outlays of the Federal 
Government in order that they understand that the resources 
used by the Government are not free or costless.
    Taxes should be collected directly from individuals, not be 
hidden at the business level. In fact, all taxes are paid by 
individuals, not by businesses and not by goods.
    There should be an annual filing that lets taxpayers see 
their total tax payments for the year. People will not know 
their total tax bill if it is collected in dribs and drabs at 
the cash register.
    Of the several tax plans you have looked at this week, an 
individual cash flow tax is the best way to achieve the dual 
objectives of neutrality and visibility. The inflow-outflow tax 
is based on a few clear principles that determine what is and 
is not taxed.
    The tax would be imposed on individuals at a flat rate, 
with a basic exempt amount to protect the poorest citizens. 
There would be deductions to assure neutral treatment of saving 
and to properly attribute income for tax purposes to the people 
who ultimately receive and consume it.
    All forms of labor compensation would be taxable.
    Saving would be deductible--that is, tax deferred--and the 
reinvested earnings would grow on a tax-deferred basis. All 
distributions from saving would be taxed at the individual 
level when the saver or the heir sold the assets to raise money 
for consumption.
    Transfer payments made to other people, either voluntarily, 
as with gifts or charitable contributions, or involuntarily, as 
with alimony payments or State and local taxes, would be 
deducted from taxable income. Gifts and transfer payments 
received would be added to the recipients' taxable income.
    Cost of acquiring human capital, such as tuition, and other 
costs of earning income would be deductible.
    The inflow-outflow tax would be far simpler than the 
current tax system. Expensing saving and taxing all returns 
would eliminate capital gains calculations. There would be no 
corporate income tax or estate tax. Investment by 
unincorporated businesses would be expensed, not depreciated, 
eliminating complicated capital cost recovery rules.
    The tax would be territorial, both for simplicity and to 
end the tax disadvantages that American firms encounter when 
they compete abroad. Savings invested abroad would not be 
deductible. There would be no tax on foreign-source income and 
no complicated foreign tax credit.
    Fundamental tax reform should replace the individual and 
corporate income taxes, the estate tax, and the excise taxes.
    The payroll tax should be addressed by Social Security 
reform. The two reforms would reinforce one another. Social 
Security reform would increase private saving. Tax reform would 
encourage the investment of the added saving in the United 
States rather than abroad, giving Americans the twin benefits 
of greater income in retirement and higher productivity and 
wages while they are working.
    Thank you.
    Mr. Crane. Thank you, Mr. Entin.
    [The prepared statement follows:]

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

    Mr. Chairman, members of the Committee, I appreciate the 
opportunity to discuss fundamental tax reform with you today. The tax 
system presented in this paper was the last work of Dr. Norman B. Ture 
before his death in August, 1997. It is his concept of an ideal, highly 
visible, and reasonably simple income tax that is neutral in its 
treatment of saving and consumption uses of income. It is a simple cash 
flow tax imposed on individual income. the tax is saving-deferred to 
account for the cost of earning capital income. The multiple layers of 
tax on estates, gifts, and corporations are eliminated. These correctly 
measure net income, eliminate the current income tax bias against 
saving and investment and provide substantial tax simplification. Dr. 
Ture developed this proposal with the help of his staff at IRET.

Two purposes of a good tax system--raising revenue and ``pricing'' 
government

    Any restructuring of the nation's tax system should be based on a 
set of clear tax principles, which should be uniformly applied to the 
exercise. Those who would redo the tax system should start by 
recognizing the two key purposes of a tax system, 1) to obtain revenue 
to pay for government goods, services, and activities, and 2) to let 
the citizen-taxpayers know how much they are paying for government, so 
that they may decide in an informed manner how much government activity 
the wish to support with their votes.

Four principle attributes of a good tax system--neutrality, visibility, 
fairness, and simplicity

    A good tax system should fulfill its first objective, raising 
revenue, in a manner that does the least damage to the economy. The 
attribute required to achieve that objective is ``neutrality.'' A 
neutral tax must be unbiased across economic activities, and 
especially, not overly penalize work in favor of leisure, nor tax 
income used for saving and investment more heavily than income used for 
consumption.
    The second objective, letting voters know the cost of government, 
may be achieved by a tax system with the attribute of ``visibility'' or 
transparency to the taxpayers. A very large segment of the population 
must be made keenly aware that government costs money if government 
spending is to be held to levels at which its benefits match its costs. 
Toward that end, taxes should be paid directly by individuals. Taxes 
should not be hidden by being levied on business and buried in the 
prices of goods and services where voters may not see them. Nor should 
taxes be collected piecemeal, a few cents or dollars at a time, as with 
sales taxes, because doing so hides the annual total from the voters 
and disguises the cost of government.
    Additional principles or attributes of a good tax system include 
fairness (properly defined), and reasonable simplicity, clarity and 
understandability. These features lead to a low cost of compliance and 
enhanced willingness to pay on the part of the taxpayers and to easy 
administration and enforcement of the tax rules by the government.
    Neutrality. Neutrality means measuring income correctly and levying 
taxes evenly on all uses of income by all income producers, without 
bias, to avoid distorting economic activity.
    A neutral, unbiased tax system would begin with a sensible 
definition of income subject to tax. Income is a new concept, revenues 
less the cost of generating those revenues. It is well understood that 
a business cannot reasonably be said to have a profit until its 
revenues exceed its costs of production (properly measured). It should 
be just as obvious that a worker cannot be said to have income until 
his earnings exceed the amounts he spent on acquiring the education, 
skills and tools that enable him to perform his job. Nor can a saver be 
said to have income until his returns on the saving exceed the amounts 
he spent to acquire the assets that generate the revenues. The full 
value of all costs of earning revenues should be subtracted from 
revenues before any tax is imposed.
    Once income is accurately measured and allocated among taxpayers, 
it should be taxed even-handedly. Neutral treatment requires that all 
income be taxed at the same rate. It is improper to tax some income at 
a higher rate than other income, either through graduated tax rates or 
by imposing multiple layers of tax on some types of income but not on 
others.
    No tax system can easily avoid penalizing labor relative to 
leisure. However, keeping tax rates as low as possible and avoiding 
graduation avoids the worst of this distortion.
    Making the tax system even-handed or neutral across various types 
of saving and investment, and between saving and investment and 
consumption, requires several steps. Multiple layers of tax on capital 
must be avoided, and the basic income tax bias against saving and 
investment must be eliminated by correctly treating saving and 
investment as costs of earnings income. In particular:

     The tax system must either allow savers to deduct saving 
or to exclude the returns on saving from taxable income.

    The income tax, by taxing both income that is saved and the returns 
on that income, taxes saving and investment more heavily than 
consumption. There are two ways to restore neutrality. One approach is 
to exclude all saving from taxable income while taxing all returns on 
the saving--a saving-deferred tax. This is the treatment currently 
allowed to a limited degree with pensions and deductible IRAs and tax 
exempt bonds. Other costs of earning income must also be expensed as 
incurred. Investment outlays must be deducted in the year the outlay is 
made (expensed), rather than depreciated over time or otherwise delayed 
or ignored.

     The dual taxation of Schedule C corporate income at the 
corporate and individual level must be eliminated.

    Corporate income should be recognized as belonging to the 
shareholders, and should be taxed either on individual tax returns or 
corporate tax returns, but not both. One way to eliminate the extra 
layer of tax on corporations is to pass corporate earnings on to share-
holders for tax purposes as is done for income generated in 
proprietorships, partnerships, and sub-Chapter S corporations. 
Alternatively, shareholders could be given a credit against the 
personal income tax for corporate taxes paid on the income of their 
shares. These arrangements are called ``corporate-individual income tax 
integration''. Another solution is to switch to a non-income type of 
tax system, such as a VAT or sales tax.

     The transfer tax on estates and gifts must be eliminated.
    Most of an estate is saving that has already been taxed, often 
repeatedly. If there is tax-deferred saving in an estate, such as 
assets in a decedent's IRA or 401(k) plan, current law makes the heirs 
pay income tax on those assets beginning shortly after the inheritance. 
Therefore, the estate tax is always an extra layer of tax on saving. 
The estate and gift tax should be eliminated, and any part of an estate 
that was tax-deferred saving should remain tax-deferred as long as the 
heirs continue to save it.

    Several types of tax systems would serve to exclude saving and 
investment or their returns from tax, end the bias against saving and 
investment, and simplify the tax system. These ``neutral'' taxes 
include the unbiased income taxes (saving-deferred and yield-exempt) 
described above, retail sales taxes that exempt investment goods and 
business supplies from tax, and value added taxes that allow expensing 
of investment goods and other intermediate products and services 
purchased from other businesses at each stage of production.
    Since several types of taxes are equally ``neutral'', choosing 
among them requires an assessment of their other characteristics and 
how well they stack up against other important attributes of a good tax 
system.
    Visibility. Visibility requires that the tax system reveal clearly 
to the citizen/taxpayer what he or she must pay for government goods, 
services, and activities. Taxes are the ``price'' we pay for 
government; taxes ``cost-out'' government for the taxpayer. Ideally, 
all citizens should pay something to help fund the outlays of the 
federal government in order that they understand that the resources 
used by the government are not free or costless. However, compassion 
dictates that the very poor should not be subject to tax. Therefore, 
taxes should be levied on the largest number of people consistent with 
compassionate treatment of those who cannot afford to pay.
    At what stage in the flow of income should taxes be collected? At 
the business level, after it has made its payments to other firms but 
before its remaining revenues are paid out to its workers, savers, and 
investors? When the revenues are received by the workers and owners of 
the capital as earnings? Or when some portion of their income is spent 
on consumption?
    Goods and services do not pay taxes. Businesses do not pay taxes. 
Only people pay taxes. All taxes, in fact, are taxes on income. Sales 
and excise taxes either depress sales of the taxed products, reducing 
the incomes of the people who provide the labor and capital used to 
make them, or they reduce the purchasing power of that income when the 
workers and savers attempt to spend it. Taxes collected by businesses 
fall in reality on the income of the businesses' shareholders or other 
owners, lenders, workers, or customers in the form of lower returns or 
wages or higher prices.
    Since taxes are really paid by people out of income, they should be 
collected from people out of income. People see their tax liability 
most clearly when they pay an individual tax on the (properly defined) 
income that they have received, with a clear accounting, annually, at 
tax time. Taxes should not be hidden from taxpayers by being imposed on 
businesses as either corporate taxes, manufacturers excise taxes, or 
value added taxes. Similarly, taxes should not be hidden by being 
collected in bits and pieces over the course of a year as the taxpayer 
goes shopping, as either sales taxes or value added taxes.
    Fairness. Fairness is often stated as making the rich pay a higher 
share of their income in taxes than the poor. Most people would agree 
that there should be some amount of income exempt from tax to shelter 
the very poorest citizens. Such an exempt amount imparts progressivity 
to the tax system. Only people above the exempt amount pay tax, and the 
more one's income exceeds the exempt amount, the greater is the tax as 
a percent of total income (which is the definition of progressivity). 
However, imposing further progressivity by means of graduated rates 
above the exempt amount is not consistent with fairness if one 
considers the effort it takes to earn additional income. Income is 
correctly understood to be the earned reward for supplying labor and 
capital services to the market. Except in rare cases, income closely 
matches the contribution of the effort and services provided by 
individuals to additional output. Therefore, graduated tax rates hit 
people harder the more they contribute to the production of goods and 
services. The added effort required to earn additional income, and the 
notion of equal treatment under the law, strongly urge that a 
proportional (single rate) tax on income (above the modest exempt 
amount) is the fairest.
    Simplicity. Ideally, a tax system should be easy for the government 
to administer and enforce and should be easy and inexpensive for 
taxpayers to comply with. Such a tax system would have to be simple 
enough for people to understand and to follow.
    A simple tax system must start with a simple, clear and logical 
definition of income. A simple and logical definition of income would 
make it possible to write clear regulations and instructions for 
taxpayers to follow and tax collectors to enforce. Furthermore, if 
people understood clearly what is and is not taxable, and agreed with 
the logic of the system, they would feel comfortable that they and 
their neighbors were paying the appropriate amount of tax. They would 
have a greater sense that the tax system was fair,and a greater 
willingness to comply.
    Unfortunately, the current tax system is neither simple, nor 
logical, nor understandable. Much of the complexity in the current tax 
code stems from its ad hoc approach to defining taxable income. The 
code is not based on any clear understanding of what constitutes income 
or an accurate measurement of income, nor any set of coherent 
principles regarding the imposition of tax. Additional complexity 
arises from the multiple layers of tax to which some types of income 
are subject and the multiple points of collection at which the taxes 
are imposed. The lack of guiding principles and resulting chaotic 
definition of income make for difficulties in administration and 
compliance, because neither the IRS nor the taxpayer can figure out 
clearly what is in or out of the tax base.
    Most complexity is found at the business level or with respect to 
specialized investments of individuals. Taxation of wages and ordinary 
individual interest and dividends is fairly straightforward. 
Simplification should not go so far as to eliminate tax filing by 
individuals, as with a sales tax or VAT; that would sacrifice 
visibility to an unacceptable degree, and is not necessary to achieve 
significant simplification.

A tax proposal that conforms to the attributes and principles of a good 
tax system.

    As mentioned, there are several types of (largely) neutral tax 
systems. Most achieve varying degrees of tax simplification. 
Unfortunately, most fail to do a good job with respect to visibility, 
which is one of the most critical attributes of a good tax system.
    The following is a tax proposal that conforms to all the attributes 
and principles of a good tax system. It is called the inflow-outflow 
(I-O) tax.
    Overview. The I-O tax system is an individual-based saving-deferred 
tax with a number of additional deductions from revenue necessary to 
properly measure and allocate the income for tax purposes. Inflows--an 
individual's revenues from work, saving, and transfer payments 
received--would be taxable. Outflows associated with earning the 
revenues (such as net saving, investment, and some education outlays), 
and income transferred to others (either voluntarily by gift or as 
mandatory tax payments) would be deductible. Net taxable income would, 
in effect, consist of revenues utilized for the individual's own 
consumption.
    For neutrality and visibility, net labor and capital income would 
be taxed once and only once on individual tax returns. For fairness, 
there would be personal allowances to shelter the poor from tax. For 
neutrality and fairness, there would be a single tax rate imposed on 
income above the exempt amount. The single rate would eliminate the 
graduated tax rate bias against work, education, risk taking, and 
success, and would treat all individuals alike under the law.
    The I-O tax attributes income to the correct taxpayer. For 
visibility, income should be taxable to the final recipient of the 
income. People should be taxed only on the income over which they 
retain control and of which they enjoy the benefit. If one taxpayer 
gives revenue to another, either voluntarily (as by gift or charitable 
donation), or due to legal obligation or government coercion (alimony, 
fines, taxes), the donor should deduct that revenue from his or her 
taxable income, and the recipient should add that revenue to his or her 
taxable income.
    The I-O tax defines income properly. Income is a net concept, 
revenues less the cost of generating those revenues. Among the costs of 
generating income are: training and education in the case of labor 
income; the cost of acquiring income earning assets (saving and 
investment) in the case of income from capital. Costs of generating 
income must be deductible in full--expensed, not deferred (unless 
compensated by payment of interest to maintain present value).

Details of the I-O system follow. An illustrative sample tax form is 
appended.

    Labor income. Individuals would pay tax on labor income (wages, 
salaries, self-employment income, and the value of non-pension fringe 
benefits) and pension receipts. The employer would report the total to 
the taxpayer on a W-2 form, as it does for cash wages and pension 
withdrawals under current law.
    Transfers received. Individuals would pay tax on the taxable 
portion of social security. (All payroll taxes would become deductible 
in this tax system; therefore, over a phase-in period equal to a full 
working lifetime, all social security benefits would eventually become 
taxable.) Individuals would also pay tax on welfare and other transfer 
payments received from state and local governments and charities, 
insofar as they exceed the exempt amounts. (In practice, those who 
receive charity would usually be too poor to owe tax, and would not 
have to file a return.)
    Income from saving and the net saving deduction. Individuals would 
deduct their saving (a cost of earning future income) from taxable 
revenues, and pay tax on all returns on saving (whether principal or 
earnings on the principal or earnings of an unincorporated business) 
when withdrawn. Reinvested returns would be tax-deferred.
    In effect, all saving would be treated like current-law tax-
deferred pensions or IRAs. All income that individuals transfer to 
financial intermediaries or other businesses through lending or the 
purchase of shares would be deductible by the savers. Only those 
earnings withdrawn or received by lenders, shareholders, or owners of 
an unincorporated business (and not reinvested) would be taxable, and 
would be reported on the individual tax returns. The ``inside build-
up'' of the saving in saving accounts, brokerage accounts, mutual 
funds, corporate shares, or unincorporated businesses would not be 
taxable. There would be no separate calculation of capital gains; they 
would be covered in the proceeds from the sale of assets (whose full 
cost was deducted at the time of purchase). The proceeds would remain 
tax-deferred if reinvested. For example, trades within a brokerage 
account would not be reportable unless money was withdrawn from the 
account.
    Pension contributions by employers and employees currently excluded 
from employees' incomes would remain deductible saving. Since all 
saving could be deducted in this system, all current-law restrictions 
on the amounts allowed as contributions and withdrawals under employer-
sponsored pension plans would be eliminated.
    The deduction for saving would be for net saving. Borrowing would 
be considered ``dissaving'' and be considered taxable revenue to be 
netted against amounts saved. However, borrowing would result in an 
immediate tax liability only if used for consumption. Borrowing used to 
buy assets such as stocks or a machine for one's business would not 
result in more taxable income because the investment outlays would be 
deductible saving. Also, repayment of debt and interest paid on debt 
would be part of deductible saving. (But see alternative treatments of 
home purchases, below.)
    Each financial institution with which the taxpayer had dealings 
would report the taxpayer's net saving or dissaving for the year as a 
single number on a 1099 form, like those currently in use to report 
interest or dividends on Schedule B. There would be no need for the 
taxpayer to track all of his or her deposits and withdrawals over the 
year to calculate the net amount. There would be no separate Schedule D 
for capital gains.
    Deductions of transfers paid. Charitable contributions would be 
deductible by the donor. (As indicated above, the charitable gifts 
would be taxable to the ultimate recipient, who would seldom have 
sufficient income to owe tax. Current law simply allows the charitable 
deduction and ignores the other side of the calculation.)
    All payroll and state and local taxes would be deductible as income 
over which the taxpayer has lost control and transferred to others. 
State and local taxes are involuntary outflows. They largely fund 
welfare and other aid to the poor (income transfers akin to charitable 
contributions to persons below taxable levels of income) or education 
(a transfer that pays for the cost of the recipient's acquisition of 
human capital), all of which could be considered to be reasonable 
deductions. Law enforcement and fire protection are services to the 
taxpayer, but constitute remedies for or protection from casualty 
losses, and ought not to be considered beneficial income. There are 
some local government services that accrue to the individual taxpayer 
or homeowner, such as water, sewer, and trash pick-up, but these are 
often billed separately, in which case they would not be deductible.
    Deductions of cost of acquiring human capital. Individuals would 
deduct some portion of the cost of training and education. Tuition and 
other training costs are already largely deductible in the form of 
property taxes at the local level that pay for primary education, and 
state income taxes that assist state universities. Tuition paid 
directly by the student could be considered for similar treatment. 
However, there is also a ``consumption'' or general living element of 
education; it is not all a cost of earning future income. Some rough 
adjustment must be made in what will always be a gray area.
    Treatment of home ownership. We do not recommend ``pure'' inflow-
outflow treatment of the owner-occupied home, which would be to treat 
it (as in the national GDP accounts) as an investment yielding income 
in the form of shelter. Pure treatment would include the imputed rent 
from the owner-occupied home in taxable income, plus the mortgage 
borrowing that financed the home; it would allow a deduction for the 
purchase price of the home, the repayment of mortgage principal and 
interest, and outlays on maintenance.
    This pure approach to the treatment of owner-occupied homes is 
difficult to calculate. The alternative approach to neutral treatment 
of saving--no deduction for the purchase of the asset, but no tax on 
the returns, is an easier alternative, and the I-O tax would adopt it 
in this instance. Neither the imputed rent nor the mortgage borrowing 
would be taken into the homeowner's income. In exchange, there would be 
no deduction of the purchase of the home, outlays for maintenance, nor 
repayment of mortgage principal and mortgage interest.
    Treatment of businesses. There would be no separate taxation of 
businesses in a saving-deferred tax. Taxation of business income would 
be completely ``integrated'' with the taxation of other income received 
by the savers, be they corporate shareholders or partners or 
proprietors of non-corporate businesses. Businesses would be treated 
like pensions or IRAs owned by the savers: income that individuals 
transfer to businesses through lending or the purchase of shares would 
be deductible by the savers; only those business earnings distributed 
to lenders and shareholders (and not reinvested) would be taxable and 
would be reported on the individual tax returns. ``Inside build-up'' of 
saving in the business would not be taxable.
    The non-tax status of business in the inflow-outflow tax is not 
arbitrary. The rules of the inflow-outflow tax naturally render a 
business a non-taxable entity. Businesses would not be taxable because 
their deductible outflows would always equal their inflows.
    Business inflows include revenues from sales of goods and services 
and income on financial investments, plus borrowing from lenders and 
sales of new shares to stockholders. Business outflows include 
operating costs--wages, purchases of materials, inventory, outlays on 
research and development, rent and royalties paid, and all outlays for 
investment in plant and equipment, structures, and (unlike current law) 
land--plus state and local taxes and federal payroll taxes, interest 
payments to lenders and dividend payments to shareholders. These 
outflows are all costs of earning income or transfers of capital income 
to lenders and shareholders for taxation on their returns. Any left-
over revenues saved by the business should be considered tax-deferred 
saving by the shareholders. Nothing would remain to be taxed at the 
business level. Consequently, there would be no need for businesses to 
file income tax returns, eliminating most of the accounting, auditing, 
and costs of enforcement and compliance in the current tax system.
    In this system, the deduction for business investment would 
effectively be passed along to the savers who lend money to, buy shares 
in, or otherwise invest in the business. Savers would fully deduct 
their purchases of stocks and bonds. These proceeds of stock and bond 
issues, plus what we now call retained earnings, would just equal the 
operating costs and (deductible) capital investment and net saving of 
the business, eliminating taxable business income. This pass-through of 
the deduction for investment would be an advantage for start-up 
businesses that have little income as yet from previous investments 
against which to take a deduction. It effectively eliminates the 
problem of net operating loss carry forwards that delay and reduce the 
value of deductions for investment and raise the cost of capital under 
current law.
    Territoriality. The I-O tax would be territorial, imposed on income 
generated within the United States, not on income earned abroad. There 
would be no deduction for saving invested abroad, and no tax on the 
returns. There would be no credit for foreign taxes paid on foreign 
income repatriated to the United States. Territorial taxation would 
greatly reduce the confusing treatment of foreign source income that 
cripples American firms attempting to compete abroad.
    The I-O tax would not be ``border-adjustable'', that is, it would 
not be forgiven on exports and imposed on imports, because it is 
collected at the individual level on individual income. The producers 
of U.S. exports worked and earned their income in the United States, 
and should be taxed just as all other U.S. producers, while the 
producers of U.S. imports worked and earned their income abroad, where 
it is subject to foreign taxes.

Conclusion

    The inflow-outflow tax is a neutral, highly visible tax system. It 
correctly measures income, providing revenue to the government with 
minimal disruption to the economy. It allocates income for tax 
purposes, appropriately, to the final recipients of the income, thereby 
informing the citizen-taxpayer of the tax cost of government. The I-O 
tax also achieves a significant degree of tax simplification compared 
to current law, and reduced costs of administration and compliance. The 
I-O tax achieves these results in a superior fashion compared to most 
other major tax reform proposals. It is deserving of serious 
consideration by policy makers and students of political economy.
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    Mr. Crane. Are there inquiries of this panel? Mr. Coyne? 
Mr. English?
    Mr. English [presiding]. Thank you, Mr. Chairman. I am 
sorry I wasn't here for the entire testimony, but I did read 
the written testimony previously, and I must say this is an 
enormously distinguished panel.
    Dr. Regalia, I was particularly intrigued by your comments 
on border adjustability, and I am especially pleased to see the 
Chamber's support of border adjustability, given the fact that 
I sense that the business community is not monolithic on this 
issue, but your testimony, I think, points the way that, on 
balance, trade fairness is an important component on tax 
reform.
    Would you care to elaborate on that?
    Mr. Regalia. Well, Congressman English, I think, having 
worked for the Chamber for seven years, the one thing that I 
could testify to unequivocally is that the business community 
is not monolithic on anything, but on the area of border 
adjustability I think that the recent problems that have 
occurred with the FSC and with the WTO have heightened the 
concern of this issue tremendously, and that there is perhaps a 
greater understanding now of the issues that arise because of a 
lack of border adjustability, the conflicts between a world-
wide tax system and a territorial tax system, and the 
implications that can have, not just for the businesses that 
trade directly abroad, but for everyone that deals with those 
businesses and with businesses that deal with those businesses. 
It is truly a broad-based economic issue at this point.
    I think that the various--I mean, all in the business 
community are waiting to hear, with bated breath what solutions 
will be proposed to the current situation, and I think we are 
heartened to see, in many of the specific tax proposals that 
are out there, the willingness of all the authors of those 
proposals to address this problem in a very clear-cut and 
economically-sound manner.
    Mr. English. Mr. Entin, I saw you took the contrary 
position. Given your public policy pedigree, that should give 
me second thoughts about my own support for border 
adjustability. Why is it that you feel that taking the tax off 
of exports, the embedded tax, and placing it on imports tilts 
the playing field in any way? Doesn't it level it?
    Mr. Entin. I have discussed territorial tax in my plan, but 
I haven't specifically stated anything about border 
adjustability. This has to do with the point of collection.
    For example, in your plan you have a business level 
collection and an individual level collection. Your business 
level collection is border adjustable. It is natural, when you 
have taxes on that level, that it be border adjustable. If, 
however, you are taxing the individual before the individual 
goes to the store, it is natural for it not to be explicitly 
border adjustable because the very mechanics of where you have 
collected it more or less arrive at the same point.
    Let me explain that a little bit more clearly.
    These taxes are generally taxes on income less saving, 
which equals consumption, or, if it is at the business level, 
it is on revenues minus investment, which equals consumption.
    To measure consumption by taxing individuals, I want you to 
take your income, subtract your saving, pay tax on your 
consumption, then take your after-tax money to go shopping, and 
when you arrive at the store you may buy a domestic product or 
an imported product. There is no added tax on either one. I am 
being neutral.
    If, however, I make the individual wait until he goes 
shopping to take out my tax, he is taking his pre-tax money to 
the store, and at that point I levy a consumption tax on the 
sum of his purchases of domestic goods and his purchases of 
imports. The two together equal, again, the amount he has 
consumed, and I am taking the exact same tax from the exact 
same people. So I am being neutral in either case.
    Whether something is border adjustable or not in an 
explicit manner depends on where you have chosen to make the 
collection point more than on anything else.
    Mr. English. I guess my concern is, when you show up in a 
store and there are two products on the shelf and one of them 
has in the pricing the embedded tax of doing business in the 
United States and the tax of whatever jurisdiction you are in, 
and the other item does not have those taxes built in, isn't 
there at least some price advantage to the foreign-produced 
product as opposed to the domestically-produced product?
    Mr. Entin. I don't think so, for three reasons. In the 
length of time allowed for any response, I am not sure I can go 
through all three.
    Mr. English. I am chairing the meeting, so I will give you 
a little extra time.
    Mr. Entin. Okay.
    Mr. English. I am very interested.
    Mr. Entin. If you are thinking about Europe and its VAT, 
remember, they have a corporate income tax, a personal income 
tax, payroll taxes, and VAT. If you take out VAT, what is left 
is still as big a tax burden as our total tax burden because 
they tax a lot more than we do, so there are still taxes 
embedded, if you want to think of it that way, in the imports.
    If, however, you take a slightly different look at what is 
going on in the production process, you have to realize that 
workers work for an after-tax wage. Let me take two workers. 
One works for Boeing on planes that are exported, and one works 
in the corner grocery store and sells to the local population. 
They both know they are paying tax when they go to the store. 
When you impose a sales tax or a consumption-based tax, either 
one, the workers know they are paying tax on what they consume.
    Since they want to work for a satisfactory after-tax wage, 
they have conveyed that attitude toward their employer and they 
have asked for a wage that reflects the fact that when they go 
shopping they have to pay tax. And that is as true for the 
export worker as for the domestic worker. So there are taxes 
imbedded in exports, even with a border-adjustable tax. All of 
this stuff gets passed around.
    I come back to the basic point I made earlier. If I am 
taxing an individual's income minus his saving, either before 
he goes to the store or after he goes to the store, I am 
probably taking just the same tax liability from the worker 
under the two systems.
    The third point is that exchange rates adjust and washout 
the effect of border adjustability sooner or later. If you 
remove the tax on business, that added layer of tax on capital 
formation that occurs when you tax the corporate level and the 
individual level, and if you end the bias against saving and 
investment, then I think we are going to be a lot more 
competitive because we are going to have so much more 
investment in plant and equipment in this country we are going 
to be the more efficient producers of a lot of things.
    But suppose we did become the most efficient producers of a 
lot of things. Would we be running a big trade surplus? No, 
because for people to be able to buy our goods they would have 
to sell to us.
    The objective of tax reform should be to make us very, very 
efficient, very productive, and give us very high wages and 
very high incomes, and that is true whether we were the only 
country in the world or whether there were other countries with 
which we were trading across the border.
    Mr. English. And, Mr. Entin, I have to say on that 
particular point I entirely agree with you. And this is a side 
of trade policy that really doesn't get introduced into the 
debate.
    Dr. Regalia, would you like to respond to Mr. Entin's 
points with regard to border adjustability?
    Mr. Regalia. Well, not having reviewed all of them in 
detail, I would have to say I think I probably agree with them. 
I think that the issue of border adjustability comes up more 
when you have two vastly different tax systems. If you were to 
institute a truly territorial tax system in the U.S., tax 
income once and only once, that there would be less of an issue 
of border adjustability, given the various taxing points.
    Mr. English. I agree.
    Mr. Regalia. But when we go down the road of two very 
different tax systems, two very different or multiple 
collection points, many of which are layered on top of each 
other, then these issues become much more important.
    As you start to correct one issue, I think it helps to 
correct the other, and I think that I would not disagree.
    Mr. English. I have one concern on the exchange issue, and 
I am not sure I can articulate this very well, but I am 
concerned that the tax burdens fall disproportionately on 
certain sectors of the economy.
    For example, tax differentials have more of an impact on 
manufacturing and certain kinds of manufacturing than they do 
on certain kinds of services, and that, whereas much of the 
economy might not be affected dramatically by the border 
adjustability issue, I, who represent a largely manufacturing 
District, still have got to be concerned that manufacturers, 
where you produce a large volume of products with very thin 
profit margins, would be particularly sensitive to tax 
differentials, and the border adjustability argument might be 
stronger in arguing that this is a policy we need in order to 
maintain our manufacturing base.
    I hope that is an articulate argument. Do you care to react 
to it? Does that make any sense?
    Mr. Entin. I think you are right to point out that we have 
been seeing somewhat of a shift away from manufacturing towards 
services and that some of the manufacturing industries have 
appeared to be struggling. That is a valid point.
    I think one of the reasons they are struggling, aside from 
just the general drift of technological advance being stronger 
in the intellectual property area than in the heavy 
manufacturing, is that we have a tax bias particularly against 
heavy manufacturing.
    The depreciation allowances that we have in place today are 
so seriously damaging to investment incentives for long-lived 
assets, the very sorts of assets that steel and railroads and 
the manufacturing sector employ, that we put a bias in the 
economy against producing those goods in this country and in 
favor of importing them.
    If you move to any of the consumption-based taxes, where 
business investment is expensed rather than depreciated and 
where the corporate tax layer is stripped off, you would be 
moving to a system where the change from current law is 
greatest for those heavily-impacted sectors. I think they would 
improve more than the other sectors under this type of tax 
reform. That may solve your problem.
    Mr. English. That is an interesting argument.
    One of the common points I have seen between a number of 
leading tax reform proposals--Mr. Armey's flat tax, for 
example--I have a simplified USA tax. One of the common points 
is moving to expensing as an alternative to depreciation.
    Would both of you agree that this expensing issue may be 
probably one of the most important things we do from a 
competitive and growth standpoint in tax reform?
    Mr. Regalia. I would think it would, and I also think it is 
going to be one of the areas that require the most innovation 
when it comes to transition rules because of the relationship 
between old capital and new capital.
    Mr. English. That is right.
    Mr. Regalia. And when you are disadvantaging--when old 
capital is so disadvantaged, if you were then to remove those 
impediments to the new capital, you would create a situation 
where you could significantly impair the ability of the older 
firm to grow, and I think it is one of the areas that is most 
important.
    I look through much of the testimony the last couple of 
days and almost everybody mentioned--the savings and investment 
disincentives in our current code--one of the primary things 
that you want to fix, and it is one of the most--as I said, it 
will require the most innovation in constructing transition 
rules to address that.
    Mr. English. I have always adhered to the radical thesis 
that the savings rates would be affected by changes in tax 
policy. Do all three of you agree with that?
    Mr. Regalia. I think, contrary to a long bit of what I have 
read in economic theory, I think, in practice, I would have to 
say yes, I think that it would affect the savings rates, and I 
think that while we empirically have been unable to verify that 
it is a result of the fact that we are drawing our sample from 
a system that has had this corruption for years and years and 
years, and so the data is unable to tell us the real answer.
    I think it would make a difference. I think we saw that 
with IRAs. Originally, when I worked at the Federal Reserve 
Board, we contended that IRAs would change how you saved but 
not how much you saved, and I think we have seen over the years 
that even the very small IRAs that we have allowed have 
probably boosted savings more than any of us thought early on, 
and that after an initial phase we would have to say the 
switching was minimal and the amount of net new savings was 
more than we had anticipated, and I think that would be proven 
for fundamental innovations to the tax code, as well, that we 
would improve savings more than any of our economic models 
would lead us to believe.
    Mr. English. Ms. Soldano, any comment?
    Ms. Soldano. Congressman English, our issue is death tax 
only. It is the only thing that our organization focuses on.
    Mr. English. Okay. And I agree with your position and I 
recommend to you the writings of one of my constituents, 
Professor Hans Senhold, who is retired from Grove City College, 
whose book, ``Death and Taxes,'' is still the most succinct 
argument and one of the best for repealing the tax.
    Ms. Soldano. I agree.
    Mr. English. Mr. Entin?
    Mr. Entin. One reason that economists have failed to 
understand the effect of the tax burden on saving is that they 
got mixed up between levels of saving and the rate of saving.
    If saving goes up, the level of saving goes up, incomes 
rise, and, as incomes rise, so does consumption. Both saving 
and consumption tend to rise. The saving rate as a percent of 
the higher income may not be much higher, but the level of 
saving is going to be a great deal higher under these tax 
systems, and for some years the rate will be higher, as well.
    I think economists got confused between levels and rates, 
and a lot of the people who said that better tax treatment of 
saving would not be a significant incentive are simply 
mistaken. You would see a result.
    Mr. English. Doctor?
    Mr. Regalia. I was just going to say one of the most, I 
think, interesting aspects of the simplified USA tax is the 
deduction for investment in human capital, not just physical 
capital. In today's economy, there is a whole theory of 
economics on endogenous growth theory that speaks to this issue 
of saving rate and growth rates in the economy versus levels of 
savings and level of growth in the economy.
    I think that one of the things we are beginning to see is 
that the new economy, the information age, if you will, which 
uses and relies so heavily on intelligence, training, human 
capital attributes will find that the benefits to increasing 
our human capital may exceed even the benefits from increasing 
our fiscal capital, and I think that is a very innovative and 
important aspect of some of these proposals that are 
outstanding right now.
    Mr. English. Thank you. I think not only is it good 
economics, but it is also good as a selling point for the plan.
    I want to thank all three of you for participating today. I 
have just had an experience similar to what Mr. Archer had on a 
November morning in 1994. I have awakened to discover myself 
chairing the Ways and Means Committee, so I want to take this 
opportunity to adjourn.
    Thank you very much.
    [Whereupon, at 2:14 p.m., the hearing was adjourned.]
    [Submissions for the record follow:]

Statement of Charles Adams, Historian, Williamsville, NY

    Mr. Chairman and Members of the Committee:
    The economics of our income tax is under assault by some of 
our best economists and tax men, and for good reason. We have 
learned much about how best to tax to collect public revenues. 
The clear consensus of the unbiased economic studies 
demonstrate our income and payroll taxes are a drag on the 
economy, slow economic growth, produce chronic inflation, 
discourage savings and enterprise, and put America at some 
disadvantage in world trade with those nations, especially the 
miracle economies, who have moderate, simpler tax systems-
systems that encourage and promote capitalism.
    Our criticism should not stop there, however. While there 
is just about nothing right with our current system 
economically-speaking, not everything wrong with our current 
system has to do with relatively recent science of economics. 
Instead, it has to do with the spiritual values that were at 
the core of the founding of America. The current system 
denigrates these values in several respects. It has trampled on 
our liberties, it is wasteful, and it is destructive of 
economic and personal rights.
    A national sales tax, if it replaced the income tax, would 
rid the nation of the evils our income tax has produced. It 
will also comply with the Constitutional command of uniformity. 
If we were to pursue this course, our descendants in centuries 
to come would look back upon us, as we look back upon our 
Founders, with admiration for delivering future generations 
from a tax that was oppressive, tyrannical, and corrupt.
    Let us place the current tax system in historical context. 
We do not need to go too far for our research. Adam Smith in 
The Wealth of Nations, sets forth four signs of a bad tax 
system:
     a large bureaucracy for administration.
     a system that puts taxpayers through ``odious 
examinations...and exposes them to much unnecessary trouble, 
vexation, and oppression.''
     a system that encourages evasion.
     a system that obstructs the industry of the 
people, and discourages enterprise which might otherwise give 
``employment to great multitudes,'' i.e. jobs.\34\
    How well has our tax system adhered to the admonitions of 
Adam Smith? Does it pass Adam Smith's test for a bad tax 
system? The answer is clearly ``yes.'' His test defines our 
system today. The FairTax national sales tax would return us to 
these core values that have stood the test of time.

