[House Hearing, 107 Congress]
[From the U.S. Government Publishing Office]
PRESIDENT'S TAX RELIEF PROPOSALS: TAX PROPOSALS AFFECTING INDIVIDUALS
=======================================================================
HEARING
before the
COMMITTEE ON WAYS AND MEANS
HOUSE OF REPRESENTATIVES
ONE HUNDRED SEVENTH CONGRESS
FIRST SESSION
__________
MARCH 21, 2001
__________
Serial No. 107-6
__________
Printed for the use of the Committee on Ways and Means
U.S. GOVERNMENT PRINTING OFFICE
73-537 WASHINGTON : 2001
_______________________________________________________________________
For sale by the Superintendent of Documents, U.S. Government Printing
Office
Internet: bookstore.GPO.gov Phone: (202) 512-1800 Fax: (202) 512-2250
Mail: Stop SSOP, Washington, DC 20402-0001
COMMITTEE ON WAYS AND MEANS
BILL THOMAS, California, Chairman
PHILIP M. CRANE, Illinois CHARLES B. RANGEL, New York
E. CLAY SHAW, Jr., Florida FORTNEY PETE STARK, California
NANCY L. JOHNSON, Connecticut ROBERT T. MATSUI, California
AMO HOUGHTON, New York WILLIAM J. COYNE, Pennsylvania
WALLY HERGER, California SANDER M. LEVIN, Michigan
JIM McCRERY, Louisiana BENJAMIN L. CARDIN, Maryland
DAVE CAMP, Michigan JIM McDERMOTT, Washington
JIM RAMSTAD, Minnesota GERALD D. KLECZKA, Wisconsin
JIM NUSSLE, Iowa JOHN LEWIS, Georgia
SAM JOHNSON, Texas RICHARD E. NEAL, Massachusetts
JENNIFER DUNN, Washington MICHAEL R. McNULTY, New York
MAC COLLINS, Georgia WILLIAM J. JEFFERSON, Louisiana
ROB PORTMAN, Ohio JOHN S. TANNER, Tennessee
PHIL ENGLISH, Pennsylvania XAVIER BECERRA, California
WES WATKINS, Oklahoma KAREN L. THURMAN, Florida
J.D. HAYWORTH, Arizona LLOYD DOGGETT, Texas
JERRY WELLER, Illinois EARL POMEROY, North Dakota
KENNY C. HULSHOF, Missouri
SCOTT McINNIS, Colorado
RON LEWIS, Kentucky
MARK FOLEY, Florida
KEVIN BRADY, Texas
PAUL RYAN, Wisconsin
Allison Giles, 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
__________
Advisory of March 14, 2001, announcing the hearing............... 2
WITNESSES
American Council for Capital Formation, Margo Thorning, presented
Allen Sinai, Decision Economics, Inc........................... 80
American Farm Bureau Federation, Bob Stallman.................... 74
Barcia, Hon. James A., a Representative in Congress from the
State of Michigan.............................................. 12
Center on Budget and Policy Priorities, Wendell Primus........... 38
Chicago Public Schools, Paul Vallas.............................. 113
Decision Economics, Inc., Allen Sinai, presented by Margo
Thorning, American Council for Capital Formation............... 80
Detzel, Lauren Y., Dean Mead Egerton Bloodworth Capauano &
Bozarth, P.A................................................... 87
Family Research Council, Charles A. Donovan...................... 34
Hutchison, Hon. Kay Bailey, a United States Senator from the
State of Texas................................................. 7
Independent Sector, and YMCA of the USA, Kenneth Gladish......... 122
National Federation of Independent Business, and C.J. Coakley
Company, Inc., Maria Coakley David............................. 70
Rebuild America's Schools, Robert P. Canavan..................... 110
Savings Coalition of America, and Merrill Lynch & Co., Inc.,
Edward O'Connor................................................ 115
Seattle Times, Frank A. Blethen.................................. 77
Weller, Hon. Jerry Weller, a Representative in Congress from the
State of Illinois.............................................. 10
SUBMISSIONS FOR THE RECORD
Abrams, Howard E., Emory University, Atlanta, GA, statement and
attachment..................................................... 139
Air Conditioning Contractors of America, Arlington, VA, Larry
Taylor, statement.............................................. 145
Cal-Fed School Infrastructure Coalition, Sacramento, CA, Terry
Bradley, letter................................................ 146
College Savings Plans Network, Lexington, KY, Georgie Thomas,
letter......................................................... 147
Morella, Hon. Constance A., a Representative in Congress from the
State of Maryland, statement................................... 149
National Association of Realtors, Linda Goold, letter............ 150
National Automobile Dealers Association, Robert J. Maguire,
statement...................................................... 154
National Center for Policy Analysis, Bruce R. Bartlett, statement 155
Nature Conservancy, Arlington, VA, Michael Dennis, statement..... 160
Niche Marketing, Inc., Newport Beach, CA, and Professional
Benefit Trust, Woodstock, IL, Judith A. Carsrud, and Tracy
Sunderlage, joint statement.................................... 161
Responsible Wealth, Boston, MA, Charles E. Collins, statement.... 166
Simpson, Hon. Alan K., Washington, DC, statement................. 168
Washington Council Ernst & Young, LaBrenda Garrett-Nelson,
Phillip D. Moseley, and Robert J. Leonard, statement........... 170
White House Conference of Small Business, Debbi Jo Horton, East
Providence, RI; Joy Turner, Piscataway, NJ; Jill Gansler,
Baltimore, MD; Jack Oppenheimer, Orlando, FL; Paul Hense, Grand
Rapids, MI; Tommy Bargsley, Austin, TX; Edith Quick, St. Louis,
MO; Jim Turner, Salt Lake City, UT; Sandra Abalos, Phoenix, AZ;
and Eric Blackledge, Corvallis, OR, letter..................... 171
PRESIDENT'S TAX RELIEF PROPOSALS: TAX PROPOSALS AFFECTING INDIVIDUALS
----------
WEDNESDAY, MARCH 21, 2001
House of Representatives,
Committee on Ways and Means,
Washington, DC.
The Committee met, pursuant to notice, at 10:05 a.m., in
room 1100 Longworth House Office Building, Hon. Bill Thomas
(Chairman of the Committee) presiding.
[The advisory announcing the hearing follows:]
ADVISORY
FROM THE COMMITTEE ON WAYS AND MEANS
CONTACT: (202) 225-1721
FOR IMMEDIATE RELEASE
March 14, 2001
No. FC-6
Thomas Announces Hearing on
President's Tax Relief Proposals
Congressman Bill Thomas (R-CA), Chairman of the Committee on Ways
and Means, today announced that the Committee will hold an additional
hearing on President Bush's proposed tax relief provisions that affect
individuals. The hearing will take place on Wednesday, March 21, 2001,
in the main Committee hearing room, 1100 Longworth House Office
Building, beginning at 10 a.m.
Oral testimony at this hearing will be from invited witnesses only.
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:
On February 8, 2001, President Bush released his ``Agenda for Tax
Relief'' that includes doubling the child credit, relief of the
marriage tax penalty, and repeal of the death tax.
On February 13, 2001, the Committee held a hearing on President
Bush's tax relief proposals. On March 1, the Committee on Ways and
Means ordered favorably reported H.R. 3, the ``Economic Growth and Tax
Relief Act of 2001,'' a bill reducing individual income tax rates, with
a new 12 percent rate taking effect on January 1, 2001. On March 8,
2001, H.R. 3 passed the House by a vote of 230 to 198.
In announcing the hearing, Chairman Thomas stated: ``Now that the
House has passed the heart of President Bush's tax relief plan--the
permanent reduction in individual income tax rates--we will now turn to
fixing other problems in the Tax Code. Married couples shouldn't pay
more in taxes just because they're married. People shouldn't pay more
taxes when they die. And more families could benefit by doubling the
$500 per child tax credit. In summary, we are just beginning to provide
real and lasting tax relief to the American people who pay the bills,
and I look forward to hearing from the witnesses about the need for
further tax relief.''
FOCUS OF THE HEARING:
The focus of this hearing will be the President's tax relief
proposals, other than permanent marginal rate reduction, with
particular emphasis on marriage penalty relief, death tax repeal, and
doubling the child credit.
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, Thursday,
March 22, 2001, to Allison Giles, 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 advisories and news releases are available on
the World Wide Web at `HTTP://WWW.HOUSE.GOV/WAYS__MEANS/'.
The Committee seeks to make its facilities accessible to persons
with disabilities. If you are in need of special accommodations, please
call 202-225-1721 or 202-226-3411 TTD/TTY in advance of the event (four
business days notice is requested). Questions with regard to special
accommodation needs in general (including availability of Committee
materials in alternative formats) may be directed to the Committee as
noted above.
Chairman Thomas. Good morning. Today, the Committee
proceeds with its second hearing on President Bush's tax relief
plan, and today we are going to look more closely at the
President's proposals addressing the marriage tax penalty
problem in the Tax Code, the question of the estate or the
death tax, the child credit, and other provisions in the
President's tax relief plan. Obviously, there are Members who
were advocating positions in these areas prior to the
President's plan being presented, in fact for a number of years
laboring in the vineyards, and we are going to hear their
suggestions, as well.
According to the Congressional Budget Office, almost 25
million married couples pay an average of about $1,400 in
higher taxes just because they are married. That is not fair.
Last year, President Clinton vetoed a strong bipartisan bill
written in large part by our colleague from Illinois on the
Committee, Mr. Weller. In fact, 48 Democrats in the House of
Representatives voted for our balanced approach, and we
believe, working together in a bipartisan way, we will see a
similar support in fixing the marriage tax penalty once again.
The difference, of course, is that if it does arrive at the
President's desk in a bipartisan way, this President will sign
that legislation.
Likewise, the House passed strong bipartisan legislation
written by the team on this Committee of the gentlewoman from
Washington, Jennifer Dunn, and the gentleman from Tennessee,
Mr. Tanner, that repealed the estate or death tax. Sixty-five
Democrats in the House voted for that approach in the last
Congress. Our goal, obviously, is to make sure that something
similar to that is placed on this President's desk. We believe
if we are able to do that, that, too, will be signed.
In 1997, Congress passed with overwhelming support the $500
per child tax credit to help those families with children help
make ends meet. The President has proposed doubling that $500
credit, phasing it in to the $1,000 limit. We think we need to
look at that portion of the President's tax proposals, as well.
There are other portions of the President's plan, including
the education saving incentives, the charitable giving, the
permanent extension of the research and development tax credit,
and other areas where Americans can increase savings and
investment.
Finally, let me say that notwithstanding all of the
suggestions of additional changes in the Tax Code, I do find it
rather remarkable that the initial statement was that no plan
should be offered until the budget resolution is passed and we
now find, especially in the other body, a number of our
colleagues on the other side of the aisle rushing to the
microphone with the latest plan to make changes in the Tax
Code, notwithstanding the fact that a budget resolution has not
passed the Budget Committee and it has not passed the floor. I
fully intend to have any provisions that we have pass on the
floor of the House after a budget resolution passes the floor
of the House.
I do welcome, and I think all of us welcome, our colleagues
in looking at new and additional ways in which we can reduce
the tax burden on hard-working American income taxpayers, those
who are married and those who are not, those who have children
and those who do not. The key here is to come together, move
product, place it on the President's desk, and let the American
people know that we understand we need to change the burden of
taxation on income tax-paying Americans and then continue with
the fine work in this Committee in the other areas of
jurisdiction of this Committee.
With that, I would recognize the gentleman from New York,
the Ranking Member, Mr. Rangel.
[The opening statements of Chairman Thomas and Mr. Ramstad
follow:]
Opening Statement of the Hon. Bill Thomas, M.C., California, and
Chairman, Committee on Ways and Means
Good morning. Today the Committee proceeds with its second hearing
on President Bush's tax relief plan.
Today, we will be looking more closely at the President's proposals
to fix the marriage tax penalty, repeal the death tax, double the child
credit and other provisions in the President's tax relief plan.
According to the Congressional Budget Office, almost twenty-five
million married couples pay an average of $1,400 in higher taxes just
because they're married. That's not fair. Last year, President Clinton
vetoed a strong bipartisan bill written by Mr. Weller to fix the
marriage tax penalty. In fact, forty-eight Democrats in the House of
Representatives voted for our balanced approach, and we hope to have
similar bipartisan support for fixing the marriage tax penalty again.
This year, however, we have a President who will sign the bill.
Likewise, Congress passed the strong bipartisan bill written by our
colleagues Mrs. Dunn and Mr. Tanner to completely repeal the death tax.
Sixty-five Democrats in the House voted for that approach. They
understand that the death tax should be repealed for one reason, which
is simply that Americans should not be taxed when they die. That is
wrong. I'm glad that President Bush's plan buries the death tax once
and for all, and I look forward to discussing the options available to
us as we move forward to eliminate the death tax.
In 1997, Congress passed with overwhelming support the $500 per
child tax credit, which has helped millions of families with children
make ends meet. President Bush has proposed to double that credit up to
$1,000 per child, and I would suspect that there would be strong
bipartisan support for this proposal as well.
There are other important components in the President's plan B
including education savings incentives, charitable giving, and the
permanent extension of the R&D tax credit. The Committee will be
looking at all these and other proposals to expand savings and
investments opportunities as we work together to provide real and
lasting tax relief to the American people.
Opening Statement of the Hon. Jim Ramstad, M.C., Minnesota
Mr. Chairman, thank you for your leadership in examining and acting
on the President's tax relief agenda for Americans.
We have now seen the responsible framework of this year's budget
resolution. Our budget will allow us to pay down an unprecedented
amount of debt, preserve Social Security and improve Medicare, fund
important education, medical research and defense priorities, and
provide meaningful tax relief.
The House recently sent the Senate the first installment of the
President's tax relief plan--a reduction in marginal tax rates for all
taxpayers. These rate reductions are urgently needed to stimulate our
sputtering economy. It is time now to turn to the next critical
elements of the President's plan.
The President's plan is pro-family and pro-fairness. It recognizes
the sacrifices families make to raise children. It defends married
couples against higher taxes simply because they are married. It
rewards charitable giving to help Americans in need. And it buries the
unfair death tax, which prevents families from passing farms and
businesses to the next generation.
I look forward to hearing from our distinguished witnesses about
these crucial tax relief proposals.
Thank you, Mr. Chairman.
Mr. Rangel. Thank you, Mr. Chairman. Mr. Chairman,
yesterday, you indicated that there may be a markup on certain
legislation either on Thursday or Friday. Could you share with
us whether or not these hearings today would have any
relationship at all with legislation that you intend to mark
up, and if so, what would the connection be? Are we to assume
that whatever testimony we hear today may be the subject of a
bill to be marked up this week?
Chairman Thomas. I would tell the gentleman that as we are
looking at the other portions of the President's tax plan,
having moved the permanent marginal rate reduction, to other
areas that this Congress had involved itself with prior to the
election of President Bush, the marriage penalty and the death
tax aspect are represented in large part by, for example, some
of the Members in front of us.
We believe that between now and when we have our next
markup, we can incorporate a number of ideas of the
President's, but also our colleagues' ideas, and I look forward
to working with the gentleman from New York. As he knows, we
have already supplied him with significant information in terms
of the direction that we believe we are going to take.
I am never, however, surprised of the valuableness of
hearings and information provided to us by witnesses which, of
course, can be incorporated in any markup as long as we have
about 24 hours prior to the markup. So I look forward to
hearing the witnesses, listening carefully to what they have to
say, digesting it, and then if, in fact, we do find information
that is very useful that we had not anticipated, including it
in a markup.
Mr. Rangel. Mr. Chairman, I am embarrassed not to fully
understand what you said.
Chairman Thomas. What I said was we ought to listen to the
witnesses carefully, see what they have to say, and if we agree
they have something worthwhile to say and we have not
anticipated it in legislation, to include it.
Mr. Rangel. But I was only talking, Mr. Chairman, about
whether or not their gems of wisdom would be of assistance to
us with a bill since we have yet to know what is in the bill
that we may mark up tomorrow or Friday. I guess that was my
partisan way of requesting, do we have the slightest clue as to
what the language would be in a bill that we may mark up on
Thursday or Friday, and what the cost would be, so that we
could more intelligently ask questions of these witnesses?
You mentioned the death tax. I assume you mean the estate
tax repeal. If that is going to be something that we are
marking up this week, then, of course, we would want to ask
questions about this when having these expert witnesses here.
And, of course, if you have no intention of marking up bills
that relate to their expert testimony then we would listen and
absorb it, but we would not waste a lot of time asking
questions on a bill that we are not marking up tomorrow or the
next day. But, of course, if you feel more comfortable not
answering any questions, then I will just not inquire any
further.
Chairman Thomas. Great. And with that, we will----
Mr. Rangel. That is the end of my opening statement, Mr.
Chairman.
Chairman Thomas. And with that, we will turn to the panel.
Mr. Camp. Mr. Chairman, if I might just have a minute.
Chairman Thomas. The gentleman from Michigan.
Mr. Camp. I just wanted to briefly welcome the panel,
including my colleague and friend from Michigan, Congressman
Barcia. We have adjoining districts. I look forward to your
testimony. Thank you, Mr. Chairman.
Mr. Crane. Mr. Chairman.
Chairman Thomas. I thank the gentleman. The gentleman from
Illinois.
Mr. Crane. May I welcome my distinguished colleague from
Illinois, Mr. Weller.
Mr. Rangel. Mr. Chairman, I would like to welcome the
Senator and my colleagues for whatever wisdom they can share
with us from now and to the end of this session, because we
will never know when we will have a chance to use their advice.
We thank you for sharing your views with us now.
[Laughter.]
Chairman Thomas. The chair is constrained to say, though,
it is much more difficult in picking up the pearls of wisdom
from our witnesses if the Members are not here, so I anticipate
full attendance through the entire hearing.
Now, it is my pleasure to turn to the gentleman from
Illinois and the gentleman from Michigan on the House side and
the Senator from Texas, who has been a champion for a long time
on examining the Tax Code in which there ought not to be
punishment for the act of marriage. And with that, I will turn
first to the Senator from Texas and indicate that if you have
any written testimony, we will make it a part of the record and
you can address us in any way you see fit.
I will also tell you that you have to turn the mike on and
it is very uni-directional in terms of its sound. You have to
speak into it.
STATEMENT OF THE HON. KAY BAILEY HUTCHISON, A UNITED STATES
SENATOR FROM THE STATE OF TEXAS
Mrs. Hutchison. Thank you very much, Mr. Chairman. I do
appreciate your holding this hearing and I do hope there will
be a markup soon on marriage penalty relief.
I want to start by saying that I have introduced every
iteration of marriage penalty relief in the last 4 years in
Congress, and I want to acknowledge that Congressman Weller has
done the same thing on the House side. He has really been a
leader. We have worked together and, of course, have passed
marriage penalty relief twice, only to see it vetoed. But this
time, I believe we can work on a bill that will be signed by
the President and will give measurable tax relief to married
couples who now suffer a penalty. And I want to welcome
Congressman Barcia, also, to help us in this effort so that we
can have a bipartisan effort.
Of course, 21 million American couples do suffer a marriage
penalty tax in this country and there should be zero tax to
being married. Let me give you an example from Texas.
Heather Diederich and Willie Simmons live in Tyler, Texas.
They are engaged to be married May 26, so when the
distinguished Ranking Member says, why are we talking about
this today, are we really going to do something, I hope we are
going to do something before May 26 for this couple. They both
work for a local grocery store chain. Heather is a single
mother of a 3-year-old boy. She makes $20,000 a year. Willie
makes $19,000 a year. When they get married, they will be hit
with a marriage penalty of $1,600. Mr. Chairman, this is wrong
and we could do something about it to help this couple before
the end of the year, after they have gotten married.
I think we need to talk about what is possible within the
range of the President's plan of $1.6 trillion. Based on my
experience and on what we have been able to pass through
Congress before, I think it is important that we do something
simple and fair, not something that is going to add layers in
the reporting requirements, layers in forms or any more
complicated responsibility for filing.
I believe increasing the standard deduction for a married
couple filing jointly so that it is twice that of a single
person and widening the 15 percent tax bracket so that we can
at least alleviate the pain at that lowest level and it will
give some relief to every couple that either does not itemize
and takes the standard deduction or anyone who is paying taxes
would get some relief from the 15 percent bracket.
Now, this has been tested. We have passed it through
Congress twice before. I think it is very important--and, in
fact, Chairman Grassley on the Senate side is trying very hard
to stay within the President's allocations. Based on the most
recent allocation of the OMB, the President's proposal would
reinstate the 10 percent second earner deduction and it would
cost $112 billion. If we do both the 15 percent bracket
doubling and the standard deduction doubling, it would cost
about $183 billion. But if we phase it in slower, it would come
about within the President's cost. So we would not be having to
take away from any of the other tax cut proposals that you have
already passed and are in the President's plan.
Now, I think it is important that we do this, but I want to
just regress for a moment here and say, after what we have seen
in the stock market and in the economy in general in the last 2
months, I think we need to do something more bold, Mr.
Chairman. I think we need to look at actually front end loading
all of our tax cuts more. I think we need to send real relief
to our taxpayers so that we can spur this economy which is
sinking every day and which, I think if we take a bold move, we
can do.
The income tax withholding surpluses, not even looking at
Social Security are increasing even for this year. So I think
we could increase both the marriage penalty relief and the tax
bracket relief even more this year, and I would encourage us to
do that. I think the failure to do so is unfair, and I thank
you for taking this as a priority and I hope very much that it
will be in the next one or two bills that will be passed by the
House and I hope that we can act expeditiously in the Senate.
Thank you, Mr. Chairman.
Chairman Thomas. Thank you very much, Senator.
[The prepared statement of Mrs. Hutchison follows:]
Statement of the Hon. Kay Bailey Hutchison, U.S.S., Texas
Thank you, Mr. Chairman, Ranking Member Rangel and members of the
committee for inviting me to speak at this hearing on individual tax
relief. I am pleased to talk about ending one of the most egregious
aspects of our tax code--the marriage penalty. As a Senator, relieving
the marriage penalty has been one of my highest priorities.
Right now, married couples all over America--21 million or so--are
being penalized by our tax code for no apparent reason other than
because they are married. The Treasury Department estimates that 48% of
married couples pay a marriage penalty. According to a study by the
Congressional Budget Office, the average penalty paid is roughly
$1,400.
Let me give you an example: Heather Diederich and Willie Simmons
live in Tyler, Texas, and are engaged to be married on May 26. Both
work at Brookshires, a local grocery store chain. Heather is the single
mother of a 3-year-old boy and makes $20,000 a year. Willie makes
$19,000 a year. When they get married, they will be hit with a marriage
penalty of $1,600.
Other than love, what incentive do these two young people have to
get married? Indeed, they are faced with an unbelievable disincentive.
It would save them $1,600 a year if they simply lived together. $1,600
is equal to half a year's rent.
It doesn't have to be this way. According to the Congressional
Budget Office's latest projections, we will achieve a $5.6 trillion
surplus over the next 10 years. This surplus is affording us an
unprecedented opportunity to relieve the marriage penalty in a
meaningful way. With this in mind, Mr. Chairman, I would like to
suggest that there be certain standards for how Congress addresses the
marriage penalty.