Looking at a Distant Mirror

    Taxes were at the core of the world's great uprisings. And 
taxes and the onerous methods of collecting them were at the 
core of the founding of America.
    The Statue of Liberty was a gift from the French to 
commemorate the 100 year anniversary of American independence. 
She stands at the entrance to New York's harbor as an 
inspiration to the nation and the millions of immigrants who 
arrived from Europe by ship before the jetage, ``yearning to 
breath free.'' She was really a gift from the Romans. The same 
Goddess of Liberty was depicted on Roman coins, just like she 
was on our gold coins and early 50's piece; she was honored 
with a number of temples, and Roman writers proclaimed, 
``Liberty is a possession on which no evaluation can be 
placed,'' and ``Freedom is beloved above all things.'' \1\ Yet 
the coins and temples disappeared almost 200 years before 
Rome's official demise when the Emperor Diocletian enslaved the 
Roman people to ensure tax compliance, and he achieved this end 
by chaining every taxpayer to his land, shop, or job. One 
leading Roman historian acknowledged that Diocletian's tax 
system did indeed save Rome, but he never asked ``whether it 
was worth while to save the Roman Empire in order to make a 
vast prison for scores of millions of men. `` \2\
    The Romans did not submit to this tax enslavement without 
resistance, so the Roman state resorted to brutal, savage 
punishments. Zisimos, a Greek writer during this period, tells 
us that the scourge and rack were used against taxpayers; and 
to make the system work, fathers were compelled to prostitute 
their daughters, and even children were sold into slavery.\3\ 
As one Roman declared, ``Let us flee to some place where we may 
live as free men.'' \4\
    This viciousness of the Roman state towards its citizen 
taxpayers is what we need to focus upon, because it soon 
infected the relation of the people with one another. Salvian, 
the Bishop of Marseilles at Rome's fall, describes the evil, 
the decadence and cruelty that the tax system had created. As 
he said, any individual with any sense of human decency would 
seek out another homeland.\5\ ``Rome was like a mother cancer 
cell that passed its vicious propensities on to its children.'' 
\6\
    A similar pattern appeared in Imperial Spain a thousand 
years later. Spain, like Rome, taxed itself to death. To 
enforce a similarly abusive, excessive tax system, Spain fell 
back on ``applying the screw'' to reluctant taxpayers.\7\ 
``Applying the screw'' was not a figure of speech, like the 
Roman scourge it was an instrument of torture. Unlike Rome 
Spanish taxpayer resistance was disastrous for the state. Over 
six major tax revolts erupted during the height of Spain's 
glory and there is little doubt these revolts drained the 
strength of the Crown and permitted Britain, France, and the 
Netherlands to take over much of what was the greatest empire 
of all time.
    Spanish taxpayers responded with the same brutality meted 
out by the tax bureau. In 1520, taxpayer deputies, summoned by 
the Crown, promised their constituents there would be ``no new 
taxes.'' However, the financial goodies promised by the king 
were too tempting so they voted for new taxes. Riots erupted 
throughout Spain. In Segovia, an angry mob seized the local 
deputy and as they led him off for execution, his plea to 
receive the last sacraments was denied-there was to be no 
forgiveness in this life nor the life to come. I wonder, what 
would these angry taxpayers have done to members of Congress 
who approved Clinton's taxes? Or to George Bush who breached 
his promise of ``no new taxes?''
    The response of Spanish taxpayers included evasion and 
emigration. The Spanish operated the most massive system of tax 
fraud and evasion ever known, notwithstanding that the Crown 
threatened evaders with the death penalty. All trade from the 
New World was engaged in one gigantic smuggling operation. If 
that wasn't enough, people fled from Spain in great numbers. As 
one historian observed, ``In place of wondering at the 
depopulation of villages and farms, the wonder is that any of 
them remain.'' \8\
    The use of cruel and savage punishments to enforce taxes 
has repeated itself often throughout the course of Western 
history. In France a hundred years of violence against 
taxpayers and even tax collectors, culminated in the French 
Revolution in which the tax man came out on the short end-
indeed, the whole lot of them were shortened about 10 to 12 
inches apiece after the man who ran the guillotine had finished 
his work-no tears were shed when their heads flopped into the 
basket.
    In the 18th Century, Sir Robert Walpole, Britain's first 
prime minister, used ``vicious punishments'' to enforce his tax 
system. He was, as one biography described him, ``In no way 
squeamish about the liberties of the individual,'' and he used 
``savage punishments, and the full authority of the Crown to 
make the public conform to his system [of taxes].'' Eventually, 
riots spread throughout Britain, as an ``expression of a 
profound and cumulative hatred of a system oppressive, 
tyrannical, and corrupt [with power].'' \9\ When Sir William 
Blackstone wrote his great treatise (still in print), 
Commentaries on the Laws of England (1765), there was no praise 
for Walpole's tax enforcements, they were ``arbitrary'' and 
``hardly compatible with the temper of a free nation.'' \10\ 
That same condemnation would easily apply to our income tax 
laws today. It was less than 25 years after the riots in 
Britain over Walpole's tax laws that the British colonists in 
North America sensed the same sort of tax policy coming their 
way, and they were willing to resort to violence and even 
treason against the Crown's taxes.
    The Founders of America were well aware of the history 
summarized above. The great sage of the Enlightenment, 
Montesquieu, in his The Spirit of Laws (1751), inspired the 
Framers of the Constitution, and much of its form can be traced 
to this great book. He was a tax-philosopher historian. If our 
current tax makers and we as a people had been schooled in his 
studies, as the Framers of our Constitution were schooled, we 
may not be having the tax troubles that now infect our whole 
social order. He taught emphatically that excessive taxation 
produces slavery; noting that men living in a liberty oriented 
society will foolishly submit to excessive taxation. He added a 
further observation, that excessive taxes will require, 
``extraordinary means of oppression.'' And from that, ``the 
country is ruined.'' \11\ This conclusion of Montesquieu was 
not a theory, it was plainly visible to him as a fact in the 
governments of his day and of those in history. With 
Montesquieu we are not dealing with logic, we are dealing with 
what Oliver Wendell Holmes had in mind when he said, ``A page 
of history is worth a volume of logic.'' \12\
    The leading writer for the American Revolution was Thomas 
Paine. ``Without the pen of Paine, `` said John Adams in poetic 
rhyme, ``Washington would have wielded his sword in vain.'' 
Washington had Paine's pamphlets distributed to his troops to 
read when they were in Winter Quarters during the dark days of 
the war. America was a land of liberty, wrote Paine, because it 
was a land of low taxes. Excessive taxes produced tyranny, he 
wrote, caused by the foolish and naive attitude of the people 
toward their government by believing that ``government is some 
wonderful mysterious thing.'' And when the people believe that 
illusion, ``excessive revenues are obtained.'' \13\
    What drove men to revolution was simply overtaxing and 
overblown governments. In short, when a government is just, 
``taxes are few.'' And revolution was necessary and justified 
to bring about a government ``less expensive and more 
productive,'' which would bring about ``peace, civilization and 
commerce. `` \14\

Direct Taxes: the Most Burdensome Type

    The most pernicious of all taxes are the arbitrary,'' said 
David Hume, the great Scottish philosopher, ``They are commonly 
converted, by their management, into punishments on 
industry...It is surprising, therefore, to see them have place 
among any civilized people.'' \24\ Alexander Hamilton, a 
leading proponent of the Constitution who favored broad taxing 
powers, had no use for arbitrary taxes. ``Whatever liberty we 
may boast of in theory, it cannot exist in fact while 
[arbitrary] assessments continue.'' \25\
    The Framers of the Constitution thought they had provided 
against any arbitrariness in taxation by commanding that all 
tax laws be UNIFORM, i.e. the same for all. But the uniformity 
command disappeared in the 20th century when the justices who 
upheld this condition, all died and were replaced with justices 
willing to make that provision an ``empty shell'' as legal 
scholars have described the present state of affairs.\26\ The 
Congress can now adopt abusive, discriminatory, arbitrary 
taxation to the extreme, thus fulfilling James Madison's fear 
expressed in The Federalist, No. 10;
    Yet there is, perhaps, no legislative act in which greater 
opportunity and temptation are given to a predominant party to 
trample on the rules of justice. Every shilling with which they 
overburden the inferior number is a shilling saved to their own 
pockets.
    Madison concluded by arguing that ``The Majority...must be 
rendered unable to concert and carry into effect schemes of 
oppression.'' The Constitutional command of uniformity for all 
taxation was one means to achieve that end, but once the Court 
made that command an ``empty shell'' the U.S. Congress has with 
impunity ``trampled on the rules of justice,'' with tax rates 
deliberately made unequal, and with exemptions and other tax 
favors for the best lobbyists, just as Madison had predicted.
    Besides the disastrous consequences of both arbitrary 
taxation and excessive taxation, Montesquieu focused on another 
archenemy of liberty-direct taxation, which he described as 
being ``natural to slavery, `` unlike indirect taxes, or a 
``duty on merchandise is more natural to liberty, because it is 
not so direct a relation to the person.'' \27\
    This observation was over two thousand years old. The 
Greeks discovered it by observing the many empires of the 
world--all were despotic, tyrannies. And all had direct forms 
of taxation, like wealth taxes, income or production taxes, 
poll taxes, and the like. The Greeks concluded, tyranny was the 
consequence of direct taxation. Except in times of war, direct 
taxes must be avoided if liberty is to be preserved.
    Cicero, the great Roman lawyer, also condemned direct taxes 
as a danger to Roman liberty. He said:
    Every effort must be made to prevent a repetition of this 
[direct taxes]; and all possible precaution must be taken to 
ensure that such a step will never be needed...But if any 
government should find it necessary to levy a direct tax, the 
utmost care has to be devoted to making it clear to the entire 
population that this simply has to be done because no 
alternative exists short of complete national collapse.\28\
    Why, you may ask, is direct taxation so bad? Why did the 
Greeks and Romans have so much contempt and hatred for what we 
have lived under most of this century? They came to this 
conclusion from history. They saw the tax system of the 
Pharaohs of Egypt and the enormous oppressive bureaucracy the 
Pharaohs maintained to collect taxes; they may also have 
noticed that no word even exists in the Egyptian languages that 
means freedom or liberty. Freedom and liberty just didn't exist 
where direct taxes were in operation. In the past century, with 
the income tax, the people of America have seen their liberties 
slip away, one by one, year in and year out. Even in the 
socalled protaxpayer Reagan years, the power of the IRS over 
everyone's life increased dramatically. Over 150 penalties were 
put in operation to increase the tax, almost double the tax, 
for the slightest slipup by the taxpayer. Reagan and the 
Congress of his era may have reduced rates, but they increased 
IRS muscle in the process. Their process of ever increasing 
powers, creating a musclebound bureaucracy, reminiscent of so 
many ugly tax bureaucracies of the past, is what the Greeks and 
the Founders were warning us about.
    This concept did not go unnoticed by the Framers nor by 
Montesquieu. At the Constitutional convention, Madison echoed 
the Greeks on the matter of direct taxes. He said, almost as a 
matter of fact, they would only be introduced during an 
``extraordinary emergency.'' \29\ It was inconceivable they 
would ever be a permanent, peacetime measure, for the reasons 
both Montesquieu and the ancient Greeks propounded.
    What was inconceivable then, has not been inconceivable in 
the 20th century. We have made direct taxation the order of the 
day and we have reconfirmed, for future generations, that the 
Greeks were right. Direct taxes do produce tyranny. When the 
Readers' Digest wrote a series on the abuses of power by the 
IRS, they entitled the series, ``The Tyranny of the IRS.'' 
Unlike wise men, we have had to learn from history the hard 
way-by reliving what others warned us about.
    One of the high points in Thomas Paine's life was his 
arrest and charge of seditious libel while in Britain. The 
charge came about because of his book, The Age of Reason, in 
which he condemned kingships, especially Britain. To his 
defense came one of the world's greatest lawyers, Thomas 
Erskine. He paid dearly for the defense of Paine, having been 
dismissed by the King from his post as AttorneyGeneral. The 
following is taken from his speech in 1792, which seems to 
explain how our liberties have been lost to enforce our income 
tax system.
    ...arbitrary power has seldom or never been introduced into 
any country at once. It must be introduced by slow degrees, and 
as it were step by step, lest the people see its approach. The 
barriers and fences of the people's liberty must be plucked up 
one by one, and some plausible pretenses must be found for 
removing or hoodwinking, one after another, those sentries who 
are posted by the constitution of a free country, for warning 
the people of their danger.\30\

Our Current Tax System: Vexatious, Odious, Heavy and Direct

    Let us leave the past and the Founders and see what shadows 
of the past are cast upon us with our income tax.
    Are our taxes arbitrary? There never was a tax law more 
arbitrary than our current income taxes. In the 1950's, 
Congress decided that the top bracket should be 91%; Kennedy 
thought 70%; Reagan 28%; and Clinton wants to jack it back up 
to around 40%. And as for exemptions, tax credits, and other 
tax goodies, they vary from legislature to legislature-
arbitrariness to the utmost extreme making a field day for tax 
lobbyists and a joy to the tax makers on the Ways and Means 
Committee.
    Are our taxes direct? Today we have nothing but direct 
taxes, which make everyone both a tax collector and a taxpayer. 
The IRS with more than 112,000 employees it he largest tax 
bureaucracy in the world since ancient Rome. Its tentacles 
reach out and have hold on more than 200 million people.
    In the 1950s it was routine for an IRS agent to begin his 
audit by telling the taxpayer, ``Ours is an honor system, which 
is the only way it will work in a free society.'' Supreme Court 
Justice Jackson, a former chief counsel for the IRS, said at 
this time that instances of selfserving mistakes and outright 
evasion were rare-and that was at a time when the infamous 
``Information'' returns were nonexistent.\15\ Banks did not 
report anything to the IRS about the affairs of their 
customers. Nothing that went through a bank account was 
photographed and held in storage for Big Brother to see. 
Interest income was not reported; dividends were not reported; 
real estate transactions and income was not reported; stock 
transactions were not reported; income from independent workers 
was not reported. Only wages were reported and that was done to 
enable workers to file for a tax refund. U.S. Customs did not 
demand to know how much money or travelers checks you were 
carrying, nor did they punish and confiscate amounts in your 
possession which were unreported. The tax system was an honor 
system, and it worked.
    The danger that income taxes may produce a massive 
espionage system and destroy much of the liberty of the people 
was a distinct possibility at the time America adopted its 
first income tax. Even the experts were aware of the risk, but 
they were quick to argue it would not be a possibility with the 
long traditions of freedom of the American people. The danger 
became apparent because of the income tax system in Prussia, 
which, according to one German legislator who opposed the 
system, covered the country with ``a perfect system of 
espionage.\17\ In an income tax audit, a taxpayer who was 
involved with securities, would be asked ``How many stocks did 
you sell this year? On what day and at what exchange did you 
sell them? What is the price of each? What is the name of each 
company in which you have securities?'' This was considered 
oppressive, the ``espionage'' that income tax advocates in 
America in 1914, assured the people, would never happen here.
    We have also have had to resort to savage punishments to 
make the income tax system work. Backing up the espionage is 
the fear of punishment--severe, long term prison terms which 
hang over the heads of all taxpayers. Every March and April 
prosecutions are published as front page items, to put terror 
and to intimidate every taxpayer as the tax return season is in 
full force.
    Some punitive measures are, at times necessary for tax 
enforcement, but have we gone too far? Are we outofstep with a 
free society? With the rest of Western civilization? Outside of 
the former Soviet Union no nation treats its tax offenders with 
such harshness.
    The destruction of these values by our income tax would 
come as no surprise if, in our education, we had learned that 
most great empires taxed themselves to death, spiritually as 
well as economically. The Founders as well as the ancient 
Greeks and Romans warned future generations about the tyranny 
that would befall any nation that adopted a tax system like we 
have endured. Their words speak from the past, like the ancient 
prophets from Biblical times.
    The evolution of our direct income tax system from an honor 
to a spy system has taken almost 50 years, in slow degrees, 
``as it were step by step,'' under plausible pretenses used to 
hoodwink the sentries ``posted by the constitution,'' i.e., the 
Supreme Court decisions, like Boyd v. United States, a tax case 
which declared unconstitutional a statute that gave the revenue 
bureaucracy the power to order a taxpayer to bring in his books 
and records for examination. Said the Court:
    And any compulsory discovery by extorting a party's oath, 
or compelling the production of his private books and papers, 
to convict him of a crime or to forfeit his property, is 
contrary to the principles of a free government. It is 
abhorrent to the instincts of an Englishman; it is abhorrent to 
the instincts of an American. It may suit the purposes of 
despotic power; but it cannot abide the pure atmosphere of 
political liberty or personal freedom.\31\
    That was in 1885. The case has been cited over 3000 times. 
Finally, in 1983 it took a the Supreme Court acknowledge that 
the Court had ``sounded the death knell for Boyd.'' \32\ Year 
in and year out, with each new piece of tax legislation, the 
IRS has been given increasing powers to spy, punish and 
intimidate taxpayers on a level associated with a totalitarian 
state. The Supreme Court, like Pontius Pilate, had the duty to 
prevent this abuse of power-but like Pilate, the justices have 
washed their hands before the multitude.\33\
    Finally, not long ago on the MacNeilLehrer news hour on 
PBS, an essayist was finishing what would otherwise have been a 
fine talk, except he concluded his remarks with an assertion I 
have heard frequently since early grammar school days-``America 
is the freest country in the world.'' That may have been true 
in times past, but it is not true today, not by a long shot. 
There are many countries in the free world that grant their 
citizens far greater freedoms than we enjoy in America. Not 
only are we slipping to some degree in world commerce, we have 
slipped a great deal more in matters of liberty and freedom. 
And the reason? Our income tax and our government's zeal to 
enforce it at all costs, including our liberty if it gets in 
the way. As a free nation, we are a third string operation, 
thanks to our tax system.

How Does the FairTax Address these Problems if the Direct Tax?

    What needs to be done to restore our leadership and ranking 
among free nations? The answer is easier than you may think. We 
need to go back to our roots, to the ideals and passion for 
liberty that was the driving force behind the formation of this 
nation. The Founders had no use for direct taxation as a 
permanent revenue device. They believed, as did the ancient 
Greeks and Romans, that it was a great danger to liberty. They 
were right and we are living proof of how right they were.
    Without an income tax there would be no need to photograph 
everything going through your bank account; no need for your 
bank to notify the government about your cash account or other 
financial dealings; no need for your interest, dividends, stock 
sales, real estate transactions, and baby sitters to be 
reported to Big Brother. No need for Customs to search 
travelers to make sure they were not carrying too much money 
with them; no need for judicial terrorism, savage punishments, 
and psychopathic judges. The laundry list of government 
intrusions would be minimal. In one fell swoop, the 
totalitarian muscle behind our tax system would disappear.
    1. Justinian Digest, L.xvii; Naphtali Lewis and Meyer 
Reinhold, ed., Roman Civilization, Sourcebook II, The Empire 
(New York, 1966) p. 539
    2. M. Rostovtzeff, The Social and Economic History of the 
Roman Empire I (Oxford, 1971) p. 53132.
    3. Salvian, On the Government of God, ed. Eva M. Sanford 
(New York, 1930) pp. 141-49
    4. Rostovtzeff, Roman Empire, I. p. 398
    5. Ferdinand Lot, The End of the Ancient World and the 
Beginning of the Middle Ages (New York, 1961) p. 175
    6. Charles Adams, For Good and Evil: The Impact of Taxes on 
the Course of Civilization (Lanham, MD, 1993) ch. 11
    7. ibid., p. 187
    8. Martin Hume, Spain, Its Greatness and Decay (1479-1788) 
(Cambridge, 1898) p. 221
    9. J. H. Plumb, Sir Robert Walpole, vol. 2 (Clifton, NJ, 
1973) p. 238-39
    10. William Blackstone, Commentaries on the Laws of England 
vol. I (London, 1765), ch. 8, p. 308
    11. Baron de Montesquieu, The Spirit of Laws, vol. 1 
(Dublin, 1751) Book XIII, ch. 8, p. 261
    12. New York Trust Co. v. Eisner, 256 U.S. 345, 349 (1921)
    13. Thomas Paine, The Rights of Man (Pelican, N.Y., 1969) 
p. 206
    14. The Writings of Thomas Paine, vol. III (New York, 1906) 
pp. 81, 183, 189
    15. Gerald Carson, The Golden Egg (Boston, 1977) p. 252
    16. D. Saunders, ed., The Portable Gibbon, The Decline and 
Fall of the Roman Empire, (New York, 1973) p. 375
    17. Edwin Seligman, The Income Tax (New York, 1914) p. 264
    18. ibid. pp. 27172
    19. Diogenes, The April Game (Chicago, 1973) pp. 12021
    20. Thomas Paine, ``Dissertation on the First Principles of 
Government,'' Common Sense and Other Political Writings (New 
York, 1953) p. 174
    21. Blackstone, Commentaries, I, 307
    22. Adam Smith, The Wealth of Nations (Harvard Classics, 
1909) p. 563
    23. See Adams, For Good and Evil, p. 386
    24. David Hume, The Philosophical Works, vol. 3 (London, 
1882) pp. 35660
    25. Harold Syvelt, ed., The Papers of Alexander Hamilton 
vol. III (New York, 1962) p. 104
    26. ``The Uniformity Clause,'' 51 U. of Chicago Law Review 
1193 (Chicago, 1984); 44 Tax Law Review 563 (New York, 1989)
    27. Montesquieu, Spirit of Laws I, Bk. XIII, ch. 14, p. 266
    28. Cicero, On Duties Il; see Cicero, On the Good Life, 
trans. Michael Grant (New York, 1971) p. 162
    29. James Madison, Records of the Debates in the Federal 
Convention of 1787, Documents Illustrative of the Formation of 
the Union of the Amerlcan States (Government Printing Office, 
Washington, 1927) p.
    30. James L. High, ed., Speeches of Lord Erskine, vol. 
1(Chicago, 1876) p. 536; also found in 22 How St. Tr. 358, 443 
(1792)
    31. Boyd. United States, 116 U.S. 616, 63132 (1885)
    32. United States v. Doe, 464 U.S. 606, 618 (1984)
    33. Matt. 27:24
    34. Smith, Wealth of Nations, p. 500

                                


STATEMENT OF W. HENSON MOORE, AMERICAN FOREST & PAPER ASSOCIATION

    Mr. Chairman and Members of the Ways and Means Committee, I 
am very pleased to have the opportunity to address this 
Committee concerning the issue of fundamental tax reform.
    The American Forest and Paper Association (AF&PA) is the 
national trade association representing producers of paper, 
pulp, paperboard and wood products, as well as growers and 
harvesters of this nations forest resources. As President and 
CEO of AF&PA, I see evidence on a daily basis of how the U.S. 
tax code negatively impacts the forest products industry as we 
compete in the global economy.
    The members of AF&PA encompass the full spectrum of US 
businesses. They range from large integrated corporate 
operations to small private tree farms long held within a 
family. All our members are dedicated to business practices 
that foster responsible environmental stewardship at home and 
abroad. Many of our members, large and small, strive to 
maintain a competitive presence in the global market.
    As good as our economy is, the provisions of the current 
tax code are a major obstacle to a level playing field between 
the U.S. forest products industry and our competitors around 
the world. Our taxes are higher than those of competing 
nations. When added to trade barriers to exports of our 
products, the US worldwide system of taxation functions as a 
major obstacle to competition.
    We are fortunate in this country to possess vast forest 
resources that have actually been growing over time. Our 
nation's 500 million acres of timberland contain over 36% more 
wood fiber today than they did fifty years ago despite 
continuously growing demand. Unfortunately, in recent years, a 
greater proportion of our national wood and paper needs have 
been supplied not from our own industry, but from imports.
    The importance of our forest products industry is reflected 
not only in our record of environmental stewardship but also in 
the fact that we supply more than $230 billion to the nations 
gross domestic product; we rank sixth among domestic 
manufacturing sectors. We employ 1.5 million people and rank 
among the top ten manufacturing employers in 46 states. The 
forest products industry represents more than seven percent of 
U.S. manufacturing output, and provides a basic renewable 
resource that supports a unique and vital forest-based economy.
    However, the U.S. forest products industry faces serious 
international competitive threats, particularly from countries 
where new capacity growth exports are not taxed and where 
forestry, labor and environmental regulatory requirements are 
not as strict as those in the United States.
    Our industry has an enviable environmental record. Members 
of AF&PA subscribe to the Sustainable Forestry Initiative, a 
program that assures the practice of sustainable forestry 
through the perpetual growing and harvesting of trees while 
protecting wildlife, plants, soil and water quality. However, 
unless we can improve the investment climate for forestry in 
our own country, more trees will be grown and harvested in 
other countries, many of which have less environmentally 
sensible practices than we do in the US. Improvements in our 
tax system will be beneficial not only to U.S. workers and U.S. 
companies--they will support U.S. environmental goals as well.
    Our industry is one of the most capital intensive 
industries in the world. For the last 10 years, the pulp and 
paper industry has been the most capital-intensive sector in 
the United States. Extensive capital requirements for 
environmental protection cost 13 percent of the capital 
investment. This percentage is expected to more than double in 
the coming five years.
    Unfortunately, the US tax system discourages investment by 
the domestic forest products industry. Moreover, competing 
countries are using their tax codes to foster the growth of the 
industry, benefiting non-US competitors. Our US tax system 
raises greater disincentives to corporate investment in 
manufacturing and corporate forestry activities than that of 
any major competitor country. Our effective corporate tax rate 
is the second highest among these competing countries. 
Corporate capital gains are taxed at higher effective rates in 
the US than in most competitor countries. And even within the 
U.S., the identical asset--timber--is taxed as widely disparate 
rates, creating disincentives for holding timber in corporate 
form.
    And it is not much better for our members who operate their 
businesses in the non-corporate form. Some 9.9 million private 
individuals and firms own over 390 million acres of forestland 
in the United States. It typically takes anywhere between 30 
and 80 years to grow and nurture trees before they can be 
harvested and converted to useful products. To make and 
maintain investments in forestry necessitates tax treatment 
that recognizes the long-term nature of growing trees. Under 
the current tax system that excludes capital gains treatment 
for corporations and imposes onerous passive loss rules on 
individuals, the effective tax rates for forestry investments 
are a disincentive to domestic investment. I don't believe we 
should be sending investment and jobs overseas, not when we 
have immense unrealized opportunities at home.
    Passive loss limitations intensify the capital drain during 
the long period of growth of trees. These rules force many 
landowners to carry these costs until they have a timber sale, 
instead of deducting these costs annually. For some landowners, 
these passive loss provisions require landowners to carry these 
expenses for more than 25 years.
    US estate tax laws, with rates as high as 55%, force many 
who inherit family-owned tree farms either to sell these 
properties for commercial development, or to prematurely cut 
their trees in order to pay the tax bill.
    Our association has not endorsed any specific tax reform 
proposal. We applaud efforts to simplify our US tax structure. 
The real question is how to get there from here. In the end, 
any system of taxation is a formula. The preference for one tax 
system or formula over others is dependent on what is included 
in the tax base and where the rate of taxation is set. The 
other important element of any new system will be whether the 
transition rules necessary if we move to a new tax base enable 
taxpayers to make the transition gradually and in a way that is 
perceived to be economically fair.
    Our industry supports the work of the committee in setting 
out to reform the tax code and to institute a system that is 
fairer and simpler for the American taxpayer. As this effort 
moves forward, we will work with you to accomplish those goals 
and to assure that any new tax system supports U.S. workers and 
companies in our efforts to remain successful in increasingly 
global markets.

                                


STATEMENT OF AMERICAN PETROLEUM INSTITUTE, MICHAEL PLATNER, WASHINGTON, 
DC

                              Introduction

Background

    This testimony is submitted by the American Petroleum 
Institute (API) for inclusion in the printed record of the 
April 1 1, 12 and 13, 2000, Ways and Means hearings on 
fundamental tax reform proposals introduced since the last set 
of hearings on the subject in 1997. API represents more than 
400 companies involved in all aspects of the oil and gas 
industry, including exploration, production, transportation, 
refining, and marketing .
    Several new consumption tax proposals have been introduced 
recently as complete substitutes for the current federal income 
tax system. This statement will focus on the business tax 
aspects of 1 ) the Simplified USA Tax Act (``USA Tax'') offered 
by Rep. English; 2) the Fair Tax Act, or national sales tax 
(``NST''), offered by Reps. Linder and Peterson; and 3) a 
European-style credit-invoice value added tax (``CIVAT''). API 
takes no position at this time as to whether the current income 
tax system should be completely replaced, but there is no doubt 
that as presently codified, it imposes wasteful and unnecessary 
burdens on the economy. We commend the Committee and the 
sponsors of these and previous proposals for their efforts to 
improve our tax system and for moving toward the taxation of 
consumption rather than the taxation of income.

Problems with Current Income Tax System

    Over the years, changes to the Internal Revenue Code 
(``Code'') and accompanying regulations have created the most 
complex income tax system in the world. Because of this 
complexity, unreasonable compliance and collection costs (both 
to the government and to taxpayers) impair the efficiency of 
the system; obscure or conflicting aspects of the Code and 
regulations fail to operate as intended; and administrative 
implementation of complex provisions often takes years, 
creating long periods of uncertainty for taxpayers as to their 
tax obligations.
    The current income tax system is biased against savings and 
investment, and in favor of consumption. Income generated by 
corporations is taxed twice. For example, in the case of a 
dividend, once when the income from which the dividend is 
generated is earned and again when the dividend is received by 
the shareholder. Moreover, because recovery of capital costs is 
spread over time there is effectively a tax on the capital 
investment itself.
    Our income tax system is neither ``territorial'' nor 
``border adjustable.'' Therefore, it does not allow domestic 
and foreign produced goods' to compete on an equal basis in 
domestic or foreign markets. Rather, the U.S. foreign tax 
system acts to inhibit American competitiveness. U.S. 
corporations are taxed on worldwide income, while many foreign 
corporations are not. U.S. anti-tax deferral rules are the most 
restrictive in the world; unnecessarily complicated mechanics 
of the foreign tax credit limitation further reduce the 
effectiveness of the credit as to a means to avoid double 
taxation; and the volume and frequency of changes in the 
foreign tax area continue to add compliance costs and 
destabilize the ability of U.S. businesses to compete 
worldwide.
    Most of our trading partners have some form of value added 
tax (``VAT'')--almost exclusively a CIVAT-that permits the tax, 
under the rules of the World Trade Organization (``WTO''), to 
be rebated on exports. Our income tax cannot be rebated on our 
exported goods (domestically produced goods must bear the 
imbedded costs of our income tax as well as local taxes imposed 
in foreign markets), while goods imported into the United 
States do not bear the VAT imposed in their country of origin. 
Attempts to remedy this disparity in the tax treatment of U.S. 
versus foreign exporters within the confines of the current 
U.S. tax system have been mostly unsuccessful. The recent 
decision of the WTO, which held that certain tax breaks offered 
to U.S. foreign sales corporations (``FSCs'') constituted 
illegal export subsidies, only served to highlight the 
difficulty in preserving the global competitiveness of U.S. 
businesses under our income tax system. Whatever comes out of 
this tax reform process should have as one of its goals 
enhancing the ability of U.S. companies to compete 
internationally.
Guiding Principles in a Properly Designed Tax System

    In general, API believes that properly designed consumption 
taxes are preferable to income taxes. In studying consumption 
taxes over a number of years, we have developed a set of 
principles by which we evaluate alternative consumption tax 
proposals. They include the following:

     Minimize economic distortions;
     Ensure that foreign and domestically produced 
goods compete equally in the marketplace;
     Permit the current deduction of capital 
expenditures;
     Impose only one rate or as few rates as possible;
     Facilitate recovery of taxes in the marketplace;
     Exclude from the base separately stated excise 
taxes, including sales and use taxes, royalty payments to 
federal and state governments, and non-cash exchanges;
     Be relatively easy to comply with and administer; 
and
     Make the tax rate or amount of tax clear to the 
ultimate consumer.

Concerns with Changing to a New Tax System

    While we are supportive in principle of moving towards the 
taxation of consumption, we urge the Committee to proceed with 
caution. Because the income tax has been embedded in our 
economy for more than eighty years, business decisions have 
been, and continue to be, premised on economic assumptions 
spawned by that system. Therefore, any radical change will have 
profound implications on business structure, business 
financing, and business operations themselves, and these 
implications must be thoroughly understood before moving to any 
new system. This is especially true in the capital intensive 
oil and gas industry, where the results of decisions may take a 
decade or more to manifest themselves.
    For example, the tax treatment of imports of all basic 
commodities for further manufacturing will have significant 
ripple effects on the economy. Because more than half of the 
crude oil used in the United States is imported, this issue is 
of major concern to our industry. One of the proposals, the 
Simplified USA Tax Act, imposes a nondeductible import tax that 
would increase the price of energy to consumers. We believe 
that any import tax should be imposed in a manner that is 
designed to put the new tax system in parity with the VATs of 
our trading partners.
    In order to survive, our industry must operate where we 
have access to economically recoverable oil and gas reserves. 
Since the opportunity for domestic reserve replacement has been 
substantially foreclosed by both federal and state government 
policy, the tax treatment of international operations is 
critical to our continued ability to supply the nation's 
hydrocarbon energy needs. In addition, since our industry's 
projects require large amounts of capital and are high risk, 
long lead-time ventures, the tax treatment of the financing and 
structuring of these ventures is an essential element of 
decisions whether to proceed. We are concerned about the impact 
of these proposals on our access to efficient sources of 
capital, whether through traditional capital markets or through 
partnerships, joint ventures, or other business structures.
    Not only must the federal tax implications of any proposal 
be considered, but state tax integration, U.S. financial 
accounting treatment, and securities market effects must also 
be thoroughly understood. Finally, consideration must be given 
to the United States' role in the global economy. A unilateral 
change in the basic taxation of inbound and outbound 
transactions by the United States will require that new 
treaties be negotiated in order to maintain the protections 
afforded U.S. companies by the current income tax treaty 
system. These protections include: elimination of double 
taxation due to overlapping exercise of authority; facilitation 
of business transactions between countries that might otherwise 
be inhibited by overly intrusive national taxation; reduction 
of high rate withholding taxes imposed by many countries on 
payments to foreigners of items such as dividends, interest, 
rents and royalties; and other provisions designed to lessen 
the burden on international commerce of varying national 
taxation systems.
    The USA Tax, NST and CIVAT, all of which are different 
forms of consumption based taxation, fully or partially satisfy 
several of APl's eight evaluation criteria outlined above. 
However, each also falls short in meeting some of the criteria 
or leaves issues of concern unresolved. A discussion of each of 
these specific proposals follows.

             The Simplified USA Tax Act of 1999 (H.R. 134)

General Characteristics

    The USA Tax satisfies several of the API criteria for 
evaluating taxing systems. It would encourage the investment in 
durable business assets by allowing the immediate deduction of 
capital expenditures. API also favors this proposal for 
recognizing that excise taxes should be excluded from the tax 
base and for establishing one tax rate for business.
    Several aspects of the USA Tax appear easier to comply with 
and administer than the present income tax system. Allowing 
immediate expensing of capital equipment is a great 
simplification compared to the current complex depreciation 
rules. Since the USA Tax is also a ``territorial'' system, 
businesses would no longer have to incur many of the 
administrative and compliance costs of the current system 
relating to foreign operations. In certain respects, the USA 
Tax would help to minimize economic distortions as compared to 
the current system. Our present income tax system contains a 
large number of complex deductions and credits, many of which 
create competitive distortions in particular business sectors. 
Different rules apply depending upon whether a business 
operates in corporate or partnership form. The USA Tax is more 
neutral because it would allow far fewer deductions and would 
apply to all business sectors and forms of business 
organizations, but there is considerable uncertainty as to how 
the taxation of partnerships would affect the industry practice 
of forming joint ventures for high cost, high risk projects.

Deductibility of the Import Tax

    There are also several areas in which the English proposal 
does not meet APl's criteria. The proposal would impose a 12 
percent tax on the value of imports. Because the proposed tax 
would not be deductible, when an importer sells an imported 
good in the United States, the importer would be subject to the 
8 to 12 percent consumption tax on the already paid import tax. 
This double taxation would create an unwarranted economic 
distortion by precluding foreign and domestic goods from 
competing equally in the marketplace. Consideration should be 
given to whether the imposition of an import tax is appropriate 
at all on intermediate purchases of goods that will be 
incorporated into a final product. This is especially the case 
for raw materials, such as crude oil, that generally have 
already been subject to high foreign taxes (which would no 
longer be creditable against U.S. tax obligations under the USA 
Tax proposal).
    The USA Tax system is particularly detrimental to importers 
by failing to allow the import tax to be either deducted in 
arriving at the taxable base, or fully credited against net 
liability as is the case with most credit-invoice VAT systems. 
While most commentators focus on the payroll tax credit as the 
key to border adjustability, the real focus should be on the 
national tax treatment provisions of the WTO because, as 
currently drafted, the USA Tax appears to penalize imports. If 
a destination-based system such as the USA Tax is ultimately 
adopted, this major error must be corrected.

Tax Visibility

    API is concerned that the USA Tax is not structured in a 
manner that would facilitate recovery in the marketplace. As is 
the case with the current income tax, the USA Tax would be 
imposed on the net income of a seller of goods, rather than on 
the product sale. Such a system also makes the amount of tax 
less clear to the ultimate consumer than would be the case with 
a tax that could be separately stated as a specific percentage 
of gross sales price.

Treatment of Non-Cash Exchanges, State Taxes, Payroll Tax 
Credit

    Further analysis and discussion is warranted regarding many 
other aspects of the USA Tax proposal. For example, API 
believes that non-cash exchanges should be excluded from the 
tax base. Under current law, tax-free exchanges are a common 
and important part of the oil and gas business. Inventory 
exchanges of equivalently (or nearly equivalently) valued 
barrels of oil or product are everyday occurrences involving 
extremely high volumes that permit the efficient transportation 
and supply of crude oil and product throughout the country. 
Certainly, compensatory cash payments for value differences on 
these exchanges should be taken into account for tax purposes, 
but the full value of the exchanged products must not be 
considered as a taxable transaction. In addition, careful 
consideration must be given to the consequences of the proposed 
elimination of deductions for state income taxes and the 
replacement of the wages-paid deduction with a payroll tax 
credit.

                     Credit-lnvoice Value Added Tax

In General

    A CIVAT on sales of all goods and services appears to more 
closely adhere to the principles API has identified for a 
properly structured consumption tax. A CIVAT is imposed as a 
multistage sales tax collected at each point in the production 
and distribution process. A business subtracts the tax paid on 
its purchases, including capital goods, from the tax due on its 
sales. If the difference is a positive number, the business 
remits that amount to the government. If it is negative, as may 
occur in the case of exported goods, the business claims a 
refund. Compared to the current income tax, the CIVAT has the 
advantage of encouraging saving and investment. It does not 
burden capital outlays, nor does it discriminate against U.S. 
industry either in the U.S. or abroad.

Effective and Neutral Revenue Source

    From an economic standpoint, a separately stated CIVAT on 
the sale of goods and services appears to be the least damaging 
way of raising revenue. It does not burden capital outlays, nor 
does it discriminate against U.S. industry either in the United 
States or abroad. It does not favor either capital or labor 
intensive industries. Wages, rent, interest and profits, i.e., 
the return of entrepreneurship, each bear the same direct tax 
burden. A CIVAT levied at the same rate on all consumption 
should not cause a significant distortion in consumption 
choices since the relative cost of goods and services would be 
the same after imposition of the tax as before. A broad-based 
CIVAT would not unduly burden the products of any one sector of 
the economy. Any regional distortions would tend to be 
minimized since no specific product or geographic region of the 
country would be the focus of the tax. A uniform CIVAT applied 
to goods and services would induce fewer distortions within 
particular industries than other taxes.

Border Adjustability

    A CIVAT is neutral with respect to goods produced 
domestically and abroad. Not only are U.S. manufactured goods 
not burdened with the tax when they are exported, but imports 
must also bear the same tax as comparable domestically produced 
goods. This border adjustment feature of the CIVAT-permitted 
under WTO rules-means that the tax does not handicap U.S. 
manufacturers, nor does it act to distort consumer's decisions 
whether to buy domestic or imported goods. Some economists 
argue that border adjustable taxes are not necessary because 
monetary exchange rates will adjust to accommodate the change 
in U.S. taxation. While this may be true in the long run (and 
not everyone agrees), in the short run the adjustment period 
could be very harmful to U.S. competitiveness.