First, marriage penalty relief should not add another layer of
complication for taxpayers. Our tax code is already enormously complex.
Every year, America's taxpayers are forced to spend billions of dollars
in tax preparation fees and millions of hours filling out complicated
tax forms. Marriage penalty relief should not contribute to this
already significant burden.
Second, marriage penalty relief should ensure that all married
couples are treated equally. We should strive to bring relief to as
many couples as possible, and we should not create a tax system in
which we discriminate against certain couples solely on the basis of
the division of income. Under current law, couples earning the same
amount of combined income pay the same amount in taxes, regardless of
whether one spouse chooses to work within the home. We need to make
sure this remains the case.
On this point, some have argued that single-earner couples should
pay more in tax than two-earner couples with the same combined income.
This is because single-earner couples currently benefit from what they
call a marriage ``bonus.''
For the most part, so-called marriage ``bonuses'' arise in single-
earner families. For example, let's say a man who earns $40,000 a year
is engaged to a single mom who earns no income. Once they get married,
he will pay less income tax than he did as a single person and,
therefore, would be receiving a marriage ``bonus.''
But let's keep in mind that his $40,000 income will now have to
support three people instead of just one. His expenses have increased,
not decreased. By getting married, he is hardly getting a ``bonus''--at
least in the monetary sense of the word.
Would it be fair for this couple to pay more in tax than a similar
family in which both spouses work outside the home and earn the same
total income? The answer is no.
Over the last four years, I have introduced every iteration of
marriage penalty relief in the Senate. In the final analysis, I believe
that the simplest and fairest way to address this issue is to do two
things:
Increase the standard deduction for married filing jointly
so that it is twice that of an individual; and
Widen the 15% tax bracket.
By taking this approach, we will not be adding a single ounce of
complexity for taxpayers, and we won't be choosing which married
couples should get relief. In effect, everyone who is married will
benefit, and no couple will be discriminated against based on the
division of income.
Of course, this approach does not address the marriage penalties
found in the upper income brackets. However, expanding the 15% bracket
and increasing the standard deduction for joint filers is a reasonable
and responsible first step--one that will fit within the $1.6 trillion
the President has set aside in his budget for tax relief.
Based on the Joint Tax Committee's estimates of the marriage
penalty relief bill that Congress approved last year, doubling the
standard deduction and expanding the 15% bracket would cost $183
billion over 10 years. According to the Office of Management and
Budget, the President's proposal--which would reinstate the 10% second-
earner deduction--would cost $112 billion. These two revenue estimates
are not that far apart, and I believe we can close the gap between them
by phasing in the 15% bracket expansion at a slightly slower pace than
we did in last year's bill, thereby achieving savings over the 10-year
period.
I would support expanding the other brackets if surpluses continue
to grow. Doubling the standard deduction and widening the 15% bracket
now, however, would be a significant down payment.
Again, Mr. Chairman, I would like to emphasize the importance of
enacting meaningful marriage penalty relief this year. I believe our
failure to do so--especially at a time when the federal government is
receiving record income tax surpluses--would send the wrong message to
couples like Heather and Willie in Tyler. Let's give them marriage
penalty relief this year, and let's do so in a way that is simple and
fair.
Thank you, Mr. Chairman.
Chairman Thomas. Now I will turn to our colleagues. Any
written testimony you have will be made a part of the record
and you can take the time and share it to talk about your bill
or your desires in terms of marriage penalty reform in any way
you see fit.
Mr. Weller.
STATEMENT OF THE HON. JERRY WELLER, A REPRESENTATIVE IN
CONGRESS FROM THE STATE OF ILLINOIS
Mr. Weller. Thank you, Mr. Chairman, Mr. Rangel, members of
the Committee. Thank you for your warm welcome this morning and
the opportunity to work with all of you as we work to bring
fairness to the Tax Code.
I also want to acknowledge my friend, Senator Hutchison,
and my friend, Congressman Barcia, for their good work on
working to eliminate the marriage tax penalty. Clearly, this is
an issue that should be addressed in a bipartisan way and I am
proud to bring before this Committee a bipartisan bill that we
will discuss today.
I also want to acknowledge that President Bush has
recognized the need to address the marriage tax penalty and
included a provision in his package. We like his provision.
However, many of us believe we should do more than the
President proposes in addressing the marriage tax penalty.
I believe that the whole issue of the marriage tax penalty
is best framed by asking some basic questions of fairness, and
that is, is it right, is it fair that under our Tax Code, 25
million married working couples, on average, pay higher taxes
than they would if they stayed single? Is it right, is it fair
that 25 million married working couples, on average, pay $1,400
more in higher taxes just because they are married?
And if you think about it, I represent the south side of
Chicago and the south suburbs. Fourteen-hundred-dollars is real
money back home in Illinois. It is a year's tuition at a
community college, several months' worth of car payments. It is
three months' worth of day care at a local child care center in
Joliet, Illinois.
Working to address the issue of the marriage tax penalty, I
joined with my colleagues, Representatives Barcia, Capito,
Kerns, and almost 230 other bipartisan Members in this House
and introduced H.R. 6, legislation designed to address the
marriage tax penalty. We offer a solution. We offer a solution
in H.R. 6 which provides broad marriage tax relief, wiping out
the marriage tax penalty for the vast majority of those who
suffer it. We do it in several ways.
First, we double the standard deduction for joint filers to
twice that of singles. That helps those that do not itemize
their taxes.
Second, we widen the 15 percent bracket so that joint
filers can earn twice as much in the 15 percent bracket as a
single filer. That helps those who itemize their taxes, such as
average middle class married couples who happen to own a home
and, of course, itemize their taxes.
In H.R. 6, we help the working poor by addressing the
marriage tax penalty under earned income credit, helping the
working poor, and we also recognize the need to address the
AMT, the alternative minimum tax consequences through our
solution and we work to make our proposal, of course, holding
those harmless and ensuring that no one suffers higher
consequences because of our solution.
The bottom line is, we want to eliminate the marriage tax
penalty. It is an issue of fairness. I was proud when this
House and the Senate this last year sent twice to the President
a solution which wiped out the marriage tax penalty.
Unfortunately, the previous President chose to veto those
bills. I was also very proud that our legislation was
bipartisan. Fifty-one Democrats joined every Republican House
Member in voting to eliminate the marriage tax penalty this
past year when we sent that legislation to the President.
Building on that, I believe we have a real opportunity.
I am joined today by Jim Barcia, a friend of mine from
across the aisle, a Democrat from Michigan, a great guy,
someone who has been working as my partner in the House on
working to eliminate the marriage tax penalty, and Mr.
Chairman, with your permission, I would like to yield the
remainder of my time to Mr. Barcia to present the merits of our
legislation.
[The prepared statement of Mr. Weller follows:]
Statement of the Hon. Jerry Weller, M.C., Illinois
Mr. Chairman, I want to thank you for granting me the opportunity
to testify on this historic effort to bring about tax fairness. I
appreciate the Committee allowing me to testify on an issue that is
really an issue of fairness for working couples, eliminating the
marriage tax penalty imposed on married working couples by our tax
code.
On March 16, 2001, Representatives Barcia, Capito, Kerns and I
introduced H.R. 6 with the goal of significantly reducing the marriage
tax penalty for the majority of American families who suffer it. H.R. 6
now enjoys broad bipartisan support with 225 cosponsors. The bill we
introduced last week is exactly the same as the bill the House and
Senate sent to President Clinton last year. Unfortunately, President
Clinton chose to veto this bill, in spite of the fact that 51 Democrats
voted in favor of the Conference Report. I am proud that H.R. 4810 has
obtained such strong bipartisan support and I look forward to working
with Representative Barcia, the lead Democrat cosponsor of H.R. 6, to
continue to increase the bipartisan support for H.R. 6 this year.
As it was introduced on March 16th, H.R. 6 significantly reduces
the marriage penalty for 25 million American working couples by
doubling the standard deduction to twice that of singles and widening
the 15% income tax bracket to relieve the marriage tax penalty on those
who itemize their taxes as homeowners. The bill also provides marriage
tax relief for the working poor who benefit from the Earned Income
Credit and ensures that no one sees their taxes rise because of this
proposal and its relationship to AMT.
Since 1969, our tax laws have punished married couples. For no
other reason than the decision to be joined in holy matrimony, more
than 25 million couples a year are penalized an average $1,400 per
year. They pay more in taxes than they would if they were single. Not
only is the marriage penalty unfair, it's immoral that our tax code
punishes society's most basic institution. The marriage tax penalty
exacts a disproportionate toll on working women and lower income
couples with children.
Let me give you an example of how the marriage tax penalty unfairly
affect a middle class, married working couple in my district.
By now, many of you are familiar with two school teachers that live
in my district in Joliet, Illinois. Shad and Michelle Hallihan make a
combined income of $61,500 a year in salary. Let's assume that they
each make about the same salary--Shad at $31,500, Michelle at $31,000.
In addition, they have one child. If they both filed their taxes as
singles, as individuals, they would pay taxes in the 15 percent
bracket.
But when they made the choice to live their lives in holy
matrimony, and now file jointly, their combined income of $61,500
pushed part of their income into a higher tax bracket of 28 percent,
producing a tax penalty of $828 in higher taxes.
On average, America's married working couples pay $1,400 more a
year in taxes than individuals with the same incomes. That's serious
money. $1,400 is a year's tuition at Joliet Junior College. Over ten
years, average couples pay $14,000 more in taxes than singles! This can
represent the cost of a new car or a year of college tuition at almost
any university in America.
I believe that in an era of federal budget surpluses which do not
include Social Security revenues, American families deserve a fairer
tax code. We should focus on tax code fairness and simplification
beginning with eliminating the unfairness of the marriage tax penalty.
I think the issue of the marriage penalty can best be framed by
asking these questions: Do Americans feel its fair that our tax code
imposes a higher tax penalty on marriage? Do Americans feel its fair
that the average married working couple pays almost $1,400 more in
taxes than a couple with almost identical income living together
outside of marriage--is it right that our tax code provides an
incentive to get divorced?
Eliminating the marriage tax penalty addresses an important issue
of fairness--I am excited by the prospect that we can work together to
eliminate it. Mr. Chairman, I would again like to thank you for giving
me the opportunity to address the Committee on this important issue
affecting 25 million American families. I would be happy to answer any
questions.
STATEMENT OF THE HON. JAMES A. BARCIA, A REPRESENTATIVE IN
CONGRESS FROM THE STATE OF MICHIGAN
Mr. Barcia. Thank you, Mr. Chairman and distinguished
Committee Members. It is a privilege for me to join with my
good friend, Congressman Weller, and the distinguished Senator
Kay Bailey Hutchison, in presenting testimony in favor of H.R.
6 this morning. I want to thank you for granting me this
opportunity to testify before you on this issue that is of such
critical importance to our Nation's married couples. My
comments will be brief, although I see I have about a minute
left, I will try to stay in that range.
Chairman Thomas. In the bipartisan way, we will give you a
full five minutes.
Mr. Barcia. Thank you, Mr. Chairman. As the lead Democratic
cosponsor of the Marriage Tax Elimination Act, I first would
like to recognize the leadership of Congressman Weller and I
want to thank him for giving me the opportunity to do my part
to ensure that, one day, the marriage penalty is taken out of
the Federal Tax Code. It has truly been an honor and a pleasure
to work with him. Without his leadership, vision, and
perseverance, as well as that of Senator Hutchison on the other
side of the Capitol, frankly, we would not be here this
morning.
Let me begin by saying that, fundamentally, the marriage
penalty is an issue of tax fairness. Congressman Weller once
said that the only form someone can file to avoid the marriage
tax penalty is the paperwork for a divorce. That is not the
message that this Congress, nor any Congress, should send to
working families across our Nation. Marriage is a sacred
institution and our Tax Code should not discourage it by making
married couples pay more.
As you know, the marriage penalty occurs when a couple
filing a joint return experience a greater tax liability than
would occur if each of the two people were to file as single
taxpayers. The Congressional Budget Office estimates that more
than 25 million married couples suffer under this financial
burden. The penalty harms the pocketbooks of working families,
with an average couple losing about $1,400 under the current
system.
The bill that we recently introduced will fix the grave
injustice of our current Tax Code that results in married
couples paying higher taxes than they would if they had
remained single. For me, this bill strikes to the heart of
middle-income tax relief. These are the people who are the
backbone of our communities. These are the people who need tax
relief the most.
With a record budget surplus, the time is long overdue for
Congress to remove the marriage penalty from the Tax Code. This
bipartisan bill achieves that goal, and I know that all of us
present here today who support the measure will not stop
working until this legislation is signed into law.
I will not be redundant in terms of the two distinguished
colleagues who have articulated the framework of the
legislation, but wanted to add my support for the good work
this Committee is doing in helping to correct this injustice in
our Federal Tax Code and want to thank you, Mr. Chairman, for
the attention and time that you are devoting to this issue and
your leadership, as well as the Members of the Committee, on
this very important issue that, hopefully, Congress will pass
expeditiously. Thank you for the time.
[The prepared statement of Mr. Barcia follows:]
Statement of the Hon. James A. Barcia, M.C., Michigan
I want to thank you for granting me this opportunity to
testify before you on this issue that is of such critical importance to
our nation's married couples. My comments will be brief.
As the lead Democratic cosponsor of the Marriage Penalty
Elimination Act, I would like to recognize the leadership of
Congressman Weller, and I want to thank him for giving me the
opportunity to do my part to ensure that one day the Marriage Penalty
is taken out of the tax code. It has truly been an honor to work with
him.
Without his leadership, vision and perseverance we frankly
would not be here this morning.
Let me begin by saying that--fundamentally--the Marriage
Penalty is an issue of tax fairness. Congressman Weller once said that
the only form someone can file to avoid the marriage tax penalty is the
paperwork for divorce.
That's not the message that Congress should send to
working families across our nation.
Marriage is a sacred institution and our tax code should
not discourage it by making married couples pay more.
As most of you know, the Marriage Penalty occurs when a
couple filing a joint return experiences a greater tax liability than
would occur if each of the two people were to file as single
individuals.
The Congressional Budget Office estimates that more than
25 million married couples suffer under this burden.
The penalty harms the pocketbooks of working families--
with an average couple losing about $1,400 under the current system.
The bill that we recently introduced will fix the grave
injustice of our current tax code that results in married couples
paying higher taxes than they would if they had remained single.
For me, this bill strikes to the heart of middle income
tax relief. These are the people who are the backbone of our
communities, these are the people who need tax relief the most.
With a record budget surplus, the time is long overdue for
Congress to remove the marriage penalty from the tax code.
This bipartisan bill achieves that goal--and I know that
all of us present here today who support the measure will not stop
working until this legislation is signed into law.
Thank you.
Mr. Weller. Mr. Chairman, may I reclaim 30 seconds of the
time that I yielded to Mr. Barcia, if I could just briefly? I
do want to acknowledge Shad and Michelle Hallihan, two public
schoolteachers who are an example----
Chairman Thomas. The gentleman's time has expired.
[Laughter.]
Mr. Weller. Two public schoolteachers who suffer the
marriage tax penalty and they are looking to us to solve that
problem today. Thank you, Mr. Chairman.
Chairman Thomas. I actually would tell the gentleman, I
believe I know them----
[Laughter.]
And the gentleman has done an excellent job.
Does the gentleman from Florida wish to inquire?
Mr. Shaw. No, Mr. Chairman. I just want to congratulate
each one of the witnesses on the good work that they have done
and their persistence in seeing that this does become law.
Having four kids who are struggling to raise a family, all of
whom, I am pleased to say, are happily married, I am very
hopeful we will be able to do it, and I hope we can do it
before this couple has grandchildren. I yield back, Mr.
Chairman.
Chairman Thomas. I thank the gentleman.
Does the gentleman from California, Mr. Stark, wish to
inquire?
Mr. Stark. I just wonder if any of the witnesses know what
we can anticipate we will be looking at. What is going to be in
the bill? Do you know, Jerry? What is going to be in the bill?
What are we going to mark up? Do you know?
Mr. Weller. Mr. Stark, we have made suggestions to Chairman
Thomas, who has been very inclusive in this process, and, of
course, when he is prepared to release the mark, we will take a
look at it. But we have suggested in H.R. 6----
Mr. Stark. Are you going to vote for it, whatever it is?
Mr. Weller. Chairman Thomas has been very receptive to many
of the ideas we have been suggesting to him.
Mr. Stark. That was not what I asked. You will vote for
whatever it is?
Mr. Weller. I certainly expect and hope to vote for the
proposal we vote on later this week.
Mr. Stark. Senator, you would support it without knowing
what it is going to be?
Chairman Thomas. Would the gentleman yield?
Mr. Stark. Happily.
Chairman Thomas. The bill that has been introduced in the
House by the two gentlemen who are in front of us will be the
base text.
Mr. Stark. Aha.
Chairman Thomas. However, as is usually the case in this
Committee for as long as I have been on this Committee, there
is a chairman's substitute which will be offered. So if the
gentleman is concerned about what the base bill is going to be,
the gentleman only needs to consult H.R. 6, introduced at the
beginning of the----
Mr. Stark. What is going to be the chairman's substitute?
Chairman Thomas. The gentleman will see the chairman's
substitute, as has been the case, when the majority, who were
the Democrats, the day before the markup.
Mr. Stark. So we call that a pig in a poke, I think, but
you may call it a substitute.
Senator, will you vote for whatever form of marriage
penalty the Chairman decides will finally be in his substitute?
Are you willing to say that today?
Mrs. Hutchison. Mr. Stark, I do not know that you have ever
heard a Senator agree to vote for a bill just as it came out of
the House, so that would be sort of a different kind of a
question.
Mr. Stark. So you are not sure, either.
Mrs. Hutchison. Let me say, I know what you are doing. I
think we all do. I am working very hard with the chairman and
ranking member of the Finance Committee and trying to make some
very simple points, and those are that we should try to affect
as many married couples as we possibly can.
Mr. Stark. What limits us from being completely fair? You
do not change the upper brackets in any of your bills. Is it
perhaps that you do not think we have enough money to do this
completely?
Mrs. Hutchison. I think we have competing priorities and
that is why we have the opportunity----
Mr. Stark. Would you rather have a drug benefit for seniors
or would you rather have a bigger marriage tax penalty relief?
Mrs. Hutchison. They are not mutually exclusive, Mr. Stark.
Mr. Stark. Oh, they are both money. You cannot have them
both.
Mrs. Hutchison. I disagree with you totally. I think tax
relief should be a first priority, because----
Mr. Stark. Before drug benefit for seniors?
Mrs. Hutchison. No, Mr. Stark. I do not think they are
mutually exclusive, and as soon as you are able to, in an
orderly way, take up each issue as it comes, we have a budget,
we have tax relief, we have----
Mr. Stark. I beg to differ with the----
Mrs. Hutchison. We have Medicare reform, and I do think
Medicare reform----
Mr. Stark. I beg to differ with you, Senator. We do not
have a budget.
Mrs. Hutchison. Mr. Stark, I do think Medicare reform----
Mr. Stark. We do not have a budget, Senator.
Mrs. Hutchison. Needs to be done as a whole and not
piecemeal.
Mr. Stark. Senator, we do not have a budget. Do you?
Mrs. Hutchison. We are working on a budget, yes.
Mr. Stark. But you do not have one, do you?
Mrs. Hutchison. Mr. Stark----
Mr. Stark. So, in effect, you do not know what you are
talking about when you talk about a budget.
Mrs. Hutchison. Mr. Stark, I would just say that we have
very good estimates on what our surplus is going to be----
Chairman Thomas. Senator----
Mrs. Hutchison. And, in fact, those surpluses are going up.
Chairman Thomas. Senator, if you would refrain for just a
minute, I understand the gentleman's exuberance and frustration
at being in the minority, but that should not replace common
courtesy in terms of responding to a fellow colleague who is a
Senator. Would the Senator----
Mr. Stark. I would repeat my question, Senator. Do you know
what you are talking about when you talk about a budget?
Mrs. Hutchison. I assure you that I do.
Mr. Stark. You do? What is your budget, then?
Mrs. Hutchison. And I do know that----
Mr. Stark. How much is budgeted?
Mrs. Hutchison. The estimates are, on our surplus and what
we are going to have in the way of----
Mr. Stark. How much is your tax bill going to be, Senator?
Mrs. Hutchison. Our tax bill is going to be $1.6 trillion--
--
Mr. Stark. All right.
Mrs. Hutchison. And we are going to have $1 trillion in
added capacity for spending that we plan to encourage spending
in Medicare, in public education, and national defense.
Mr. Stark. And how much is your drug benefit going to be
for the seniors?
Mrs. Hutchison. Mr. Stark, I know what you are trying to do
and I think $1 trillion set aside for added spending needs and
priorities is quite responsible.
Mr. Stark. That is not what I asked you. You may think
that, but I asked you if you have any idea what you are going
to spend on a drug benefit for seniors, and I think the answer
is you do not.
Mrs. Hutchison. Mr. Stark, I think it is very important
that we----
Mr. Stark. Senator, do you or do you not know what you are
going to spend on a drug benefit?
Mrs. Hutchison. We are able to address any issues----
Mr. Stark. I am asking for a yes or no response. I do not
need any help from pipsqueaks on this side of the aisle, Mr.
Chairman. You can ask a question on your time, son.
Chairman Thomas. The gentleman's time has expired.
Does the gentleman from New York wish to inquire?
Mr. Houghton. I would like to ask Mr. Stark whether he
intends to vote against the bill without having seen it.
Mr. Stark. Unlike Mr. Houghton, not being a Republican, I
am unable to make statements about thingsthat I may or may not
do.
Chairman Thomas. I think the gentleman wants a yes or a no.
[Laughter.]
Mr. Stark. Mr. Houghton, I do not intend to vote for any
bill until there is a budget and I know what the priorities are
and what the effects will be on the American people and whether
the seniors will have a drug benefit or not, or is it just a
few thousand wealthy Republicans who will get huge tax breaks
under the chairman's bill. So that is where I am. If your
children and my children are just waiting there panting to get
their hands on estates, that may be one thing. I do not intend
to do that, discrediting the people who need a drug benefit.
Mr. Houghton. You know, Mr. Stark, you tend to pull in my
children with your children on almost every opportunity. Thank
you very much.
Chairman Thomas. Does the gentleman from California, Mr.
Matsui, wish to inquire?
Mr. Matsui. I would just like to thank Mr. Weller for the
photo because I miss that couple. I have not seen them in a
while.
[Laughter.]
Actually, I have no questions at this time, Mr. Chairman.
Chairman Thomas. Thank you. Does the gentleman from
Louisiana wish to inquire?
Mr. McCrery. No questions.
Chairman Thomas. The gentleman from Pennsylvania? Does the
gentleman from Michigan wish to inquire? The other gentleman
from Michigan?
Mr. Levin. I do not think so, except the question has been
raised about when we will see the details of a proposal, and
maybe you can let us know, Mr. Chairman, when we are going to
see the legislation, your mark, that is proposed to be handled
either tomorrow or Friday. Really, I think this legislation is
much too important for us to go in without being fully aware of
the details. So maybe you could let us know. We have not seen
it. I do not think some of your colleagues on the Republican
side have seen it. At least we on the Democratic side have not
seen it. So when do you intend to give us your mark?