Differences with Other Tax Systems

    Under the CIVAT, the tax liability of a firm is equal to 
the tax imposed on its sales net of a credit for the tax it has 
previously paid on purchases for business use. Under a 
subtraction-method consumption tax system like the USA Tax, 
liability is determined by applying the tax rate directly to 
the firm's value added, or the difference between its sales and 
its purchases. CIVAT is a tax on a product while a subtraction-
method consumption tax system is based on a business's books of 
account, similar to the current income tax system. From that 
underlying distinction flows a number of practical differences 
that API concludes favor the CIVAT.
    Most commentators agree that while a single rate 
consumption tax, without exemption, is preferable, the 
overwhelming weight of political experience shows that the 
United States would not adopt a single rate consumption tax 
with no exceptions. Not one of the 45 countries that currently 
collect consumption taxes has a single-rate, no-exemption tax. 
Most have both exemptions and multiple rates. The CIVAT readily 
accommodates these features. Because the tax a business pays on 
purchases is credited against the tax it owes on sales, 
businesses. are encouraged to register as taxpayers and to get 
invoices from their supplier to document the tax paid. Also, a 
CIVAT would reach previously untaxed income in the underground 
economy, since all consumer consumption would be taxed when 
goods and services are purchased.

                National Sales Tax Proposal (H.R. 2525)

In General

    Most NST proposals are relatively easy to understand since 
they are similar to the various sales tax systems in place in 
45 out of the 50 states. The NST is intended to replace the 
current income tax, estate and gift tax, and most general 
revenue federal excise taxes. Under the plan offered by Reps. 
Linder and Peterson, the tax would be imposed at a 23 percent 
rate on the sale of goods, including both tangible personal 
property and real property, and services, including financial 
intermediation services such as brokerage fees, banking fees, 
and insurance fees. Although the NST is intended to be 
compatible with current state sales tax systems, none of the 45 
states currently utilizing such a system tax services as 
extensively as is envisioned under H.R. 2525. A great deal of 
work will have to be done with the various state taxing 
authorities before they will become convinced to administer a 
uniform NST on behalf of the federal government.
    Businesses would collect tax on all their taxable sales of 
goods and services and remit the tax to the government. Since 
purchases of inventory for resale are not taxable, the complex 
inventory rules of the current income tax system would be 
eliminated. Purchases of equipment and real property used in 
the production of taxable goods and services would also not be 
taxable, so there would be full expensing of capital assets. As 
noted above in the discussion of the USA Tax, the ability to 
immediately expense capital assets is extremely important to a 
capital-intensive business like the oil and gasindustry.

Border Adjustability and Territoriality

    Like a CIVAT, the NST is neutral with respect to goods 
produced domestically and abroad. Not only are U.S. 
manufactured goods not burdened with the tax when they are 
exported, but imports must also bear the same tax as comparable 
domestically produced goods. This border adjustment feature of 
the NST, which like the CIVAT should be permitted under WTO 
rules, means that the tax does not handicap U.S. manufacturers, 
nor does it act to distort consumers' decisions whether to buy 
domestic or imported goods. The NST, like the USA Tax and 
CIVAT, is a territorial system, which would help put U.S. 
multinationals on a level playing field with their 
international competitors.

Definitional Problems

    Although it appears to be the intent of NST proponents that 
businesses above the retail level will be outside the tax 
system, this likely will not happen. While H.R. 2525 improves 
on prior national sales tax legislative proposals in its 
attempt to define what constitutes a tax exempt good or service 
``purchased for a business purpose in a trade or business,'' 
uncertainties remain. For instance, while the proposal would 
exempt purchases used in a trade or business ``(1) for resale, 
(2) to produce, provide, render, or sell taxable property or 
services, or (3) in furtherance of other bona fide business 
purposes,'' it is unclear whether items such as financial 
services, pollution control, environmental remediation, or many 
other kinds of purchases would be covered by that definition. 
Such questions would then have to be resolved during the often- 
confrontational audit process between the taxpayer/tax 
collector and the sales tax administering authority.

Excise Tax Concerns

    H.R. 2525 would not repeal the retail and manufacturer 
excise taxes, which include a federal excise tax of 18.4 cents 
per gallon on gasoline, 19.4 cents per gallon on aviation 
gasoline, 24.4 cents per gallon on diesel fuel and kerosene and 
21.9 cents per gallon on aviation fuel. In addition, the 
proposal would not repeal the environmental trust fund taxes, 
many of which are imposed on products produced by the oil and 
gas industry. The preservation of these excise taxes in 
conjunction with the adoption of the NST is of particular 
concern to our industry because these excise taxes constitute a 
significant portion of the retail price of our products and 
would be included in the base upon which the sales tax is 
calculated. State excise taxes would also be included in the 
base, as proposed, and this would again be a major problem for 
our industry.

                          Transitional Issues

In General

    While transitional issues will arise in the context of all 
tax reform proposals, they become especially critical where, 
for example, there is a significant shift in the basis of 
taxation from income to consumption. Capital intensive 
industries, such as the petroleum industry, have made long-term 
investment decisions relying on the existing tax structure. 
Changes in that structure would impact different companies, 
often in direct competition, in an arbitrary and often 
inequitable manner. The most obvious examples of transitional 
issues occur in the areas of capital outlays and borrowings.s 
For example, a capital asset (or inventory) purchased 
immediately prior to the enactment of certain of the 
consumption-based taxes would be denied recovery of all but a 
miniscule fraction of its cost, whereas the same asset 
purchased immediately following enactment would be permitted an 
immediate 100 percent recovery against the tax base. In a 
similar manner, borrowings based on the anticipation of an 
interest deduction could become a significant burden on a 
highly leveraged business after enactment of a consumption tax.

Depreciation

    The proposed USA Tax partially addresses the transition 
issue but stops far short of providing the equitable relief 
necessary for business taxpayers. The issue of unrecovered 
basis is addressed in the Simplified USA Tax Act through a 
system of amortization that substantially lengthens the 
recovery period under current law. This lengthened and 
arbitrary classification of unrecovered costs into four groups 
appears to be based on misconceptions regarding complexity and 
revenue costs. Continuing the current method for unrecovered 
basis of assets placed in service prior to tax reform would be 
preferable to inserting another new capital cost recovery 
regime. Permitting current law business deductions to be 
carried out, thus honoring prior business plans and 
commitments, is necessary to avoid inequitable distortions.

Interest on Pre-Reform Debt

    Transitional rules that consider only lost depreciation 
deductions fall far short of measures necessary to ensure the 
success of tax reform. A continuation of current law interest 
deductions for pre-reform debt can be as vital to a business as 
cost recovery. If the interest deduction is offset by interest 
income on the particular pre-reform debt (i.e., pre-reform 
obligations continue to be both tax deductible to the debtor 
and taxable to the lender), there would be no significant 
revenue impact to the Treasury. Ignoring a continuation of the 
interest deduction results in arbitrary windfall gains and 
losses without any apparent justification.

Carryovers of Other Tax Attributes

    Among other items of significant impact to business are net 
operating loss and capital loss carryovers, business, foreign 
tax and minimum tax credit carryovers, as well as other pre-
reform adjustments, such as those required under Section 481 of 
the Code. The USA Tax attempts to solve this problem with a 
further complex overlay to the depreciation recovery rule. 
Operating and capital losses are simply a result of the annual 
accounting convention for tax payment determinations. Their 
carry forward is a valid claim on future tax payments that 
would take into consideration the length of business cycles in 
various industries and other issues of timing. There is no 
valid distinction between unused business credits and future 
deductions for depreciation and, in fact, credits are a 
specific and distinct congressional incentive upon which 
businesses have relied. The Alternative Minimum Tax was 
intended as an advance payment of federal income tax. 
Therefore, unrecovered credits require a reimbursement 
mechanism. Transitional rules must include a provision clearly 
permitting the Internal Revenue Service to make appropriate 
adjustments to ensure that no taxpayer takes a double deduction 
for any cost, nor suffers double inclusion of any income.

                                Summary

    Reform of the current U.S. tax system is a worthy goal, 
especially the movement from taxation of income to taxation of 
consumption. Each of the alternative consumption tax proposals 
makes important contributions to the reform effort. Any major 
upheaval such as complete replacement of the current income tax 
system will, however, require careful analysis of all possible 
implications. We have lived with the present tax system for 
over eighty years, and businesses have structured their affairs 
within it. Any fundamental change, unless carefully 
orchestrated, could cause massive turmoil, particularly in the 
transition period from the old system to the new. At the same 
time, it should be emphasized that while API has identified a 
number of concerns regarding the prospect of comprehensive tax 
reform, none of these problems are insurmountable.
      

                                


STATEMENT OF ASSOCIATED GENERAL CONTRACTORS OF AMERICA, ALEXANDRIA, VA

    Mr. Chairman and Members of the Committee on Ways and 
Means:
    The Associated General Contractors of America (AGC) has 
endorsed the FairTax national sales tax (currently embodied in 
H.R. 2525) that is promoted by the Americans for Fair Taxation. 
This federal legislation would eliminate the death tax, self-
employment taxes, corporate and individual income taxes, the 
alternative minimum tax, the capital gains tax and replace 
these taxes with one simple, single rate, national sales tax on 
the personal and final consumption of goods and services at the 
retail level only. It would not affect social security 
benefits, but simply change the funding mechanism. It would not 
affect those Federal excise taxes used to fund construction 
programs. In this endorsement, AGC joins other significant 
national business groups including the National Small Business 
United (the nation's oldest small business organization) and 
the American Farm Bureau Federation among other notable groups.
    AGC is the nation's largest and oldest construction trade 
association, founded in 1918. AGC represents more than 33,000 
firms, including 7,500 of America's leading general contracting 
firms. AGC's general contractor members have more than 25,000 
industry firms associated with them through a network of 101 
AGC chapters. AGC member firms are engaged in the construction 
of the nation's commercial buildings, factories, warehouses, 
highways, bridges, airports, waterworks facilities, waste 
treatment facilities, dams, water conservation projects, 
defense facilities, multi-family housing projects, site 
preparation, and utilities installation for housing 
developments.

SUMMARY:

    The FairTax national sales tax will, in one broad stroke, 
accomplish the entire Federal tax agenda for the AGC. The 
FairTax eliminates the methods of accounting and long-term 
contract accounting problems faced by contractors. No earnings 
would be taxed and, equally important, once the FairTax is in 
place, no business-to-business transactions would be taxed.
    The fundamental reform will provide the legislative vehicle 
for total elimination of death taxes. The death tax is one of 
the most onerous obstacles to family business continuity and 
growth. At a minimum, an estate over $675,000 (gradually 
increased to $1 million by 2006) will be subject to a federal 
death tax rate of 37% and an estate over $3 million will be 
taxed at 55%. In the capital intensive construction industry, 
most firms easily have assets of the current death tax 
exemption amount. More than 70% of family businesses do not 
succeed to the second generation and 87% do not survive to the 
third generation. Few have the liquid assets to pay death taxes 
if their heirs were to inherit the business today. 
Comprehensive tax reform of this magnitude is a strong vehicle 
for full elimination of the death tax.
    Additionally, several beneficial economic consequences 
would follow from the FairTax. Replacing the income tax with a 
national sales tax will dramatically improve the standard of 
living of the American people. The FairTax would significantly 
enhance economic performance by improving the incentives for 
work and entrepreneurial activity and by raising the marginal 
return to saving and investment. Entrepreneurs and small 
business owners would be given greater access to capital, the 
life-blood of a free economy. Investment would rise, the 
capital stock would grow, productivity would increase and the 
output of goods and services would expand. The economy would 
create more and better paying jobs for American workers and 
take-home pay would increase considerably.
    The cost of construction supplies will fall. Today, 
construction materials bear a heavy, hidden component of tax. 
Approximately 25 percent of the cost of materials are taxes 
that have been imposed upstream in the companies producing 
those materials, according to Dale Jorgenson, who is the 
President of the American Economics Association and Chairman of 
Harvard University's Economics Department. When taxes are 
removed, competition will drive material costs downward.
    The cost of capital will fall, enabling construction firms 
to make greater investments in productivity and inducing 
further infrastructure investments. The construction industry 
is capital intensive, requiring large investments in heavy 
equipment. For instance, a 150-ton crane used in bridge 
construction can cost more than $1 million. A scraper can cost 
$700,000 and a large bulldozer can cost more than $800,000. By 
eliminating the capital gains taxes and any tax on investment 
and savings, the FairTax will enable contractors to make the 
needed investments in equipment and supplies before tax, not 
with what remains after the government has exacted a toll.
    Workers would benefit. Because the FairTax repeals both the 
income tax and payroll taxes, workers would enjoy the full 
fruits of their labor. What an employee earns would be what the 
employee would receive in his or her paycheck. Workers would 
respond to a national retail sales tax by increasing the amount 
of work effort they want to undertake. A reasonable projection 
is that if the current federal income tax system were to be 
replaced by a national retail sales tax, total hours worked 
that people in the United States would choose to work would 
increase by 8.25 percent.
    There are more advantages. The FairTax would reduce fixed 
compliance costs by as much as 90 percent. By imposing taxes at 
the cash register, the FairTax would wholly exempt individuals 
from ever having to file a return. Business-to-business 
transactions would be fully exempt. The Tax Foundation 
estimates that the FairTax would reduce compliance costs by 90 
percent--more than any other tax plan. In addition to reducing 
compliance costs, The FairTax would reinstate the principle 
that Americans have a right to understand the law to which they 
are subjected.
    In sum, AGC believes that the FairTax is good for 
construction and good for America. We strongly support this 
proposal and urge Congress to seriously consider the FairTax as 
a replacement to our current tax code maze.

ADDITIONAL DISCUSSION:

    Construction is as vital to our economy as it is has been 
to our historic growth as a nation. While statistics are always 
moving targets, there were 487,783 construction firms in 1997. 
Total civilian employment based on IRS records was 142,836,000; 
construction directly accounted for more than 6.1 million 
civilian employees who paid salary and wages of $28 billion. 
There were $593 billion in total receipts. Construction firms 
had assets of $315 billion in 1997, broken down roughly as 
indicated below.
[GRAPHIC] [TIFF OMITTED] T1879.025


What is Wrong with Our Tax System?

    Apart from paying high direct and indirect taxes, our 
current tax regime places disproportionate burdens on 
construction, stemming from the unique nature of the our 
industry as a capital intensive, long-term, high-risk and often 
family-owned and operated effort.
    Through the income tax, behavior that is essential to 
building--work, saving and investment--is punished. High 
marginal tax rates weaken the link between effort and reward. 
Multiple layers of taxation on work, saving and investment 
reduce capital for new investment. A regressive levy of payroll 
and self-employment taxes frustrates expansion. Finally, 
although families own most construction firms, estate taxes (at 
rates as high as 55%) due at death prevent owners from passing 
their firms on to their children.
    While construction is inherently capital-intensive, firms 
are hampered by the capital gains tax, which doubly taxes 
investment income while punishing losses which cannot be 
predicted. Capital gains taxes discourage reinvestment to keep 
businesses growing and operations competitive. Moreover, 
because the industry is largely investment and reinvestment in 
capital assets over many years, capital gains can result more 
from inflation than appreciation, even when a firm is sold.
    The tax system through inadequate capital cost recovery 
allowances, the alternative minimum tax and the passive loss 
limitations, makes investment in structures more expensive and 
reduces demand for structures being built.
    The cost of capital will fall, enabling construction firms 
to make greater investments in productivity and inducing 
further infrastructure investments and allowing their customers 
to make greater investments in structures and other products of 
the construction industry. The construction industry is capital 
intensive, requiring large investments in heavy equipment. For 
instance, a 150-ton crane used in bridge construction can cost 
more than $1 million. A scraper can cost $700,000 and a large 
bulldozer can cost more than $800,000. By eliminating the 
capital gains taxes and any tax on investment and savings, the 
FairTax will enable contractors to make the needed investments 
in equipment and supplies before tax, not with what remains 
after the government has exacted a toll.
    The FairTax would exempt the poor from paying any federal 
income, payroll or sales tax altogether. In fact, this means 
that poor people that spend less than the poverty level amount 
on taxable goods and services will enjoy a negative tax rate. 
For three quarters of Americans, payroll taxes are a larger 
burden than income taxes. Payroll taxes are imposed from the 
first dollar of wage income earned, although the earned income 
tax credit mitigates this burden to some degree. The AFT plan 
would repeal the Social Security and Medicare payroll taxes
    The sales tax imposes tax on the private use of economic 
resources, not on social use. When an individual buys a good or 
service for personal consumption purposes, he will pay tax. 
When that money is used for a social purpose such as investing 
in a job producing plant, conducting research to develop new 
technologies or find new medicines or is given to a charity, 
the individual will not pay tax. If an investor liquidates his 
investments to fund consumption, a tax is imposed.
    Virtually all economic models project a much healthier 
economy if a national sales tax replaces the current tax 
system. These models typically project that the economy will be 
10 to 14 percent larger in 10 years.\2\ Real investment also 
will spike upward. Harvard University economist Dale Jorgenson 
forecasts that ``real investment would leap upward. As a direct 
result of this dramatic increase in real investment, the 
capital stock will rise as well. Kotlikoff forecasts that by 
the fifth year after replacement, the capital stock will be 
eight percent larger. By the 10th year, the capital stock will 
be 15 percent greater. Over the long run, the capital stock 
will be a full 29 percent larger than under the current income 
tax regime.\3\
---------------------------------------------------------------------------
    \2\ See, ``The Economic Impact of Fundamental Tax Reform,'' Dale W. 
Jorgenson, Testimony before the House Ways and Means Committee, June 6, 
1995; ``Looking Back to Move Forward: What Tax Policy Cost Americans 
and the Economy,'' Gary Robbins and Aldona Robbins, September, 1994, 
Policy Report Number 127, Institute for Policy Innovation; ``The 
Economic Impact of Taxing Consumption,'' Laurence J. Kotlikoff, April 
15, 1993, Cato Institute Policy Analysis. Also see ``The National Sales 
Tax: Moving Beyond the Idea, Tax Notes, March 21, 1996, David R. Burton 
and Dan R. Mastromarco.
    \3\ Kotlikoff also simulated an economy in which income taxes at 
all levels of government were replaced by a comprehensive retail sales 
tax and found that the stock of U.S. capital would increase by as much 
as 49 percent.
---------------------------------------------------------------------------
    The federal tax will point the direction to sound state 
sales tax policy Many state sales tax schemes improperly tax 
business inputs and therefore cascade. When states repeatedly 
tax purchases between and among firms, all firms are 
disadvantaged, but especially disadvantaged are small firms. 
The more small firms are utilized in the chain of production, 
the more the enterprise--from raw materials to consumption--the 
more they will pay in taxes. Under such an ill-advised scheme, 
a company has every incentive to vertically integrate, rather 
than contract out--even if contracting out were more efficient. 
The normal tendency of small firms who have struggled under 
such cascading tax schemes would be to associate this negative 
characteristic with all plans that are called ``sales'' taxes--
even a national sales tax. However, the AFT believes it wholly 
inappropriate to adopt a system that has cascading taxes. If a 
business buys a good or service from another business, such a 
purchase would not be taxed. Since no business to business 
inputs are taxes, and no profits or income is taxed, businesses 
pay an effective rate of zero.
    While these are the highlights, there are more advantages. 
Hidden taxes would become visible and more difficult to raise. 
By placing the tax on the receipt for consumer purchases and by 
repealing upstream taxes, it would convey the true cost of 
government to every American on each purchase they make. This 
not only adds integrity to the tax system, but it will also 
keep taxes lower.
    One of the best attributes of the FairTax is that it will 
cause a drop in interest rates and reduce the carrying costs of 
debt. Under the FairTax, conservative estimates predict that 
mortgage interest rates will fall by 25 to 30 percent or about 
two points on a 30-year conventional mortgage. To put this in 
the context of housing, for a $150,000 thirty-year home 
mortgage at an interest rate of 8 percent the monthly mortgage 
payment would be $1,112.64. On that same mortgage at a 6 
percent interest rate the monthly payment would be $907.64. The 
two-point decrease in interest rates in this instance would 
result in a $73,800 cost savings to the consumer.

Conclusion

    The true tax reform debate will not take place in 
Washington. Rather, it will take place at the grass roots 
level. A consensus is growing that America can and must adopt a 
better system of collecting the revenues necessary to fund the 
federal government. Which alternative is best is the question 
now on the national agenda. The FairTax would be simple, 
inexpensive, understandable, administrable, visible, equitable, 
pro-growth and respectful of privacy rights. The AGC has 
endorsed the FairTax as the most sensible alternative to a 
broken system. We encourage you to help make this tax plan a 
reality by becoming actively involved.

                                


Statement of Hon. Jim Barcia, a Representative in Congress from the 
State of Michigan

    Thank you for the opportunity to submit this statement on 
the FairTax national sales tax plan. I am a cosponsor of H.R. 
2525--a bill distinguished in its Congressional support by an 
equal balance of Democrats and Republicans.
    Mr. Chairman, our Congress is one of the most prodigious 
legislative bodies in the world, but one would be hard pressed 
to find any public law more despised than our Internal Revenue 
Code. If we assembled ten different individuals in Bay City or 
Saginaw, Michigan--the heart of the Midwest--and asked them 
what they thought of the tax system today, we would get ten 
different answers. None would be favorable and none would be 
incorrect. The answers that I have heard are that our system is 
too invasive of our privacy, heavy-handed, too costly, overly 
complex, burdensome, punitive, invisible, anti-competitive, 
unfair, destructive of our collective and individual 
prosperity.
    What would the FairTax do for the American people in my 
view? It would reduce the wasteful administrative overhead of 
our system: record keeping, the cost of advice, the cost of 
filling our returns, and the cost of audit. Under any tax 
system, we have to have tax collectors and payers. However, the 
FairTax would eliminate entirely the collection, record keeping 
and reporting responsibilities of individuals. This is much 
better than filing a postcard sized return as the flat taxers 
boast. In fact, most taxpayers now file a return very similar 
to a postcard sized return in the Form of the 1040EZ. Under the 
FairTax, 112 million taxpayers can simply let April 15th pass 
as a beautiful Spring day. Congress will give them a permanent 
extension. No returns, ever. No other tax plan can claim this.
    The FairTax would repeal the payroll tax, which is the most 
regressive tax of all. It takes a 15.3% bite out of every 
single dollar earned, but only applies to the middle class wage 
earner; at high incomes it falls to 2.9 percent. Moreover, it 
only applies to wages, not dividends and interest.
    The FairTax is the plan that will restore the fundamental 
notion of fairness, notice of the law, and privacy rights on 
which this country was based. Our nation deserves better than 
the monstrosity of law we created in the last century. As we 
look to the next millennium, we should have a clear vision of 
what an ideal tax system should look like. The FairTax is that 
system.

                                


STATEMENT OF COUNCIL OF SMALLER ENTERPRISES, CLEVELAND, OH

    Good morning Chairman Archer and members of the committee. 
Thank you for hosting three days of hearings on Fundamental Tax 
Reform proposals. Please allow this document to serve as 
written testimony supporting Fundamental Tax Reform and the 
Fair Tax, or the national retail sales tax proposal (HR 2525).
    This testimony is submitted on behalf of the nation's 
largest chamber of commerce. The Greater Cleveland Growth 
Association and it's small business division, The Council of 
Smaller Enterprises (COSE), represent over 16,000 businesses in 
Ohio and over 250,000 lives in its health insurance plan. Based 
in Cleveland, Ohio, our health insurance plan was adopted over 
25 years ago to give our members, their employees and families 
access to high quality, affordable health care benefits. We are 
often cited and studied as a national model for health 
insurance purchasing cooperatives. We support the Fair Tax 
model because it promotes fairness and simplicity, improves the 
competitiveness of American businesses, and will increase the 
standard of living for the American people.
    The Fair Tax plan as introduced in HR2525 (Linder, (R-GA) 
and Peterson, D-MN) would repeal the federal personal income, 
corporate income, estate, gift, capital gains, self-employment, 
payroll, social security and Medicare taxes and replace them 
with a 23% sales tax on all new goods and services. This tax 
would be collected at the point of final purchase for 
consumption. Every taxpayer will be subject tot he same tax 
rate with no exceptions and no exclusions. Since the Internal 
Revenue Service would be abolished under the Fair Tax plan, the 
23% rate is intended to raise the same amount of federal funds 
as raised by the current federal tax system. In addition, the 
rate is calculated to pay for a universal rebate for essential 
goods and services and pay for a fee to retailers and state 
governments collecting the tax.
    The universal rebate to all registered in the Social 
Security system would replace, in effect, the exclusions on 
clothing and food, for example, that states make for their 
sales taxes. The universal rebate is proposed to be calculated 
as the sales tax rate times the poverty level income adopted by 
the government for different family sizes.
    Proceeds from the Fair Tax would become the primary general 
revenue source for the United States government. Social 
Security and Medicare would be funded from this revenue stream. 
The bill as proposed is estimated to be revenue-neutral for its 
first full year in effect. The new tax system will then go into 
effect one calendar year after the repeal amendment is 
ratified, with a transition phase beginning with the 
ratification of the amendment.
    The COSE Board of Directors endorsed the Fair Tax on 
October 12, 1999 (see attached Resolution). Our members, 
primarily entrepreneurs and business owners, agreed that the 
current system cannot be reformed. It must be replaced. COSE 
believes HR 2525 is a positive non-partisan proposal that will 
fix the current system by taxing citizen on what they spend, 
not what they earn.
    Thus, the time for change has come. Even former IRS 
Commissioner Shirley Peterson acknowledged that the current tax 
system should be changed. Head of the IRS in 1992, Commissioner 
Peterson noted that ``we have reached the point where further 
patchwork will only compound the problem. It is time to repeal 
the Internal Revenue Code and start over.''
    COSE believes there are valuable member benefits to the 
adoption of the Fair Tax. Employees will be able to take home 
their entire paycheck. Businesses will not have to pay capital 
gains, payroll, income taxes or many other taxes which hurt 
business growth. The elimination of the estate tax burden will 
help family businesses grow. Finally, more capital will be 
available to business owners since investment will not be 
taxed.
    On behalf of over 16,000 businesses in Ohio, we urge you to 
support the Fair Tax proposal. COSE believes it is the most 
sensible method to revise our current complex and ever-changing 
tax code. Thank you for your time and consideration.
    Attachment is being retained in the Committee files.
      

                                


Statement of Herman Cain, Godfather's Pizza, Inc., Omaha, NE

    Thank you Mr. Chairman and members of the committee. I 
appreciate the opportunity to testify before your committee 
about fundamental tax reform. I am Chairman of Godfather's 
Pizza, Inc.
    The current tax system is broken and no amount of tinkering 
around the edges is going to fix it. It is too complicated. It 
is too unfair. It holds people down economically. It destroys 
hope and opportunity. It needs to be replaced.
    A replacement system should satisfy six principles. First, 
it should promote economic growth by reducing marginal tax 
rates and eliminating the tax bias against savings and 
investment. Second, it should promote fairness by having one 
tax rate and eliminating all loopholes, preferences and special 
deductions, credits and exclusions. Third, it should be simple 
and understandable. Fourth, it should be neutral rather than 
allowing the government to manipulate and micromanage our 
economy by favoring some at the expense of others. Fifth, it 
should be visible so people understand their actual tax burden 
and so it clearly conveys the true cost of government. Sixth, 
it should be stable rather than changing every year or two so 
people can plan and so the system remains simple and 
understandable.
    In my view, there is more than one plan that would satisfy 
these principles to varying degrees. There is more than one way 
to vastly improve over the current tax system. One proposal 
that would be highly constructive is the flat tax. It would 
improve the tax system in all six areas. I, however, have 
concluded that the FairTax, introduced on a bi-partisan basis 
by Reps. Linder and Peterson as H.R. 2525, meets the six 
principles that I outlined.
    The FairTax would repeal individual income taxes, corporate 
income taxes and the estate and gift tax. It is the only 
proposal to repeal all payroll taxes (including Social 
Security, Medicare and self-employment taxes). These taxes are 
a regressive tax on jobs and upward mobility and it is time to 
address them. The FairTax would replace these taxes with a 23 
percent national retail sales tax on all goods and services 
sold to consumers.
    Individuals would no longer file tax returns. April 15th 
would be just another day. Businesses would collect and remit 
the sales tax. In addition, the FairTax would provide every 
household in America with a rebate of sales tax paid on 
necessities.

The FairTax would encourage Economic Growth

    A national retail sales tax would significantly enhance 
economic performance by improving the incentives for work and 
entrepreneurial activity and by raising the marginal return to 
saving and investment. Entrepreneurs and small business owners 
would be given greater access to capital, the life blood of a 
free economy. Investment would rise, the capital stock would 
grow, productivity would increase and the output of goods and 
services would expand. The economy would create more and better 
paying jobs for American workers and take-home pay would 
increase considerably.
    Although the magnitude of the economic growth generated by 
a flat rate, neutral tax system causes lively debate among 
economists, virtually all agree that the large marginal tax 
rate reductions in the FairTax combined with neutral taxation 
of savings and investment, will have powerful positive effects 
on the economy.

The FairTax would be Fair

    The FairTax would provide every household in America with a 
rebate of sales tax paid on necessities. Thus, the FairTax is 
progressive and every family is protected from tax on essential 
goods and services. Because of the rebate, those below the 
poverty line would have negative effective tax rates and lower 
middle income families would enjoy low effective tax rates.
    The burden of paying the FairTax is fairly distributed. It 
is, in fact, much more fairly distributed than the income tax. 
Wealthy people spend more money than other individuals. The 
FairTax will tax them on their purchases and as a result, they 
pay more in taxes. If, however, they use their money to build 
job creating factories or stores, or to finance research and 
development to create new products, (all of which help improve 
the standard of living of others), then those activities will 
not be taxed. The FairTax is premised on the notion that it is 
fairer to tax individuals when they consume for themselves 
above the essentials of life, rather than when they invest in 
others or contribute to society.
    The FairTax in effect gives a supercharged charitable 
contribution deduction because people can give to their 
favorite charity free of any income tax, payroll tax or sales 
tax. The charitable deduction today allows people to make their 
contributions with pre income tax dollars (but after payroll 
tax dollars). For the three-quarters of Americans that do not 
itemize, most must today earn $155 to give $100 to their 
favorite charity or to their church.\1\ Under the FairTax, they 
must earn only $100 to give $100 since under the FairTax what 
you earn is what you keep and charitable contributions are not 
taxed.
---------------------------------------------------------------------------
    \1\ $155.40 less 7.65 percent in employee Social Security ($11.89) 
and Medicare payroll taxes less 28 percent in federal income taxes 
($43.51) leaves $10,000.
---------------------------------------------------------------------------
    Education is one of the keys (along with savings and hard 
work) to an improved standard of living. That certainly was 
true in my case. The FairTax is education friendly and is 
dramatically more supportive of education than current law. The 
FairTax embodies the principle that investments in people 
(human capital) and investments in things (physical capital) 
should be treated comparably. The current tax system, in stark 
contrast, treats education expenditures very unfavorably.
    Education is the best means for the vast majority of people 
to improve their economic position. It is the most reliable 
means that people have to invest in themselves and improve 
their earning potential. Yet the tax system today punishes 
people who invest in education, virtually doubling its cost. 
Only the FairTax would remove this impediment to upward 
mobility. No other tax reform plan would do so.\2\
---------------------------------------------------------------------------
    \2\ Neither the flat tax nor the USA Tax would remedy the current 
bias against education.
---------------------------------------------------------------------------
    Today, to pay $10,000 in college or private school tuition, 
a typical middle class American must earn $15,540 looking only 
at federal income taxes and the employee payroll tax.\3\ The 
amount one must earn to pay the $10,000 is really more like 
$20,120 once employer and state income taxes are taken into 
account.\4\
---------------------------------------------------------------------------
    \3\ $15,540 less 7.65 percent in employee Social Security ($1,189) 
and Medicare payroll taxes less 28 percent in federal income taxes 
($4,351) leaves $10,000.
    \4\ Economists generally agree that the employer share of payroll 
taxes is borne by the employee in the form of lower wages. This figure 
assumes that employees bear the burden of the employer payroll tax and 
that they are in a seven percent state and local income tax bracket. 
$20,120 less $5,634 in income tax (28 percent), $3079 in payroll taxes 
(15.3 percent) and $1,408 in state and local income taxes (7 percent) 
leaves $10,000.
---------------------------------------------------------------------------
    The FairTax does not tax education expenditures. Education 
can be paid for with pre-tax dollars. This is the equivalent of 
making educational expense deductible against both the income 
tax and payroll taxes today. Thus, under the FairTax, a family 
will need to earn $10,000 to pay $10,000 in tuition, making 
education much more affordable (not considering state income 
taxes on education). The FairTax makes education about half as 
expensive to American families compared to today.
    The FairTax would improve upward mobility but no longer 
punishing work, savings, investment or education. It would 
better enable people to improve their lives. It would no longer 
hold people back.

The FairTax would be Simple

    The FairTax is a simple tax. Individuals who are not in 
business would have absolutely no compliance burden, nor would 
they be subject to the discretionary interpretation of the 
current convoluted tax code. As for businesses, it puts much 
fewer administrative burdens on businesses. In fact, filling 
out a FairTax return is comparable to filling out line one 
(gross revenue) of an income tax return. There would be no more 
alternative minimum tax, no more depreciation schedules, no 
more complex employee benefit rules, no more complex qualified 
account and pension rules, no more complex income sourcing and 
expense allocation rules, no more foreign tax credit, no more 
complex rules governing corporate acquisitions, divisions and 
other reorganizations, no more uniform capitalization 
requirements, no more complex tax inventory accounting rules, 
no more income and payroll tax withholding and the list goes 
on. Businesses would simply need to keep track of how much they 
sold to consumers.
    Compliance costs will, therefore, fall under the FairTax. 
Today, according to the Tax Foundation, we spend about $250 
billion each year filling out forms, hiring tax lawyers, 
accountants, benefits consultants, collecting information 
needed only for tax purposes and the like. These unnecessary 
costs amount to about $850 for every man, woman and child in 
America. To the extent these costs are incurred by businesses, 
they must be recovered and are embedded in the cost of 
everything that we buy. The money we spend on unnecessary 
compliance costs is money we might as well burn for all of the 
good it does us. The Tax Foundation has estimated that 
compliance costs would drop by about 90 percent under a 
national sales tax.

The FairTax would be Neutral

    Under the FairTax all consumption would be treated equally. 
The tax code punishes those that save and rewards consumption. 
Under the FairTax, no longer would the tax system be in the 
businesses of picking winners and losers. The tax code would be 
neutral in the choice between savings and consumption, neutral 
between types of savings and investment and neutral between 
types of consumption.

The FairTax would be Visible

    The FairTax is highly visible, and because there is only 
one tax rate Congress would be raising the rate on all 
taxpayers at the same time. Moreover, all citizens would be 
subject to the tax increase, not just a targeted few. It will 
be much harder for Congress to adopt the typical divide-and-
conquer, hide-and-disguise tax increase strategy it uses today. 
The FairTax would explicitly state the contribution to the 
Federal government each and every time a good or service is 
purchased.

The FairTax would be Stable

    The FairTax would be more stable than the present system 
for two reasons. First, because it is so simple and 
transparent, it would not invite tinkering in the way that the 
current system with its thousands of pages of code and 
regulations does. People will resist attempts to make it more 
complex and attempts to favor special interests because they 
will understand what is going on. Second, taxing consumption is 
a more stable source of revenue than taxing income. There are 
fewer ups and downs in the consumption base.
    A recent study showed that for the years 1959 to 1995, the 
FairTax base was less variable than the income tax base. Why? 
When times are unusually good, people will usually save a 
little more. People tend to smooth out their consumption over 
their lifetime. They borrow when young, save in middle age and 
spend more than their income in retirement.

Impact on Restaurants and Retailers

    I would like to discuss briefly the impact of the FairTax 
on my industry, restaurants in particular and retailers in 
general. The FairTax could have a positive impact on these 
industries.
    Like other firms, retailers will enjoy a zero corporate tax 
rate and their shareholders will not be taxed on dividends 
received from the retailer or capital gains on their investment 
in the retailer. Compliance costs could be lower. Moreover, 
over time, most states will conform their sales taxes to the 
federal sales tax, reducing the costs of complying with 
multiple rules in each state and their political subdivisions.
    If people are willing and able to purchase more goods and 
services in a healthy economy, then they will spend more money 
at retailers and eat out more. There is nothing that hurts 
restaurants more than a slow economy and nothing that helps 
them more than a good economy. In this sense, the FairTax could 
help restaurants and retailers.
    Consumption is taxed once under both an income tax and a 
national sales tax. Consumption purchases must be made from 
after-income-tax and after-payroll-tax dollars today. The 
primary difference between a sales tax and an income tax is 
that the income tax double or triple or quadruple taxes on 
savings. Consumers will see their paychecks increase by nearly 
two trillion dollars. Since the FairTax is not a tax increase 
but is revenue neutral, the repeal of the income and payroll 
taxes will provide consumers with the money necessary to pay 
for the sales tax.
    Instead of having to comply with the complexities of the 
income tax, payroll tax, and various other taxes, there will be 
one sales tax on all goods and services. The firm will simply 
need to calculate on a monthly basis its total retail sales. 
Retailers will receive an administration fee for complying with 
the sales tax. The fee is equal to < of one percent of the 
revenues collected and remitted.
    In summary, this is what the Fair Tax could mean for 
retailers:
    No more uniform inventory capitalization requirements;
    No more complex rules governing employee benefits and 
retirement plans;
    No more tax depreciation schedules;
    No more complex tax rules governing mergers, acquisitions 
and spin-offs;
    No more international tax provisions;
    No more income tax or payroll tax withholding;
    No more employer payroll tax; and
    No more corporate tax.
    I would also point out that restaurants in particular have 
grave concerns that any national sales tax would treat 
restaurant food differently from food purchased at a grocery 
store. Food consumed away from home is no longer a luxury, it 
is an essential part of the American lifestyle. The FairTax 
would not discriminate between the two.

Conclusion

    People want to be able to dream and to pursue their dreams. 
As Dr. Benjamin E. Mays, late President Emeritus of Morehouse 
College said, ``It isn't a calamity to die with dreams 
unfulfilled but it is a calamity not to dream.'' The current 
tax system not only destroys the ability of people to achieve 
their dreams, it causes many people to give up dreaming 
altogether.
    We need a better tax system--a tax system more appropriate 
for a free society. The current tax code can not be reformed to 
achieve the stated objectives, it MUST be replaced. Please use 
the power of the Congress to correct a tax code that has simply 
gotten out of control and taken away people's freedom.

                                


STATEMENT OF HON. RALPH M. HALL, A REPRESENTATIVE IN CONGRESS FROM THE 
STATE OF TEXAS

    Thank you for allowing me to submit my testimony to the 
Committee on Ways and Means on the important subject of 
reforming our nation's tax system. I am a cosponsor of H.R. 
2525, the FairTax Act of 1999, legislation introduced by our 
colleagues, John Linder and Collin Peterson.
    H.R. 2525 would repeal the federal income tax in its 
entirety, including all individual, corporate, payroll taxes, 
self-employment taxes, capital gains, gift and estate taxes. It 
would impose a revenue neutral national sales tax on all new 
goods and services at the point of final consumption. Most 
importantly, the FairTax would provide for a rebate in an 
amount equal to the sales tax on essential goods and services. 
No American would pay taxes on their purchase of these 
necessities.
    Mr. Chairman, I support H.R. 2525 because it is fair to all 
Americans, it eliminates the complexity of our current system, 
it encourages savings and investment, and it is a much more 
efficient way to raise federal revenues than the current 
system.
    Under the FairTax, every taxpayer starts out on a level 
playing field. There are no advantages to be gained by gaming 
the system. Those who profit from the current complexities in 
our tax code by sheltering income will no longer have an unfair 
advantage. Essentially, all taxpayers will make their own 
decisions about how much in taxes they will pay, in that they 
are only taxed when they purchase a product.
    The FairTax would help improve the economic security--and 
thus the standard of living--for most Americans because it 
rewards savings and investment. Today, our country has one of 
the lowest rates of savings in the world. Under H.R. 2525, our 
rate of savings should dramatically improve because the money 
Americans choose to save or invest will no longer be subject to 
any tax. This economic incentive to save should result in more 
taxpayers saving and investing in our economy. Additionally, 
lower income families also will benefit because they will be 
able to keep all of their paycheck, without any costly tax 
deductions.
    Finally, Mr. Chairman, the FairTax is a tax that every 
American can easily understand. It eliminates the enormous 
complexity that is inherent in our current tax system while 
providing a stable and efficient means to raise the necessary 
revenues to fund federal programs. And most importantly, 
because it is so understandable, H.R. 2525 will help restore 
integrity to our country's tax system.
    I urge this committee not only to review the FairTax and 
other proposals that will be discussed during these hearings, 
but also to act to change forever a system that is overly 
burdensome, impossibly complex and inherently unfair. In short, 
our current system does not work for the average taxpayer. Mr. 
Chairman, the hearings this week are critical if we as policy 
makers are serious about restoring confidence in the federal 
tax system. I welcome this debate of the various proposals to 
reform our present system, and I thank you for holding these 
hearings.