Chairman Thomas. I will tell the gentleman that he
apparently is chafing under the rules that this Committee has
operated under for a number of years.
Mr. Levin. I am not chafing. Mr. Chairman----
Chairman Thomas. We are following exactly the rules that
the gentleman's party followed when they were in the majority,
and that is you have been supplied with the base text 2 days
before the markup. The chairman's mark or the substitute is to
be supplied one day before the markup with revenue tables. This
is the day before the markup. You will receive the substitute
and the revenue tables today. The gentleman is complaining that
I am not meeting his time table, but rather I am meeting the
rules of this Committee. That is the gentleman's problem.
Mr. Levin. Mr. Chairman, I am not chafing and I do not
think anybody else should. It is suggested that we mark up a
bill involving hundreds of billions of dollars and you say--I
am not sure what rules you are talking about. I think there is
a 48-hour rule, is there not?
Chairman Thomas. I will tell the gentleman he received it
48 hours before the markup if the markup is to occur on
Thursday. If, in fact, we decide to have the markup on Friday,
he will then have an additional 24 hours in which to consider
the base text under the rules. The base text is H.R. 6. Not
only is it not unfamiliar to us, but it passed the House just a
year ago by a very large bipartisan majority. We are focusing
primarily on the marriage penalty structure in H.R. 6. There
may be some revisions to bring it current and to make other
adjustments that have come to us since the bipartisan passage
of that marriage penalty legislation.
Mr. Levin. All right. And also, there is a child credit
proposal that is going to be in the mark?
Chairman Thomas. We are going to try to put a child credit
provision, which is the President's doubling of that child
credit phased in with, again, modifications, in part, as the
gentleman well knows, from the marginal rate reduction bill.
There is a problem with the alternative minimum tax exacerbated
by the gentleman's tax bill of 1993 which has not been dealt
with, but we are dealing with it so that no income tax payer
who gets a tax cut inadvertently gets an increase in their
taxes because of the alternative minimum tax.
Mr. Levin. Right.
Chairman Thomas. That will be part of the adjustment in
dealing with the child credit.
Mr. Levin. And the estate tax, will that----
Chairman Thomas. That will not be marked up this week.
Mr. Levin. And so you are saying that sometime today--it
could be as late as five or six or seven o'clock--we are going
to receive your mark?
Chairman Thomas. The gentleman will receive the day before
the markup the chairman's substitute or the mark, as has been
done traditionally in this Committee for years.
Mr. Levin. Well, Okay. I----
Chairman Thomas. I understand the gentleman's frustration
with----
Mr. Levin. I am not frustrated----
Chairman Thomas. With not getting the information as soon
as he would like to release to the press and others. But we are
going to follow the rules of this Committee.
Mr. Levin. Mr. Chairman, I think it is still my time, so
let me just say----
Chairman Thomas. I thank the gentleman for yielding.
Mr. Levin. It is not a question of yielding. I am glad to
yield to you at any point. It is not a question of giving
information to the media. This Committee has a responsibility. We are
talking about a $1.6 trillion, I think, plus, tax proposal, and now the
second chunk is supposed to be marked up. We are talking about hundreds
of billions of dollars and I think we should not worry so much about
the past but argue about or discuss what is an intelligent way to
proceed in the present.
And all I am saying is for us to receive a mark, which is
the precise proposal we would be considering and perhaps
amending, less than 24 hours before you want us to mark up, I
think is not reflective of due consideration of major tax
policy.
Chairman Thomas. I will tell the gentleman if he will
examine in his packet a description of the Marriage Penalty and
Family Tax Relief Act of 2001, which was provided to the
gentleman's staff yesterday, he might become familiar with----
Mr. Levin. I have read it.
Chairman Thomas. Oh, Okay. You have read it. Fine.
Mr. Levin. That is not the bill that will be before us
tomorrow.
Chairman Thomas. Does the gentlewoman from Washington wish
to inquire?
Ms. Dunn. Thank you very much, Mr. Chairman. I have no
questions but I simply want to congratulate Congressman Weller
and Senator Hutchison for taking leadership on this very
important issue of marriage penalty tax relief. I appreciate
the chairman's comments that we will have the budget on the
floor of the House before we act on this particular bill on the
floor of the House, and I think that is important in terms of
priorities.
So I just want to thank you both very much for doing
something, and Congressman Barcia, for doing a lot of work on
an issue that my constituents are very, very interested in
seeing done. This is the year to do it. We have the dollars in
the surplus. We have budgeted the dollars for marriage penalty
tax relief and I congratulate you both for being successful.
Chairman Thomas. Does the gentleman from Washington wish to
inquire?
Mr. McDermott. Thank you, Mr. Chairman. I am sorry I am a
little bit late because I was over at the Budget Committee,
where I was walking through the budget for the first time. What
I am having trouble understanding is how do you know which
figures to use, because we just got the budget last night at
ten o'clock, and how do you know that there is money in here to
do the tax cuts that you are asking for? Where are you getting
your figures from, or are you just deciding how much money you
want to give and----
Mrs. Hutchison. Mr. McDermott, I would just answer by
saying that we get the figures from OMB and the Congressional
offices, the Congressional Budget Office, and we know how much
surplus we are going to have over the next 10 years. Our
proposal is to spend $1.6 trillion of that proposed $5.6
trillion surplus in giving money back to the people who earned
it. That is a decision that we have made and I think that there
is no question that the budget is going to go through in a
timely manner and so are the tax relief bills that are going
through both houses of Congress and I am very pleased that they
will be.
Mr. McDermott. Does it trouble you at all that you are
using the Medicare surplus as a part of this tax cut?
Mrs. Hutchison. I do not think we are going to not address
the Medicare issue. We have been trying to address that issue,
quite frankly, for the last few years, and not only has
Congress not been able to agree on the right approach, but we
have not had support from the President. So I think all of us
would like to address the issue and I hope we can do it in a
bipartisan way on an expedited basis and that we will use some
of the $1 trillion surplus that we are setting aside for
spending priorities.
Mr. McDermott. Five-hundred-and-sixty-five billion of which
is from Medicare. If we demonstrate in the process of this
budget hearing that you are using the Medicare trust fund for
funding of the tax cut, would you vote against that?
Mrs. Hutchison. I do not think that you will be able to
make that case. I think----
Mr. McDermott. I understand that, but if I can, if we do,
will you vote against it?
Mrs. Hutchison. Well, let me just say that you used the
term $565 billion and we know we are going to have $1 trillion
left over if we stick with the $1.6 trillion tax cut, so there
will be plenty of money if that is our priority to address the
issue.
Mr. McDermott. I know you can construct a $1 billion. We
have got charts and all kinds of stuff in here. But the fact
is, you have to use the Medicare trust fund to create that
contingency fund, as the President calls it, or as it appears
in the budget document. I think that that is going to become
clear. I think that a lot of people are going to get into a
position where they have committed themselves to tax cuts, and
then they are going to stand up and say, well, I voted for H.R.
2, because everybody in here voted for H.R. 2. We said, we are
putting this in a lockbox and we are not going to take any of
that hospital trust money and use it for anything else except
for Medicare.
Mr. McCrery. Will the gentleman yield?
Mr. McDermott. Just a moment. We are going to now change
that definition of what Medicare is from hospitals to
everything in the whole of the Medicare program. We are
changing the concept of the tax that the people in America are
paying into Medicare or the Part A hospital trust fund. And in
using that money for other things, you are simply spending Part
A money on other things in the budget. There is no way to avoid
it, given the numbers that are here.
Mr. McCrery. Will the gentleman yield?
Mr. McDermott. Yes, I yield to the gentleman.
Mr. McCrery. I understand what the gentleman is trying to
say, and I know that he does not want to mislead anybody, so I
want to make it clear that nobody is proposing that the
Medicare trust fund be violated. In other words, the gentleman
knows that the trust fund is composed of government
securities--not cash, government securities--and I believe what
the gentleman is referring to is the cash----
Mr. McDermott. You are saying that it is not fungible? Come
on, Jim.
Mr. McCrery. I believe what the gentleman is referring to
is the cash surplus that is used to buy those government
securities and place the government securities in the trust
fund. Nobody is going to take those government securities out
and spend them. That would be spending the trust fund. Now, if
the gentleman is referring to the cash surplus that the
trustees use to buy those securities, that is a different
matter. But I know the gentleman does not mean to imply that we
are going to violate the Medicare trust fund. Nobodyis
proposing that and I know the gentleman knows that.
Mr. McDermott. I guess my time has expired, so I will not
answer that any more than to say you can do all the monkeying
you want with the budget figures, but the fact is that the
money is being used for the tax breaks.
Chairman Thomas. Does the gentleman from Pennsylvania, Mr.
English, wish to inquire?
Mr. English. No questions.
Chairman Thomas. Does the gentleman from Wisconsin, Mr.
Kleczka, wish to inquire?
Mr. Kleczka. Dare I? Mr. Weller, how does your marriage
penalty relief differ from the President's proposal, and could
you also give me the 5- and 10-year cost?
Mr. Weller. The proposal the President puts forward, and
first, I want to acknowledge that I am pleased with----
Mr. Kleczka. Do not acknowledge. I only have 5 minutes.
Mr. Weller. I recognize that, and I am giving you the
abbreviated answer. Let me first acknowledge we have a
President who wants to address the marriage tax penalty and he,
in his proposal, provides roughly $100 billion in marriage tax
relief over 10 years, and the way he does it is he provides for
a second earner deduction of 10 percent of up to $30,000 of the
second earner's income, which means a $3,000 deduction. That
would provide about $700 in marriage tax relief for those who
are able to use that.
The average marriage tax penalty is about $1,400. Shad and
Michelle Hallihan suffer the average marriage tax penalty, and
what we propose doing is to ensure that those who----
Mr. Kleczka. Mr. Weller, what is the cost of your H.R. 6?
Mr. Weller. The proposal that we offer is roughly $180
billion over ten. We, of course, solve the marriage tax penalty
and essentially eliminate the marriage tax penalty for the vast
majority of those who suffer it in several ways.
Mr. Kleczka. And the further question is, when can a
married couple anticipate receiving the full $1,400 relief,
because I believe your bill is phased in, also.
Mr. Weller. Our legislation is phased in. The standard
deduction, we double the standard deduction for joint filers.
That would be immediately available in the 2001 tax year.
Actually, our proposal is retroactive, so it would be available
this year.
Mr. Kleczka. When can a married couple expect the $1,400?
Mr. Weller. Well, those who use the standard deduction
would see benefit this year under our proposal because we do
make it retroactive.
Mr. Kleczka. Okay.
Mr. Weller. Those who itemize their taxes, it is phased in
over five years, so the widening of the 15 percent bracket.
Those who benefit from the EIC would see benefit in the first
year.
Mr. Kleczka. So a couple would see the $1,400 possibly in
2006, is that accurate?
Mr. Weller. Once fully phased in, that is correct.
Mr. Kleczka. Thank you very much. My colleague, Mr.
McDermott, talked about this contingency fund, and I know
Senator Hutchison also indicated that we are going to have $1
trillion available even after the tax cuts for star wars, for a
drug benefit, for education, for all sorts of other programs
which a lot of members are looking forward to supporting.
However, I think in discussions we had in this Committee
and discussions we had yesterday with the trustee for the
Social Security and Medicare trust fund, what we found out,
Senator, is that over one-half of that $1 trillion you talk
about being a contingency fund is the Medicare HI trust fund.
Well, here we go again, and I guess we can debate it, but the
figures and facts that we have indicate that $526 billion of
this $1 trillion or whatever the amount is is counting that
surplus from the Medicare HI trust fund. So I think we can keep
talking about $1 trillion being available, but in essence, that
is not really accurate. Let me thank the chair.
Chairman Thomas. Does the gentleman from Arizona wish to
inquire?
Mr. Hayworth. I thank the Chairman for the time and I thank
my colleagues from the House and our friend from the Senate,
the lady from Texas, for coming down to visit with us this
morning.
Mr. Chairman and my colleagues, listening to some of the
comments here today reminds us of a road we have been down
before, and we heard it yesterday with the interesting
questions going to the Secretary of the Treasury. Though
Halloween is some months away, it appears that we are getting
the sequel to so many cheap horror films today with perhaps a
misunderstanding of the budgetary process and perhaps an honest
difference of opinion.
Senator Hutchison, I think we all can appreciate passion
and differences of opinion, and goodness knows I have had my
share of passionate exchanges with people where we have
profound disagreements. I will lament the fact that there are
those here who perhaps did not want to hear your answers and so
I feel compelled to apologize on their behalf, because I know
they seek civility in what we do here.
I also thank my colleague from Michigan for pointing out
the fact that this is a bipartisan bill, and I would address my
inquiry to Mr. Barcia. Jim, what are you hearing from your
constituents? What are they telling you about the marriage
penalty and why did you feel compelled to join with Congressman
Weller and Senator Hutchison in offering this piece of
legislation?
Mr. Barcia. Thank you, Congressman Hayworth. When this
legislation was introduced, we, of course, sent out a news
release in our district. It was carried extensively by our
electronic and print media throughout our region of the State
and I received a lot of positive comments about people who, as
Congressman Weller mentioned, could use that additional $1,400
to $1,600 of annual tax relief to apply to the cost of tuition
for their children, or themselves if they are being retrained
if they have recently lost their employment.
We are seeing the signs of the economy slowing down in
Michigan, and for the first time in quite a while now, we are
seeing layoffs in my district. So a lot of people certainly
would appreciate having that additional tax relief to either
pay down perhaps some credit card debt, to perhaps address the
increasedenergy costs which we anticipate in this next winter
season, both Michigan being a major tourism State and relying on
tourism for the economic health of many of our shoreline communities in
my district. The cost of gasoline is expected to rise again, as well as
home heating costs may be a serious issue for many families throughout
Michigan and the frost belt States.
So I think a lot of people, when they read that we have a
surplus at the Federal level, that they feel that this would be
one way to target tax relief to working families, especially
those where both spouses work to sustain the family
economically. So I am very pleased and honored to be able to
join Congressman Weller and the other Democrats and Republicans
on this legislation to--what we hope to achieve is to have a
fairer Federal tax code. Yes, it will provide tax relief, but
there is simply no rationale why a couple should be punished
for being married if a couple that lives together without the
benefit of marriage is not susceptible to that same tax burden.
So I guess that is why I joined with Congressman Weller,
and I want to thank my Democratic colleagues who serve on the
Committee also for giving me a pass on some of these difficult
questions today. I am here because I think the issue is one of
tax fairness and I am honored to lend my support. We do have a
lot of Democratic cosponsors and we have reached out to many in
my caucus to join in this effort.
Mr. Hayworth. I thank my colleague from Michigan and I do
believe that despite some of the rather provocative
protestations of some of my friends on the other side, we are
seeing a bipartisan consensus on this issue, because after all,
Mr. Chairman and my colleagues, I believe in all 50 of our
States when people apply for marriage licenses, they are not
asked their party registration in the intent for that civil
union.
So I look forward to moving forward and I thank the
chairman also for operating under the time-honored regular
order and rules of this Committee, despite, again, some of the
rather passionate protests we are hearing today. It is as if
institutional history failed to exist, and I would also
acknowledge that we are not being uncivil when we follow the
rules. I thank the chair.
Chairman Thomas. I thank the gentleman.
Does the gentleman from Georgia, Mr. Lewis, wish to
inquire?
Mr. Lewis of Georgia. Thank you very much, Mr. Chairman.
Thank you so much. Let me thank my colleagues from the House
and friend from the Senate for being here today, and let me say
to my colleague from the great State of Arizona, civility and
peace is not the absence of tension and conflict. It is the
presence of justice and fairness.
Mr. Chairman, I want to say to you, sir, this member is not
frustrated. I am not frustrated, not at all. But I do not
understand, I do not understand for the life of me, how do we
plan to do all these things with such a massive tax cut, pay
down the national debt, save Social Security, take care of
Medicare, educate all of our children, and look out for the
basic human needs of our people? I do not understand how we are
going to do it. I wish you could tell me.
But as a member who believes in the philosophy of non-
violence and passive resistance, I do not have any questions. I
yield back the time, Mr. Chairman.
[Laughter.]
Chairman Thomas. I thank the gentleman. I can assure him,
he just needs to vote ``yes'' as these measures come up.
Does the gentleman from Colorado wish to inquire?
Mr. McInnis. Thank you, Mr. Chairman. I do. First of all,
Senator and colleagues up there, it is interesting that when
the cameras are in the room, the Committee sometimes takes on
an atmosphere of a little more courtroom drama, including some
of the examination that took place. I would assure our guest
from the other side of the Capitol that rudeness is not routine
on the Committee and I think it is unfortunate that we saw a
display of it this morning.
We all have a lot of interest in what to do with our
economy as we go through here. I am reading Newsweek, and I get
to page, about 36, before they quit talking about the economy.
We have got a serious problem out there.
And I would say to my colleague, my respected colleague
from the State of Georgia, this is not a massive tax cut. We
have a massive problem on our hands that is taking place as we
now speak. We have got to get some money out there to the
people that are going to bring this consumer confidence back
up, and $1.6 trillion over a 10-year period of time is not what
could be classified as a massive tax cut.
We are going to be able to take care of more needs than we
have ever taken care of in the history of this country. But at
the same time, I think we have fiscal responsibility that we
need to exercise and I think that the bill that is in front of
us, the proposals that are being discussed in front of us which
will later accumulate into a bill, are a step in that right
direction.
I would also say to my colleagues that I have heard some
discussion about, well, maybe sometime this afternoon they are
going to get a copy of a bill and they do not have time to read
it or things like that. I think that is a little unfair
description of what is occurring. The content, the Chairman has
said repeatedly during this meeting, that you can pick up a
good portion of the content, so you can get kind of a head
start on your reading this evening by looking at the content of
the previous bill last year, which was vastly supported, and I
would venture to say that the bipartisanship demonstrated today
in the support of this bill will also be demonstrated on the
House floor when the final vote comes down, although it may not
be demonstrated here in this Committee. But once it leaves the
Committee, it will be.
The fact is, all of us can get a start on what the
substance of this bill is by simply reading it. I mean, there
is a lot of material here that will prepare you. So I do not
think anybody is going to get caught off guard. I think we all
have a good idea of what is coming forth and I would hope that
we move forward in a little more bipartisan fashion and with a
little more teamwork.
And again, I commend members of both parties sitting up
there that are sponsors of this bill and thank the Senator for
coming over. Mr. Chairman, I yield back my time.
Chairman Thomas. I thank the gentleman.
Does the gentleman from New York, Mr. McNulty, wish to
inquire?
Mr. McNulty. I do. Thank you, Mr. Chairman. I thank the
chairman and the ranking member. I thank our witnesses this
morning.
I will not ask a question, Mr. Chairman, just want to take
a moment to express the same concern that was expressed by my
colleague, John Lewis, with regard to the overall amount of the
tax cut, and I continue to make this simple point. The numbers
do not add up. If you assume a $5.6 trillion surplus over the
next tenyears and you do what the President said in his address
to the joint session of Congress by subtracting $2 trillion for debt
reduction, which is something I support, and then if we keep our word
on the lockbox, $2.5 trillion in Social Security trust fund and $400
billion in the Medicare trust fund, you are down to $700 billion. And
then if you have a $1.6 trillion tax cut, you are back into a deficit
situation. We did that before. I do not want to go back to the days of
deficit spending, but I do want to work with the Chairman, the ranking
member, and the other members of the Committee in having some
reasonable tax cut proposal. Thank you, Mr. Chairman.
Mrs. Hutchison. Mr. Chairman.
Chairman Thomas. I thank the gentleman. Yes, the
gentlewoman.
Mrs. Hutchison. Could I just say one point on the numbers.
I think you are doubling up on the debt reduction and the
Social Security lockbox and that is where you get the deficit.
Mr. McNulty. And I want to respond to that, because I still
have time, then. That is the same rhetoric we keep hearing, and
my good friend from Louisiana makes that point, too. But when I
talk about the Social Security trust fund, I am talking about
the cash. The President of the United States said in a meeting
directly with me that he wants to take care of these funds and
he said that it is a crisis that we are facing in the years
ahead, especially when the baby boom generation retires.
Now, we cannot solve that problem, Senator, by putting a
bunch of IOUs in that lockbox. In that lockbox to me means
money, and if we stop stealing the Social Security trust fund
money, which we have been doing for 30 years--and listen,
Senator, I am an equal opportunity critic on that, because
during most of those years, we had Republican Presidents.
During most of those years, we had Democratic Congresses. If we
want to point the finger, there is enough blame to go around
for everybody.
That is not what I am about. I am talking about the future.
I am talking about avoiding this crisis that we are talking
about in the future with regard to Social Security, and the
best way to do that, Senator, is to stop stealing the money.
Mrs. Hutchison. Mr. McNulty, I would just say that you have
to use accurate math, and part of paying down the debt is in
the Social Security side and you just cannot double count it.
Mr. McNulty. We have another whole $1 trillion, Senator,
that we owe to the Social Security trust fund from before. This
is the projected surplus in the fund we ought to leave there to
take care of this impending crisis. And on top of that, we
still owe $1 trillion to the fund in IOUs. Let us not put more
IOUs in the box. Let us leave the cash in the box.
Mrs. Hutchison. I would just say, if you are looking toward
the future, paying down the debt and strengthening Social
Security is an important part of this whole package.
Mr. McNulty. Senator, somebody is using the money twice,
but it is not me.
Chairman Thomas. Does the gentleman yield back the balance
of his time?
Mr. McNulty. I do, Mr. Chairman.
Chairman Thomas. I thank the gentleman.
Does the gentleman from Florida wish to inquire?
Mr. Foley. Thank you very, very much, Mr. Chairman. I am
indeed sorry I missed the bipartisan retreat. I wonder if the
moderator was Jerry Springer.
Mr. Weller, you sound like you are interested in obviously
eliminating the marriage penalty, but you also sound like you
are willing to compromise with the President. Is that what I
hear you say today?
Mr. Weller. We, of course, not only want to work with the
President to eliminate the marriage tax penalty, but we also
want to make it a bipartisan effort, and that is why I
appreciate the good work of Mr. Barcia and his colleagues on
his side of the aisle, our colleagues on his side of the aisle
who are working with us.
The bottom line is, the President has a plan. It eliminates
about half the marriage tax penalty. Many of us believe we can
and should do more. We believe it will fit in the framework of
the $1.6 trillion in tax relief over 10 years, and we have got
a $5.6 trillion surplus of extra tax revenue. The President
proposes taking a portion of that, essentially less than one-
fourth, to provide tax relief, and a key part of his tax relief
proposal not only is helping our economy, but also bringing
fairness to the tax code.
I, for one, and I know many in this House agree that the
most unfair consequence of our complicated tax code is the
marriage tax penalty. It is just wrong that 25 million couples
pay $1,400 more in higher taxes just because they are married.
My hope is that we will continue to have bipartisan support. I
would note that 51 Democrats voted for the proposal that every
House Republican voted for this past year, and unfortunately,
the previous President vetoed it.
But we have a new President who, at the time that President
Clinton vetoed our effort to eliminate the marriage tax
penalty, said had the same bill reached his desk and he was
sitting in the Oval Office, he would sign it into law. Of
course, H.R. 6, the base bill that we have before you today, is
legislation that President Bush said he would have signed had
he received it had he been President last August.