                                


STATEMENT OF JOSPEH M. KAHN, STANFORD UNIVERSITY, PALO ALTO, CA

    Thank you for the opportunity to contribute to these 
hearings on replacing the income tax. I am providing this 
statement on behalf of the Stanford University Decisions and 
Ethics Center. From 1996 to 1997, I had the privilege of 
coordinating a team of economic researchers within the 
Decisions and Ethics Center analyzing the impact on households 
of a change from the current income tax regime to the National 
Retail Sales Tax (NRST) proposed by the group Americans for 
Fair Taxation. This proposal is now embodied in H.R. 2525.
    Herein, I present the main findings of our study. The study 
was based on the 1996 income tax code, and assumed that the tax 
regime change would take place in 1998. Though the income tax 
code continues to change each year and the proposed date of 
changeover to the NRST remains in the future, I would not 
expect any major changes in the study's general conclusions.

1. Summary of Main Findings

    The Decisions and Ethics Center at Stanford University 
investigated the impact on households of a change from the 
current tax regime to the national retail sales tax (NRST) 
proposed by Americans for Fair Taxation. Under this proposal, 
all federal income and payroll taxes would be repealed, federal 
revenues would be replaced by the NRST at a (tax-inclusive) 
rate of 23%, and all families would be granted a rebate for the 
amount of taxes paid at the federal poverty line. Our study 
focused on individual families over their remaining lifetimes 
rather than statistical aggregates in a single year. Our 
analysis yielded several major conclusions regarding the impact 
on families of a change to the NRST tax regime.
    The current tax code is complex and there is probably no 
change which can guarantee that everyone would be better off. 
However, we find that most families would enjoy higher real 
lifetime consumption under the NRST than under the current 
regime. This is due to several factors, including lower tax 
burdens on many households, lower compliance costs, lower 
marginal tax rates, and increased economic growth and 
efficiency.
    Some wealthier seniors may experience a reduction in 
purchasing power under the NRST. However, their own financial 
well-being may not be the only issue they consider in their 
decision to support a particular tax regime. Other factors, 
such as the effect on their grandchildren or on the poor, may 
take precedence in their decision.
    This statement highlights the following points:
     Incentives to work and to save tend to be higher 
under the new regime--over 20% higher for many households. This 
is primarily due to the replacement of high marginal income tax 
rates with a flat rate on consumption.
     Middle-class families tend to be financially 
better off under the change. A combination of factors including 
lower compliance costs, lower marginal tax rates, and increased 
economic growth and efficiency contribute to improve their 
prospects.
     Existing homeowners tend to benefit under the 
change, despite the removal of the mortgage interest deduction. 
This is because existing owner-occupied homes would increase in 
value, while existing mortgages would become more affordable.
     Low-income families tend to be significantly 
better off financially under the change. They would effectively 
pay none of the national sales tax under the change because 
they would receive rebates which cover the amount of taxes paid 
at poverty level. In addition, any federal benefits they 
receive would be indexed to match possible increases in after-
tax consumer prices.
     Younger households tend to be financially better 
off after the change, benefiting from improved economic 
conditions over their entire careers.
     Middle-and lower-income seniors tend to do better 
financially under the change. Social security payments would be 
indexed to a tax-inclusive price index, holding recipients 
harmless against any changes in after-tax prices. Additionally, 
the NRST rebate would more than make up for any losses in 
after-tax purchasing power of pension benefits for these 
seniors.
     Some wealthier seniors would tend not to benefit 
from the redistribution of the tax burden. This is because 
wealthier seniors have a larger portion of financial assets 
whose after-tax purchasing power may decline under the new 
regime. However, for many seniors the removal of income taxes 
from asset earnings and retirement account disbursements, the 
exclusion of their existing homes from the NRST, and the repeal 
of the estate tax would more than make up for any initial loss 
in asset values.
     Considered over a lifetime, the progressivity of 
the NRST would be similar to that of the current income tax 
regime. The progressivity of the NRST would be achieved through 
use of a rebate and replacement of regressive payroll taxes.

2. Study Methodology

    Our goal was to translate the economic effects of a change 
in the tax regime into understandable impacts on individual 
households. Traditional methodologies, which examine 
statistical averages for a single year and aggregate very 
different households, lack vital data and often do not reveal 
important and key information.
    In our analysis, we focus on specific households, 
considering the impact of the actual tax code. Further, we 
examined households over their entire remaining lifetime rather 
than focusing on a single year. Examining a variety of family 
profiles, we develop critical insights into the effects of a 
change in the tax regime. We then varied individual household 
characteristics and economic assumptions to ensure that our 
conclusions are robust.
    Taxes affect the household either directly, or indirectly 
through the economy (see Figure 1 below). Direct taxation on 
the household includes individual income taxes (including the 
earned income tax credit), property taxes, and the employee 
portion of payroll taxes.
    Indirect taxes are collected from businesses (including 
corporate income taxes, the employer portion of the payroll 
tax, sales and service taxes, excise taxes, and corporate 
property taxes). Businesses serve as intermediaries between 
workers, investors, and consumers. So all indirect taxes and 
other costs on business are ultimately paid by households: 
through reduced wages and benefits, lower investment returns, 
and higher prices. Economists cannot agree about how the 
indirect tax burden is allocated among these three economic 
activities. However, it is certain that all indirect taxes and 
other costs are ultimately paid by households.
[GRAPHIC] [TIFF OMITTED] T1879.018

Figure 1. All Taxes Fall on Households

    In addition to the visible tax revenues collected by 
government, there are several effects of taxation which are 
hidden, or less visible. These include seigniorage (the 
inflation tax), compliance burden of the tax code, economic 
distortions, and slower economic growth.
    Our method accounted for the combination of direct, 
indirect, and hidden taxation in an integrated framework. 
Differences in direct taxes were computed by applying the tax 
code to a household's financial situation, directly affecting 
the funds available for investment and consumption. Changes in 
indirect and hidden taxes were distributed to household 
economic activities of work, investment, and consumption. The 
taxes' magnitude and incidence result in changes to the after-
tax market prices, wages and investment returns available to 
the household.
    Resulting changes in the household's annual finances lead 
to different levels of real consumption and investment, which 
carry through to affect the household's finances over its 
remaining lifetime. These changes are then integrated to 
produce a summary measure of the effect on a household's 
remaining real lifetime consumption.

3. Economic Assumptions

    We compared the effects on real lifetime consumption of 
replacing the 1996 Federal Income Tax code with the National 
Retail Sales Tax proposed by Americans for Fair Taxation (AFT). 
Throughout, we attempt to match AFT's proposed tax rate of 23% 
(tax-inclusive) \1\ on all final goods and services, to exclude 
from taxation any resale of existing consumer-owned housing, 
and to include a rebate to all families based on federal 
poverty levels for a given family size. We have also followed 
AFT's proposal that Social Security is indexed to a consumer 
price index which includes the NRST.\2\
---------------------------------------------------------------------------
    \1\ A tax-inclusive rate is used for easier comparison with the 
current income tax rates, which are for gross (tax-inclusive) income. A 
23% tax rate on gross sales corresponds to a 30% tax rate on net sales. 
The middle federal income tax bracket in 1996 was 31% of gross income, 
corresponding to a 45% tax rate on net income.
    \2\ In figure 2, the solid line represents Cleavers who have chosen 
never to purchase a home. Only Cleavers with combined average career 
income above about $40,000 per year are considered homeowners in this 
graph.
---------------------------------------------------------------------------
    We should note that we analyzed only law-abiding 
households, those attempting to comply with the actual tax 
code. Our conclusions would not remain valid for households 
engaged in criminal enterprises, or otherwise able to evade 
their current income taxes.
    Our base case economic assumptions include a 3% inflation 
rate under the status quo (with nominal tax brackets indexed 
for inflation), incidence of direct taxes entirely on the 
household, employer payroll taxes incident on workers, 
corporate income taxes incident on investors, an NRST 
distributed two-thirds to consumers and one-third to factors of 
production (divided between workers and investors by their 
value share in the economy), a 2% increase in economic 
efficiency (real purchasing power) from lower compliance costs 
(i.e., significantly less resources used to deal with filing 
complex income tax forms), a 1% increase in economic efficiency 
from other economic effects such as lower marginal tax rates, 
and a minor 0.05% increase in real wage growth under the NRST 
due to effects such as increased investment.
    We tested variations in these base case assumptions to 
ensure the robustness of our results. We found that perhaps the 
most significant change in the level of improvement for many 
families is if the replacement tax rate is changed. Replacing 
the current income tax with a consumption tax, one might expect 
at least the modest macro-economic improvements mentioned above 
at any revenue-neutral tax rate. However, at the time of this 
analysis there was some uncertainty as to the rate. A lower or 
higher tax rate would obviously lead to either a better or a 
more modest improvement (respectively) in most families' real 
life-time consumption than is calculated at 23%. For low-income 
families, any differences from the base case results tend to be 
small, as a proportionately-changed rebate makes up for any 
change in the NRST tax over the bulk of their expenditures. 
Differences would be more marked for middle and higher-income 
families, though the shape of graphs and general conclusions 
that we present would remain valid over a range of possible 
rates.

4. Effects on Typical Households

    We began our study with an analysis of the finances of a 
typical middle-class family--the ``Cleavers.'' The Cleavers are 
a married couple, aged 40. They own their home and are 
struggling to meet their mortgage payments while raising their 
two children (ages 10 and 11). Both parents are employed 
outside of the home. Some key financial information about the 
Cleavers is shown in Table 1 (below).

Table 1

    The Cleavers' 1998 Household Financial Snapshot (in 1996 dollars)
------------------------------------------------------------------------
            Budget Item                             Amount
------------------------------------------------------------------------
  Household Gross Wages                              $46,439
Taxable Investment Earnings                             $615
Visible Income, Employee Payroll,                  ($10,686)
 and Property Tax Burden
      Mortgage Payments                             ($8,385)
                       Charitable Contributions       ($471)
       Other Household Consumption                 ($24,453)
 (excluding Value of Employer-
        Provided Health Care Plan)
Remaining Income for Savings                          $3,060
Value of Employer-Provided Health                     $4,800
                        Care Plan
              Employer Contribution to Tax-             $929
 Deferred Retirement Savings Plan
------------------------------------------------------------------------

    In Figure 2 (below), we find that families with the 
Cleavers' household profile would be financially better off 
under the NRST regime. Even over a wide range of incomes from 
poverty level, about $16,000 per year for the Cleavers' family 
of four, to the higher income levels families with this profile 
would be better off than under the current income tax regime.
    A combination of factors including lower tax burdens, lower 
compliance costs, lower marginal tax rates, and increased 
economic growth and efficiency would allow middle-class 
families like the Cleavers to enjoy higher real lifetime 
consumption under the NRST than under the federal income tax.

Effect on Homeowners

    One issue of concern to many middle-class households is the 
effect of the change on the value of their homes. Because the 
sales tax would apply only to new homes, the market value of 
owner-occupied homes would increase under the new tax regime 
(to the point where newly constructed homes would not be 
disadvantaged from the viewpoint of prospective home buyers). 
Also, homeowners with fixed-rate mortgages would find it easier 
to make their mortgage payments under the NRST regime. This is 
because if enough of the NRST falls on consumers, after-tax 
consumer prices would rise to some extent. So mortgages could 
be paid off with less valuable dollars.
[GRAPHIC] [TIFF OMITTED] T1879.019

Figure 2. Lifetime Improvement under NRST for the Cleavers*

    It is also possible that mortgage interest rates would 
decline, which would further benefit existing and prospective 
homeowners (though this effect is not included in our base case 
analysis). Since many middle-aged families already own their 
homes and tend to have substantial outstanding fixed-rate 
mortgages, they would be relatively better off under the NRST 
regime. Figure 2 (above) illustrates the relative improvement 
of current homeowners.
    Variations with Income

    Low-income Households

    A critical factor in examining low-income households is the 
status and amount of government subsidies (including transfer 
payments) that they receive. These include Supplemental 
Security Income and food stamps.
    The working poor not receiving government subsidies tend to 
be better off under the NRST regime. This enhancement of their 
financial condition is due to the rebate system, which 
effectively exempts the working poor from paying any of the 
NRST. The repeal of the payroll tax allows this group to take 
home their entire paycheck and avoid the substantial payroll 
taxes (less earned income tax credit) that they face under the 
current federal tax system. They are also relieved of the 
indirect effects of replaced corporate income and payroll taxes 
that currently decrease their wages and increase the prices 
they pay as consumers. Figure 3 (below) illustrates the 
improvement that would be experienced by low-income families 
with other characteristics similar to those of the Cleavers.

[GRAPHIC] [TIFF OMITTED] T1879.020

Figure 3. Lifetime Improvement under NRST for Low-Income Cleavers

    Currently, most government transfer payments (such as food 
stamps, Supplementary Security Income, and Medicaid) are 
indexed for inflation. It is possible that these transfer 
payments would be indexed to an after-tax consumer price 
indicator (CPI) that includes the NRST. If so, families would 
receive both indexed transfer payments and the NRST rebate.
    Figure 4 (below) illustrates the improvement under the NRST 
for the ``Lowes,'' a low-income family with four children. The 
Lowe household receives enough government subsidies each year 
to bring them to 100% of poverty line consumption (about 
$22,000 annually for the Lowe family of six). A combination of 
rebate and full indexing of benefits would lead to substantial 
financial improvement for low-income families like the Lowes. 
In effect, indexing benefits to a CPI that includes the NRST 
would over-compensate for the change, as the rebate alone 
already reimburses the entire tax. Even if their subsidies were 
indexed to a CPI that only partially or not at all included the 
national retail sales tax, the rebate effectively exempts these 
families from the NRST, ensuring that they would still be 
roughly even or financially better off. Under welfare reform 
that occurred after this study took place, we expect that those 
families with household gross wages averaging in the lowest 
range of figure 4 over their entire remaining careers would be 
unusual cases. 

[GRAPHIC] [TIFF OMITTED] T1879.021

Figure 4. Lifetime Improvement under NRST for a Low-Income Family 
Receiving Government Subsidies

    High-Income Households
    Working households with higher incomes would no longer be 
subject to progressively higher marginal income tax rates, and 
tend to improve under the NRST regime. The top end of the 
Cleavers' graph in Figure 2 illustrates their improvement.

6. Variations with Age

    We found that age is an important factor in determining the 
effect of the NRST on households.
    Young Households
    Younger households, as illustrated by the ``Juniors,'' tend 
to be financially better off after the change. The Juniors are 
a married couple, aged 25. They both work, and hope to buy a 
home and start a family someday. They are just now beginning 
their careers, and would experience most of their working lives 
under the new regime.
    A combination of factors including lower compliance costs, 
lower marginal tax rates, and increased economic growth and 
efficiency would allow younger families like the Juniors to 
enjoy higher real lifetime consumption under the NRST than 
under the federal income and payroll tax regime. Figure 5 
(below) illustrates the improvement in lifetime consumption for 
the Juniors over a wide range of income levels.
[GRAPHIC] [TIFF OMITTED] T1879.022

    Figure 5. Lifetime Improvement under NRST for a Young 
Family
    Elderly Households
    The ``Seniors'' represent a typical retired couple. We find 
that the impact of the NRST depends critically on the amount 
and composition of their savings. Because the sales tax applies 
only to new homes, the value of the elderly's home equity tends 
to increase under the new tax regime. Also, portfolios with a 
higher proportion of their wealth in tax-deferred status (such 
as in IRAs and ``401(k)'' plans) and in unrealized capital 
gains would do relatively better under the NRST, since these 
holdings would no longer be subject to federal income tax.
    Some wealthier seniors would tend not to benefit from the 
redistribution of the tax burden. This is because wealthier 
seniors have a larger portion of financial assets whose after-
tax purchasing power may decline under the new regime.
    However, for many seniors the removal of income taxes on 
asset earnings and retirement account disbursements, and the 
exclusion of their existing homes from the NRST, along with the 
repeal of the estate tax more than make up for any initial loss 
in asset values. Most elderly couples with moderate or limited 
financial resources would be significantly better off under the 
NRST (see figure 6). The rebate in place would already cover 
all taxes on essentials (including some formerly hidden-taxes 
built-in to today's prices). Provisions to fully index Social 
Security for any increase in after-tax consumer prices would 
then more than compensate for any loss on these families' 
modest savings. And for those households with estates over 
$1,200,000, the removal of estate taxes could more than make up 
for any loss of the estate's purchasing power.
    Figure 6 shows these effects on the Seniors for a wide 
range of net worth (including home equity and private pension 
funds). As a point of reference for this figure, the median 
family net worth for a household whose head was between 65 and 
74 years of age in 1992 was listed as $103,600 (Federal Reserve 
Bulletin , October 1994). This suggests that the majority of 
seniors are described in the lower range of wealth in figure 6, 
and would experience considerable improvement under the NRST.
[GRAPHIC] [TIFF OMITTED] T1879.023

Figure 6. Lifetime Effect of NRST for the Seniors under a Range of 
Financial Profiles at Retirement

    While some wealthier Seniors may experience a reduction in 
purchasing power, their own financial well-being might not be 
the only issue they consider in their decision to support a 
particular tax regime. Factors such as the effect on their 
grandchildren or on the poor may take precedence in their 
decision.

7. Effects on Marginal Tax Rates

    Under the NRST regime, marginal tax rates on work and 
savings would be substantially lower for many households, 
increasing their incentives to work and save. This is primarily 
due to the replacement of high marginal income tax rates with a 
low flat rate on consumption.
    We measured the incentives to work, computing the 
additional (after-tax) real goods and services that a household 
could consume by working additional hours. For example, suppose 
that the Cleavers are contemplating working an extra hour a 
year for each year over the course of their remaining careers. 
And suppose that after all taxes under the existing tax regime, 
they could purchase a total of 4 pairs of shoes with their 
additional pay. If, under the NRST, they could instead purchase 
5 pairs of shoes for that same extra work, then their marginal 
incentives will have increased by 25%.
    Figure 7 (below) shows that although the marginal 
incentives may decrease for some low-income households, a broad 
range of households experience significantly increased 
incentives. Incentives to work rise by over 20% for many 
families, depending on their earnings. On an economy-wide 
level, these improved incentives would lead to higher economic 
growth and efficiency. 

[GRAPHIC] [TIFF OMITTED] T1879.024

Figure 7. Effect on Cleavers' Marginal Incentives to Work

8. Regressivity Analysis

    There is a common perception that consumption taxes are 
regressive, which would be supported in a myopic single-year 
analysis of the tax system.
    The argument is that:
    In a given year wealthy people save a higher fraction of 
their income than poor people, so the wealthy would pay a lower 
fraction of their income in consumption taxes.
    However, a lifetime analysis reveals that most or all of 
the saved income of a household is eventually consumed in 
retirement or by the heirs, at which time it is subject to the 
consumption tax. So over a lifetime, a consumption tax--without 
a rebate--is roughly flat across income categories.
    Under the NRST, a consumption tax is combined with a rebate 
which refunds all taxes up to poverty-level consumption. This 
clearly makes the NRST a progressive tax.

9. Conclusions

    Because the combination of the current tax code and 
government subsidies is extremely complex, there is probably no 
change that can guarantee everyone to be better off. But under 
the National Retail Sales Tax proposed by Americans for Fair 
Taxation, several factors would allow most families to enjoy 
higher real lifetime consumption than under the current federal 
income and payroll tax regime.
    These factors include:
     a rebate which would keep the amount of taxes paid 
by most households similar to or lower than the current income 
tax regime, and would effectively exempt low-income households 
from the NRST,
     indexing of Social Security, which would 
effectively hold recipients harmless against possible after-tax 
price increases,
     lower compliance costs,
     lower marginal tax rates, and
     increased economic growth and efficiency
    Some wealthier seniors would tend not to benefit from the 
redistribution of the tax burden. However, their own financial 
well-being might not be the only issue that wealthier seniors 
consider in their decision to support a particular tax regime. 
Other factors, such as the effect on their grandchildren or on 
the poor, may take precedence in their decision.
    I would like to again thank the committee for the 
opportunity to contribute this testimony. Additionally, I 
should like to recognize a number of individuals that were 
helpful in this effort. This research has benefited from 
discussions with William W. Beach, Dale W. Jorgenson, James M. 
Poterba, and Gary Robbins. David R. Burton and Laura D. Dale 
have contributed a number of questions and valuable 
discussions. I am grateful for the dedicated assistance of 
Roberto Szechtman and Ellynne T. Dec, along with Decisions and 
Ethics Center research assistants J. Eric Bickel, William F. 
Carone, Alexis G. Collomb, Jeffrey D. Cornwell, George K. 
Ferguson, Kenneth B. Malpass, and Marcia F. Tsugawa. Our 
lifetime model and methodology are an extension of work by 
Stephen M. Malinak, Frederick V. Giarrusso, and Jeffrey K. 
Belkora, along with suggested improvements from Paul B. Skov, 
James M. Knappenberger, Derek D. Ayers, and Michael M. Reeds. 
Special thanks to Elizabeth C. Brierly for editing large 
portions of this report. Research guidance was provided by 
Frederick V. Giarrusso and Center Director Ronald A. Howard. 
The Decisions and Ethics Center gratefully acknowledges help 
from those volunteers, and a gift from the National Tax 
Research Committee that enabled this research effort.
            Sincerely,
                                                     Joseph M. Kahn

                                

Statement of Bert Loftman, M.D., Atlanta, GA

    Mr. Chairman and Members of the Ways and Means Committee:
    My name is Bert Loftman, and I am a physician based in 
Atlanta, Georgia. I
    greatly appreciate the opportunity to present testimony 
regarding the impact of the FairTax on the US health care 
delivery system. I am privileged to be the only witness 
testifying on this subject. I can assure you that I speak for a 
great many physicians with whom I have discussed the FairTax. I 
am hopeful that, at some point, there will be formal resolution 
by the physician groups. Attached to this written testimony is 
a paper of mine from 1994 titled, ``Health Care Reform, An 
Historic Perspective.'' This will supplement what I say here.
    During the past few years, Congress has wrestled with the 
many problems inherent with our current health care system, and 
for good reason. The costs of health care delivery have 
escalated exponentially. While it is often argued we have the 
best heath care in the world, we have a selective system. Too 
many Americans are without health care.
    What are the root causes of this and how do you, as 
policymakers, address these causes? I suggest that one of the 
key causes is our tax system that separates the health care 
recipient from the real costs of health care. In doing so, we 
hold health care up as one of the few major U.S. industries 
that is not responsible to consumers. To turn a phrase, our 
health care system is in the intensive care unit.
    What are the problems? To begin with, this system has 
driven up the costs of health care. In 1965,health care was 5 
percent of the U.S. economy. Now it has risen to over 15 
percent. There are rising numbers of uninsured. These number 
about 40 million or 15 percent of the population. For them, 
individual health insurance is very expensive. They must 
compete with the third party payer systems of employer-based 
health insurance and Medicare. In the private and governmental 
sectors, most people have employer-based-insurance. They face 
the portability problem, where they must change insurance plans 
when they change jobs. They also face the job lock problem 
where they remain in unsatisfactory jobs because of the health 
insurance coverage in their current jobs.
    A few years ago, the third-party payers paid the providers 
of health care with traditional fee for service or indemnity 
insurance. Now they pay with a system known as managed care. 
With this system, the insurance companies make what they 
consider the appropriate health care choices. The problem is 
that many patients would rather choose the quality of their own 
health care and this dissatisfaction has led to political 
unrest. Many health care reform discussions center about moving 
away from employer-paid health care.
    One way is a single payer system; but those countries with 
socialized medicine are experiencing many difficulties. To 
date, this has not been a popular solution in the US. Another 
way is to use the income tax codes to offset the employer-based 
health care exclusion that began during World War II. I refer 
you to a paper that I wrote a few years back on the history of 
how this occurred. These tax code changes include tax equity 
where the income tax exclusion of employer-paid health care are 
removed or individually paid health care receives the same 
treatment. Another innovative way is medical savings accounts 
that Congress legislated with the Kennedy-Kassebaum Bill. These 
have not proved as popular as the proponents predicted. A major 
reason was the many restrictions that were placed upon them.
    Enter the FairTax into this debate. It is true that The 
Fair Tax would greatly impact the U.S. health care system. 
However, first we should consider what it would not do. The 
Fair Tax is designed to be revenue neutral and would make no 
changes in Medicare or Medicaid. It would leave intact the 
federal safety net for the elderly and the indigent. Most 
importantly, I believe, The Fair Tax would remove the income 
tax exclusion that employer-based health care now enjoys. This 
would not require employers to drop their benefit of health 
care coverage. However, the incentive for health care coverage 
would no longer be exclusively employer-based.
    What would the FairTax do? More people would likely begin 
to choose individually-based health care coverage. They would 
probably choose non-cancelable policies. This would help bring 
down the numbers of uninsured as people retained their 
individually owned health insurance policies, even when they 
were sick. As people chose individually owned health insurance, 
the insurance industry would begin to respond with more 
individually based insurance policies. People would likely 
begin to look more favorably at low cost non-managed care 
insurance policies. In other words, they would begin to favor 
catastrophic insurance policies.
    Of course, there is tax-free savings for health care and 
other wants. When people have savings, they can begin to see 
the advantages of low cost catastrophic coverage. This would 
begin to connect people to the cost of their own health care 
and this would begin to bring the cost of health care down. 
Thus the Fair Tax would not only move us away from employer-
based healthcare with its portability and job-lock problems; 
the Fair Tax would likely also lower the cost of health care 
and bring down the number of uninsured. Regarding managed care, 
individuals would own their own policies and have a choice of 
whether they had prepaid managed care or catastrophic indemnity 
insurance coverage.
    Congress also wrestles with Medicare and its problem of 
escalating costs.When Congress legislates to control these 
costs, it fosters patient and physician unrest. This is because 
when Medicare makes the choices, it is a form of rationing. 
Consider that in 1965 when Congress enacted Medicare, many 
people retired without health care coverage because most was 
employer-based. They also retired without adequate savings 
because the income tax is anti-savings. Under the FairTax, 
people would begin to retire with individually owned 
catastrophic health care coverage. Perhaps with the Fair Tax, 
many people would choose not to change their health care 
coverage when they retire.
    The Fair Tax would not solve all the problems of the U.S. 
healthcare delivery system, and I don't want to leave this 
impression. Many people would still choose not to obtain health 
care coverage. However, we must compare the FairTax to the 
present system and not to an ideal. We must only ask if it 
helps us get to the idea. In reality, there would likely be 
less uninsured than the current 40 million people without 
coverage. Many people would probably still prefer a corporate 
health care system that manages their care. If so, the Fair Tax 
does not discourage this.
    The FairTax would likely effect the US health care delivery 
system in a way that would lower costs, decrease the numbers of 
uninsured, help alleviate the portability problems, give 
patients choice and defuse the politics of our health care 
system.
    I would make a suggestion regarding professional or trade 
organization as the American Hospital Association, the American 
Medical Association, the American Nurses Association, the 
American Pharmaceutical Organization, etc. These organizations 
heavily lobby Congress but they have been silent on the impact 
of taxation on the health care delivery system. Congress should 
ask them to study this issue and poll their members so they can 
take a stand on tax reform as health care reform.
    A physician's first duty is to do no harm. I believe it is 
the job of Congress to do the same. Our current US health care 
system of employer-based health care does great harm. I hope 
that when you ponder HR 2525 with its Fair Tax and repeal of 
the 16th Amendment that you consider its favorable impact on 
the health care delivery system.
    Attachment is being retained in the Committee files.

                                


STATEMENT OF DANIEL J. MITCHELL, HERITAGE FOUNDATION

    I wish to thank the committee for the opportunity to 
testify. The views I express are my own and do not necessarily 
reflect those of The Heritage Foundation.
    Mr. Chairman and members of the committee, the current tax 
code of the United States is irreversibly broke and should be 
repealed. The tax laws undermine the country's prosperity by 
imposing needlessly harsh venalities on work, savings, and 
investment. Many taxpayers face confiscatory tax rates and 
often are forced to pay more than one layer of tax on their 
income, while the politically well-connected can take advantage 
of special deductions, credits, preferences, shelters, and 
loopholes to minimize their own tax liability. The result of 
this double standard is a tax system that not only penalizes 
productive behavior, but also violates the fundamental 
constitutional principle of equal treatment under the law.
    For both moral and economic reasons, the current code 
should be replaced by a single-rate, consumption-based tax. The 
good news is that there are two major plans that meet these 
criteria: the flat tax and the national retail sales tax. 
Replacing the current system with either--but not both--of 
these two taxes immediately would restore the principle of 
fairness to the tax system because both would treat all 
taxpayers equally. Both the flat tax and a national sales tax 
would replace today's discriminatory tax structure with a 
single low rate. In addition, either plan would eliminate the 
current tax code's bias against savings and investment and 
promote the kind of capital formation that America needs to 
boost workers' incomes and ensure long-term economic growth. In 
addition, because both tax reform proposals would be simple to 
administer, the ultimate result would be a dramatic downsizing 
of the Internal Revenue Service (IRS) bureaucracy and billions 
of dollars in compliance costs saved each year.
    How is it that these different types of taxes could produce 
such similar results? The answer lies in the fact that the flat 
taxed and sales tax are almost identical in purpose and 
principle. Both rest on the fundamentally should principle that 
all income should be taxes at one low rate and only one time 
(what is known as a ``consumption base''), and that the tax 
should be collected in the last intrusive way possible. The 
only significant difference between the two is the collection 
point. A flat tax is collected up front, imposing a single 
layer of tax on income when it is earned, and a sales tax 
imposes one layer of tax when the income is spent. In both 
cases, income is taxes, but only once and presumably at a very 
low rate.

    WHAT DO THE FLAT TAX AND A NATIONAL SALES TAX HAVE IN 
COMMON?

    Most taxpayers assume that the flat tax and a national 
sales tax are radically different ways to fund the federal 
government. Because one tax is collected from the paycheck and 
the other is collected at the cash register, this assumption is 
understandable. Yet by almost every standard, the flat tax and 
a national retail sales tax represent two sides of the same 
coin. The common features of the flat tax and national sales 
tax are:
     A single flat rate. Under both plans, income is 
taxed at one low rate. This would ensure that the government 
treated taxpayers equally and would address the problem of high 
marginal tax rates. The single low rate would promote faster 
economic growth by minimizing tax penalities on work, risk-
taking, and entrepreneurship.
     Adoption of the flat tax or a national sales tax 
also would end the discriminatory treatment caused by a tax 
code that grants preferences or imposes penalties on certain 
behaviors and activities. Either reform would change the code 
so that all taxpayers--and all income--are treated the same 
under the law.

    WHY THE FLAT TAX IS A CONSUMPTION TAX

     To many Americans, consumption taxes are those 
collected as the cash register--such as the state sales tax--or 
value-added taxes like those they might encounter on a trip to 
Europe. The national Retail Sales Tax, needless to say, is an 
example of a consumption-based tax. Yet it also is possible to 
collect a consumption tax through an income tax structure. This 
s why economists and public finance experts consider the flat 
tax a consumption tax. Why? Because, unlike the current tax 
code, a flat tax does not impose greater penalities on income 
that is saved and invested that on income that is consumed. A 
tax code that does not discriminate against savings and 
investment is considered a consumption-based tax system, 
regardless of whether taxes are collected at the paycheck or at 
the cash register. In this respect, the flat tax is a version 
of a consumption tax.

    WHY DOUBLE TAXATION IS DETRIMENTAL

    To understand double taxation, consider a taxpayer who has 
410 of disposable after-tax income. That taxpayer has a choice; 
either to spend the income immediately or to defer consumption 
by investing it. Consuming the money immediately yields $100 of 
benefit immediately, but investing it would yield a return that 
could allow the taxpayer to consumer, say, $115 a year from 
now. The decision to invest obviously varies according to 
individual preferences about the value of consumption today 
compared with consumption in the future, but let us assume a 
taxpayer would be willing to give up $100 of consumption today 
in exchange for $100 of consumption one year later. In this 
example, of course, the taxpayer will choose to invest. In 
addition to making the taxpayer better off in the future, this 
decision also has a desirable impact on the economy by 
increasing capital.
    Today's system of multiple taxation, however, undermines 
capital formation. If the government decides to tax the return 
earned on the $100 investment, the hypothetical taxpayer in the 
above example may wind up sacrificing $100 of consumption today 
to gain only $105 in after-tax consumption one year from now. 
Fewer individuals under this scenario would choose to invest, 
opting instead for immediate consumption and thereby depriving 
the economy of their capital. In addition, under today's 
system, taxpayers can look forward to paying two additional 
layers of tax on this $100 investment; capital gains and death 
taxes. Double taxation, therefore, significantly undermines 
savings,investment, and future economic growth, and--because 
every economic theory, even Marxism, acknowledges that capital 
formation is the key to faster growth and higher wages--is 
particularly self-destructive.

    WHAT ARE THE BENEFITS OF A SINGLE-RATE TAX SYSTEM?

     Fairness. The tax code is riddled with 
discrimination. They are right. The government either imposes 
tax penalities or grants tax preferences depending on the 
source, use, or level of income. All of these special 
provisions violate the principle that all citizens should be 
treated equally by the law. The flat tax and a sales tax would 
restore fairness in the system by ensuring that all taxpayers, 
all income, and all products are treated the same.
     Economic growth. Both the flat tax and a sales tax 
would minimize the tax rate imposed on productive behavior and 
eliminate the myriad forms of double taxation in the current 
code. Consequently, either one would boost the economy's 
potential growth rate and cause permanent increases in economic 
output. How much the economy would benefit is not easy to 
predict, but many economists project that, within 10 years, the 
economy would be 5 percent to 10 percent larger than it would 
be under the current tax structure.
     Higher incomes. A low tax rate increases the 
incentives to work and the desire to work longer hours. Tax 
reform also makes workers more productive because companies 
would be more willing to invest in upgrading their production 
capabilities,giving their employees better machinery, tools, 
equipment,and technology. As the attached chart illustrates, 
this capital-drive increase in productivity is tied closely to 
higher wages.
     Job creation. Tax reform also will make employees 
more valuable to business, thereby increasing wages for those 
already working and stimulating the creation of new jobs. The 
combination of lower taxes and faster growth will make it more 
profitable to hire certain workers particularly those with low 
skill levels who previously may have been considered 
unemployable.
     Increased wealth. The value of income-producing 
assets (everything from stocks and bonds to office buildings 
and pet stores) is determined by market expectations of future 
income discounted by inflation, risk, and taxes. Once a lower 
tax rate rate is put in place, whether through the flat tax or 
a national sales tax, and double taxation is eliminated, 
income-producing assets will become more valuable (that is, 
there will be an increase in the present value of the future 
after-tax income stream generated by those assets).
     Savings and investment. Tax reform to eliminate 
these penalties on capital formation would increase the 
incentives to save and invest. Moreover, a flat tax or sales 
tax would make the United States a magnet for capital from 
around the world.
     Lower interest rates. Tax reform will reduce 
interest rates between 25 percent and 35 percent, according to 
a study published by the Kansas City Federal Reserve Bank.
     Lower compliance costs. Because both the flat tax 
and a national sales tax would eliminate the bewildering 
complexity of the current system, tax reform would slash the 
$157 billion annual costs of complying with personal and 
corporate income taxes.
     Smaller IRS, more civil liberties. The current tax 
code gives the IRS sweeping, virtually unlimited power to 
monitor people's lives, track their assets, and review their 
expenditures. Although neither the flat tax nor a national 
sales tax can be expected to rid the United States of the IRS 
or eliminate every possible conflict with the government, the 
dramatic simplification that either reform would bring about 
would significantly reduce the size, scope, and power of the 
IRS bureaucracy.
     Less political corruption. The tax code today is 
the result of 97 years of special deals, loopholes, and 
preferences. Each one of these loopholes benefits a special 
inters. The flat tax or a national sales tax would remove from 
the tax system the corrupting process of exchanging loopholes 
for political support.
     No social engineering. One of the most attractive 
features of both the flat tax and a national sales tax is that 
politicians no longer would be able to use the tax code for 
purposes of social engineering. The flat tax would eliminate 
all the biases and preferences in the income tax, and a sales 
tax is designed so that all products and services would be 
taxes at exactly the same rate.

    RESPONDING TO THE CRITICS OF TAX REFORM

     Criticism: Implementing a national sales tax would 
create the risk that the United States might end up like 
Europe, with both income and consumption taxes.
     Response: Advocates of a national sales tax 
properly vow that complete and irreversible elimination of the 
income tax must occur before such a plan can be enacted. The 
only certain way to prevent future politicians from pulling a 
bait-and-switch on a trusting public, however, would be to 
amend the Constitution by repealing the 16th Amendment, which 
gives Congress the power to impose an income tax, and expressly 
forbidding direct taxes or income. This presumably would mean 
the abolition of Social Security and Medicare payroll taxes as 
well.
     Criticism: Neither the flat tax nor the sales tax 
will capture the entire underground economy.
     Response: This is true but meaningless. A drug 
dealer is not going to report his income under the flat tax and 
certainly will not collect taxes on the ``products'' he sells 
under a national sales tax system. But the current system does 
not capture this money either, so this argument hardly serves 
as a reason to reject ax reform. At the very least, the flat 
tax and a national sales tax would reduce the level of tax 
evasion by people who are trying to protect their income from 
unfair and excessive taxation today.

    CONCLUSION

    The current U.S. tax system is an unmitigated nature. On 
both economic and moral grounds, the tax code should be 
repealed and replaced with a system that treats all taxpayers--
and all income--fairly and equally. Both the flat tax and a 
national sales tax satisfy this standard, and both would 
improve the economy's performance substantially.
    Because plans for the flat tax and a national retail sales 
tax are so similar, lawmakers have no reason to champion one at 
the expense of the other. Advocates of tax reform would seek 
instead to highlight the benefits and similarities of the two 
plans, and, when the opportunity arises, rally behind the one 
that has garnered more political and popular support.
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STATEMENT OF NATIONAL FEDERATION OF INDEPENDENT BUSINESS

                              Introduction

    The irony of tax reform is that even as it proponents have 
grown more insistent, the tax code itself has simply grown. 
It's larger and more complex today than when Hall and Rabushka 
first offered their ideas to the world. So while others may 
argue the relative merits of a flat income tax verses a 
national sales tax, NFIB has focused its attention at the real 
problem for America's small business owners--the current IRS 
Code.
    The fact is, the current income tax code is far too 
complex. The tax code is a quagmire of confusion that forces 
taxpayers to bear tremendous costs just to comply with it--
about $200 billion annually, or $700 for every man, woman, and 
child in America. Consider this: There are 7 million words in 
income tax laws and regulations. There are 703 tax forms. There 
are 101,295 pages of IRS laws and regulations. The IRS sends 
out about 8 billion pages of forms and instructions each year, 
the equivalent of paper made from 293,760 trees, according to a 
1995 study. The amount of paperwork the IRS receives each year 
would circle the Earth 28 times. One billion 1099 forms are 
mailed each year tracking interest and dividend income. The 
private sector pays $250 billion just to comply with income tax 
laws. The average cost of compliance for small-and medium-sized 
corporations is $7,240 for every $1,000 in taxes they pay. 
Nearly 60 percent of all taxpayers seek assistance to file 
their tax returns each year, more time than it takes to build 
every car, truck, and van produced in the United States. When 
Money magazine asked 46 professional tax preparers to calculate 
a hypothetical family's tax return in 1997, they responded with 
46 different answers. As Albert Einstein once said, ``the 
hardest thing in the world to understand is the income tax.''
    The fact remains that real tax reform will not occur at the 
same time the tax code is expanded and complicated even 
further. We need to abolish the current code first and then 
replace it with a code that offers lower taxes, encourages work 
and savings, is fair to all taxpayers, foregoes social 
engineering, contains no hidden taxes, and is difficult to 
change.