Mr. Foley. Mr. Barcia, we have heard a lot this morning
about failure to have a budget before we consider tax relief.
Can you tell me what was in the thinking of the Democratic
Caucus when they offered a substitute proposal last week,
because it would seem to me if the budget is the hold up and
they are accusing us of constructing this fictitious document
of tax relief without a budget, how did your side come to the
floor with an alternative proposal?
Mr. Barcia. I think the feeling was that the expenditures
would be less, but I understand your point, and perhaps some
Members of the Committee might----
Mr. Pomeroy. Will the gentleman yield?
Mr. Barcia. Sure.
Mr. Pomeroy. We constructed our alternative within a
framework that allowed one-third of the projected surplus for
progress on eliminating the debt, one-third for tax relief for
the American people, one-third held in contingency in case
these 10-year projections do not all come in, as well as for
the critical investments that we made. So we recognized it was
out of order, but we felt that at least trying to get it back
into a framework that allowed a balance was the appropriate way
to proceed.
Mr. Foley. Reclaiming my time, so it was a political
response. Nobody wanted to be outside the box. No one wants to
go home on Sunday to tell your Members of the congregation you voted
against marriage penalty.
Senator, during the debate on capital gains reduction, I
remember Mr. Rubin and Mr. Clinton and others roundly
criticizing us, saying if we cut capital gains, it would have a
huge effect on the economy. We would blow up the deficits. We
would cause irreparable damage to the economy. Was not the
response of the reduction of capital gains the opposite? Was it
not stimulative? Did we not see income to the Treasury that was
dramatic and increasing revenues to the Treasury?
Mrs. Hutchison. That is correct, Mr. Foley. It was the
opposite. There was not only no loss, there was actually a gain
in revenue when capital gains were lowered and many people are
talking about adding that to a tax cut package because we do
need a response, as Mr. McInnis pointed out, to the real crisis
we are facing in our economy. It has been shown that lowering
capital gains taxes is a positive factor and I think it would
give a lot of people more incentive to invest and save.
Mr. Foley. And we have studied, obviously, the economic
projections. We have looked very carefully. We have used CBO,
OMB in order to determine the scope of our initiative today,
have we not?
Mrs. Hutchison. Well, of course. We would not be talking
about tax relief if we had not had growing surpluses being put
forward. In fact, when we first started talking about tax cuts,
the surplus was $3 trillion. Now it is $5.6 trillion, and the
surplus for this year is also being now looked at and revised
upward toward $90 to $100 billion this year. I hope we can
front end load some of these tax cuts.
Mr. Foley. Thank you, Senator. How many Democratic
cosponsors are there of this initiative on marriage penalty?
Are you----
Mr. Barcia. We lost two recently. We have, I think, close
to 40-50--excuse me, 15. We expect more to join when we see the
actual language that is reported from the Committee.
Mr. Foley. So there is bipartisan support, no question?
Mr. Barcia. There will be, and as I think Congressman
Weller pointed out, 51 Democrats last year on the floor voted
for it. I think as more discussion occurs on the issue of the
fairness of the marriage penalty, or the unfairness of the
marriage penalty, perhaps we will be joined by more Democrats.
We have some new Members that may be lending their support, as
well.
Mr. Foley. I want to thank you all for your courtesy today
and for your complete answers and for your testimony.
Chairman Thomas. Does the gentleman from Louisiana wish to
inquire, Mr. Jefferson?
Mr. Jefferson. Yes, briefly, Mr. Chairman. Thank you for
the allowance.
Mr. Weller, let me ask you, I suppose you have looked at
President Bush's proposal in this area compared to your own.
What do you think are the major shortcomings, if there is one,
or the major shortcoming, if there is only one, of President
Bush's plan as opposed to yours with respect to attacking this
question?
Mr. Weller. Thank you, Mr. Jefferson. I think to begin
with, number one, I think it is important to acknowledge we
have a President who wants to address the marriage tax penalty
and that is progress. The President's proposal, which provides
a second earner deduction, essentially would eliminate about
half the marriage tax penalty for the average couple who is
able to use the second earner deduction.
Many of us feel we need to do more, and the proposal, the
bipartisan proposal in H.R. 6 that we are presenting today
would essentially wipe out the marriage tax penalty for the
vast majority of those who suffer it. I would point out, it is
phased in. It will not happen immediately. But under our
proposal, we, of course, provide for a doubling of the standard
deduction, which will help those who do not itemize. That would
be available immediately. We propose phasing in a widening of
the 15 percent bracket so that joint filers could earn twice as
much in the 15 percent bracket as single filers, and those who
benefit from this, and this is why it is so important that we
widen the 15 percent bracket, are those who itemize, who are
homeowners. You give to your church or your synagogue or own a
home, you itemize your taxes.
Mr. Jefferson. Before my time is gone on this, I am
satisfied with your answer so far. Which half of the taxpayers
are left out from the President's proposal? Is it not the tax
that is on the lower end of the income scale and is it not the
half, really, that needs this relief the most?
Mr. Weller. The President's proposal would benefit all
those where you have two-earner households. So if you have a
lower moderate income family with two earners in the household,
they would benefit from the President's proposal. But I would
point out that in the proposal that we offer, we not only
double the standard deduction and widen the 15 percent bracket,
but we also help those who utilize the earned income tax credit
because there is a marriage tax penalty under the EIC and we
adjust the eligibility threshold for joint filers, eliminating
the marriage tax penalty for them, and that will help those who
suffer the EIC.
And last, if I could, just to complete the description of
the bill, we also address any AMT consequences that would occur
from the adjustments we make in the tax code.
Mr. Jefferson. Do you not think if we are going to provide
relief here and if the President is only going to let us take
care of half of the married couples that we ought to take care
of the half that needs this help the most? Your bill does do,
as you just pointed out, some things through EITC, which, of
course, is going to be helpful to that lower end of the income
scale. We are going to end up with this bill being slanted, as
we did with the rate adjustments, geared more to people who are
the upper income and that is not where we should be going with
this, I do not believe, Mr. Weller. Thank you, Mr. Chairman.
Chairman Thomas. I thank the gentleman.
Does the gentleman from Texas wish to inquire?
Mr. Brady. Thank you, Mr. Chairman. I want to thank
Congressmen Weller and Barcia for your leadership in this
effort and I want to also welcome my Senator, Kay Bailey
Hutchison, to the Committee. I also, Senator, want to apologize
for the conduct and behavior of my colleague specifically from
California. As you know, sometimes when your argument lacks
substance and intellect, you resort to rudeness and
interruption and badgering a witness.
Now, you are a Senator from a major State. You have been
involved in eliminating the marriage penalty long before some
of our born-again repealers have gotten involved. You know how
people act. But what bothers me is the thought that there may
be young people in this Committee room, or because our hearings
are so often televised, watching on TV, who think that some of
the leaders of our Nation with such big responsibility can be
so small in stature. So let me apologize again to you.
I am somewhat astonished at the point that keeps being
raised and demanded of you, where is the money, stop stealing
our money. I know that there is quite a bit of dollars in this
budget. I cannot tell you exactly where it is, but I can tell
you where it has gone.
I know that we went on a $50 billion spending spree the
final weeks of Congress up here, not that we do not need
another Lawrence Welk museum, not that the ``big dig'' should
not soon approach the cost of the international space station,
not that we should not--and this is what we did--we actually
funded a program to give lifelong housing and health care to
chimpanzees who have been used in research. Lifelong health
care and homes for chimpanzees, but not a dime for the long-
term reform of Medicare. How dare we demand from you where the
money is. I think the taxpayers ought to be demanding from us,
where is our money? Where are your priorities?
It seems to me we finally have a President who has said, we
cannot go on a spending spree. If we say no to a program,
Washington, D.C. will not slide off into the Potomac, and we
have got a President who understands first things first and
that he has put his priorities together.
So I appreciate the fact that you are trying to restore
fairness to our Tax Code. It is wrong to tax people more for
being married. And yes, we do have the money to restore
fairness. Thank you, Senator.
Mr. Herger. Would the gentleman yield?
Mr. Brady. Yes.
Mr. Herger. Thank you. I want to thank the gentleman from
Texas for pointing out how we have not managed many of our tax
dollars in the past, and I would also like to point out another
distinction and that is we have heard from some of our good
friends on the other side of the aisle that they think perhaps
this tax reduction, allowing people, couples like we see over
here that are married, that are paying a penalty of $1,400 a
year more than they should, that somehow we are allowing them
to keep too much. One-point-six trillion is too much, we hear
argued, and I would argue that it is not nearly enough. If we
put it into perspective of what other tax reductions have been
over the years, and as the gentleman knows, in 1963, the
Kennedy tax reduction, this is only half of what it was
equivalent to that time, or in 1983, the Reagan tax reduction
is one-third of what it was equivalent at that time. And so if
anything, during this time of turmoil in our economy, if
anything, the taxpayers, this couple and every other couple
that is married that is being penalized----
Mr. McNulty. Would the gentleman yield?
Mr. Herger. We should allow them more. It is not my time to
yield, but I appreciate your bringing it out and I yield back
my time to the gentleman from Texas, who controls the time.
Chairman Thomas. Does the gentleman from Tennessee, Mr.
Tanner, wish to inquire?
Mr. Tanner. Thank you very much, Mr. Chairman. I would just
like to make the observation that we are being asked to vote on
a tax plan that is phased in over 5 or 6 years based on 10-year
projected numbers. However one puts the pieces together, that
is what we are being asked to do.
Now, the uncertainty of this 10-year projection is
unassailable, in my view, by any reasonably sane human being.
Nobody knows what the next 10 years hold for this country.
People are surprised when you tell them that only 29 percent of
this 10-year projection is supposed to even show up here in the
next 5 years. Last year, we spent $205 billion in interest
checks we wrote. All of the corporate income taxes in the
country amounted to $207 billion. Said another way, all of the
corporate income taxes that corporations in this country pay go
to pay nothing but interest. Over 20 percent of every dime that
we send in personally, in our personal income tax returns next
month, will go, 20 percent or a little better, to pay nothing
but interest on the national debt.
Now, when we are talking about why we need a budget first,
if we do not have a budget, everything fits. Now, the Secretary
of the Treasury was over here 2, 3 weeks ago. He said $1.6
trillion is the number for the tax cut, and if I cannot hold it
to that, I ought to leave town. Those are his words, not mine.
The Chairman of the Budget Committee a couple of days ago said
$1.6 trillion is merely the floor. The Majority Leader a couple
of days ago said the $1.6 trillion figure is irrelevant.
Without a budget, everything fits.
Now, in the President's plan, we do not have, for example,
the alternative minimum tax provisions that many of us think
ought to be included. We added over here to his plan a
retroactive feature to the marginal rate reductions that cost
$150 billion to as much as $300 billion, depending on who you
talked to and how quickly it is phased in. We do not have in
the President's plan Portman-Cardin, which I think will do more
for this country in terms of aligning people to put aside
$5,000 into an IRA account and make a tax deduction on their
tax return for that. I think that is much more valuable to
working people than a marginal rate reduction for some guy that
makes $50 million playing basketball or baseball, but that is
another question we could talk about.
I believe that a 100 percent self-employment deduction for
health care insurance premiums is a great boon to this country,
just as the saving rate would be increased by Portman-Cardin,
but this would allow people to deduct for health insurance
premiums. We desperately need more money in the health system.
People are talking about a capital gains reduction. That is not
in the President's $1.6 trillion.