                    Small Business and the Tax Code

    So why are small businesses leading the charge to scrap the 
IRS Code? The answer is simple. Small businesses--more than any 
other segment of our economy--are the favorite target of the 
IRS Code and the IRS. When tax reformers raise the issue of tax 
code complexity, they are talking about the burden placed on 
America's small businesses.
    Most taxpayers don't even itemize. They receive their W-2 
form, take the standard deduction, and send in their 1040EZ. 
But all small business owners find themselves buried under the 
most complex areas of the tax code. An while big corporations 
have the luxury of accounting offices and high priced tax 
professionals, many small business owners still file their our 
returns. Any way you slice it, it's America's small businesses 
that shoulder the brunt of tax code complexity.

Tax Code Complexity and Small Business

    Small businesses historically pay about one-tenth the 
income taxes collected by the federal government. That was 
about $60 billion in 1994. But the burden of the tax code on 
small businesses is much higher.
    THe Center for the Study of American Business reported 
small firms with fewer than 20 employees spent more than $5,000 
per employee in 1992 to comply with federal regulations. 
Paperwork costs alone--mainly comprised of tax-related 
paperwork--cost these small firms more then $2,000 per 
employee, or twice as much as the paperwork costs imposed on 
firms with 500 or more employees.
    Why are small businesses disproportionately affected? One 
reason is that the most complex parts of the tax code are 
targeted directly at small business owners. Take, for instance, 
this example:
    The individual Alternative Minimum Tax is a remarkably 
complex and obtuse provision in a tax code not known for its 
clarity. It literally requires taxpayers to calculate their 
taxes twice, and then pay the larger amount. Compared to the 
regular income tax, the MAT imposes lower marginal tax rates on 
a broader income base. It's sort of a perverse ``Flat Tax.''
    Who did Congress have in mind when it created the AMT? 
American's small business. Of the AMT's 27 different 
adjustments and so-called tax preference items--deductions 
disallowed or reduced--16 are business related. Keep in mind, 
we're talking about the individual Alternative Minimum Tax. 
(Corporations have their own ATM.)
    How complex is the AMT? Line 8 says, ``Enter the difference 
between regular tax and AMT depreciation.'' That means small 
business owners have to recalculate the value of their 
depreciation allowances using either ``the straight line method 
over 40 years with the same mid-month convention used for the 
regular tax'' or the ``straight line method over the property's 
class life with the same convention used for the regular tax'' 
or the ``150 percent declining balance method, switching to the 
straight line method for the first year it gives a larger tax 
deduction, over the property's class life.'' All depending on 
the type of property involved, of course. And they have to do 
this calculation for every depreciable asset they own!
    Understand? Neither do small business owners. There are 26 
other adjustments necessary to calculate AMT taxable income.
    Worse yet, the AMT has the side effect of hitting taxpayers 
when they can least afford the bill. A business suffering from 
lower-than-expected revenues is more likely to fall into the 
clutches of the AMT than a thriving business. The AMT literally 
kicks a small business ``when it is down.'' As your cash flow 
goes down, you AMT tax bite goes up!
    The current tax code is full of ``AMTs.'' Depreciation 
schedules, death taxes, accounting methods--all fall heaviest 
on the individual with business-related income.
    The only solution America's small business owners have to 
these problems is to eliminate the 101,295 pages and seven 
million words of IRS rules and regulations which make up the 
current IRS code. Scrapping the IRS tax code is one of NFIB's 
top tax priorities.

                  What Should the New Code Look Like?

    Although NFIB is not promoting a specific replacement tax 
plan, NFIB proposes the following Seven Points of Principle 
that should be considered when developing a new tax code fair 
to small business:
     Lower Taxes--to create jobs and opportunities
     Fosters growth--encourages work and savings
     Fair--for all taxpayers
     Simple enough--all taxpayers can understand
     Neutral--no ``social engineering''
     Visible--no hidden taxes
     Stable--difficult to change
    Some have asked to move beyond these seven principles and 
outline what sort of tax code small businesses would like to 
see. Here are some additional guidelines from surveys of our 
members, and the results from the Small Business Summit NFIB 
held in June of 1998:

Reduce the Overall Tax Burden

    Any discussion of tax reform should only be held within the 
context of an overall tax cut. Revenue neutrality destroyed 
whatever benefits may have been derived from the 1986 Tax 
Reform Act. We should learn our lesson and not be shackled into 
thinking we have to raise Peter's taxes to cut Pauls. By 
embracing a tax cut as part of reform, we can minimize the 
concerns raised about winners and losers.
    Moreover, this principle wraps up fairness and complexity 
all in one. If all income and/or consumption were taxes at the 
same rate, then much of the perceived unfairness of the current 
system would be eradicated. Furthermore, distinctions between 
types of income--earned, unearned--disappear, making the code 
much less complex.
    One important note is to observe that the single rate 
principle should not exclude two-tiered plans--like Senator 
Ashcroft's plan--that take payroll tax rates into 
consideration. While the Ashcroft plan ostensibly includes two 
rates--10% and 25%--taxpayers only see a single unified (income 
plus payroll tax rates) of 25% on their income. Taken as a 
whole, taxpayers still face just one marginal rate.

Tax Income Only Once

    When tax reformers talk about ``fostering growth'' through 
the tax code, they really mean reducing the current tax on 
investment and savings. Right now, the tax code is biased 
against savings and investment because it taxes investment 
incomes twice or three times.
    Here, we have growth and complexity together. Taxing income 
once means eliminating death taxes. That reform alone would 
make a dramatic improvement in reducing tax code complexity and 
riaising economic growth. It also means eliminating the double 
taxation of interest and dividends. There is overwhelming 
evidence regarding the negative relationship between taxes on 
cabins and investment and economic growth. As taxes on savings 
go up, economic growth does down.

Visible to All Taxpayers

    This is an ``anti-VAT'' principle, pure and simple. The VAT 
is uniformly hated by small businesses because it is a hidden 
tax. They've seen the damage the VAT has done in Canada and 
Europe, and they fear the same results here in America. Back in 
1985, we asked our members, ``Do you favor or oppose creation 
of a value-added tax as a replacement for the current income-
tax system?'' Six out of ten said ``No.'' Our members voted 
against the VAT because the fear it would be used to 
supplement, rather than replace, the current income tax code. I 
believe the case against the VAT has strengthened since then.

Conclusion

    ``Reckless'' and ``irresponsible'' are the works President 
Clinton used to describe our plan to abolish the IRS tax code. 
With all due respect to the President, what is truly 
irresponsible is a tax code that is anti-work, anti-savings, 
and anti-family. What's reckless is continuing to live with 
seven million words that such the life right out of our 
economy.
    President Clinton has indicated that small-business owners 
want to create ``fiscal anarchy'' by scrapping the code and 
then figuring out what to do next. Bust small employers 
understand that sometimes the old law must be put to rest 
before a new law can take its place. The time for fundamental 
tax reform is now!
    NFIB thanks the Committee for focusing on this and 
listening to the views of America's economic engin--small 
business.
      

                                


STATEMENT OF NATIONAL GRAIN TRADE COUNCIL

    The National Grain Trade Council appreciates this 
opportunity to provide its views on the recent adverse 
international activities related to Foreign Sales Corporations 
or FSCs.
    The mission of the National Grain Trade Council is to 
advocate and protect the principles and merits of open and 
competitive markets for the production and distribution of 
agricultural commodities. The National Grain Trade Council 
represents commodity exchanges, boards of trade, national 
marketing associations and more than 40 individual agribusiness 
companies.

The Issue

    As you know, the World Trade Organization has ruled against 
the United States use of the Foreign Sales Corporation (after 
15 years of use) labeling it an illegal subsidy. The WTO 
Appellate Body upheld this Panel ruling. The WTO labeling of 
the United States use of FSCs as a subsidy has resulted in 
adverse rulings related to the United States Agreement on 
Agricultural Exports. Under World Trade Organization 
procedures, the United States is expected to withdraw the 
illegal subsidy by October 1, 2000.

History

    This problem has previously required Congress' attention 
and time. The United States began using a Domestic 
International Sales Corporation (DISC) in 1971. The purpose of 
the DISC was to allow United States exports to be more 
competitive by adjusting the level of taxes on exports to be 
more like those of our competitors. As discussed below, the 
U.S. has to compete with countries that do not tax any economic 
process beyond their borders (a territorial process) while U.S. 
corporations are subject to income tax on their worldwide 
income. Additionally, the countries with a territorial process 
employee a value added tax (VAT) and charge the VAT on imported 
goods and services but exempt or rebate the VAT on exported 
goods and services. This is the root of the unfairness.
    In 1972 the European Communities requested dispute 
settlement consultations regarding the DISC measure, alleging 
that the DISC constituted an export subsidy. The United States 
also requested consultations with France, Belgium and the 
Netherlands contending that if the DISC measure were an export 
subsidy then the tax exemptions provided by those countries for 
foreign-source income were also export subsidies. The Panels 
found that both the DISC measure and the European tax systems 
had characteristics of an export subsidy prohibited under the 
General Agreements on Tariffs and Trade (GATT) of 1947. This 
dispute went on for many years.
    In 1984 the United States replaced the DISC provisions with 
the FSC provisions. The United States enacted the FSC in 
response to a 1981 decision of the Council of the General 
Agreement on Tariffs and Trade providing that countries need 
not tax foreign-source income, including income from export 
transactions, and the failure to do so does not constitute a 
prohibited export subsidy. Acceptance of the GATT Council's 
1981 decision by the European Community and the United States, 
as well as other parties to the GATT was instrumental to 
resolving the more than decade-long dispute between the EC and 
the United States. However, in 1997 the European Union again 
challenged, through the WTO, the United States use of FSCs 
calling them export subsidies.

WTO Ruling

    The WTO Appellate Body has ruled against the United States' 
reliance on the 1981 GATT understanding and instead uses the 
definition of a subsidy where ``government revenue that is 
otherwise due is foregone or not collected.'' This in turn has 
led the Appellate Body to use the ``but for'' test. That is, 
would revenue otherwise be due the government ``but for'' the 
enacted tax law.
    In other words, if a government chooses to write its tax 
laws such that it has no authority to tax economic processes 
outside its borders, the foregone revenue is not a subsidy. 
Whereas if the government writes its tax laws such that it has 
the right to tax worldwide the economic process but chooses 
only to tax the economic process that occurs within its 
borders, the result is a subsidy. This is clearly form over 
substance and results in an unfair playing field for American 
exporters.

United States Impact

    Without the FSC, American exporters are not able to compete 
fairly with exporters of other countries. This inability to 
compete will have a greater adverse impact on agricultural 
exports than nonagricultural exports. This is due to the very 
low profit margins related to agricultural commodities and the 
international buyer's view of purchasing the commodity product, 
which by its definition is no different than a competitor 
product, at the lowest price. We expect this would lead to 
lower US agricultural exports resulting in greater domestic 
supplies and further depressing US farm prices and the overall 
US farm economy.

Real Issue

    The FSC is not the real issue. We are really talking about 
a trade issue that is fixed through various tax provisions. We 
can and perhaps will enact United States tax laws that equalize 
the international tax playing field and remain WTO compliant. 
That will require time and thoughtful analysis.
    What the WTO Panel and Appellate Body are not recognizing 
is that there are different economic playing fields in each 
country and neither is superior to the other. Tax deductions 
and incentives must be viewed in their entirety. All taxes, 
both direct and indirect must be accounted for in determining 
fairness. Substance and not form must be the basis of comparing 
tax systems
    Thank you for your attention to this matter.
      

                                


STATEMENT OF THURSTON BELL, NATIONAL INSTITUTE FOR TAXATION EDUCATION, 
HANOVER, PA

    Mr.Thurston P. Bell submits the following witness 
testimony. Mr. Bell is the Executive Researcher for the 
National Institute for Taxation Education. His findings are 
hereby respectfully submitted to the committee and contain the 
most unique testimony from one of the most qualified advocates 
for the people regarding IRS actions and behavior. His appears 
to be the lone voice calling for reasoned comunication and 
procedural compliance by the Tax Resistance movement and IRS 
alike.
    Mr. Bell's active investigation and research during the 
last seven (7) years includes direct correspondence with the 
IRS and intervention on the behalf of individuals whose cases 
have previously been the most protracted and belligerent 
exchanges between citizens and their government.
    He is at the forefront in assisting the growing numbers of 
people who have lost all faith in the IRS and the current means 
of collecting revenue. This makes him the most moderate and 
realistic voice in this arena of Law and Public Policy.
    His research and reform efforts have aided the IRS in 
identifing and correcting areas wherein complete breakdowns in 
procedure had occurred in some IRS districts. He is creidited 
with helping the service in some districts achieve renewed 
compliance with statutory, regulatory, and published procedures 
contained within the agency's Internal Revenue Manual.
    Mr. Bell's past efforts and continuing work demonstrate his 
good faith intent in providing testimony before the committee. 
Furthermore, he is commited to resolving the growing resentment 
of ``The People'' for their IRS. This ``Us vs. Them'' mindset 
has been exaserbated by decades of IRS activity in complete 
disregard of some 25 to 27 clearly delineated procedural 
requirments and the agency's denial of the people's 
administrative due process rights.
    The following expose of the foundations of the problems and 
questions that this committee seeks to resolve, must be 
considered if the congress wants to truly address and fix the 
tax problem, achieve the chairman's goals, and take decisive 
action to restore public trust and the appearance of legitimacy 
in the taxation activites of the U.S. Treasury Department.
    Chairman Archer, and the Honorable Members of this 
Committee:
    Thank you for your time in consideration of my testimony. 
My name is Thurston P. Bell. I am the Executive Researcher with 
the National Institute for Taxation Education.
    Upon my discovery of this Hearing and its notice to the 
Public that all interested parties provided written testimony 
for consideration and entry into the Committee's records, I 
decided to afford myself of this unique opportunity to 
communicate with a body which could affect change regarding a 
subject which has absorbed the past 7 years of my life.
    I sincerely hope that by sharing my unique experience with, 
and exposure to, rarely seen or discussed historical documents, 
I will capture the attention of this vigilant Committee and 
spark thoughtful consideration of, as well as further inquiry 
into, the foundations of taxation and the history behind the 
reasoning of the prior Congresses as you debate future taxation 
schemes like the National Sales Tax.
    It is also my hope that this testimony will further 
increase the progressive communication between the U.S. 
Congress and a growing dissatisfied and distrusting sector of 
the Public that has been denied due process of law by the 
Executive Branch's and its revenue collection activities.
    The IRS' abusive behavior alone caused the overwhelming 
growth in the tax resistance community and a national mindset 
of ``tax avoidance'' appears to be spurring the decision to 
reconvene these hearings. Therefore, it is time for the two 
governing parties (we, the People, and our representatives in 
Congress) to come together and consider our separate positions 
in order to mediate a reasonable and survivable remedy for 
individuals as well as the Public.
    Unfortunately, over 30 years of IRS abuse has made the 
disenfranchised and disaffected citizenry notably belligerent. 
Since animosity is so pervasive in the growing Tax Resistance 
sub-culture of our society, a mindset fed by the convoluted and 
seemingly endless conspiracy theories proffered by assumed 
leaders within this ``movement,'' the voice of these 
individuals and their ``leaders'' must be precluded from these 
reasonable and civil hearings. Subsequently, the other side in 
this issue, as embodied in this Committee, is doomed to 
continue to grope for some way to reduce tensions and preserve 
the Public Peace without coming to a full understanding of the 
root cause of the tensions inflamed in the populace.
    Therefore, in an effort to move this Committee forward to 
some resolution of action that will be meaningful to all 
Americans, I am providing this testimony to span this 
communication chasm between the two sides.
    As I understand, this Committee hopes to draft a law that 
would create a new means of economic stabilization, without 
adversely effecting the fiscal engines of the States, 
permanently remove the IRS from the lives of the individuals 
that make up the United States of America and, finally, the 
income tax would be removed the at the root--so that it never 
grows back.
    This appears to be a reasonable set of goals for fixing 
this problem, yet, to understand how to fix a system that has a 
problem, or has become a problem, the system must be understood 
and seen for what it is, how it functions, and the purpose for 
which it was created.

Economic Stabilization

    In 1947, Mr. Beardsly Ruml, who was at that time the 
Governor of the New York Federal Reserve Bank, explained our 
current system of income taxation before the American Bar 
Association. He was also the man who created the system of wage 
withholdings from the pay of those receiving wages as the means 
of painlessly collecting the income tax.
    In Mr. Ruml's speech, he explained that the main function 
of the income tax was for the purposes of economic 
stabilization, and that none of the money collected as income 
tax goes to the operation of government. This full text of his 
speech can be read at:
    In 1973, as shown in an internal IRS Memorandum of the 
Western Regional Offices, the IRS clearly admits, in its upper 
echelons of operation, that it understands that the IRS is the 
administrative arm of the economic stabilization program. 
(see:www.nite.org/docs/croasmun--report.pdf)
    There is little doubt that anything has changed the 
substantive nature and purpose of the income tax over the past 
27 years, as nothing had previously changed in the 26 years 
between Mr. Ruml's public admissions and the IRS' 1973 internal 
scheming of a plan to avert economic disaster. The looming 
disaster began when tens of thousands of people began to claim 
``exemption'' from the withholding of income taxes from their 
``wages.'' This action on the part of the people threatened to 
derail the stabilization program created by Mr. Ruml.
    The first point that this Committee must understand, as it 
considers any new taxation proposals, is that the income tax is 
all about ``stabilization'' of a paper currency that is 
inflated by both the spending practices of the U.S. Congress 
(in support of a seemingly ever expanding and reaching Federal 
Government) and the Banking practice known as Fractional 
Reserve Banking.
    In short, tampering with the primary means of economic 
stabilization system risks the possible extended interruptions 
of the currency removal stream. Such an event would adversely 
effect the Power of the U.S. Congress, the ability of the 
Federal Government to operate and provide for the benefits 
granted to American Society, and, finally, the benefits enjoyed 
by those controlling and operating the banking sector of our 
society.
    Considering the function and purposes of the income tax, 
there is a very good reason for the Chairman's claim that the 
Code is still ``...too complicated and confusinga...'' Such is 
the natural result of a system devised: 1) to hide the 
existence and exclusive attributes of Blind Trusts; 2) to 
complicate the operation of Corporations--the primary income 
tax shelter--so that the average individual can not incorporate 
and thereby eliminate his exposure to tax liabilities, and 3) 
to have a taxation regime that favors special interest groups 
and corporations over individuals.
    Still, the vital nature of this taxing scheme--economic 
stabilization--appears to be the prime reason why the Honorable 
Chairman might spend the remainder of his illustrious career in 
the U.S. Congress searching for, and yet never discovering, a 
solution to the problem of the income tax. He will not be 
alone, as Mr. Ruml in his 1947 speech was looking for a way to 
eliminate the corporate income tax. He never was able to do 
this or claim that it was possible given the realities of paper 
money and private benefits received by those in control of the 
fractional reserve banking system.
    If my recollection of the reports of the 1997 committee 
hearings are accurate, then many Economists respected by you, 
Mr. Chairman, publicly explained therein the potentially 
disastrous effects of a National Sales Tax (NST). The consensus 
was that a NST would have to be increased sharply within months 
of its implementation in order to keep the economy from 
disintegrating, or at least experiencing hyperinflation. It 
appears certain that as long as this nation and the Congress 
embrace paper money, or a non-intrinsic valued currency, there 
will have to be an income tax.

State Fiscal Engines

    It has been communicated that the proposals before this 
Committee are to be considered in light of how they will effect 
the fiscal engines of the State Income Taxes. This is very 
important given that many States, like New York and California, 
depend upon their Individual and Personal Income Tax systems as 
great fiscal engines to operate their local system of 
Government. Most of the states' income tax laws are dependent 
on the construction and continued survival of the present 
Federal Internal Revenue Code.
    The income taxes imposed within the several states are 
completely dependent upon the Federal Definition of ``Gross 
Income'' as found in 26 USC Sec. 61 (the Internal Revenue 
Code), and without that statutory definition all of the state 
income taxation regimes would fail immediately.
    This Committee must therefore take notice that any taxation 
regime which might replace and/or do away with the Federal 
Definition of ``Gross Income,'' and its active and enforceable 
nature and subjugation to the Federal Judiciary, will destroy, 
if not greatly hamper the operation of this great fiscal engine 
as used by the States.
    This leaves any taxation options outside of an income tax 
to be untenable at this time.

Intrusion upon the Individual

    This present situation is antithetical to the statement of 
the Honorable Chairman, that his goal is to end the intrusion 
of the Federal government (IRS) into the lives of individuals. 
Again, in order to do this, those who deal with the IRS and 
work with taxpayers on a daily basis cannot ignore the history 
of the systems intrusion, and this committee cannot maintain 
any hope of discovering and enacting a viable replacement 
without knowing this history.
    So far, history shows us that the earliest known instance 
of any realization of this intrusion of the Federal Government 
into the lives of the individual is found in the Page 37 
interview of Mr. W.D. Williamson in the New York Times November 
29, 1936 issue.
    Mr. Williamson worked with the Social Security Board in the 
creation of the Social Security Program. His comments are very 
revealing:
    ``the biggest value of the tax, he added, would be to 
introduce the majority of the 26, 000,000 workers to the 
``privilege'' of contributing directly and consciously to the 
cost of government.
    ``It will treat them as adult citizens. Able to bear the 
thought of contributing to their government, instead of 
treating them as children and collecting from them in hidden 
taxation.'' He said.
    He added that the plan extends Federal income taxes ``in a 
democratic fashion'' to the lower-income brackets, the 
government at the same time agreeing to undertake the new 
function of paying old-age benefits to the taxpayers.'' 
(emphasis added)
    This article and the transcript of its content are posted 
at: www.nite.org/ref/ny--times.pdf and www.nite.org/ref/ny--
times.htm
    This comment was made in regards to the first income tax to 
be placed upon the people, the Social Security Tax, and you see 
the government reaching into the lives of every individual, 
including those in the lower income brackets.
    It is clear from the above noted article that in order for 
the Honorable Chairman to reach his worthy goal--getting the 
IRS out of the lives of individuals--he is going to have to end 
the direct federal taxation of the people--the root cause of 
government's intrusion into the citizen's life.
    For now, since the income tax is one of the two 
foundational pillars supporting the present monetary system, 
and thus our economy, the current tax system's reach into our 
lives is necessary for the continued operation and health of 
the economy that fuels our society and international markets.
    Given the realities of the dependency of state taxation 
regimes and the stabilization of the currency--both dependent 
upon the current taxation of gross income--there appears to be 
no end in sight to the intrusion of the IRS in the lives of 
ordinary Americans. Therefore, the National Institute for 
Taxation Education (NITE) seeks to encourage this Committee to 
support, in the strongest terms, the reinstitution of proper 
operation of the Treasury Department and the IRS, in the 
enforcement of tax laws.
    Enforcing the agency's compliance with the laws as written 
by Congress will ensure citizens receive the rights and 
remedies contained within the Statutes, regulations, Internal 
Revenue Manual, and Publications governing the IRS 
Administration. If Congress will do this, then the long process 
of rehabilitating the agency's reputation with the enraged 
citizenry can begin. Such action on the part of the Congress 
will deter the agency from continuing its errant intrusions and 
allow for the proper and lawful administration of the current 
tax system until such time as a viable taxation alternative is 
discovered.
    This is the area in which the NITE is presently working. 
The previous actions of the Congress and Senator Roth's Senate 
Task Force indicate that there may be a possibility of 
cooperation within government and the IRS. Yet the immense 
efforts on the part of individuals have netted very small 
reforms within the agency's stilted ``culture,'' as noted by 
Former Treasury Secretary Rubin. Therefore, Congress must take 
an active role in properly educating its Staff personnel who 
handle IRS matters before the People can have any glimmer of 
hope that the service will one day soon comply with the law in 
every instance involving a taxpayer controversy.
    Since replacement of the current system appears to be an 
impossibility at this time (and given the parameters of this 
Hearing as well as the fact that the IRS and the Congress are 
both in need of a rebuilding of the people's confidence on the 
matter of taxation) I would encourage this Committee to examine 
pervasive culture or mindset noted by former Sect. Rubin, and 
endorse the IRS adjusting its operations by making a concerted 
effort to reform and comply with the laws and procedures. NITE, 
and most of its members, believe that this is the most 
reasonable and constructive activity in the interim.
    Proper implementation and notification of the public as to 
the procedures enacted into law, and as set forth by the 
Secretary, will reduce building public tensions and re-
establish legitimacy of the official behavior of the IRS, and 
the Congress, in the hearts and minds of the people.
    If the People quietly accept that they cannot expect the 
laws enacted to be enforced, then the legitimacy of government 
will ultimately fail and the economy will soon thereafter 
follow. The People are beginning to recognize that there is a 
dual issue in the subject of taxation--the stability of Economy 
and the Legitimacy of Government.
    Even if an alternative ``workable'' tax scheme is 
instituted, there is still going to be the matter of Justice 
and proper implementation of the law by the IRS. There is a 
serious question of whether or not the IRS will be able to 
properly enforce and comply with the requirements of a new laws 
in the future when it fails so miserably at complying with the 
currently enacted laws today.
    We must face the fact that the Office of Personnel 
Management will most likely recruit its personnel for the new 
Revenue Agency from the cadre that worked within the IRS before 
its dismantling. Thus the old ``mind-set and culture,'' noted 
by former Secretary Rubin a couple of years ago, will be re-
established within the new agency by the re-hiring of the old 
IRS employees.
    If this mindset and culture transfers to any new taxation 
agency, the result may well be a rose being called by any other 
name, or in this case a whip. Justice is not endemic to change, 
and cannot be assumed to be so.

The Root of Income Taxation

    The beginning of reduction in tensions between the people 
and the government, without radical change, can only be found 
in operating the income tax that we presently do have, within 
the present day laws and procedures as written. This is 
something that the IRS has failed for decades in doing. 
However, the enactment of 1998 Internal Revenue Service Reform 
and Restructuring Act opens the door to laws that appear to 
force the IRS to follow proper administration. This would not 
have come about but for the people and reformers being 
supported by the Congress today.
    The institution of Justice by present means is as immediate 
justice as the law will allow, short of the tax laws complying 
with the original precepts of income taxation. Any changes in 
the income tax laws should from now on be examined under the 
original precepts and criteria of income taxation:
    A. The receipt of Benefits; and;
    B. The Ability to Pay.
    Anything short of these criteria has been deemed, from the 
time of the first English Income Taxation Program over North 
America, as instituted by George the III, as immoral and 
unjust.

Removal and eradication of the Income Tax

    It is well understood, and hard to argue against the 
Chairman's desire to ``...rip the current tax code out by the 
roots so that it can never grow back.'' Yet, the notion of this 
gives rise to the realization that the Committee has a very 
difficult task before it, as the Congress would have to 
initiate the repealing of the 16th Amendment, as well as the 
Income Tax, to assure that the Income Tax is never placed upon 
the people again.
    Only in this circumstance would the people be safe from 
income taxation, as the subject to income taxation would return 
to the rule of the U.S. Supreme Court in the Pollock case.
    Such an action to secure an assurance that the tax would 
not return would require a two-thirds vote of both houses and 
the States to achieve. There is therefore great doubt that such 
could be done. When this difficulty is examined under the fact 
that the elimination of the 16th Amendment would also remove 
the present day authority of the Social Security Tax in 26 USC 
Sec. 3101, which is an income tax, any will of the Congress to 
repeal the 16th Amendment should vaporize. The subsequent 
political backlash would probably mean that nobody in the 
Congress and Senate would be re-elected.
    In some ways the difficulty of taking action on this matter 
is a good thing. It provides an assurance to the American 
People, as it keeps the Congress from doing something brash or 
impulsive that would send the economy into shock.
    The ``something brash'' I refer to would be best described 
as the enactment of a National Sales Tax. Such a tax would have 
to grow very quickly to control inflation and our economy would 
end up suffering the effects of under-consumption. Or, in the 
alternative, if the tax rate were too little, then 
hyperinflation would ensue. Historically, National Sales Taxes 
cause governments to go into greater debt to their centralized 
banks to cover deficits. This is an important point in light of 
the private ownership of the Federal Reserve Bank.
    In regards to the National Sales Tax, throughout the 
current debate I have yet to see any discussion of the fact 
that in 1922 congress also considered a national sales tax. The 
Honorable Committee might wish to read the reasons leading to 
the rejection of this tax. Such a scheme was turned down 
apparently due to the severe failure of the French National 
Sales Tax that plunged the nation into 4 Billion Francs of debt 
to the banks. There is also the fact that the Treasury 
Secretary and his friends (the Banking Class Elite who had the 
ability to pay) were not paying their income taxes as the 
Secretary cried for some tax to be instituted to cover 
shortfalls.
    It is my understanding that the 67th Congress 3rd Session, 
that Congressman James Frear of Wisconsin stated the following 
in response to Treasury Secretary Andrew Mellon's urging for 
the imposition of a National Sales Tax:
    `...both houses presumably felt that the sales tax urged by 
you [Andrew Mellon, Secretary of the Treasury and President of 
Gulf Oil] was a vicious tax placed upon what both rich and poor 
ate, wore, and used, not exempted, and that it was an unjust, 
heavy burden to place on the backs of those who grub to make 
ends meet, and who were thus asked to bear the rich man's 
burden of excess profits you had successfully urged for repeal. 
I refer to the vast army you sought to tax, and who have no 
income tax to pay, but are glad to eke out a bare existence. 
All of these would help disproportionately to pay your proposed 
sales tax, whereas if you [Mellon] contribute the income tax 
you are properly supposed to pay, as one of the richest men of 
the world you would pay into the treasury according to Kline's 
estimates on 300 Million dollars of wealth, an annual tax 
running well into the seven or eight figures. If any evidence 
of a sales tax failure, due to enforce under-consumption is 
desired, then the present French National Deficit of 4 Billion 
Francs is a warning.
    `I do not believe in 'soaking the rich' because they are 
rich, but in common with the overwhelming majority who make up 
the country a belief exists that taxes should be laid according 
to ability to pay, and this is the teaching of every recognized 
authority in the history of every prosperous people. Your sales 
tax proposal would pinch the poor by taxing their necessities, 
and was believed to be unjust and vicious in principle and was 
defeated in Committee by a vote of 19 to 5.' ''
    What has changed in 88 years since to cause us to return to 
considering the siren song of the National Sales Tax? Why does 
this Committee, or at least the Honorable Chairman, continue to 
posture politically by acting as though there is a solution to 
the tax problem short of complete monetary reform?
    These proceedings appear to smack of political 
grandstanding by both parties for the appeasement of the 
evermore-distrusting masses, which are continuing to grow. This 
may be a noble and necessary effort in order to keep the Public 
Peace, but nothing will replace good faith efforts of this 
governmentally omnipotent Congress to assure JUSTICE in the 
enforcement of the standing law, and provision of meaningful 
administrative due process of law, as set forth by the U.S. 
Supreme Court.

Remedial Congressional Actions

    There appears to be no immediate solution to the problem of 
the Income Tax at this time as there is no ``national will'' to 
reform our monetary system or reduce the size of Centralized 
Government. Yet these were the fundamental reasons for the 
imposition of the income tax and the creation of the IRS--the 
most powerful and foreboding agency of the U.S. Government.
    In all fairness to the Establishment, I find myself 
concurring with the words of Federal Reserve Chairman Alan 
Greenspan on the subject of taxation and monetary stability. In 
1999, he provided the Congress with two options on what to do 
with the opportunities afforded it by the Budget Surplus.
    Chairman Greenspan's advice that elimination of the 
marginal tax rates, and thus taxation upon the poorest 
Americans was one of the most reasonable statements on taxation 
and justice that I have seen. I was shocked to see the Fed. 
Chairman, an official who I used to see as an adversary, 
encourage the U.S. Congress to embrace the opportunity to bring 
this Nations Income Tax law into line with one of the two 
original tenants of income taxation; The Ability to Pay. To 
eliminate the Marginal Tax Rates does not eliminate the income 
tax, but then again Mr. Chairman, for 5 years you have been 
unable to eliminate the Income Tax. Also, remember, that as 
long as there is paper currency, the Congress cannot and will 
not eliminate the income tax that is so desperately needed to 
keep this monetary system afloat.
    What such an action does do, is move the taxation regime to 
be directly in line with the original tenants of income 
taxation by releasing the poorest of Americans from subjugation 
to the complexity of the so far obfuscated IRS Administrative 
process. Such an action is in the interest of Justice, which 
originally governed income taxation. I say this is, just as the 
poor are most often lacking in the educational stature to be 
able to adequately defend themselves from IRS Administrative 
claims, nor are they able to afford professional and competent 
assistance to guide and aid them in prevailing against IRS 
claims.
    Just the dollar amounts alone, in the face of the cost of a 
professional to aid the uneducated person in the defense of 
their money creates an appearance that making a defense is a 
waste of time and money. This makes for a situation which is 
neither fair nor justifiable, and a situation for which nobody 
has any will or idea as to how to fix. The elimination of 
marginal tax rates is an action would be in line also with the 
Chairman's goal of getting the ``...IRS out of the lives if the 
American taxpayers.'' It might not free all Americans, but it 
will be a start. And who knows, perhaps the savings to the 
lower tax rates will trickle up to the middle class in the form 
of lower child care costs. It is hoped that this Honorable 
Committee finds agreement with the first option given by 
Chairman Greenspan, and begins moving towards justice, so that 
we will one day reach it. If we do not have justice in this 
Society, debts and government programs will soon mean nothing.
    A Just tax system is what is best for America. In light of 
the 25 procedural and rights violations discovered in the great 
majority of tax cases examined by the National Institute for 
Taxation Education, the injustice is clear. Nevertheless, NITE 
can only wonder as to what reasoning will be used to support 
the issuance of new powers to the Treasury Department for a new 
tax, when it is so clearly not complying with the laws that the 
Congress has already enacted. The greatest fear and trepidation 
surrounding this issue of a new tax is that fact that no tax, 
once enacted, has ever been repealed.
    History will show that those who realized the income tax 
would be with us for the foreseeable future also predicted that 
the most likely event is that the people will be saddled with 
yet another tax on top of the income and sales taxes that 
already burden them. At this time, Congress is unwilling to 
provide any guarantee to the contrary and unable to muster the 
political will to do abolish the income tax, as this would also 
require the elimination of Social Security.
    Chairman Archer and the Members of this Honorable 
Committee, thank you for hearing me and placing my words into 
the record.

                                             Thurston Bell,
                                               Executive Researcher

                                

STATEMENT OF JOHN BERTHOUD, NATIONAL TAXPAYERS UNION, ALEXANDRIA, VA

    The 300,000-member National Taxpayers Union commends the 
Committee for holding additional hearings on fundamental tax 
reform.
    We have long favored replacement of the current income tax 
system with a simple tax that would clear away many of the tax 
obstacles to economic growth. Congress can and should consider 
many approaches for replacing the current tax law in favor of a 
better system.
    We understand that the hearings scheduled for this week 
will focus on ``tax reform proposals that have been introduced 
since the last set of hearings in 1997,'' including ``H.R. 134 
by Rep. Phil English (R-PA) and H.R. 2525 by Rep. John Linder 
(R-GA) and Rep. Collin Peterson (D-MN).''
    For many years our Board of Directors has been on record 
that fundamental tax reform can be accomplished by several 
different approaches. We have already endorsed the flat tax 
introduced by Rep. Dick Armey and the national sales tax 
proposal by Rep. Billy Tauzin. In this spirit, we are pleased 
to announce our support for H.R. 2525, the FairTax.
    We commend Rep. English for introducing H.R. 134. Clearly a 
great deal of thought has been put into this proposal, and it 
contains many attractive features. We are still studying this 
proposal.
    The FairTax proposes to replace the entire income tax 
system with a simple federal sales tax on new goods and 
services sold to consumers. The FairTax would repeal all 
federal personal income, payroll, corporate income, self-
employment, capital gain, estate, death, and gift taxes.
    The FairTax meets a number of basic requirements of NTU 
policy for support of a sales tax, including that the tax 
would:
     be applied only once and would be visible at the 
point of final purchase for consumption;
     completely replace all income, death, and gift 
taxes;
     free individuals from filing tax returns or income 
reports with the federal government; and,
     ensure fair treatment of low-income taxpayers.
    As you know, the imposition of federal personal income 
taxes in 1913 has led to a number of economically, politically, 
and socially destructive outcomes. Government's obsession with 
trapping and extracting revenue from every earned dollar has 
spawned high rates that penalize productivity, multiple layers 
that punish saving and investing, and hideous complexity that 
burdens the economy with over $200 billion in compliance costs 
alone.
    In the meantime, federal receipts have grown an astonishing 
175,000 percent over the past 85 years, making the current tax 
system the biggest boon to bloated government in our 
nationÕs history. The Tax Code itself has become a 
political trading vehicle for rent-seeking special interests, 
while more American citizens fear the Internal Revenue Service 
as a threat to their civil liberties than any other federal 
agency.
    If America is to remain prosperous and free in the next 
century, the current system of taxation must be scrapped in 
favor of an alternative that is simpler, fairer, more visible, 
more economically efficient, and less burdensome. The FairTax 
proposal would fulfill all of these requirements. Most 
Americans would no longer face the anxiety of income tax filing 
seasons, as federal taxes would simply be collected from 
purchases.
    The FairTax offers several unique advantages not offered by 
other tax reform proposals.
    Taxpayers would get to keep their entire paycheck, pension, 
or Social Security benefits without any tax withholdings. Since 
the income tax would be replaced by a consumption tax, this 
feature would let citizens save money much faster for those 
important family needs such as a new home, college education, 
or retirement nest egg.
    Since the income tax would be eliminated, we could abolish 
the IRS along with all individual tax filings. Individuals 
would never again have to fear an audit or seizure.
    Today's tax system also has enormous hidden taxes, as 
documented in a recent study by Bryan Riley for National 
Taxpayers Union Foundation. These hidden taxes add as much as 
20% to 25% of the price of everything we buy in the stores 
today.
    The FairTax makes the cost of government fully visible to 
all taxpayers. No taxes are hidden in the form of payroll taxes 
or corporate taxes. By being aware of the true burden of taxes, 
Americans can once again rationally debate the size of 
government without having to take politicians at their word.
    Another advantage of the FairTax is that it would 
completely untax the poor and those who rely on just Social 
Security. The FairTax includes a monthly tax rebate to ensure 
that all Americans can afford to buy their necessities tax-
free.
    That's a stark contrast to the existing tax system that 
collects hundreds of billions of dollars in taxes buried in the 
cost of things we purchase. Under current tax laws, even 
minimum-wage workers pay over 15% from their paychecks for 
payroll taxes when you count both the employee and employer 
share of the tax.
    Another important advantage of the FairTax is that this 
reform should be easier to keep intact should it become law. As 
you know, in 1986 Congress and the President adopted a tax 
reform plan that lowered the top income tax rate to 28%, but it 
lasted less than five years, and the top rate today is over 
40%.
    Since the FairTax would scrap the entire income tax 
apparatus, including the IRS, it would be much more difficult 
to reimpose an income tax. We also believe that once people get 
used to keeping their entire paycheck, pension and Social 
Security benefits, they will never want to go back to the old 
system.
    Congress can and should consider many approaches toward 
repealing the current tax law in favor of a better system. 
Other proposals for a flat tax or consumption tax would address 
many of the problems weÕve outlined, and NTU has 
endorsed several such plans. We look forward to debate and 
concerted action on the FairTax and other tax system 
alternatives in the near future.

                                


STATEMENT OF JOHN B. O'DONNELL, CHULA VISTA, CA

    I am pleased the Congress is finally recognizing the 
destructive nature of the present personal income tax. There is 
the common misconception that the sixteenth amendment 
authorized the income tax but as is evidenced by the Supreme 
Court ruling in Stanton v. Baltic Mining Co., 240 US 103 (1916) 
the sixteenth amendment--
    ``... conferred no new power of taxation but simply 
prohibited the ... power of income taxation from being taken 
out of the category of indirect taxation to which it inherently 
belonged...``
    Unfortunately, court rulings on the tax system have become 
so befuddled that courts find in some districts the tax is a 
direct tax authorized by the sixteenth amendment while in 
others it is an indirect tax that applies only to the exercise 
of licensed privileges. Such confusion within the courts should 
of itself be sufficient to declare the statutes in violation of 
due process for persons of only reasonable intelligence, 
without the law expertise one can expect of jurists.
    However, because others will undoubtedly present better 
arguments on the problems of the present system, I will address 
only the issue of economic performance that is affected by this 
and other forms of transaction taxes.
    The current assumption that some form of consumption tax is 
the only alternative to an income tax is disheartening. I have 
posted on the internet an analysis entitled Three Steps to 
Economic Freedom at: http://www.geocities.com/CapitolHill/1067/
c00r4.html that demonstrates some of the more egregious 
fallacies of generally accepted economic premises.
    In this pamphlet I describe a ``Monopoly Tax'' that could 
also be called a ``Limited Liability License Fee'' that would 
provide all needed government finance while imposing no burden 
on American citizens. Further, the method actually causes 
optimum growth in capital. The details of why this is true are 
a bit complex to present in this brief, but the essential 
feature of this system is that it effectively changes taxes 
collected by government that resolve to ``variable'' costs of 
production into costs that resolve to ``fixed'' costs of 
production.
    Although economists usually recognize taxes that resolve to 
fixed costs of production are superior to transaction taxes 
that effectively create a ``wedge'' between prices paid by 
purchasers and the price received by sellers, they seem somehow 
forgetful when it comes to applying this obvious principle to 
their tax proposals.
    The rationale behind the impost and a demonstration of the 
economic effect of its causing growth when properly constructed 
is presented in the on line pamphlet. As a brief introduction 
of the tax/fee, it is based on the capital value of limited 
liability license holders [corporations] with the amounts of 
the fee adjusted to maximize the growth rates of their value.
    I have calculated an approximation of the tax receipts 
using the FY 2000 budget as if it were funded by the Monopoly 
Tax. Some obvious compromises must be used since there has not 
been the accumulation of empirical evidence that would be 
developed as described in the article. However, the scale of 
things can be derived from existing data.
    First comes an estimate of the asset value that would be 
subject to the tax. Using the Wilshire 5000 equity value of 
approximately $14.0 trillion and a guess that debt supported by 
those equities is $6.0 trillion gives a total subject to the 
tax of $20.0 trillion. Although it would be nice to apply the 
progressive rates as described in my proposed system, that will 
have to wait for the empirical data from actual application.
    Lacking that data, consider a uniform [or average] tax rate 
of 0.8% per month. While 0.8% per month may appear large to 
some, consider that:
    1. It is not unusual for the market value of these equities 
to increase by more than 1% DAILY.
    2. It is also not much different than the charge states 
and/or localities charge people for the ``privilege'' of owning 
a home.
    3. And, if that is not enough to dissuade those who find 
the amount excessive, consider that most, or even all, of the 
amount to be collected by this tax [Or limited liability 
license fee.] would have been paid as income and payroll taxes 
``in the name of their employees'' but, because those taxes are 
eliminated it becomes just a change in accounting these taxes 
that had been called ``wages'' but were never seen by the so-
called wage earner. [There would, of course, need to be enough 
time for contracts to adjust nominal wage rates to reflect the 
new system.]
    For the uninitiated, most personal income taxes and other 
payroll taxes are collected by corporations that would instead 
pay the monopoly tax while nominal wages [Not after tax wages 
which likely will actually increase.] are reduced. In further 
note of this consequence, it may be necessary to remind some 
that wage rates are not set in a vacuum and the elimination of 
those liabilities called taxes on wages would substantially 
affect negotiated nominal wage rates.
    Initially, other taxes paid by these corporations would 
also be eliminated changing only the form [From ``variable'' to 
``fixed'' costs.] and not the actual amount of taxes paid by or 
through these corporations. Subsequent amounts would be 
determined [as demonstrated in ``Three Steps, etc.''] by 
maximizing the growth rates of corporate value and the overall 
economy.
    The yearly amount that would be collected by such a tax 
would then be $0.16 trillions per month times 12 months, or 
$1.76 trillions per annum. This is only $6 billion less than 
the $1.766 trillion budget for FY 2000. Not a bad approximation 
for such a crude estimate.
    A significant consequence would be the replacement of a 
very complex system of government revenue raising that imposes 
a myriad of forms, rules and other burdens on many millions of 
people and wastes untold hours of effort to comply with these 
burdens that could better be applied to useful production with 
a system that is simple for both the companies affected and the 
bureaucrats tasked with enforcement. [There are about 7,-8,000 
companies in the current Wilshire 5000 index. This could expand 
to perhaps 10 times as many as some of the larger companies 
choose to decompose themselves into several smaller units to 
reduce their tax liability.]
    Although a rigid proof of the above is a bit more 
complicated than this simple example, it is also true that ALL 
the present taxes collected hinder economic activity and differ 
only in the way that hindrance occurs, while the above method 
is recognized by economists as at least neutral or ``non-
distortionary'' in its effect on an economy and, by those 
willing to examine the arguments presented in the more complete 
pamphlet, actually can be optimized to cause the greatest rate 
of capital formation given all other conditions existing.
    I hope when it comes time to examine substitute methods for 
the failing income tax system that this process will be 
considered.
            Thank you,
                                                  John B. O'Donnell

                                

STATEMENT OF ROBERT P. HODOUS, PAYNE & HODOUS, CHARLOTTESVILLE, VA

    The Hon. Bill Archer, Chairman, and Hon. Members of the 
Committee:
    I appreciate the opportunity to provide these comments for 
your record regarding the need to replace the current Internal 
Revenue Code with an uncomplicated rational new code. The 
starting point for this effort should be the proposal for a 
flat tax. The three basic concepts of the flat tax as applied 
to individuals are one tax rate, no deductions and large 
exemptions to eliminate taxes on those least capable of paying 
them.
    A variation of the income tax is preferable to a sales tax, 
which is considered to be one of the most regressive forms of 
tax. Implementation of a high-rate national sales tax could be 
a substantial shock to the economic system. Aspects of the fair 
tax proposal are intended to minimize this impact and the 
regressive nature of the tax. However, in minimizing the 
regressive impact and shock of implementation of a high-rate 
national sales tax, we again begin to build complications into 
a new system. In addition, sales taxes can end up with many 
exemptions and variations which lead to significant 
complications for merchants trying to apply such taxes. 
Minimizing these difficulties by harmonizing the system with 
the various state sales tax provisions would be a nightmare. In 
short, while a national sales tax or fair tax may seem simple 
at first blush, it has many pitfalls and complications which 
will be hard to overcome.
    Applying the three flat-tax principles mentioned above 
should be just the beginning. To do nothing more than flatten 
and simplify individual rates, exemptions and deductions leaves 
most of the complicated provisions of the current Internal 
Revenue Code still in place. For business entities we would 
still have varying tax treatment for different types of 
entities. Such varying treatment leaves in place the 
increasingly complicated series of choices for formation of 
business entities. The basic choices still remain sole 
proprietorship, general partnership and corporation. Efforts 
over time to obtain more favorable tax treatment have lead 
first to the S corporation, then the limited partnership with 
an S corporation general partner. Now we have added limited 
liability companies, single member limited liability companies, 
registered limited liability general partnerships and 
registered limited liability limited partnerships. Development 
of these entities is driven solely by taxes. The drive for new 
types of entities can be eliminated by treating all entities 
the same.
    Only implementing the three flat tax principles would still 
leave us with the estate and gift taxes with all of their 
related complications. We would still have charitable lead 
trusts, charitable remainder trusts, estate freezes, 
generation-skipping transfers and differences in basis 
depending upon whether property is received by gift or 
inheritance. Adding to the problems are the nightmare of 
dealing with various types of tax-favored deferred benefit 
plans and the tax dodge presented by different income and 
estate and gift tax treatment afforded life insurance in an 
irrevocable trust.
    There are many other complications created by the current 
code which can easily be eliminated using the flat tax as a 
starting point. The current code is a hodgepodge of social 
programs, complicated administrative and bureaucratic 
procedures and special tax breaks, all of which should be 
eliminated or minimized in drafting a new code. There must be a 
commitment to true simplification.
    There are seven basic guidelines which should be used in 
creating a new code. The tax law should be understandable. It 
should be economically neutral and not encourage one economic 
decision over another. Administrative requirements should be 
minimized. The burden of taxation and supporting our government 
should be reasonably allocated. The focus should be on raising 
money for the functioning of government, and various provisions 
encouraging different types of social efforts or actions should 
be eliminated. Taxes should be paid directly by individuals 
whenever possible. Finally, all income should be taxed in the 
same manner.
    I undertook to write a new tax code using these guidelines 
to see how uncomplicated the tax law could be. I have been 
successful. The code I have written starts with the flat tax 
and then goes on to eliminate some provisions and simplify 
others as the principles are applied to the whole tax law. In 
addition to taxing all income in the same manner, this code:
     Eliminates the distinctions between types of 
business entities
     Eliminates the marriage penalty
     Provides one type of retirement account with 
greater individual freedom
     Eliminates special accounting provisions
     Eliminates estate and gift taxes
     Replaces excise taxes and special funds with a 
low-rate comprehensive sales tax
     Eliminates special litigation procedures
     Eliminates the need for regulations and rulings
    All of this is done while still eliminating or at least 
lowering the tax bills of the persons who can least afford to 
pay taxes. I have included this code in a book in which I also 
address problems in the current tax code and deal with 
objections to the suggested changes. The tax code is just 30 
sections, and the whole book, including the code, is only 180 
pages. The book is Let's REALLY Change Taxes. I would be happy 
to provide a complimentary copy of the book to any member who 
would like one. My business address is Payne & Hodous, 412 East 
Jefferson Street, Charlottesville, Virginia 22902, and my 
business phone number is 804-977-4507.
    I would encourage you to stay with an income tax system as 
the basic means of raising the money for the functioning of 
government. I also encourage you to use the concept of the flat 
tax as the beginning of a truly rational and uncomplicated tax 
system.
    Again, thank you for the opportunity to provide these 
comments.
            Robert P. Hodous

                                

Statement of Glendale O. Herbert, Pembrok Equity, New York, NY

    Mr. Chairman and members of the committee, I am grateful 
for the opportunity to testify today. I am the owner of Pembrok 
Equity, a New York real estate brokerage firm. Many myths 
surround the current debate over tax reform alternatives, 
perhaps more myths than truths.
    Many opponents of a national sales tax have stated that it 
would be bad for homeownership, since the rental of an 
apartment or the purchase of a home would be taxed but the 
mortgage interest deduction would be eliminated. This is a 
myth. If such myths prevail, they will constitute a triumph of 
rhetoric over reason. In fact the FairTax, introduced on a 
bipartisan basis by Reps. John Linder and Collin Peterson as 
H.R. 2525, would have a positive impact on the real estate 
industry and help make the American dream of owning real estate 
a reality for many Americans sooner. As a realtor, I am pleased 
to submit this testimony outlining the positive effects of the 
FairTax on real estate.

Point 1: Mortgage Interest Will be Paid for Out of Pre-Income 
and Pre-Payroll Tax Dollars, Which is Much More Advantageous 
than Today

    Yes, the sales tax eliminates the mortgage interest 
deduction, but when we hear this comment, we should ask 
ourselves this question: what becomes of the deduction? These 
deductions would not ``disappear'' in a negative sense. Rather, 
they could not exist in the sales tax world since there would 
be no income tax against which the deduction could be applied.
    More importantly, however, they reappear in a different and 
stronger form: the non-taxation of mortgage interest. Under an 
income tax, the mortgage interest deduction serves the purpose 
of ensuring interest payments are made against pre-income tax 
dollars. Unless one does not have the income to offset or does 
not itemize, the mortgage interest deduction accomplishes well 
the purpose of offsetting income taxes paid on the mortgage 
interest. In fact, in 1996, there were 29.4 million taxpayers 
who took the mortgage interest deduction, for a total itemized 
deduction amount of $220.2 billion.\1\ The tax expenditure 
associated with this deduction in fiscal year 1999 is estimated 
to be $53 billion.\2\
---------------------------------------------------------------------------
    \1\ SOI Bulletin, Winter 1998-1999.
    \2\ U.S. Budget for Fiscal Year 2000, Analytical Perspectives.
---------------------------------------------------------------------------
    However, it is important to note that as large as it is, 
the deduction is seriously limited today for lower wage earners 
(read first time homebuyers trying to latch on to the American 
dream) in the respect that it only serves to negate the income 
tax. Today, mortgage interest payments must be made from after 
payroll tax dollars, which comprises a significant segment of 
the taxes Americans pay. As a national aggregate, in fiscal 
year 1997 individual income taxes were $737.5 billion, and 
payroll taxes were $539.4 billion, or 42 percent of the 
combined total. Many taxpayers, especially lower income 
individuals, who are purchasing their first home pay a greater 
portion of their tax liability in payroll taxes than income 
taxes.
    Let us again see the world through the eyes of our fairly 
average homebuyer. Recall the median family money income in 
1997 was $44,568. Recall further that if that income were all 
wage income, then that couple would have paid $6,819 in 
combined payroll taxes on those wages (employer and employee 
share). Even if that couple did not itemize (which they 
certainly would because of the mortgage interest deduction), 
the income taxes that they would pay if they filed married 
filing jointly would be $4,856, or 29 percent less than the 
payroll taxes. In other words, the couple would have paid more 
payroll taxes than income taxes. When the couple takes a 
mortgage interest deduction, the couple cannot take that 
deduction against the most significant form of taxes that apply 
to them--payroll taxes.
    Now let us consider what happens under the Fair Tax. Under 
the Fair Tax plan, mortgage interest is simply not taxed--not 
at all. Therefore, like current law, homebuyers would pay 
mortgage interest out of pre-income-tax dollars. But more to 
the point, since the Fair Tax repeals both the payroll taxes 
and the income taxes, the effect of not taxing their interest 
payments is to ensure that the payments are made with both pre-
income and pre-payroll tax dollars. This will significantly 
advantage home buyers relative to current law by reducing the 
costs of their loan. Since the interest must be paid with after 
payroll tax dollars, a taxpayer today must earn $108.28 to pay 
$100 in mortgage interest today if only the ``employee'' share 
of the payroll taxes are considered. If the employer payroll 
taxes are considered \3\ (or if the taxpayer had a sole-
proprietorship), he or she must earn $118.06. Under the Fair 
Tax, that taxpayer would only need to earn $100 to pay $100 in 
mortgage interest.
---------------------------------------------------------------------------
    \3\ Most economists believe that the employer-employee split is 
really a fiction; that employees really do bear the full 15.3 percent. 
However, I make this adverse assumption in order to arrive at a 
conservative estimate of the advantages of the Fair Tax.
---------------------------------------------------------------------------
    Let us examine the relative advantage of not taxing 
interest payments vs. the mortgage deduction against income in 
more detail. We again will use the median purchase price of a 
previously occupied home, $146,000. But we add the fact that 
mortgage interest rates are about 7-3/4 percent and that the 
median term of all loans was about 27 years.
    If we were to model our typical married couple above, with 
a typical home purchase, with a typical interest rate, with a 
typical term of years in a simple graph, we could compare how 
much today's mortgage interest deduction benefits the home 
buyer to relative to the full non-taxation of interest on 
mortgages under the Fair Tax. Over the course of the 27 year 
term, an interest rate of 7.75 percent would add $202,834 to 
the required payoff of the loan. To completely pay off their 
loan, our couple will have to earn $407,103 once employee 
payroll taxes and income taxes (at the lowest 15 percent rate) 
are taken into account. Considering the impact of employer 
payroll taxes would make the figure higher. Under the Fair Tax, 
in contrast, the couple would only need to earn $392,444 or 
four percent less.
    This is not the end of the advantages, however. Our 
family's disposable income will probably go up by the 7.65 
percent employer payroll tax and interest rates, and since 
interest is no longer taxable, interest rates will come down by 
about one quarter as they settle toward the municipal bond 
rates. These two factors would save our couple over $142,764, 
which consists of $92,055 in additional wages and $50,709 in 
reduced interest costs. If we were just to consider the 
interest rate reduction, the cost of homeownership would be 
$341,735 or 16 percent less that under current law.
    In short, homeownership under the Fair Tax is vastly more 
affordable.

Point 2: Mortgage Interest Will Fall

    Home mortgage interest rates will fall by 25 to 30 percent 
(i.e., about two points on a 30 year conventional mortgage). A 
legitimate question is ``why?''
    The answer is that current mortgage interest rates include 
a tax premium, which is the amount lenders pay in taxes on the 
income received. The magnitude of the wedge can be seen by 
comparing the interest rates on taxable bonds to tax-exempt 
municipal bonds of comparable risk and term. The impact of 
elimination of the tax wedge or tax premium on interest is 
evidenced each day in the Wall Street Journal. Tax-exempt 
municipal bonds tend to yield about 30 percent less than 
taxable corporate bonds of similar term and risk. The decline 
in interest rates will occur entirely because of the 
elimination of the tax wedge or premium on interest and will 
happen independently of the impact of the sales tax on savings 
and investment.\4\ Investors will simply no longer need to 
charge a tax premium to achieve a particular after-tax rate of 
return.
---------------------------------------------------------------------------
    \4\ For an more detailed discussion of the impact on a national 
sales tax on interest rates, see John E. Gobb, Economic Review, Federal 
Reserve Bank of Kansas City, ``How Would Tax Reform Affect Financial 
Markets?,'' Fourth Quarter, 1995. He estimates a 25-35 percent drop (p. 
27).Jorgenson.
---------------------------------------------------------------------------
    Moreover, interest rates will probably fall further because 
the supply of capital for borrowing will increase.\5\ That is 
because a national sales tax is neutral toward savings. Because 
the attractiveness of savings relative to consumption will 
increase, investors will choose to save and invest more of 
their money rather than use it to consume immediately. The 
after-tax return on their investment makes deferring 
consumption worthwhile. In contrast, the current income tax is 
biased against savings and investment. The income tax double, 
triple and often quadruple taxes savings.
---------------------------------------------------------------------------
    \5\ ``Probably'' because their will also be an increased demand for 
that savings for investment purposes that will have a countervailing 
effect.
---------------------------------------------------------------------------
    Economic studies show that savings are responsive to 
changes in tax treatment and that savings rates are closely 
correlated to the return on savings.

Point 3: Lower Marginal Rates Will Reduce the Costs of 
Principal Payments to Home Buyers

    Sometimes the rhetoric surrounding tax reform loses site of 
the fact that home principal payments are taxed today. As one 
editorial put it ``if you bought a $150,000 house, you'd have 
to pay $22,500 more in taxes.'' More in taxes? We forget that 
taxpayers today must pay for the principal in homes with after 
income tax and after payroll tax dollars. The interest is 
deductible but the principal is not.
    Under the FairTax, existing homes would never be subject to 
the sales tax. Similarly, homes built after the FairTax was put 
in place would only be taxed once when first sold and would 
never be subject to sales tax again. In other words, used homes 
are not subject to sales tax, only newly constructed homes are. 
With respect to new homes, under the Fair Tax as with current 
law, principal payments would be taxed but under the FairTax 
the income earned to pay for that principal would not be taxed 
by the income tax or the payroll tax. Moreover, since the Fair 
Tax lowers marginal rates new home buyers would face lower 
after tax costs of their principal payments.
    Given the fact that a consumption tax taxes purchases, but 
the income tax takes the money before we purchase, how can we 
compare the two as they affect the homebuyer? The only proper 
comparison is to ask ourselves this question: how much money 
would a purchaser have to make to earn to pay for the principal 
in the home? As noted, today, a purchaser of a home must make 
principal payments with after tax dollars. A taxpayer who is in 
a 28 percent bracket, and pays a 15.3 percent payroll tax, 
would have to earn $176,000 to purchase a home of $100,000 
devoid of the interest charge. They would have to make $265,000 
to pay cash for a new home of $150,000. Under the FairTax, a 
$100,000 existing home would cost $100,000 after-tax since no 
sales tax would be imposed. A $150,000 existing home would cost 
$150,000. At a marginal rate of 23 percent, a $100,000 new home 
would cost $130,000 after tax and a $150,000 new home, 
$195,000. So, the cost of making equity payments decreases as 
well under the Fair Tax compared to current law.
[GRAPHIC] [TIFF OMITTED] T1879.013


Point 4: Individuals Will be Able to Save for the Purchase of a 
Home Much Faster, Which Will Increase and Accelerate the Volume 
of Home Sales

    Since the Fair Tax does not tax savings and investment and 
makes the payment of the tax largely elective, it will enable 
new home buyers, second home buyers or buyers stepping up, to 
save for their purchase faster. Buyers will be able to qualify 
for a mortgage faster and existing owners will be able to sell 
their homes faster.
    Why can individuals save so much faster? First, the Fair 
Tax removes the enormous disadvantage to savings and investment 
under our income tax system. Today, savings and investment 
income is greatly disadvantaged. Wage and salary income is 
included in the income tax base when it is earned originally. 
If that income is consumed, the benefits of consumption go 
untaxed. However, if what is left of the wages and salaries is 
saved (for example, for a new home), the earnings are taxed as 
the income from that investment is generated. Then, if the 
income-producing asset, such as a stock or bond, equipment or 
real property interest is sold for more than it was purchased, 
the benefit of the capital investment--the capital gain--is 
taxed a third time. Corporate income (including capital gains) 
is taxed at the corporate level and again when it is paid to 
shareholders as dividends. Inter-corporate dividends are also 
subject to tax, creating yet another level of taxation.
    A principal advantage the Fair Tax has over an income tax, 
therefore, is that the downpayment can be saved without 
fighting against the cascading taxes on savings.
    To illustrate the effects of the current taxes on savings 
and investment, let's construct a typical fact pattern and then 
analyze the effects. Let's take a married couple who wants to 
purchase a new home of $146,000, which was the 1997 median new 
home price (the FairTax would tax the sale only of newly 
constructed homes).\6\ Let us further assume that that couple 
will need to save $14,600 (10 percent) for the downpayment. 
Since the median family money income 1997 was $44,568 \7\ , 
let's further assume that that is the amount our couple earns. 
Today, the personal savings rate nationwide, as a percentage of 
disposable personal income, is about 2.1 percent.\8\
---------------------------------------------------------------------------
    \6\ Statistical Abstract of the United States, 1998, Table 1203. 
The median price of a previously owned home was $124,100. See Table 
1204.
    \7\ See Economic Report of the President, February 1999, Table B-
33.
    \8\ U.S. Bureau of Economic Analysis, reported in Economic Report 
of the President, February 1999, Table B-32.
---------------------------------------------------------------------------
    Our income tax system attacks their ability to save at the 
very beginning, when our prospective buyer earns their income. 
Our family will be taxed on their earnings at the 15 percent 
rate under the income tax plus payroll taxes. To save $14,600 
after-tax that family must earn, at the margin, an additional 
$18,875 (looking only at the employee share of payroll taxes 
and income taxes). They would have had to earn $22,688 if they 
were in the 28 percent tax bracket, a more typical bracket for 
homeowners.
    If the $44,568 of our family's income was all wage income, 
then that couple would have paid $3,409 in employee payroll 
taxes on those wages. Note also that their wages were also 
about $3,409 lower because of the employer payroll tax. 
Economists generally believe that the employer share of the 
payroll tax is borne by the employee in the form of lower 
wages. After the standard deduction and two personal 
exemptions, the couple would pay income taxes of $4,856. Hence, 
using a standard deduction, the couple would have paid $8,265 
in taxes on $44,568 leaving our family $36,303 after taxes. 2.1 
percent of that disposable income is $762.
    Today, assuming they earn 8 percent on their savings, they 
are in the 15 percent bracket and save $762 each year at the 
beginning of the year, they would be able to save their down 
payment by early in the 13th year.
    Under the AFT plan, their disposable income will increase 
to $47,977 because of the repeal of all payroll and income 
taxes. Assuming they continue to save 2.1 percent of this 
amount, they would save $1,008 each year. Assuming they would 
earn a lower 6 percent on this amount, then they would be able 
to save a $14,600 downpayment in the 11th year. Note, however, 
that the acceleration effect is much more pronounced if they 
were in the 28 percent tax bracket. Even if we add 23 percent 
to this amount, they would be able to save $18,961 in the 13th 
year. This, however, is unrealistically pessimistic since the 
repeal of all income and payroll taxes will reduce producer 
prices. Harvard's Dale Jorgenson estimates that construction 
prices will fall by 25 percent.\9\
---------------------------------------------------------------------------
    \9\ See, The Economic Impact of the National Retail Sales Tax, Dale 
W.
---------------------------------------------------------------------------
    What does this mean in national aggregates? It means that 
we would accelerate the purchase of homes, increasing the 
velocity of those sales. It also means that realtors would make 
more money faster since there would be many more home sales 
crunched into a smaller period of time. More sales mean more 
commissions.

Point 5: The Fair Tax Makes Housing More Affordable by 
Repealing Upstream Taxes

    Housing today is taxed much more heavily than most people 
realize. Like other firms, homebuilders pay corporate taxes and 
payroll taxes, not only on their own accord, but in the form of 
taxes embedded in the goods they purchase to build homes. These 
upstream costs would disappear.
    Research by Harvard economist Dale Jorgenson shows that 
producer prices in the construction industry will fall 25 
percent under the Fair Tax plan since the income tax and 
payroll tax is embedded in the price of everything we buy. In 
this case, new housing prices will be approximately the same 
price including the sales tax as they are today and the 
relative price of new and used housing will remain roughly 
comparable to what they are today. If Jorgenson is wrong and 
the sales tax causes prices to rise, then existing home prices 
will rise immediately to reflect the fact that they are not 
subject to tax. Although this would result in a one-time, quick 
windfall gain to owners of existing houses, the relative price 
of new and old homes will be comparable.

Conclusion:

    The combination of these factors means that the Fair Tax 
would be highly beneficial to real estate. The Fair Tax would:
     reduce the tax burden on interest;
     lower interest rates and make homes more 
affordable;
     lessen the pre-tax earnings a buyer must earn to 
pay for a home;
     quicken the pace of saving for a downpayment and 
the pace of home sales;
     make homes more affordable by eliminating the 
taxes embedded in upstream producer prices.
    As you review competing tax reform plans, let us keep in 
mind one factor. The income tax is not the perfect system for 
real estate and those that say that real estate might be hurt 
simply because the mortgage interest deduction is removed are 
performing a very shallow analysis. It takes a little more 
effort to see the truth. I am pleased to support the FairTax as 
a means of assisting more Americans in achieving the American 
Dream of owning real estate.

                                


STATEMENT OF DAVID R. BURTON, PROSPERITY INSTITUTE, ALEXANDRIA, VA

    I am David R. Burton, President of the Prosperity 
Institute. I am pleased to submit this testimony on behalf of 
the Prosperity Institute. We would like to take this 
opportunity to present our analysis of the impact of the 
leading national sales tax plan on senior citizens. This plan 
is called the FairTax.
    Senior citizens are becoming a larger portion of the 
overall population. In 1970, those over 65 years of age were 
9.8 percent of the population. By 1999, seniors were 12.7 
percent of the population. In 2015, seniors will account for 
14.7 percent of the population and in 2020, they will account 
for 16.6 percent.\1\
---------------------------------------------------------------------------
    \1\ Middle Series, U.S. Bureau of the Census, Statistical Abstract 
of the United States, 1996, Tables 814 and 17, pp. 15 and 17.
---------------------------------------------------------------------------
    Under the FairTax, senior citizens, like others, will 
receive a cash rebate effectively exempting consumption up to 
the poverty level from tax. The sales tax rebate is equal to 
the sales tax that would be paid on expenditures up to the 
federal poverty level. Because the federal poverty level for 
two persons is not twice the level for one persons, the FairTax 
provides that married couples would receive an extra rebate 
amount to prevent any marriage penalty. The rebate is paid 
monthly in advance. Thus, poor seniors will pay no sales tax. A 
household spending twice the federal poverty level (or more in 
the case of a married couple) would pay an effective tax rate 
of 11-\1/2\ percent.
    Because income and payroll taxes are embedded in the price 
of everything we purchase, it is not clear that prices, even 
including the sales tax, will increase by very much.\2\ They 
may not increase at all because pre-sales-tax prices may fall 
once the income and payroll taxes are repealed. Nevertheless, 
the FairTax makes sure that the Social Security benefits 
indexing formula would be adjusted so that benefits will 
increase to the extent, if any, that the sales tax results in 
higher tax inclusive prices. The income tax imposed on Social 
Security benefits will be repealed.
---------------------------------------------------------------------------
    \2\ Dale W. Jorgenson, Economic Impact of the National Retail Sales 
Tax, National Tax Research Committee, generally showing that producer 
prices will fall 20 to 30 percent because of the repeal of income and 
payroll taxes.
---------------------------------------------------------------------------
    The income tax imposed on investment income and pension 
benefits or IRA withdrawals will be repealed. Pensions funds, 
IRAs and 401(k) plans have assets of well over $11 trillion.\3\ 
An income tax deduction was taken for contributions to most of 
these plans and the earnings on these plans have accrued free 
of any income tax. All beneficiaries and owners of these plans 
expected to pay income tax on them upon withdraw and would not 
be required to do so since the income tax would be repealed by 
the FairTax.
---------------------------------------------------------------------------
    \3\ Statistical Abstract of the United States, 1998, Tables 845-
847, pp. 533-534. In 1997, private pensions had assets of $4,846 
billion and state and local pension funds had assets of $2,100. In 
1996, Individual Retirement Accounts had assets of $1,347 billion. In 
1997 section 401(k) and other defined contribution plans had assets of 
$1,730 billion.
---------------------------------------------------------------------------
    Repeal of the corporate and individual income tax and the 
estate and gift tax will have a substantial positive impact on 
the stock market.\4\ Those seniors that own stocks either 
directly or through mutual funds, Individual Retirement 
Accounts, 401(k) plans or otherwise will experience significant 
gains. More seniors own stocks, mutual funds or have IRAs than 
other age groups.\5\ In addition, unrealized capital gains that 
would have been subject to the income tax when realized will no 
longer be taxed.
---------------------------------------------------------------------------
    \4\ In short, by repealing the corporate tax, the tax on dividends 
and the tax on capital gains, the net of income tax future income 
stream of corporations will increase and the capitalized value of the 
that future income stream will increase as well.
    \5\ U.S. Bureau Labor Statistics, Statistical Abstract of the 
United States, 1998, Table 798, p. 514.
---------------------------------------------------------------------------
    The FairTax imposes a sales tax on newly constructed homes 
but exempts existing homes and other used property from any 
sales tax. Currently, equity payments on homes must be paid 
from after-income tax earnings (i.e. principal payments are not 
deductible). The purchase of existing housing is thus subject 
to the income tax. Owners of existing homes may experience 
large gains due to the repeal of the income tax and 
implementation of the FairTax. Seniors and those nearing 
retirement age have dramatically higher homeownership rates 
than other age groups. (80 percent compared to 66 percent on 
average).\6\ Homes are often a family's largest asset.
---------------------------------------------------------------------------
    \6\ Statistical Abstract of the United States, 1999, Table 1215, p. 
726.
---------------------------------------------------------------------------
    Under the FairTax, the estate and gift tax would be 
repealed. The need for small businesses and farmers to engage 
in expensive estate planning, involving attorneys, complex 
estate freeze transactions and expensive life insurance plans 
in anticipation of future estate and gift tax liability would 
disappear. Heirs would no longer need to sell the business or 
farm out of the family or borrow heavily, putting the business 
at risk, to pay the estate tax.
    Replacing the current tax system with a national sales tax 
would make the economy much more dynamic and prosperous.\7\ 
Budget pressure on entitlement spending, already significant, 
will become much more pronounced once the baby boom starts 
retiring. The economic growth a sales tax would cause would 
make it substantially less likely that federal budget pressures 
will result in Medicare or Social Security benefits reductions.
---------------------------------------------------------------------------
    \7\ ``The Economic Impact of Replacing Federal Income Taxes with a 
Sales Tax,'' Laurence J. Kotlikoff, April 15, 1993, Cato Institute 
Policy Analysis; Dale W. Jorgenson, Economic Impact of the National 
Retail Sales Tax, National Tax Research Committee. See also, ``The 
Economic Impact of Fundamental Taxing Consumption,'' Dale W. Jorgenson, 
Testimony before the House Ways and Means Committee, March 27, 1996 and 
``The Economic Impact of Fundamental Tax Reform,'' Dale W. Jorgenson, 
Testimony before the House Ways and Means Committee, June 6, 1995; 
``Looking Back to Move Forward: What Tax Policy Costs Americans and the 
Economy,'' Gary Robbins and Aldona Robbins, Policy Report No. 127, 
September 1994, published by the Institute for Policy Innovation; 
``Replacing the Federal Income Tax with a Consumption-Based Tax 
System,'' prepared by Nathan Associates for the National Retail 
Institute (1996).
---------------------------------------------------------------------------
    According to work by Stanford University economist Joseph 
Kahn, those seniors with a net worth over $400 thousand (nearly 
four times the median) may see a reduction in their purchasing 
power. The largest decline in purchasing power, about 3.5 
percent, is for those with net worth above about $700 thousand. 
The primary reason for this effect is that wealth spent for 
consumption purposes that is held in non-tax deferred accounts 
like IRAs will be taxed when spent under a sales tax and would 
not be taxed further under an income tax.\8\ Kahn assumes, 
contrary to Jorgenson, that prices will rise.
---------------------------------------------------------------------------
    \8\ ``Examining a Change to a National Retail Sales Tax Regime: 
Impact on Households,'' November 1996.
---------------------------------------------------------------------------
    Most seniors will be better off were the FairTax to replace 
the current system.

                                


STATEMENT OF REDEFINING PROGRESS, SAN FRANCISCO, CA

         Environmental Tax Reform: An Idea Whose Time Has Come

    [This testimony is largely excerpted from the monograph, 
Tax Waste, Not Work: How Changing What We Tax Can Lead to a 
Stronger Economy and a Cleaner Environment, by M. Jeff Hamond, 
published by Redefining Progress (RP). For more information 
about RP's work on tax shifting or to order a copy of the 
monograph, call (800) 896-2100.]
    Despite the sustained overall strong performance of the 
American economy--such as a high rate of job creation, 
declining deficits, and low inflation and unemployment--the 
nation is still struggling with several important long-term 
problems.
    Among the most serious of these are the payroll tax and the 
exploding growth of entitlement programs; the emergence of 
global climate change as a significant environmental and 
economic threat; the lack of economic opportunity in our inner 
cities; and the dislocation and hardship that are being caused 
by major economic transformations (such as the rapid growth of 
information technologies) even as they provide exciting new 
opportunities. Each of these problems has caused many scholars 
and activists to look for solutions, but so far few good ideas 
have moved from theory to actual policy.

A Fresh Approach to Some Old Questions

    A new approach to fiscal and environmental policy--a 
resource-based tax shift--holds the potential for improving 
many of the country's problems simultaneously, while attracting 
support across the political spectrum. This approach would 
reduce current taxes on labor, innovation, and capital 
formation and replace the revenue with new levies on pollution 
and waste. Total federal revenue would be unchanged and the 
current distribution of the tax burden across income groups 
would be preserved.
    A revenue-neutral tax shift of this type could be 
accomplished through the use of new taxes or tradable emission 
permits, but the basic idea--that the new revenue should be 
used to reduce existing taxes--would be the same under either 
mechanism. Many of the potential benefits of this policy idea 
are dependent upon this ``revenue recycling.'' Because other 
taxes are being reduced, this proposal is not a new revenue 
source to buttress government expenditures. It would simply 
replace a portion of federal revenues--perhaps 5 to 10 
percent--with revenues from environmental taxes or permits.
    The proposed new tax system is designed to be revenue-and 
distributionally-neutral because the way in which a free 
society decides to distribute the burden or spend public tax 
dollars should be a separate issue from that of the method used 
to raise the revenue. This distinction is not meant to be an 
endorsement of the current tax distribution or size of 
government. Rather, it is meant to emphasize the fact that the 
tax shift is neither a tool to increase government (in fact, it 
could do just the opposite), nor to shift the tax burden to the 
rich or the middle class.
    This new approach to public policy could create a powerful 
alliance among those concerned with problems such as high taxes 
on capital formation or on the average family; the need for 
additional investments in human capital and research and 
development (R&D); the threats to the global environment; the 
costly regulatory burden on private industry; fiscal 
irresponsibility; the complexity of international tax rules; 
and job creation in inner cities. It would provide a rare 
opportunity to enact tax cuts on both labor and investment 
income. By so doing, it would attract support from both ends of 
the political spectrum and potentially create incentives for 
more investment in both human and physical capital--an economic 
stimulus package with no revenue cost. Given the mounting 
interest in fundamental tax reform, the weaknesses of the tax 
reform plans that have been offered, and the growing 
international momentum for addressing the threat of climate 
change, such a proposal could not come at a better time.

The Tax Shift Concept

    The current tax system sends the wrong signals to virtually 
everyone. It discourages work, enterprise, and capital 
formation while it encourages sprawl, pollution, waste, and the 
inefficient use of resources. There is almost unanimous 
agreement that the tax system needs reform.
    There are really two sides to the tax reform debate--and 
they aren't ``liberal'' versus ``conservative.'' Rather, they 
are what should be taxed and what should be untaxed--and the 
next attempt at major tax reform should focus on both. Look at 
it this way: When the government wants to promote a social 
goal, what does it do? It reduces income taxes--via credits, 
preferences, and deductions--on particular activities that the 
government thinks will help accomplish that objective. Retired 
Sen. Bill Bradley (D-NJ) calls this practice ``government by 
tax break,'' and it helps explain why the tax system is the 
part of government that people hate the most. But what if the 
government can accomplish social goals both through what it 
taxes as well as what it untaxes?
    Common sense dictates that you get less of what you tax and 
more of what you don't. Since higher rates of saving and 
investment can drive faster economic growth, many recent tax 
proposals focus on reducing taxes on capital income in the 
hopes of creating more saving and investment. Yet in an effort 
to keep total revenue relatively stable, some of these 
proposals would increase taxes on labor in order to untax 
capital. This action would have the perverse result of raising 
taxes on modest and average income people--and if common sense 
applies, this in turn would result in less labor.
    The argument works the other way as well: Higher taxes on 
capital holders should not be used to finance tax cuts for 
working people, because these tax increases penalize the 
investment and entrepreneurism that creates new jobs and 
opportunities. Such a policy untaxes labor in order to tax 
capital. In an economy that needs more of both human and 
physical capital, considering only these two options presents a 
false choice.
    Make no mistake: A tax code is primarily a means of raising 
revenue. But it also sends powerful messages through what it 
does, and does not, tax. In this light, why not develop a 
socially useful tax system that would tax those things the 
country needs less of, and untax those things of which society 
wants more? This idea is being tried around the world, and even 
the British news magazine The Economist has endorsed such an 
approach. Tax Waste, Not Work suggests bringing this concept, 
commonly called environmental or resource-based tax shifting, 
to the United States.
    This type of tax reform could lead to a cleaner environment 
at the same time that incentives are provided for more work and 
investment. Just as importantly, it could be designed without a 
regressive shift of the tax burden if regressive taxes like the 
payroll tax are reduced to offset the new levies. Revenues 
could be gained from taxing carbon dioxide emissions, air and 
water pollution, or consumption of virgin materials. Emission 
permits could be auctioned to firms, which would also raise 
substantial revenue; similarly, fees could be charged for the 
use of certain assets held in common by the public. On the tax 
reduction side, payroll, individual, and corporate tax rates 
could all be reduced--without increasing the deficit or forcing 
huge cuts in government services.
    While such a shift from taxing ``goods''--the creation of 
wealth through labor and investment--to ``bads''--the depletion 
of wealth through pollution and environmental degradation--
cannot be a magic bullet for every economic and environmental 
ill, it does offer a promising chance for promoting work and 
investment while concurrently moving toward the types of 
market-based policies that would be an improvement over the 
current regulatory structure.

Deflecting Past Critiques

    The idea of using market-based policies such as taxes or 
emission permits to deal with environmental problems has been a 
staple of the academic literature for decades. But these policy 
tools have been widely criticized in the United States for a 
number of reasons--all of which a tax shift would address:
     Environmental taxes and permits have often been 
pushed as tax increases, rather than as a lever for reducing 
other taxes. A tax shift, however, would substitute higher 
taxes on some things with lower taxes on others, with the 
objective of leaving most individuals paying roughly the same 
amount in total. Only recently has this idea for ``revenue 
recycling'' been receiving attention from academics and public 
policy groups. For example, the World Resources Institute's 
Green Fees report and Ernst Ulrich von Weizsacker's book, 
Ecological Tax Reform (both published in 1992), broke new 
ground in this area; an interesting body of literature has 
followed these front runners, discussing the potential benefits 
of such ``recycling.''
     The business community has lobbied against these 
so-called ``green taxes'' in the past, fearing that they would 
cost jobs, reduce economic growth, or detract from U.S. 
competitiveness. But a tax shift, by reducing other taxes with 
high distortionary costs, should greatly reduce or eliminate 
these concerns.
     Environmental taxes and permits have been 
criticized for their regressive nature--that is, for affecting 
the poor and middle classes relatively more than the well-off, 
since lower income families spend a larger percentage of their 
income on energy. Yet under a tax shift, other regressive taxes 
could be reduced to maintain the current distribution of the 
tax burden.
     Past critics could point to the potential risk of 
being the first industrialized country to advance these 
proposals in a major way. But now there are models to look to, 
as several countries have adopted ``green taxes''; and others, 
including Denmark, Great Britain, and Costa Rica, have passed 
mild tax shifts.

The Rationales for Change

    Philosophic Rationales
    A tax shift policy sends a powerful message from the 
perspective of restoring legitimacy to public finance: 
Individuals should be able to keep more of the fruit of their 
toil, but should pay for the costs that they impose on others. 
This change would restore both a coherent rationale and a sense 
of values to the nation's tax system. Tax shifting also offers 
the potential to draw public revenue from resources already 
owned in common (e.g., public lands, the broadcast spectrum), 
thereby enabling all citizens to receive dividends from the use 
of common assets.
    To the extent that it replaces the current tax structure, a 
shift to resource taxes would also restore the notion that the 
costs of today's actions should not be borne by future 
generations. This would bring a sense of ``honest accounting'' 
back to government. In other words, rather than paying taxes 
based upon their work or saving, people should increasingly pay 
taxes based upon the resources they consume and the pollution 
they cause. Thus, society ``pays'' for the problems it passes 
on to its children, rather than passing on the burden.
    Finally, by providing incentives for people and businesses 
to invest in energy efficient vehicles, homes, and equipment, a 
tax shift empowers people to reduce their own tax bills in a 
way that the current system does not.

Economic and Fiscal Rationales

    While tax shifting is a relatively new idea, the economic 
rationales for pursuing it are numerous and rest on several 
long-standing pillars of mainstream thought.
     The current tax system imposes significant 
efficiency costs and therefore retards economic growth. 
Replacing a portion of these economically inefficient taxes 
with ``corrective'' taxes (which have lower efficiency costs, 
or ``deadweight losses'') could reduce the overall economic 
cost of the tax system. It could also yield several important 
economic benefits, ranging from more job creation and/or higher 
wages to new investments in energy efficiency and higher 
economic growth. Redefining Progress has sponsored research 
that concludes that, depending on incidence assumptions and 
revenue recycling choice, approximately three-fourths of 
industry and workers stand to gain from environmental tax 
reform, in terms of reduced tax burden and increased 
competitiveness.
     Current market prices for many goods do not take 
the social and environmental costs of production or energy 
consumption into account. Adding the costs of these 
externalities into the price system, via the tax code or 
emission permits, would make the economy more efficient. 
Despite disagreement about how (and by how much) energy prices 
ought to be raised, most economists would agree that energy 
prices ought to be higher--and that higher prices would not be 
as costly to the economy as some critics claim.
     The academic literature has shown that the most 
efficient use of any revenues from environmental levies would 
be to reduce other taxes. While there is disagreement over 
whether tax cuts on work or investment are more likely to yield 
economic gains, it is this potential for lowering current taxes 
that is likely to be the most appealing part of this proposal 
for many individuals, private firms, and elected officials.
    Environmental Rationales
    Another motivating force for a tax shift is that it would 
provide a least-cost approach to reducing pollution, waste, and 
the long-term threat of climate change. In the summer of 1995, 
the Intergovernmental Panel on Climate Change (IPCC)--a group 
of more than 2,200 scientists and economists from nearly 60 
nations--declared that ``the balance of evidence suggests that 
there is a discernible human influence on global climate,'' 
signaling the growing scientific consensus on the issue. In 
1998, over 2500 economists, including eight Nobel laureates, 
signed a statement that global climate change carries with it 
significant environmental, economic, social, and geopolitical 
risks, and that market-based policies offer the most efficient 
solution for slowing the effects of climate change.
    The view that climate change is not an economic problem is 
changing as the staggering costs of dealing with its effects 
become more apparent. Despite greater energy efficiency in the 
United States, global emissions of carbon dioxide are projected 
to grow by 54 percent over the next 20 years. In response, the 
U.S. government has begun to shift its view of the climate 
change problem. In July 1996, the Clinton Administration 
announced its support for the adoption of binding yet flexible 
targets to reduce global carbon emissions. In 1997, the United 
States negotiated the Kyoto Protocol, along with 160 other 
countries, under which it agreed to reduce its greenhouse gas 
emissions by 7 percent between 2008 and 2012. A tradable 
emission permit system will be instrumental in achieving these 
goals.
    Industry leaders, policy makers, academic economists, and 
many members of the environmental community have also shown 
growing support for market-based approaches to environmental 
policy. The Clinton administration, presidential candidate 
George W. Bush, and many members of Congress have all stated 
that climate change is a problem. Various business sectors--
most notably insurance and finance--are increasingly viewing 
climate change as a threat to economic performance, public 
health, and geopolitical stability. The focus of these 
interests has not only been on the climate change issue, but 
also on pollution, congestion, and solid waste. The possibility 
of addressing these problems with less regulation creates the 
potential for new alliances between business, 
environmentalists, labor unions, tax reformers, and elected 
officials at all points along the political spectrum.

Tax Shift Efforts at the State Level

    Broader acceptance of environmental tax shifting as a 
concept has gained momentum at the state level. Environmental 
and tax reform groups in California, Florida, Maine, 
Massachusetts, Minnesota, New Hampshire, Oregon, Pennsylvania, 
Texas, Vermont, Washington, and Wisconsin are working on moving 
specific reforms in their respective states. Proposed bases for 
increased taxes include land use, vehicle miles traveled, large 
livestock property, water pollution, and energy emissions, with 
proposed decreases in payroll, income, sales, and corporate 
taxes.
    Although legislators remain wary of tax shifting, perhaps 
because of reflexive suspicion of any tax measure, all U.S. 
states have at least some environmental tax provisions, and 
several have recently considered or are considering new 
measures to shift taxes toward environmentally harmful 
activities. In Minnesota, the legislature introduced the 
Economic Efficiency and Pollution Reduction Act (EEPRA) in 
1997, which would have combined a carbon tax with an offsetting 
reduction in property and payroll taxes. The House Environment 
Committee debated the bill, but it was withdrawn without a 
vote. Environmental tax reform has been suggested as an 
instrumental base for education finance reform in New 
Hampshire. A court order mandating increased aid to education, 
combined with enduring reluctance to introduce a sales or 
income tax, has made pollution taxes a politically viable 
alternative to increased property taxes. In neighboring 
Vermont, a proposed legislative tax shift study lost by one 
vote in the House in 1999.
    It should also be noted that environmental taxes are much 
more widely accepted in Europe than in the United States. 
Consider these examples:
     In Denmark, green taxes are being used to reduce 
income taxes and employers' social security contributions.
     In Finland, lower taxes on income and labor are 
being offset, in part, by green taxes, such as a landfill tax, 
and increased energy taxes.
     In the Netherlands, part of the regulatory tax on 
energy is being allocated to a reduction in employers' social 
security contributions.
     In Sweden, a 1991 tax reform resulted in higher 
environment-related taxes and lower marginal income tax rates.
     In the United Kingdom, revenue from a new landfill 
tax is being used to reduce employers' social security 
contributions by 0.2 percentage points.

The Potential Benefits of Change

    The following are the most important potential benefits of 
this fresh approach to fiscal policy, each of which is examined 
in Tax Waste, Not Work.
    1. Job creation could be spurred, take-home pay increased, 
and/or incentives to enter the workforce enhanced as a result 
of lower payroll taxes.
    2. Reducing taxes that carry large efficiency losses could 
enhance economic efficiency, thus improving the economy's 
overall capacity to create jobs and wealth.
    3. The collective threats of climate change (i.e., 
economic, health, environmental, and political) could be 
addressed through a proactive solution.
    4. Environmental benefits such as less pollution and waste 
could be realized through market-based solutions, with less 
reliance on heavy-handed government regulation such as vehicle 
emission standards.
    5. Businesses and individuals would have a greater 
incentive to make new investments in technological innovations 
or energy efficiency, thus exerting a new measure of control 
over their own tax burdens.
    6. The taxation of capital and business income could be 
greatly simplified or reduced without shifting the tax burden 
down the income scale.
    7. New incentives would be created for investment in R&D 
and the development of the businesses and technologies of the 
future, helping U.S. companies gain competitive advantage in 
new markets.
    8. Inner cities could become more attractive business 
locations because of their abundant labor and available scrap 
materials.
    9. Changes in energy prices could reduce congestion and 
make mass transit investment more viable for private investors, 
possibly reducing the need for public subsidies.
    10. If there is a general consensus that taxing waste, and 
not work, is reasonable, public trust in government--and 
compliance with the tax system--will increase.

                                


STATEMENT OF BARRY CARGILL, SMALL BUSINESS ASSOCIATION OF MICHIGAN

    Mr. Chairman and Members of the Ways and Means Committee of 
the United States House of Representatives:
    My name is Barry Cargill; I am Vice President for 
Government Relations of the Small Business Association of 
Michigan. We are sometimes recognized by our acronym SBAM. We 
are a state based small business trade association representing 
8,000 small businesses in Michigan. We represent all types of 
small business, from manufacturing businesses to retailers.
    The FairTax is an issue that was heatedly debated by our 
members and Board of Directors. In the end, our Board of 
Directors unanimously approved the FairTax as the best 
alternative to replace the current system. Education is key to 
understanding benefits of the FairTax. In fact, the more that 
our members learn about the FairTax, the more enthusiastically 
they support it.
    Todd McCracken of NSBU is scheduled to testify in support 
of the National Sales Tax proposed by Citizens for Fair 
Taxation (The Fair Tax Plan) and we would like to associate 
SBAM with his comments.
    SBAM shares the position of NSBU and supports the FairTax 
as the best alternative for comprehensive national tax reform. 
The debate over spending our projected federal budget surpluses 
masks the fact that small businesses struggle under the burden 
of a troubled federal tax system. The Fair Tax abolishes the 
current system by replacing all federal income, payroll, death 
and capital gains taxes. In place of the abolished taxes, the 
Fair Tax proposes to institute a 23 percent tax-inclusive sales 
tax on all end-use goods and services.
    One of the key reasons we support the plan is that it will 
reduce compliance costs unlike any other tax alternative. Small 
businesses must use complex tax accounting rules to keep track 
of income, inventories, types of expenses, depreciation, 
various employee benefit regulations, payroll taxes (including 
Social Security, Medicare, and unemployment taxes) and file the 
necessary accounting and information returns. This takes 
precious time away from trying to grow the business and become 
more profitable.
    Apart from the level of compliance costs, there is 
something fundamentally different in the effect of these 
compliance costs on small firms. First, small firms pay higher 
compliance costs as a percentage of revenues. In many cases, 
compliance costs such as those associated with pension plans, 
payroll taxes, software, accounting system are fixed costs with 
regressive effects on small companies. In most cases, small 
firms must endure the same panoply of laws and regulations as 
larger firms, the same recordkeeping and system requirements. 
However, small firms have less revenue against which these 
costs can be spread. Secondly, small firms do not have the same 
capabilities to push these costs forward on consumers or 
customers. When a large firm has associated revenue costs, they 
often simply push these costs forward in the prices of goods 
and services. When small firms incur such costs, they result in 
lower wages, lower returns on investment and fewer 
opportunities for entrepreneurs. Under the Fair Tax, only one 
question is relevant to small businesspersons. How much did I 
sell to customers? By reducing overhead to answering that 
single question, the FairTax would reduce compliance costs by 
about 90 percent, freeing capital and entrepreneurial energy.
    Another reason we support the FairTax is that it shifts the 
emphasis of taxation away from saving and investment and 
productive activity.
    Payroll taxes constitute more than one-third of all federal 
revenue collections. Since 1970, business received nine social 
security (FICA) tax increases totaling 133 percent, and 19 FICA 
base increases totaling 677 percent. Additionally, payroll 
taxes are a tax on employment and thus discourage hiring 
employees. Employees are the winners when the tax system 
encourages rather than discourages employment.
    The death tax presents families with the problem of 
liquidating the family business in order to pay for the taxes 
on inheritance or to drain valuable resources from the business 
to establish costly and confusing trusts. Only 40 percent of 
all small businesses make it to the second generation and only 
10 percent to the third.
    Capital gains incentives have traditionally, and 
inaccurately, been seen as a tool only of venture capitalists 
and wealthy investors. However, we must remember the vast 
networks of informal investors in the small business community. 
Research conducted by the Small Business Administration (SBA) 
shows that informal equity investors in small firms are a much 
larger financing factor than venture capital. Eliminating 
capital gains taxes would lead to a boon in small business 
investment.
    We would note that Members of this Committee will likely 
read some testimony by large retailers that believe the FairTax 
would hurt retail sales. Their statement appears to suggest 
that there will be a sticker shock to a national sales tax. We 
disagree with this assessment from several perspectives and 
wanted an opportunity to advance these points.
    First, like other firms, retailers will enjoy a zero 
corporate tax rate and their shareholders will not be taxed on 
dividends received from the retailer or capital gains on their 
investment in the retailer. Like other firms, they will enjoy 
much lower compliance costs. Instead of having to comply with 
the complexities of the income tax, payroll tax, and various 
excise tax, there will be one sales tax on all goods and 
service. The firm will simply need to calculate on a monthly 
basis its total retail sales. Retailers will receive an 
administration fee for complying with the sales tax. There will 
be no more uniform inventory capitalization requirements. There 
will be no more complex rules government employee benefits and 
retirement plans that serve as a barrier to providing employees 
with retirement plans. There will be no more tax depreciation 
schedules. Do large retailers really want to continue these 
onerous laws?
    Second, consumers will see their paychecks increase by over 
$1.1 trillion. Finally consumers will have more money to spend. 
Since the plan is revenue neutral, the repeal of the income tax 
will provide consumers with the money necessary to pay for the 
sales tax. Sales taxes were originally installed at the state 
level in the 1930's because in times of economic fluctuation, 
consumption is a more stable source of revenue collection.
    Third, retailers will make more money in a prosperous, 
growing economy. All respected economic projections predict a 
much healthier economy. People are willing and able to purchase 
more goods and services in a healthy economy. Typical estimates 
are that they economy will be 10 to 14 percent larger within 10 
years and consumption will grow very substantially. Some 
studies show the potential gains to be much higher. Real wages 
will increase.
    We would note that in a study prepared by Nathan Associates 
(March, 1996) for the National Retail Institute, which by its 
own admission made every conceivable adverse assumption, the 
economy will grow three percent more in ten years than it would 
have under the income tax. The increase in consumption will be 
1.15 percent less in the first year relative to what it would 
have been under the income tax. Consumption will be higher in 
the fourth year and every year thereafter than it would have 
been under the income tax. The study assumed that every dollar 
in new U.S. investment must come from the U.S. rather than 
foreign investors and assumes a very low effects of higher 
investment on productivity. It assumes no gain in productivity 
from lower compliance costs.
    As this Committee reviews the FairTax proposal, keep in 
mind that consumption purchases must be made from after-income-
tax dollars today. The primary difference between a sales tax 
and an income tax is that the income tax doubly or triply taxes 
savings. How much tax on savings is too much? How much of a tax 
on investment is too much? What is wrong with developing a tax 
system that fully eliminates the tax on savings and investment 
and gives consumers the choice to either spend or invest the 
fruit of their labor?
    There are other factors. For one, consumer interest rates 
will fall dramatically, probably by about 25 percent, and 
consumer's ability to finance consumption will be higher. In 
the case of interest that is presently deductible, the fall in 
interest rates and the lack of deductibility is just about a 
wash for most people. Since consumer interest is not deductible 
under present law, this effect will be strong with respect to 
credit card or consumer loan financed purchases. Finally, the 
committee should not dwell on the rate. The FairTax does not 
raise more money than our current system ,it just makes the 
taxes we pay visible. The relative purchasing power of the 
dollar will remain the same; in fact, estimates are that real 
wages would increase. We should not be opposed to truth in 
advertising the cost of the Federal government.
    The FairTax is a refreshing alternative to the current 
quagmire of taxes and regulations. It would reduce complexity 
and allow Americans to understand the tax system to which they 
are subject. It will lower compliance costs. It will make the 
taxes we pay visible. It will help our international 
competitiveness. It will help America's entrepreneurs become 
more prosperous, more vibrant and an even greater job 
generator. This will help consumption as well as wages. And 
when the economy does better, we will see even more surpluses 
so the tax rate can be lowered.
    Thank you for the opportunity to present the views of 
Michigan small business. We encourage this committee to hold 
additional hearings on the FairTax. We are confident that the 
more that is learned about the proposal, the better it will 
sound to you and the American public.

                                


STATEMENT OF RAYMOND J. KEATING, SMALL BUSINESS SURVIVAL COMMITTEE

    On behalf of the Small Business Survival Committee (SBSC) 
and its more than 50,000 members across the nation, I 
appreciate this opportunity to spell out SBSC's position on the 
``Fair Tax Act.''
    SBSC is a non-partisan, non-profit advocate for small 
business owners across the nation. On a wide array of policy 
issues impacting the small business community and the economy 
in general--including taxes, regulations, trade, and government 
spending--SBSC consistently argues from a principled, free-
market perspective.
    As you know, the ``Fair Tax Act'' would eliminate all 
income, payroll, estate and gift taxes, and replace them with a 
national retail sales tax of 23 percent. The general revenue 
rate would equal 14.91 percent, with the remaining 8.09 percent 
going for Social Security and Medicare hospital insurance. No 
tax would be paid on products or services purchased for 
business, investment or export purposes. And except for some 
isolated exceptions, the tax would be collected and remitted 
(monthly) by the seller. In states that already levy a sales 
tax, the state would administer the federal sales tax, keeping 
.0025 percent of the amount collected for administrative costs. 
In states that do not impose sales taxes, the federal 
government would administer the tax.
    A ``family consumption allowance'' would be rebated each 
month to each family/individual in the amount equal to the 
product of the sales tax rate and the monthly poverty level. 
The Social Security Administration would mail the monthly 
rebate, or provide rebates through smart cards.
    SBSC supports throwing out the current messy, complicated, 
unfair and anti-growth tax system that entrepreneurs, 
businesses and individuals currently labor under in favor of a 
national retail sales tax. On several occasions, we have 
outlined the key principles that should buttress any serious 
effort at tax reform:
     Low Flat Tax Rate to Promote Economic Growth. The 
lower and more proportional, or flatter, the tax rate system 
the better. Obviously, a low tax rate boosts incentives for 
working and risk taking.
     No Taxation of Capital. Taxing returns on 
investment and savings makes absolutely no economic sense. 
First, taxing returns on capital is an example of double, 
triple or more layers of taxation. Second, since investment and 
entrepreneurship are the primary engines of economic growth, 
taxing the returns on such activities is counterproductive. 
Along these same lines, it must be remembered that labor is 
powerless without capital, and therefore, taxing capital hurts 
labor.
     Inflation Factor. The detrimental effects of 
inflation should be factored into any tax system's design. No 
additional incentive for the monetary authority to inflate 
should be provided by the tax system, and taxpayers should not 
be penalized due to inflation. Therefore, tax brackets should 
be indexed for inflation.
     Clarity. The best tax system makes clear how much 
is owed, who pays, and when the tax is being paid.
     Simplicity. Tax payments should be made as easy 
and as simple as possible for the taxpayer without any loss of 
clarity.
     Limited Bureaucracy and Intrusiveness. The fewer 
tax collectors and the more limited their powers the better.
     Minimize Incentives for Tax Avoidance. Taxes 
should be low enough so as not to provide significant 
incentives for avoidance.
     No Additional Boost to Government Spending. A tax 
system's design should not make it any easier for government to 
increase expenditures.
    How does a national retail sales tax--or the Fair Tax--
score according to these fundamental principles?
     Low Flat Tax Rate to Promote Economic Growth. 
Obviously, income would not be taxed under this plan and 
consumption would be taxed at the final retail level at a flat 
rate of 23 percent. By not taxing work, saving, investing, and 
risk taking at all, pro-growth incentives and the economy would 
receive major boosts.
    For critics saying that such a tax would be regressive, in 
fact a small amount of progressivity would be introduced into 
the system through the family allowance rebate. SBSC's only 
concern is to lower the proposed 23 percent tax rate.
     No Taxation of Capital. The Fair Tax would do away 
with cases of double, triple or more layers of taxation by not 
taxing returns on investment and savings at all. Incentives for 
saving, investment, and risk taking would skyrocket, with 
entrepreneurship, economic growth, and job creation receiving a 
significant boost.
     Inflation Factor. The inflation question may seem 
somewhat murky regarding the Fair Tax, but in the end, a retail 
sales tax provides little incentive for the government to 
inflate. One need only remember that inflation is a monetary 
phenomenon, caused by money supply outpacing money demand.
     Clarity. It remains difficult to imagine a clearer 
tax system than the Fair Tax. Whenever one buys something, the 
tax owed becomes immediately clear and is paid at that moment.
     Simplicity. The Fair Tax would be far simpler than 
an income tax system for individuals and many businesses. 
However, some questions remain for retail businesses as to 
whether a national retail sales tax eases or adds to their tax 
compliance burdens. However, since most states already levy a 
sales tax, additional compliance costs would be minimal, well 
worth the elimination of federal income and death taxes.
     Limited Bureaucracy and Intrusiveness. The Fair 
Tax would allow the IRS to be disbanded and replaced with a 
much smaller, less intrusive bureaucracy to collect sales taxes 
in the very few states that do not impose sales levies.
     Minimize Incentives for Tax Avoidance. One of the 
most serious questions regarding the Fair Tax relates to tax 
evasion. A national sales tax rate of 23 percent, especially 
when combined with state and local sales taxes, and a seemingly 
easy ability to avoid sales levies, creates a very real and 
significant temptation for tax avoidance. Obviously, the best 
way to deal with this issue is to cut the size of government 
and lower the tax rate.
     No Additional Boost to Government Spending. 
Indeed, regarding its effect on government spending, the Fair 
Tax actually should act as a restraint on the growth of 
government. Every time a purchase is made at the retail level, 
the cost of government becomes clear with the fair tax. Indeed, 
little evidence exists that retail sales taxes are a major 
impetus to the growth of government. In contrast, the current 
income-and asset-based federal tax system fuels the growth of 
government and hides the total cost of government from most 
taxpayers.
    As you can see, throwing out our current tax code in favor 
of the Fair Tax would be a major pro-growth, pro-entrepreneur 
reform. However, the biggest danger regarding the move from our 
current income-and asset-based tax system to a retail sales tax 
like the Fair Tax is the looming threat that in the end U.S. 
taxpayers could be saddled with both a sales tax and an income 
tax. Therefore, before a national retail sales tax is 
implemented, the 16th Amendment to the U.S. Constitution, which 
allows for the imposition of an income tax, must be repealed. 
Without repealing the 16th Amendment, the chances that 
politicians--who seemingly always seek to expand the power and 
resources of government--would eventually impose both a sales 
tax and an income tax are too great.
    If the 16th Amendment were repealed, from an pro-economic 
growth viewpoint, a retail sales tax is far preferable to any 
kind of income tax.
    Again, I appreciate this opportunity to address the ``Fair 
Tax Act.'' Feel free to contact me at SBSC with any questions 
or comments.

                                


STATEMENT OF LORI KLEIN, TAXPAYER PROTECTION ALLIANCE, PHOENIX, AZ

    Mr. Chairman, Honorable Members of Congress, Ladies and 
Gentlemen:
    Fundamental tax reform is an issue that is now sweeping the 
nation. In a recent poll taken by the Tax Education Association 
(TEA) 81.7 percent of the electorate now feel that tax reform 
must be given high priority in the upcoming elections. The 
study showed that although the IRS has attempted to create a 
new image for itself, the public consensus is that the agency 
is still as unpopular as ever. According to the poll, 75% feel 
the IRS has too much power and 88.6% want to see the agency 
further reformed or eliminated altogether. It also showed that 
only 16.2% believe that our current income tax system is fair.
    The Taxpayer Protection Alliance is a group of citizens 
from Arizona who are dedicated to achieving fundamental tax 
reform, which is non-other than the total elimination of both 
our state personal and corporate income tax over the course of 
four years. Currently, we have a petition initiative calling 
for the abolition of our state income tax coupled with a voter 
referendum, which does not allow politicians to raise our taxes 
without voter approval. The ballot measure also calls for all 
federally elected officials from Arizona to pledge in writing 
to vote to abolish the federal income tax and replace it with a 
national retail sales tax on consumption and have it duly noted 
by their name on the ballot as ``Accepts IRS elimination 
pledge.''
    As many testifying here today have noted, removal of the 
federal income tax system to be replaced with a national sales 
tax has a myriad of benefits to our economy and personal 
freedom. I would like to address today however, the benefit of 
the states adopting similar measures throughout the nation to 
coincide with the elimination of the current progressive income 
tax on the federal level.

THE ARIZONA ECONOMY

    While Arizona's employment rate is low and the economy is 
strong, things could be much better. Many people who have jobs 
have low-paying service sector jobs. Arizona ranks near the 
bottom of the states in annual per capita income. About half of 
all jobs held by Arizonans are in the bottom third of 
industries ranked by average annual pay, according to economist 
Debra Roubik of VisionEcon. 16% of all high-paying jobs in 
Arizona are high-tech manufacturing jobs, and 14% are in high-
tech services (ATTACHMENT 1). These are the jobs being created 
by the ``new economy.'' These are the jobs in the sector of the 
economy with the greatest promise for the future.

THE IMPACT OF ELIMINATING INCOME TAXES ON THE STATE ECONOMY

    A study for the Arizona Association of Industries by 
Deborah Roubik of VisionEcon, published in January 2000, and 
cited in the Arizona Business Gazette and other publications, 
verified findings suggested by the classic work of Timothy 
Bartik in 1991 regarding the effect of state taxes on local 
economy. She found that for every 1 percent decrease in the 
state corporate income tax rate there is a 0.3 percent increase 
in new job creation, compounded annually. Furthermore, she 
found an inverse correlation between the marginal personal 
state income tax and high-tech service jobs as a percentage of 
jobs in the state. That is, the lower the income tax rate, the 
greater the percentage of high-tech service jobs, and vice 
versa (ATTACHMENT 2).
    The marginal state corporate income tax for a multi-state 
corporation in Arizona is 3.5%.
    Elimination of the state corporate income tax can be 
expected to generate an increase in job creation of 
approximately 1.2% per year, compounded annually, and increase 
the number of high-paying, high-tech manufacturing jobs, 
according to economist Debra Roubik.
    Elimination of the personal income tax will assure that a 
significantly greater proportion of those additional jobs that 
are created will be in the high-paying high-tech service 
fields.
    Arizonans are losing out to residents of other states when 
it comes to growth in earnings and higher paying jobs. 
Arizona's residents are losing out to states like Nevada, 
Texas, Washington, and Florida, where the absence of income 
taxes create jobs with substantive earning potential--jobs with 
a future. Although Arizona has a low unemployment rate, far too 
many Arizonans are just barely ``getting by'' in low-end jobs 
without much of a future.

    ELIMINATING THE ARIZONA PERSONAL AND CORPORATE INCOME TAXES 
IS THE MOST EFFECTIVE AND EFFICIENT SOCIAL WELFARE PROGRAM OUR 
STATE CAN EVER PUT INTO PLACE.

    SALES TAXES AS A REPLACEMENT FOR THE STATE INCOME TAX
    A recent economic study by VisionEcon, using Arizona 
Department of Revenue Annual Reports, demonstrates that, using 
historical trends, the projected annual increase in sales tax 
revenue generated by the typical growth patterns in the Arizona 
tax base (Arizona employment is projected to continue growing 
by almost 2% more than the national average), could be used to 
painlessly reduce income tax collections every year. The result 
would be a ``revenue neutral'' elimination of the income tax in 
just seven years. This does not include any dynamic analysis. 
That means it does not take into account the added revenues we 
would get from the boom in economic activity and job-creation 
coming about from reducing or eliminating the income tax. It 
also does not take into account revenues from luxury tax and 
estate and property tax revenues (ATTACHMENT 3).
    Thus using dynamic scoring, it is plain to see how easily 
the state's revenue stream can accommodate elimination of the 
personal and corporate income tax.
    Furthermore, in an Arizona Republic news article dated 
April 2, 2000 it was reported that approximately $4.2 billion 
in sales tax revenue goes uncollected each year as a result of 
over 600 exemptions in the state sales tax, most of which were 
enacted after intense lobbying from special interest groups.
    This revelation came as news to most Arizona residents in 
the private as well as the public sector. Few were aware that 
these exemptions were ever passed into law. And these 
exemptions are almost double the revenues currently collected 
from the state income tax. Some of these special interests who 
benefit from these exemptions, need them to offset the effects 
of the income tax--that's the tradeoff. Special interests are 
holding the average Arizona citizen and businesses hostage to 
the income tax. IS THIS TAXATION WITH REPRESENTATION?
    Governor Hull, in the same Republic article pointed out 
that it is politically extremely difficult to overcome the will 
of those special interests. But, if the Taxpayer Protection Act 
was in effect, since many of those exemptions may have had to 
get voter approval in order to go into effect, they may have 
required an increase in some other tax to offset the exemption. 
The special interests would have thus been cut out of the 
loop--instead, today we see the voters cut out of the loop. 
Furthermore, many special interest groups would not find it 
necessary to seek exemptions if they didn't have to pay 
personal and corporate income taxes.
    WE WOULD BE BETTER OFF AS A NATION WITHOUT THE INCOME TAX
    The income tax is based on a fundamentally flawed and 
immoral idea that the state has a prior claim on the fruits of 
another person's labor or property. A person's labor or idea's 
are his/her property and the state has no right to seize those 
assets, according to the precepts of our Founders. Thomas 
Jefferson's view of government as the servant and the citizen 
as the master has been turned upside down in large part due to 
the income tax. The income tax inevitably places the citizen on 
the defensive and takes away his very freedom and privacy. His 
legal rights are further jeopardized, when, if found in error 
on a tax form, he/her is now guilty until proven innocent.
    Furthermore, the laws and constitution have been so 
weakened in our country, that it is perfectly acceptable for 
the government to extort billions and trillions in income tax 
dollars and redistribute the wealth with no accountability to 
those that they've robbed. If your neighbor came to your house 
and took half of your property, he would go to jail. However, 
if the government does the same and gives it to the neighbor 
down the street who chooses not to live a productive life--it's 
justified. What kind of lunacy have we become accustomed too. 
This kind of unfair tax system corrupts the very soul of the 
nation. Not only does it, by its very nature, corrupt the 
political process, it corrupts the integrity of its citizenry, 
by creating an environment whereby they feel unfairly assaulted 
and violated by their government. They then try to avoid the 
tax as we've seen with the highest non-compliance to date. The 
income tax does not respect the boundaries of a free society 
and has no place in a free society. It is frankly Un-American. 
We can rename the House Ways and Means Committee, the House 
Committee on Un-American Activities. (Just kidding)
    The Taxpayer Protection Alliance calls for the complete 
abolition of the income tax, the Sixteenth Amendment, and the 
IRS. We would hope that this committee would adopt legislation 
introduced by Rep. John Linder (R-GA) and Rep. Petersen (D-MN). 
Then we can rest assured that we might usher in a new 
Millennium of freedom and prosperity for all Americans. We 
could do away with taxation without representation. We could 
then claim we are the nation that believes in ``life, liberty 
and the pursuit of happiness.'' Our Founders would accept 
nothing less, why should we?
    (Testimony written by Taxpayer Protection Alliance 
Treasurer, Jeffrey A. Singer and Executive Director, Lori 
Klein, 3431 W. Thunderbird Avenue, Suite 302-PMB, Phoenix, AZ, 
85053, (602) 866-2394)
    [Attachments are being retained in the Committee files.]

                                


STATEMENT OF UWC-STRATEGIC SERVICES ON UNEMPLOYMENT AND WORKERS' 
COMPENSATION

Comprehensive Tax Reform Must be Sensitive to Sound 
Unemployment Insurance Policy

    UWC-Strategic Services on Unemployment and Workers' 
Compensation, the only business organization specializing 
exclusively in public policy advocacy on national unemployment 
insurance (UI) and workers' compensation issues, urges Congress 
to Address UI payroll tax issues, including repeal of the 0.2% 
Federal Unemployment Tax Act (FUTA) surtax and UI 
administrative financing reform, when considering any 
fundamental federal tax reform proposal. UWC supports a strong 
UI program through which employers provide fair and affordable 
insurance benefits for a temporary period of time to workers 
with a strong attachment to work and who are temporarily and 
involuntarily jobless when suitable work is not longer 
available.
    Several proposals have been introduced in the 106th 
Congress to significantly change the current federal tax 
system. Many of these proposals will repeal sunset the Internal 
Revenue Code (IRC) including the FUTA. Rather than dissolving 
the federal/sale, we urge Congress to repeal the unnecessary 
0.2% FUTA surtax and enact UI reform as contained in H.R. 3174, 
The Employment Security Financing Act of 1999, introduced by 
Representative Jim McCrery (R-LA). H.R. 3147 is supported by 36 
co-sponsors, as well as a broad based coalition of 32 states 
and more than 100 business organizations. These measures would 
ease the tax burden on employers by 25% while providing 
critically important UI administrative financing reform.

The Dangers of Sunsetting FUTA

    The FUTA was enacted in 1935 and made part of the IRC. The 
FUTA is the basic controlling federal law for UI, The FUTA 
provides the basic framework for the state UI system, as well 
as the revenue for the state agencies which administer the UI 
program and provide a public labor exchange. The FUTA also 
permits states to receive loans if their UI trust funds are 
depleted, and it provides and extension of UI benefit duration 
during periods of high and rising unemployment.
    We seriously doubt that a new, equally simple, equally 
enforceable and similarly equitable system for UI/ES could be 
re-created and enacted in place of the FUTA.
    Completely repealing the FUTA will jeopardize the safety 
net for workers and employers. Important financial and legal 
protections for workers will be at risk, and employers will 
face added payroll taxes. Both workers and employers will be 
hurt by repealing the federal protection against ``raid'' on 
state UI benefit trust fund reserves.
    Not one of the proposals being considered at this hearing 
address these issues. Thus, until a viable solution is debated, 
proposals to ``scrap the Code'' should not include provisions 
that would eliminate FUTA.

Repeal the 0.2% FUTA surtax

    Under current law, employers pay the FUTA tax at the rate 
of 0.8% of taxable payroll ($7,000). This tax rate is 25% too 
high as a result of a 0.2% ``temporary'' surtax which is no 
longer needed. The tax is being collected only because 
inclusion of FUTA surpluses in the unified federal budget 
allows the federal government to meet budget targets for 
unrelated spending programs. The practice of counting FUTA 
dollars for spending on other programs, leaving only an IOU 
behind, is contrary to the very reason Congress placed these 
funds in the Unemployment Trust Fund.
    Congress originally imposed the surtax in 1976 to pay for a 
temporary federal program of supplemental UI benefits. This 
program expired long ago. The deficit created by this program 
was retired in 1987, but the surtax has been extended until 
2007. The FUTA accounts within the trust fund all exceed their 
maximums, making this surtax unnecessary. The revenue form the 
surtax is not needed for the UI/ES program. Only 50 cents out 
of every FUTA dollar is being spent as intended for the 
administration of the UI/ES, program and no additional funds 
are necessary to fund the 50% FUTA share of extended benefits.
    The FUTA surtax adversely affects nearly every employer. 
The money collected from employers for this surtax inhibits 
hiring low wage workers and siphons away dollars that would be 
better spent on jobs in rural areas, and facility and equipment 
enhancements to provide a better work environment and increase 
productivity and competitiveness.

24 years of a ``temporary'' tax is too long! Congress should 
act quickly to repeal the 0.2% FUTA surtax by (1) including it 
as part of the business tax incentives in the minimum wage bill 
currently in conference and (2) enacting H.R. 3174 (discussed 
below).

Enact UI Administrative Financing Reform (H.R. 3174)

    Although complete FUTA repeal is not desirable, FUTA reform 
is overdue. The present UI/ES program is not working 
effectively. Workers are under-served, employers are overtaxed 
and state UI/ES agencies and under-funded. Under the current 
system, the federal government collects 100% of the FUTA 
receipts but returns only 50% to the states. Shortchanging the 
funding to administer UI has led to workers collecting more 
weeks of unemployment benefits during the tightest labor market 
in recent history, and states are forced to reach into general 
revenues and employer pockets (through add-on payroll taxes) to 
make up for the shortfall.
    H.R. 3174 is specifically designed to solve this problem. 
It will restore integrity to the UI trust funds. Not only is 
the0.2% FUTA surtax repealed, but he remaining trust fund 
dollars will be returned to the states--in full! This will 
allow states to provide the necessary resources to better serve 
UI claimants, job seekers, veterans and employers. H.R. 3174 
will combat UI fraud and abuse by providing states with 
adequate funding.
    H.R. 3174 is consistent with the concepts of tax 
simplification being presented at this hearing. Unnecessary 
paperwork will be eliminated as employers will only have to 
complete and submit a single UI tax form rather than two 
separate federal and state UI tax forms. Equally important, 
state legislatures--rather than Washington bureaucrats--will be 
responsible for determining how much is necessary to run their 
own state UI programs. This will provide added flexibility and 
accountability--without taking away any protections from 
jobless workers.

UWC urges swift enactment of H.R. 3174. It is a win for 
workers, employers and states and is the right direction for UI 
reform. For more information, please contact Vince Sampson at 
(202) 682-1515.

      

                                


STATEMENT ROBERT L. SCHULZ, WE THE PEOPLE FOUNDATION FOR CONSTITUTIONAL 
EDUCATION, INC., QUEENSBURY, NY

    Mr. Chairman:
    Mr. Chairman, I would like to thank you for the opportunity 
to submit these remarks for the record of the hearing on 
fundamental tax reform. I am Robert Schulz, and I am Chairman 
of the We The People organization from northern New York State. 
I have been very actively pursuing the cause of good government 
for 20 years--at the local, state, and federal level. The 
organizations I chair are devoted to educating citizens about 
problems of governmental wrongdoing, especially when government 
behaves in violation of the state or federal constitutions or 
in violation of the law. I also chair a group called the All-
County Taxpayers Association in New York State.
    For more than a year now, we have been focusing in 
particular on issues of illegal operations of the federal 
income tax system. We have been learning from many sources 
about numerous aspects of those illegal operations. And for 
over a year, we, in turn, have been informing millions of 
people across the country about what we have learned--reaching 
as many citizens as we can by using various media: radio, 
newspapers, the internet, newsletters, and even television. I 
am a talk-radio host on a national radio network and also on a 
regional talk-radio show in Albany, NY. You may be aware that 
last July, we held a symposium at the National Press Club here 
in Washington to examine issues of illegal operations of the 
federal income tax system. The symposium was broadcast live by 
C-Span and rerun several times over the next few days. We held 
another conference at the National Press Club last November to 
further discuss the income tax issues and what to do about 
them. Although we asked the leaders of our three branches of 
government to send knowledgeable representatives to our 
meetings at the NPC to refute allegations and arguments being 
presented, they did not respond and did not even acknowledge 
our requests. That has led us back here to Washington this week 
for a third time, to deliver a Remonstrance to the leaders of 
our three branches enumerating the people's grievances over the 
illegal operations of the federal income tax system. We have 
provided each of you a copy of the Remonstrance. Thousands of 
copies of the video tapes of the July symposium and the 
November conference have gone out and are now circulating all 
across the country--many in public lending libraries for all to 
borrow. A number of other individuals have been broadcasting 
and publishing for years about the problems I am going to tell 
about, and now millions of citizens are aware of them.
    Well, what ARE those issues; what ARE those grievances; and 
what are the remedies? I will summarize as succinctly as I can.
    Congressional hearings for years have been the forum for 
horror stories by citizens who have suffered all kinds of abuse 
at the hands of the IRS. Our grievances include those 
outrageous and arrogant behaviors by the IRS perpetrated by its 
agents, policies, and procedures. We are particularly 
distressed at the utter lack of respect for due process and the 
denial of due process in IRS procedures, including the 
unwillingness of the IRS to provide information about our due 
process rights, the denial of our rights to see the evidence 
against us, to confront and cross-examine those who have 
testified against us, and denial of our rights against illegal 
seizure of our property by the IRS because of an 
unconstitutional anti-injunction law, 26 USC Section 7421.
    But as bad as these behaviors are, they are only a small 
part of it; the problems are much deeper and they started early 
in the 20th century. Our grievances largely deal with issues of 
hoax, fraud, and deliberate deception.
    It has been well established since 1985, and unrefuted, 
that the 16th amendment, the so-called income tax amendment, 
did not even come close to being legally ratified in 1913. It 
was, indeed, fraudulently declared to be ratified by a lame-
duck Secretary of State, Philander Knox, and just a few days 
before he left office to make way for the Wilson 
administration. Knox's motive is easy to see. He had for many 
years been attorney for Carnegie, Rockefeller, Morgan, and the 
Vanderbilts, and had put together the largest of their cartels. 
He was paving the way for the Federal Reserve Act that was 
passed later in 1913. The central bank would want a more 
reliable flow of revenue to assure payment on the debt that the 
government would be incurring. Knox had already had practice in 
this method by his role in taking over the tax collection 
systems in Honduras and Nicaragua to assure payment of loans to 
those governments. Senator Nelson Aldrich, spokesman for 
Rockefeller and Morgan, had pushed the income tax amendment 
through the Senate in 1909, and, as a result of a meeting he 
convened at his vacation ``cottage'' among several of the 
nation's most powerful bankers representing Rockefeller, 
Morgan, and the Rothschilds, he designed the Federal Reserve 
legislation that passed in 1913, under the guise of banking 
reform.
    The research that conclusively revealed the fraudulent 
ratification of the 16th amendment was done by Mr. Bill Benson, 
a former investigator for the Illinois Department of Revenue 
who spent a whole year among the archives of all 48 states and 
the federal government. Here are some of his findings. [See 
``Examples of States That Failed to Ratify the 16th Amendment'' 
on page 5.]
    What has been the government's response to Benson's work? 
Well, one senator, until recently a presidential candidate, 
tried to pay Mr. Benson--offered to make him a millionaire if 
he would only not publish the results of his work, turn over 
all 17,000 certified documents he had obtained from the 
archives, and agree never to talk about his research again. 
However, to Mr. Benson, our republic is not for sale. He 
published, and every member of Congress received a personal 
copy of his two-volume report. I am sure he would be happy to 
provide a copy to any member of this committee. It is not out-
of-date. It is history.
    Other responses by Congress have been produced by the 
Congressional Research Service in the form of a report written 
in 1985 by Thomas Ripy about the 16th amendment issue and in a 
1996 report by John Luckey titled ``Frequently Asked Questions 
Concerning the Federal Income Tax.'' Neither report mentions or 
addresses the key issue of fraudulent ratification of the 16th 
amendment. They are, therefore, non-responses.
    The courts have refused to address the fraud issue, calling 
it a political question for Congress, even though fraud is 
clearly a matter for the courts and is not subject to the 
normal statute of limitations. Congress has said that it is a 
matter for the courts. We say it is an issue for both Congress 
and the courts, and it must be addressed. The government must 
not stonewall on this issue any longer.
    The IRS has addressed the 16th amendment question in it's 
publication titled ``Why Do I Have to Pay Taxes?'' This is sort 
of a mini-version of the Luckey Report, and can be found on the 
Internet. Its answer to the argument that the 16th amendment 
was not properly ratified is to state that the 16th amendment 
was ratified on February 3, 1913, and then to quote the words 
of the amendment. This, of course, is a non-response to the 
question and means nothing. It is pathetic and insulting (and 
the date is wrong; it was February 25).
    Another major issue and grievance is that the IRS operates 
in such a way as to collect income taxes from almost all 
citizens even though no law or regulation requires most 
citizens to file and pay income taxes nor to have those taxes 
withheld from the money they earn. The IRC and its regulations 
make liable for the income tax only ``foreigners here and 
citizens abroad,'' but not most of us, unless we have income 
earned abroad. This has been demonstrated of late by those, 
especially employers, who have carefully studied and exercised 
the rules as written and have succeeded in making the IRS abide 
by them.
    The standard response of the IRS to the liability argument 
is to quote 26 USC Sections 1,6001,6011,or 6012, which the IRS 
uses as the all-encompassing filing requirements. Section 1 
imposes the tax on ``taxable income;'' Section 6001 says, 
``Every person liable for any tax imposed under this 
title...shall keep such records... make such returns...and 
comply with such rules and regulations as the Secretary may 
prescribe;'' Section 6011 says, ``When required by 
regulations...any person made liable by any tax imposed by this 
title shall make a return;'' Section 6012 says, ``Returns... 
shall be made by...[e]very individual having...gross income 
which exceeds the exemption amount...''
    These, again, are non-responses that merely beg the 
original question of just who is liable. The crucial question 
becomes: What is ``gross income?'' And when we follow the 
disjointed, disconnected, and deceptive trail through the code 
and its regulations, we find in CFR 1.861-8(f)(1) that gross 
income is income derived from foreign sources, i.e., foreigners 
here and citizens abroad. When we follow the trail of 
withholding law to find out what kind of income is subject to 
withholding, it takes us to the same place and the same 
conclusion: foreigners here and citizens abroad. The same is 
true regarding liability for the Social Security tax, derived 
from the International Labor Agreement of the 1930s. All three 
trails lead to the same result.
    Congressional response to the question of just who is 
liable is exemplified in a 1989 letter from Senator Inouye to a 
tax consultant constituent who asked about the precise 
provisions of the IRC that render an individual liable for 
income taxes. The letter says: ``Based on research performed by 
the Congressional Research Service, there is no provision 
which...requires an individual to pay income taxes.'' The 
letter goes on to say that Article I Section 8 of the U.S. 
Constitution gives Congress the power to lay and collect taxes, 
and then makes the astonishing assertion that, ``Accordingly, 
the IRC need not specifically state that individuals shall be 
liable for income taxes because it is inferred from the 
Congress' authority to so levy and collect.'' This letter would 
have us believe that there is no need to bother with the 
inconvenience of actually writing laws or regulations or 
anything like that! Further, the letter then points out that 
Section 7201 et al. sets forth penalties for failure to pay 
taxes owed. The key word is ``owed,'' but the letter does not 
explain how it is determined what taxes are actually owed or by 
whom. Once again, we are given a non-response that simply begs 
the question, along with a heavy-handed threat of prosecution. 
The letter tries to give us the impression we can be prosecuted 
for not doing something that no law or regulation requires us 
to do.
    It is significant that employers are learning of the scam, 
as they are key to the whole system, along with the denial of 
due process rights for individual citizens. The IRS uses the 
false statements from employers (W-2s and 1099s) as prima facie 
proof that employees have earned gross income that is taxable. 
The IRS then makes it impossible in their procedures for an 
employee to challenge the incorrect testimony of the employer 
by refusing to issue summons so the employee can confront and 
cross-examine the employer. Tax law 26 USC Section 3402 does 
not protect employers from submitting false information. But 
the IRS has bullied and coerced employers since the 1930s to do 
so. Employees are then coerced into filing tax returns based on 
false information submitted by employers and to ``voluntarily'' 
and unknowingly waive their 5th amendment rights when they sign 
their 1040 forms, in order to get some small portion of their 
money refunded.
    What are the remedies? First, a national sales tax is not 
the remedy, and we would not like to see the abuses by the 
illegal operations of the IRS used as an excuse for imposing 
such a tax. Excise taxes are most appropriate when used as 
luxury, sin, or amusement taxes, not when used to tax the 
necessities. Moreover, a national sales tax will be avoided by 
those who can use vertical integration strategies, and the 
people who can least afford it will end up paying a 
disproportionate share.
    The issue of the fraudulent ratification of the 16th 
amendment must be addressed, not evaded, by Congress and by the 
courts. Besides that, Congress must act to remove the 
obstructions that prevent citizens from invoking the 
protections of their constitutional rights when dealing with 
the IRS in both administrative and judicial proceedings. The 
due process issues and abuses must be resolved. The remedy is 
to make the IRS and its agents obey the tax code and 
regulations and respect citizens' constitutional rights to due 
process, especially in administrative procedures. Denial of due 
process is the main factor in the abuses by the IRS, because it 
prevents people from defending themselves against those abuses. 
Three changes to the code can go far towards accomplishing this 
goal. All are in Chapter F (Administration): Sections 
6326,6404(b), and 7421. Sections 6326 and 6404(b) effectively 
enable errors or abuse by IRS employees to go uncorrected and 
obstruct the IRS Commissioner from properly controlling 
employees. Section 7421, as already mentioned, prevents 
judicial intervention and review of illegal seizures of 
property by the IRS in violation of our constitutional rights. 
No statute can overrule the Constitution. Many of the horror 
stories and abuses you hear about might be averted if it were 
not for the obstructions to correcting erroneous or malicious 
actions of subordinates by those above them or by the courts.

EXAMPLES OF STATES THAT FAILED TO RATIFY THE 16TH AMENDMENT

    Philander Knox had received responses from 42 states when 
he declared the 16th amendment ratified in February, 1913. It 
was required that 36 of the 48 states at that time approve it. 
Of the 42, Knox acknowledged that four had rejected the 
amendment, bringing the number down to 38 that he said approved 
it.
    In Kentucky, the legislature acted on the amendment without 
even having received it from the governor. (The amendment was 
sent to the governor of each state in 1909 for transmittal to 
their state legislatures.) The version of the amendment that 
the Kentucky legislature made up and acted upon deleted the 
words ``on income'' from the text of the amendment, so they 
were not even voting on an income tax! When they straightened 
that out, the Kentucky senate rejected the amendment. Yet 
Philander, inexplicably, counted Kentucky as approving it.
    In Oklahoma, the legislature changed the wording of the 
amendment so that its meaning was the opposite of what was 
intended by Congress, and this was the version they approved 
and sent back to Knox. Yet Knox counted Oklahoma as approving 
the amendment, despite a memo from his chief legal counsel, 
Reuben Clark, that states were not allowed to change the 
amendment in any way.
    Attorneys who have studied the subject have published that 
if any state could be shown to have violated its own state 
constitution or laws in its process of approving the 16th 
amendment, then that state's approval would have to be thrown 
out. With that in mind, let's look at some other states.
    The state constitution of Tennessee prohibited the 
Tennessee legislature from acting upon any proposed amendment 
to the U.S. Constitution received from Congress until after the 
next election of state legislators. The intent, of course, is 
to give the proposed amendment a chance to become an issue in 
the state legislative elections so that the people can have a 
chance to influence the outcome. It also provides a cooling off 
period to reduce the tendency to approve ideas just because 
they're trendy. You can probably guess that I am about to tell 
you that the Tennessee legislature did not hold off on voting 
for the 16th amendment until after the next election, and you 
would be right--they didn't. That means they violated their own 
state constitution; their approval is and was invalid, and it 
brings the number of approving states down to 35, one less than 
required for ratification.
    Texas and Louisiana violated provisions in their state 
constitutions prohibiting the legislatures from empowering the 
federal government with any additional taxing authority. Now 
our number is down to 33.
    Thirteen states, including Tennessee again, violated 
provisions in their constitutions requiring that a bill be read 
three times over a period of at least three days before voting 
on it. This is not a trivial requirement. So we must subtract a 
dozen more states, bringing our number down to 21.
    Several states returned unsigned, uncertified, or unsealed 
documents back to Knox, and did not rectify their negligence 
even after being notified and warned by him. The most egregious 
offenders, were Minnesota, Ohio, California, Arkansas, and 
Mississippi. Minnesota did not send any copy at all, only a 
note from the governor's secretary, so Knox could not have 
known at all what they voted on. Four of these five states were 
already disqualified above, leaving California to be 
subtracted, which brings our number down to 20, which is 16 
fewer that the number required. These last five states, along 
with Kentucky and Oklahoma, have particularly strong 
implications with regard to the charge of fraud against Knox, 
in that he absolutely knew they should not be counted.
    We could go on, but with the number down to 20, this is a 
suitable place to rest. Benson's findings show beyond doubt 
that the 16th amendment was not legally ratified and that 
Secretary of State Philander Knox did not just commit an error, 
but committed fraud, when he declared it ratified in February 
1913.
            Very truly yours,
                                                   Robert L. Schulz

                                

STATEMENT OF HAROLD APOLINSKY, ESQ., SIROTE AND PERMUTT, AND DAN R. 
MASTROMARCO, THE ARGUS GROUP

    Mr. Chairman and Members of the Ways and Means Committee:
    We are pleased to submit this testimony which analyzes the 
impact of the leading national sales tax plan, the FairTax on 
nonprofit organizations. We believe that a shift to a 
consumption approach would in fact be extremely beneficial in 
several respects. It will improve economic growth--the primary 
determinant of charitable giving. It would remove the bias 
against non-itemizers. It would enhance the resources both 
itemizers and non-itemizers have by ensuring that they can make 
their contributions with pre-payroll tax dollars. This paper 
presents these arguments.

Background Discussion:

    Some 150 years ago, Alexis de Tocqueville marveled at 
Americans' propensity to ``found seminaries, build churches, 
distribute books... [He]... often admired the extreme skill 
they show in proposing a common object for the exertions of 
many and inducing them voluntarily to pursue it.'' If he would 
visit America for a third time, he would find that charitable, 
nonprofit organizations continue to play a vital role in 
meeting needs unmet by the private sector or by governmental 
agencies. From centers of learning, to health care facilities, 
to poverty relief organizations, to public policy research 
institutions, these institutions are an indispensable part of 
the American economic and social landscape--and thankfully so. 
Last year Americans donated more than $100 billion to 
charities, churches, foundations and other humanitarian causes.
    When it comes to evaluating various tax reform proposals, 
it is right to consider its effect on charities. When 
considering the effects of shifting to a consumption tax system 
on the economy, on businesses and on individual taxpayers, we 
must be careful to ensure the continuing ability of charities 
to perform their essential role of facilitating charitable 
acts. We must ensure that, under any tax system, the good works 
of charities are not diminished.
    However, some recent observers of American history 
incorrectly assume a vast change. They believe that if 
charitable donations are not deductible then charitable 
organizations could not exist; indeed, charity itself might 
cease to exist. The reason they always give is that the level 
of charitable giving in this country has a one-to-one 
elasticity tied to the tax code and tax deductions so the 
steeper the rate of tax, the more pain one feels, the more 
inclined they are inclined to be ``charitable.'' Their 
conclusions are axiomatic as a syllogism:
    1. steep marginal income tax rates and very high death 
taxes improve the volume of gifts by reducing the relative cost 
of giving versus consuming.
    2. Reducing those rates will concomitantly reduce giving.
    3. A consumption tax must reduce charitable giving since it 
renders irrelevant a deduction against income, thereby 
eliminating any advantage to giving.
    While this is the crux of the main argument, other 
arguments are advanced. The relative cost of capital for 
nonprofits will increase, since a consumption tax may irradiate 
the distinction between tax-exempts and for-profits on income 
from passive or related sources.
    These arguments have acquired a choristic-like following. 
The Independent Sector, along with the Council on Foundations, 
released a report on April 28, 1997 entitled ``The Impact of 
Tax Restructuring on Tax Exempt Organizations,'' which was 
intended to criticize consumption tax proposals. The report 
concluded that under a sales tax contributions to tax exempt 
groups would decline by at least $33 billion or 35%. They 
estimated that proposals which eliminate the charitable 
deduction would lower annual contributions on the order of 10 
percent to 20 percent.

The First Misconception: A Deduction is Necessary

    Large and small donors are not ignorant of the tax 
ramifications of their actions, but neither are they primarily 
influenced by them when doing charitable deeds. Individuals 
give to charities not for tax deductions, but because they 
believe in the charitable works they support. There is, of 
course, much anecdotal data. In the early 1900's, before any 
death tax and with very low income taxes, the Vanderbilts 
endowed Vanderbilt University, the Stanfords endowed Stanford 
University and the Dukes endowed Trinity College in Durham, 
North Carolina.
    The empirical data also suggest that there is, in fact, 
little linkage between the tax deduction and nonprofit giving.
    Giving actually increased after marginal rates were 
significantly reduced in 1981 and again in 1986 and after the 
elimination of the charitable deduction for non-itemizers in 
1986. Total giving increased (in inflation adjusted dollars) 
every year between 1983 and 1989.
    The linkage assumed by researchers is not tempered by the 
importance of economic growth in charitable giving. A tax of 90 
percent on income, for example, will lead to enormous growth in 
charitable giving as would an extraordinarily high death tax 
rate. Apparently, the higher the rate, the higher the marginal 
incentive to give and the lower the cost of giving. At a 90 
percent tax rate, giving--as opposed to consuming--would only 
cost 10 cents on the dollar. Hence to benefit charities, we 
need to have a tax policy that makes holding onto the proceeds 
of our labor is as painful as holding on to a hot pan.
    If such a linkage were mandatory for charitable acts, 
legitimate questions should be raised as to whether or not 
one's donation truly constitutes a charitable act. Let's take a 
taxpayer who is in a 40 percent income tax bracket. Assuming 
the taxpayer is not subject to other restrictions governing 
charitable donations, and assuming the taxpayer itemizes, if 
the taxpayer gives ``x'' dollars to charities, his taxes will 
be lowered by ``x'' times 40%. However, this simply means that 
other taxpayers' taxes would have to be increased to make up 
the difference of the taxes foregone. Thus, by saying the 
taxpayer is inclined to be ``charitable'' because his taxes 
would be reduced by ``x'' times 40%, we are saying that the 
taxpayer is inclined to be charitable only since he can, in 
part, be charitable with other taxpayers' money. If taxes 
escalate by income bracket, then we are saying something more. 
We are saying that the economic votes cast by higher wage-
earners are more important than those cast by non-itemizers or 
lower wage-earners. The government might as well develop a 
matching program, where the wealthier you are, the greater the 
government values your opinion on where to spend your 
eleemosynary resources and the greater your matching resources 
from the pool of unwitting and unrecognized accomplices. Or 
alternatively, the wealthier you are the more other taxpayers 
need to subsidize your generosity in order to prompt it.
    Thankfully, this is not the case. Acts of giving are often 
spontaneous, compassionate impulses. Moreover, the data suggest 
correlations of greater significance than a deduction. Active 
civic participation is more important to a healthy nonprofit 
sector than the presence of any tax credit or deduction. 
Benefactors are far more influenced by the desire to contribute 
to charitable causes. Most importantly, perhaps, income growth 
has more to do with boosting charitable contributions than tax 
incentives.
    How much does economic growth influence charitable giving? 
It has been said by researchers that as the fortunes of the 
country go, so goes the contributions to philanthropic causes. 
In fact, after years of analysis, we can be a whole lot more 
specific: as the Gross Domestic Product changes, so goes 
approximately 2% of the total value of the goods and services 
to philanthropic causes. Total philanthropy as a percentage of 
GDP has held steady at around 2% for at least two decades.\1\ 
Although the tax code has changed frequently and dramatically 
over the past 23 years, giving as a share of personal income 
has hovered around 1.83 percent. This measure reached as high 
as 1.95 percent (in 1989) and as low as 1.71 percent (in 1985, 
the year before non-itemizers ability to deduct charitable 
contributions was permitted). The narrow range has persisted 
even through the top marginal rate has fluctuated in that 
period between 28 and 70 percent.
---------------------------------------------------------------------------
    \1\ Giving USA, 1997. AAFRC Trust for Philanthropy, 1997. See, 
http://www.cae.org/Trends/sk03.htm.
---------------------------------------------------------------------------
    Because of the importance of the relationship between 
giving and income, slight shifts in GDP represent considerable 
dollars in charitable giving. For example, one quarter of 1 
percent of GDP at $8.8 trillion (the estimated 1999 level) 
equals $22 billion.\2\ As GDP goes, so eventually does 
voluntary support.
---------------------------------------------------------------------------
    \2\ Voluntary Support of Education 1996, Council for Aid to 
Education. See, ``http://www/cae.org/Trends/sk14.htm. Other indicators 
include the stock market. The trough in giving between 1971 and 1984 
coincided with a poorly performing stock market during the 1974-1982 
period and two recessions. The dips and rises of the stock market are 
said to be mirrored by charitable support within a year
---------------------------------------------------------------------------
    So at least the data--as opposed to theory--suggest that to 
properly consider the effect of tax reform on charities, we 
must consider the effect of tax reform on economic growth. 
Giving is more dependent on how much donors have to give than 
how much the government will match their contributions with the 
taxes of middle income taxpayers.
    Contrary to the assertions of the anti-consumption tax 
choral group, one of the most constructive steps that can be 
taken to improve the rate of economic growth would be to 
replace the current tax system with a consumption tax. It is 
the nearly universal opinion of economist that a consumption 
tax, like the FairTax, for example, would reduce the tax bias 
against work, savings and investment, improve the productivity 
and competitiveness of U.S. firms and improve the real wages of 
American workers. Replacing the income tax with the Fair Tax 
will dramatically improve the standard of living of the 
American people.\3\
---------------------------------------------------------------------------
    \3\ A quote attributable to Maimonides [Moses ben Maimon[ (c. 1170) 
seems particularly apt. ``Anticipate charity by preventing poverty; 
assist the reduced fellowman, either by a considerable gift or sum of 
money, or by teaching him a trade, or by putting him in the way of 
business so that he may earn an honest livelihood, and not be forced to 
the dreadful alternative of holding out his hand for charity. This is 
the highest step and the summit of charity's golden ladder.''
---------------------------------------------------------------------------
    Economic studies have been done on this as well. Work by 
Harvard economist Dale Jorgenson shows a quick 9 to 13 percent 
increase in the GDP after passage of the Fair Tax \4\ ; 
similarly, Boston University economist Laurence Kotlikoff 
predicts a 7 to 14 percent increase.\5\ These gains are in 
addition to the increases that would have been achieved under 
current income tax law. Most of these gains come in the first 
decade. Work by economist Gary Robbins shows that replacing the 
current tax system with a flat tax system that taxed capital 
and labor income equally--such as the sales tax or the flat 
tax--would increase the GDP 36.3 percent and increase private 
output by 48.4 percent over the long run.\6\ Even a study by 
Nathan Associates funded by the National Retail Institute, 
shows that the economy would be one to five percent larger 
under a sales tax than in the absence of reform.
---------------------------------------------------------------------------
    \4\ Jorgenson, National Tax Research Committee. See also, ``The 
Economic Impact of Fundamental Taxing Consumption,'' Dale W. Jorgenson, 
Testimony before the House Ways and Means Committee, March 27, 1996 and 
``The Economic Impact of Fundamental Tax Reform,'' Dale W. Jorgenson, 
Testimony before the House Ways and Means Committee, June 6, 1995.
    \5\ Kotlikoff, National Tax Research Committee. See also, ``The 
Economic Impact of Replacing Federal Income Taxes with a Sales Tax,'' 
Laurence J. Kotlikoff, April 15, 1993, Cato Institute Policy Analysis.
    \6\ Robbins, currently a principal in Fiscal Associates, is former 
Chief of Applied Econometrics at the U.S. Treasury Department, 
``Looking Back to Move Forward: What Tax Policy Costs Americans and the 
Economy,'' Gary Robbins and Aldona Robbins, Policy Report No. 127, 
September 1994, published by the Institute for Policy Innovation, p. 
31, p. 47.
---------------------------------------------------------------------------
    Those that state that charitable contributions would go 
down after a consumption based tax approach may still choose to 
make their arguments. However, to be valid they must succeed in 
explaining why, after eligibility for itemized deductions was 
constricted, charitable contributions historically rose.\7\ 
They must also address the issue of economic growth since 
virtually every economist who opines that deductions are needed 
for charitable contributions, also makes the case that a 
consumption tax would improve economic prosperity.. Either 
there is no linkage between economic growth and contributions 
or a consumption based approach will not improve the economy--
both of which are against the prevailing economic wisdom.
---------------------------------------------------------------------------
    \7\ Steve Moore, Director of Fiscal Policy Studies at the Cato 
Institute, points out in a Washington Times article (June 18, 1997) 
that ``the last time the [Independent Sector] tried to measure the 
impact of tax code changes on charities, it predicted that the 1986 Tax 
Reform Act would trigger an $8 billion decline in charitable 
contributors in 1987. Instead charitable giving rose by $6.4 billion, 
or 7.6 percent after the top rate fell from 50 percent to 28 percent.''
---------------------------------------------------------------------------
    Moreover, it is not enough to point out only that the cost 
of giving goes down because of the charitable deduction. If the 
cost of giving is a determinant, they must also address why 
their enthusiasm for the current income tax system's tax 
benefits is not dampened by the fact the FairTax lowers the 
costs of contributions. It does so in two respects.
    To begin with, even if we assume that taxpayers are 
encouraged to give only because of the charitable contribution, 
the vast majority of contributors today do not receive any tax 
advantage for their donations. The charitable contribution is 
limited to those who happen to itemize (typically those who are 
affluent enough to own real estate). According to the IRS, 
Statistics of Income, there were only 30,587,000 itemizers in 
1996 out of 111,694,000 taxpayers.
[GRAPHIC] [TIFF OMITTED] T1879.009

    Since only itemizers may take the charitable contribution, 
only about 27%, or one-quarter of all taxpayers, are even 
eligible to take the charitable deduction. The relative ratio 
of itemizers to non-itemizers has remained relatively stable 
over the near term.
    The most important question with respect to the charitable 
constitution is not how the tax code treats a contribution, but 
rather how much a taxpayer has at his or her disposal to 
contribute. In other words, what must a taxpayer earn in order 
to make that contribution? This is where the income tax system 
severely restricts the ability of a non-itemizer to make a 
charitable contribution. The graph below simply depicts the 
effect of the income tax and the payroll tax on the earnings of 
a taxpayer who does not itemize, but who is in the 28 percent 
tax bracket. The combined effect of the 15.3 percent payroll 
tax (assuming the employee bears it) and the 28 percent 
marginal tax bracket means that the taxpayer must earn $176 to 
make a $100 contribution to charity. In other words, the 
government effectively imposes a $76 excise tax on the 
taxpayer's gift to the charitable organization.
[GRAPHIC] [TIFF OMITTED] T1879.010

    Of taxpayers who are eligible to itemize, an interaction of 
complex additional restrictions apply to further erode the 
benefit of the deduction. For example, if a donor contributes 
appreciated property that is considered ``ordinary income-type 
property,'' \8\ as opposed to long term capital gain, the donor 
must reduce the gift by the amount of ordinary income that 
would have been recognized if the property were sold. Hence, 
gifts of inventory, art works, letters and other similar 
property created by or for the taxpayer, are generally severely 
limited to exclude appreciation. Corporations are limited when 
making contributions of inventory or depreciable real property 
to one-half of the ordinary gain that would have been realized 
if sold.\9\ Moreover, the value of gifts of tangible personal 
property and gifts to certain private foundations, must be 
reduced by the ``total amount of the gain that would have been 
long-term capital gains if the property were sold for its then 
fair market value on the date it was contributed.'' \10\ 
Furthermore, individuals are subject to a deduction ceiling 
based on the type of property contributed and the type of 
charity to which the contribution is made--a ceiling that can 
be as low as 20 percent of the individual's adjusted gross 
income. These are just a few of the restrictions.
---------------------------------------------------------------------------
    \8\ This provision is defined in Internal Revenue Code section 
170(a) and the regulations thereunder.
    \9\ This complex provision is contained in IRC section 170(e)(3).
    \10\ IRC section 170(e)(1).
---------------------------------------------------------------------------
    Even if a charitable contribution is allowed, it of course 
only entitles the donor to make the gift after payroll taxes. 
The U.S. Office of Management and Budget estimates the total 
tax revenues lost from charitable contributions \11\ (known in 
tax jargon as tax expenditures) to be $2.7 billion for 
education, $2.4 billion for health, and $17.1 billion for other 
purposes, for a total of about $22 billion. However, it is 
important to note that as large as this tax expenditure is, the 
charitable contribution is limited in one other significant 
respect: it only serves to negate the income tax. Under the 
current system, even if a taxpayer itemizes and even if he can 
qualify to take the deduction, the charitable deduction only 
off-sets one type of tax that he pays among the taxpayer's 
total tax liability--the income tax.
---------------------------------------------------------------------------
    \11\ See, Budget of the U.S. Government, Fiscal Year 1999.
---------------------------------------------------------------------------
    These payroll taxes, be they employer-and employee-combined 
payroll taxes or self-employment taxes paid by our nation's 
more than 17 million entrepreneurs, comprise a significant 
segment of the taxes Americans pay today. As a national 
aggregate, in 1997 individual income taxes were $737.5 billion. 
Payroll taxes were $539.4 billion, or 42 percent of the 
combined total. Many taxpayers, especially lower income 
individuals, pay a greater portion of their tax liability in 
payroll taxes as opposed to income taxes.
    To graphically illustrate what benefit is provided by the 
charitable deduction today, let us see the world through the 
eyes of a fairly average couple. In 1995, the median family 
income of a married couple was $47,129. If that income were all 
wage income, then that couple would have paid $7,210 in 
combined payroll taxes on those wages (employer and employee 
share). Even if that couple did not itemize (which they 
certainly would because of the mortgage interest deduction), 
the maximum income taxes that they would pay if they filed 
married filing jointly would be $6,433, or 10 percent less than 
the payroll taxes.\12\ In other words, the couple would have 
paid more payroll taxes than income taxes. Even if that couple 
itemizes, and the couple takes a charitable contribution 
deduction, the couple cannot take that deduction against the 
most significant form of taxes that apply to them--payroll 
taxes.
---------------------------------------------------------------------------
    \12\ $47,129--$7,100 (standard deduction for married filing 
jointly) = $40,109. The income tax on taxable income of $40,109 = 
$6,433.
---------------------------------------------------------------------------
    The graph below depicts what an itemizing taxpayer must 
earn today to donate $100 to charity.
[GRAPHIC] [TIFF OMITTED] T1879.011

    Now let us consider what happens under the FairTax 
consumption tax. Under the Fair Tax, charitable contributions 
are not taxed--not at all. They are neither taxed to current 
itemizers nor to non-itemizers. Therefore, like current law, 
donors would donate earnings out of pre-income-tax dollars. 
More to the point, since the Fair Tax repeals both the payroll 
taxes and the income taxes, the effect of not taxing their 
contributions is to ensure that the payments are made with both 
pre-income and pre-payroll tax dollars.
    Even for those who believe the deduction is important, this 
should significantly advantage charities relative to current 
law by reducing the costs of contributions. A taxpayer today 
must earn at least $108.28 to contribute $100 if only the 
``employee'' share of the payroll taxes is considered. If the 
employer payroll taxes are considered \13\ (or if the taxpayer 
had a sole-proprietorship), he or she must earn $118.06. Under 
the Fair Tax, that taxpayer would only need to earn $100 to 
contribute $100.
---------------------------------------------------------------------------
    \13\ Most economists believe that the employer-employee split is 
really fiction and that employees really do bear the full 15.3 percent. 
However, we make this adverse assumption in order to arrive at a 
conservative estimate of the advantages of the Fair Tax.
---------------------------------------------------------------------------
    The relative advantage of allowing a deduction against 
income vs. not taxing income or wages is depicted in the graph 
below. In this graph, we see that the cost of charitable giving 
will actually go down considerably under the Fair Tax. Hence, 
even if taxpayers are wholly motivated to give due to tax 
treatment, the Fair Tax lowers the cost of charitable giving 
and increases the resources available for donations. In other 
words, the cost of charitable giving relative to alternative 
uses of the funds will go down.

[GRAPHIC] [TIFF OMITTED] T1879.012

    However, this is not the end of the advantages. With the 
adoption of the FairTax corporations may become major 
contributors to charity. Under the current system, total 
charitable contributions for corporations may not exceed 10 
percent of taxable income. Repealing this limitation will free 
up corporations to give more.

Second Misconception: The Relative Cost of Capital Will Rise

    Charitable giving represents a significant and thankfully 
growing outlay. Total charitable giving in 1997 was estimated 
to be $143.5 billion in 1997, which represents the second 
consecutive year of growth and the largest growth spurt since 
1989. However, it is important to bear in mind that individual 
charitable contributions, while certainly important, are only a 
portion--and not a major portion--of the resources that fund 
eleemosynary organizations today.\14\
---------------------------------------------------------------------------
    \14\ The Internal Revenue Service, SOI indicates that while the 
total contributions, gifts and grants received by nonprofits was about 
$110 billion in 1994, this was divided between contributions directly 
from individuals and corporations ($49.2 billion), from affiliated 
organizations ($8.7 billion) and from government grants ($52 billion).
---------------------------------------------------------------------------
    The major source of nonprofit income is not contributions 
at all, but an item called ``program service revenue,'' which 
includes commercial activities. Tax-exempt organizations 
constitute a significant portion of the Gross Domestic Product 
(GDP), more than 10 percent of GDP today, and their growth rate 
has outstripped the GDP and the private sector. Moreover, all 
tax-exempt nonprofits, particularly 501(c)(3) nonprofits,\15\ 
are increasingly reliant on commercially oriented as opposed to 
donative oriented sources of income. This activity is 
concentrated in the largest nonprofits. When nonprofits rely on 
commercial sources of revenue, they derive that revenue 
primarily from the service industries. On this income, little 
tax is paid either because the nonprofits declare the income as 
substantially related to their exempt function or because they 
are able to successfully allocate deductions to the unrelated 
income.
---------------------------------------------------------------------------
    \15\ There are a total of 28 different nonprofit exemptions. 
501(c)(3)'s are religious, educational, charitable, scientific or 
literary organizations, testing for public safety organizations, etc. 
When we refer to ``nonprofits'' as opposed to other tax-exempt, we 
generally refer to these 501(c)(3)'s.
---------------------------------------------------------------------------
    To place this in perspective, in 1994, the latest year for 
which IRS statistics are available, the total revenue for 
501(c)(3)'s was $589 billion. These nonprofits had $993 billion 
in combined assets in 1994. As a percentage of total receipt 
contributions, gifts and grants of all types (including from 
governmental entities) comprised only 18% of the total 
resources. Direct contributions were only about $50 billion, or 
8.4 percent of the total. Program service revenue was $422 
billion, or about 72 percent of the total resources of 
nonprofits.
    In fact, organizations with assets of $50 million and above 
rely on contributions, gifts and grants for only 11 percent or 
their income in 1991. This figure held steady in 1994, 
according to the IRS.\16\ This can be contrasted with 
organizations with under $100,000 in assets, which relied on 
gifts, grants and other contributions for 52 percent of their 
revenue. The $50 million asset group derived 76 percent of 
their income from ``program service revenue'' as opposed to 33 
percent of the $100,000 asset class organizations. There is a 
steady increase in reliance on ``program service revenue'' as 
the size of the nonprofit, measured by asset holding or gross 
income, increases.
---------------------------------------------------------------------------
    \16\ Summary of 1998, SOI Bulleting, Report by Cecelia Hilgert.
---------------------------------------------------------------------------
    Additionally, commercial type activity is concentrated in 
501(c)3's. Gross profits from sales and service is the largest 
source of income for 501(c)3's. If income is ``substantially 
related'' to the exempt purpose, it is not considered unrelated 
business income activity and is wholly exempted from taxation. 
While the tax paid by nonprofits have increased over the last 
decade, the increase has not kept pace with the growth of 
nonprofit's commercial sources of revenue.
    The Fair Tax consumption tax does nothing to alter the non-
contribution resource base of nonprofit organizations. If the 
nonprofit earns income that is program service revenue, it is 
not taxable. It should also be pointed out that if the 
nonprofit earns unrelated business income--income that is not 
substantially related to its exempt purpose--that income would 
also be tax free to the nonprofit under the Fair Tax.

Conclusion

    We maintain that the Fair Tax would have extremely 
beneficial effects on charities and philanthropic giving. The 
Fair Tax will improve the primary determinants of charitable 
giving--economic growth and real income. The Fair Tax would 
remove the bias against taxpayers who want to contribute today 
by enabling every taxpayer to make donations with tax free 
dollars. The Fair Tax would enhance the resources both 
itemizers and non-itemizers have to give by ensuring that they 
can make their contributions with pre-payroll tax dollars.