So my point is, all of this discussion is terrific. All of
us want a tax cut of some kind, but without a budget, all of
this stuff fits and all of us know that it cannot. So when
people say, well, we need a budget passed in the House, we do
need a budget passed in the House, but that is like taking a
dollar bill and tearing it in half. You have got to have the
other half, and that is the Senate budget resolution, before
you have a dollar to spend. That is not going to occur for
another couple of months.
So what some of us have asked, and begged for, really, in
many respects, is we are interested in marginal rate. We are
interested in everything the President has got. We are
interested in marriage penalty. We are interested in AMT. We
are interested in R&D extenders. They are not in the
President's plan. Everybody knows we have done it forever. It
is good for business in this country. It keeps business and
laboratories in this country. It ought to be done.
But without a budget, again, to sound like Johnny one-note,
everything fits and we all know that it cannot and we all know
that we have this cloud of debt hanging over the country. I
have argued that as long as we are paying 14 cents out of every
dollar in interest on this country, people in this country,
including our children, are going to be overtaxed. They have to
be because they are dragging around this mortgage on their
backs.
Now, I do not know that we can do anything about it today.
I commend you fellows and Senator Hutchison for being here this
morning. I would hope that you would see the wisdom of what
some of us are trying to say as it relates to a universe, a
business plan, a budget, so that we can make the tradeoffs
between the marriage penalty, between R&D, between capital
gains, between Portman-Cardin, between whatever you want to put
in it. But until we reach that point, we are being asked to
vote on tax measures that are based on 10-year projections
phased in over 5 or 6 years, and that is a very, very difficult
position to be in. Thank you.
Chairman Thomas. I thank the gentleman.
Does the gentleman from Wisconsin wish to inquire?
Mr. Ryan. Yes, Mr. Chairman. I just wanted to commend my
colleagues for coming here today. Hopefully, this can continue
to be a bipartisan issue. I was blessed with the ability to be
married 3 months and 19 days ago, so I would like to just voice
my support for a chairman's mark that eliminates the marriage
tax penalty retroactive to December 2, 2000. If that is
possible, I would be for that.
But in all seriousness, I am learning how this Committee
works. This is a good lesson today. I am concerned about some
of the rhetoric I hear in this Committee. Hopefully, we can
still work together to pass things that I think we all
basically believe in, and Mr. Barcia, seeing you here today is
a great thing because it tells me that in the United States
Congress, in our conferences, there is broad and deep
bipartisan support. It is not a Republican issue. It is not a
Democratic issue. It is an issue of fairness to repeal the
marriage penalty. So I hope that when this bill gets to the
floor of the Congress, those principles and that support will
be reflected, and thank you for your participation today.
Chairman Thomas. Does the gentlewoman from Florida wish to
inquire?
Mrs. Thurman. Thank you, Mr. Chairman. Mr. Weller, I want
to go back a little bit and let us talk about what happened
last year, because I think it is important because I think we
are losing or leaving out some very important steps that took
place.
Last year, if I remember correctly, the total of your bill
was somewhere around $283 billion. Is that about right, by the
time it got to the floor?
Mr. Weller. The conference report.
Mrs. Thurman. Okay, and then there was a substitute that
was offered on the floor for marriage tax penalty, is that
right?
Mr. Weller. You are talking about the Democratic
substitute?
Mrs. Thurman. Correct.
Mr. Weller. Yes. The Democratic substitute only addressed
marriage tax penalty for those who do not itemize. So if you
are a homeowner, they would have been left out under the
substitute.
Mrs. Thurman. But some believe that it was fixing the
penalty and not going beyond the penalty.
Mr. Weller. Well, if you actually analyze that proposal,
the alternative failed to help millions of middle class married
couples who are homeowners, and because they are homeowners,
they itemize their taxes, and the only way to help those who
itemize their taxes is actually to broaden the bracket itself,
and that is why we proposed broadening the 15 percent bracket
so that joint filers could earn twice as much as a single filer
and stay in the 15 percent bracket. That will help those who
give money to church and charity. That will help those who
itemize their taxes because they own a home.
Mrs. Thurman. And point well taken, but on the other side
of it, it did help us with a marriage tax penalty. I mean, you
cannot deny that there was. And that was about $90 billion, if
I remember correctly. This year, you have the President who has
put in one for about $100 billion.
What I am concerned about is the way this debate is
characterized. We could have had a marriage tax penalty bill
passed and signed into law, maybe not everything you wanted,
certainly not everything that everybody wanted, but one that
would have done something for married couples. Mr. Barcia,
would you agree with that?
Mr. Barcia. Well, I think there is sentiment in our caucus
to address some of the inequities in the marriage context.
Mrs. Thurman. But the fact of the matter is, we got the
signal from the President that, in fact, he would accept some
compromise on this piece of legislation that many of us--all of
the Democrats on this Committee--voted for, both in this
Committee and on the floor. In fact, 198 Democrats voted for
this bill on the floor to try to take care of a marriage tax
penalty.
So in the spirit of bipartisanship and in the spirit of
moving ahead, we could have had a bipartisan bill if we would
have had some Republicans come over to the other side and help
support a bill that would have gone to the President that would
have been passed----
Mr. Weller. Could I respond?
Mrs. Thurman. And we could have been back up here this
year, maybe extending it with the other tax bills, because we
are all talking about brackets again. We are doing an awful lot
of the same kind of thing that might have been accomplished in
the bill last year.
But let me just suggest to all of us that while neither one
of those bills passed, neither one of them were signed into
law, the fact of the matter is, the American public still
became the beneficiary of these bills not passing because we
took those dollars of tax cuts that were not spent and we put
them in paying down the debt. So we helped every American
family in some ways.
But I just did not want it to be characterized that the
marriage tax penalty was and could not be passed. This is an
art of compromise. There is not a constituent in this country
that does not understand that. The difference is, in
bipartisanship, there becomes compromise. Bipartisanship is not
just taking one side and not having another being able to
participate. Thank you.
Mr. Weller. May I respond?
Chairman Thomas. Sure.
Mr. Weller. Your point is well taken. I am very proud that
this Congress has paid off $600 billion in national debt and we
are on track to eliminate the available national debt by the
end of the decade. I am proud of that and that was a great
accomplishment we can all be proud of.
And as you pointed out, there was an alternative which was
supported only by one party, and I would note that the proposal
we have brought before the Committee today in H.R. 6 is the
proposal which received bipartisan support. H.R. 6 received the
votes of 51 Democrats as well as all Republicans, so you had
support from both sides of the aisle under this bill. It went
through the House and Senate. There were a half a dozen or so
Democrats in the Senate that voted for this proposal.
So we have kind of vetted it through the process, and when
it comes to marriage tax penalty, there are about 63 different
consequences in the code and that consequence suffered by joint
filers is the biggest marriage tax penalty and that is what we
addressed, as well as the earned income credit marriage
penalty, in our proposal.
So I believe that the proposal we have before you today in
H.R. 6 is the bipartisan proposal, and the fact that we have 15
Democrats under the leadership of Mr. Barcia that have joined
as original cosponsors of this bill, we have almost 230 members
of the House cosponsoring this legislation, I think we have a
tremendous opportunity with a President who said he would have
signed it into law now, that he would sign H.R. 6 once we put
it on his desk. So I appreciate the opportunity to discuss
this. Thank you.
Chairman Thomas. The gentlewoman's time has expired.
Does the gentleman from Texas wish to inquire?
Mr. Johnson of TEXAS. Thank you, Mr. Chairman.
Chairman Thomas. I would tell the Committee that it appears
as though we have a four-vote sequence. The gentleman from
Texas will probably be the last inquirer on this panel. I will
make sure that the other gentleman from Texas and the gentleman
from North Dakota will be the first inquirers on the next
panel, and I apologize because somebody else controls the time.
The fact that we have multiple Members from States indicates
that I was referring to the Republican following the Democrat,
the gentleman from Texas, Mr. Sam Johnson.
Mr. Johnson of TEXAS. Thank you, Mr. Chairman.
Mr. Brady, that is my Senator. She is yours, too, and yours
too, Doug, and she is a great one and a great representative
for the State.
Listen, I just want to tell you guys, we are arguing about
peanuts here. What we have got is tax relief for married
couples and it applies across the board. We are not trying to
reduce taxes for those people who do not pay any taxes. We are
trying to reduce taxes for people who pay taxes--families,
people with children, husbands and wives, whether they work or
not. And I think that it is something we have to do for
America.
They talk about Portman-Cardin. We are going to do Portman-
Cardin. It is just not in the tax bill that we are talking
about today. It is not in the President's proposal that we are
talking about today. We need to work with this administration,
we need to work with the United States Senate, people like
Senator Hutchison who can get the job done, and pass marriage
penalty relief. I do not think it makes a tinker's dam whether
we have a budget or not. You guys are focusing on the wrong
thing. The emphasis ought to be on tax relief for the American
people because we have a tax surplus out there and the people
of America need their money back. Would you agree, Ms.
Hutchison?
[Laughter.]
Mrs. Hutchison. Since you are my Congressman, I agree
wholeheartedly.
[Laughter.]
Mrs. Hutchison. Certainly, I do appreciate so much the
comments of everyone. I think that it is very clear that if
there is a priority for tax relief, the inequity in the tax
code should be addressed, and that is the marriage penalty tax.
We are not even talking about lowering taxes. We are talking
about bringing equity back into the tax code for people who get
married. And I think it should be marriage penalty relief for
people who are two working people getting married or for two
people who are married and one spouse is staying at home
raising children. We are paying too much in taxes and people
deserve to have the relief, and I thank you for the support and
I know this Committee is going to do what is right.
Mr. Johnson of TEXAS. Thank you, Senator, and thank you,
Mr. Chairman. I yield back the balance of my time.
Chairman Thomas. I thank the gentleman.
I do want to thank this panel, especially for their
perseverance. The chair will indicate that we will now go to a
series of votes and the chair intends to reconvene the hearing
about 5 minutes after the last vote has ended. The Committee
stands in recess.
[Recess.]
Chairman Thomas. The Committee will reconvene. Our guests
will find their seats, and if we can find Mr. Donovan. Dr.
Primus, our biorhythms are much more in tune with the Committee
based on the years you spent with us. Thank you very much, Mr.
Donovan.
Our next panel consists of Charles Donovan, Executive Vice
President of the Family Research Council, and Wendell Primus,
Director of Income Security, Center on Budget and Policy
Priorities, a longtime staff member, someone who should be
familiar with most of us.
With that, I would indicate to each of you that any written
statements you may have will be made a part of the record and
you can address us in the time that you have in any way you see
fit. We will start with Mr. Donovan and then go to Dr. Primus.
Mr. Donovan.
STATEMENT OF CHARLES A. DONOVAN, EXECUTIVE VICE PRESIDENT,
FAMILY RESEARCH COUNCIL
Mr. Donovan. Thank you, Mr. Chairman. I want to thank you
and the Members of the Committee for holding this hearing on
marriage penalty relief. This time of year, we watch the
National Collegiate Athletic Association tournament with some
wonder, and one of the phrases we will undoubtedly hear is
about teams that do not make it all the way to the championship
game or make it and do not win the game. And the cliche that is
applied to them is they are always a bridesmaid and never a
bride.
I think there is some feeling with respect to marriage
penalty relief that the proposals that have been advanced over
the last 5 years qualify as bridesmaids. We have had several
proposals, as Senator Hutchison outlined this morning, that
have made it through the Congress and all the way to the
President's desk. We believe that there is really no more
urgent cause in the tax code, no more urgent need than to
provide relief from this penalty for married couples.
The bill last year fits, we think, very nicely with the
ambition of finding this relief for married couples, regardless
of the work arrangements they may make in order to earn the
income their families require. Last year during the political
campaign, now-President Bush indicated that if he had been in
the Oval Office when the legislation that passed Congress last
year had reached his desk, that he would have signed it. He
asked the rhetorical question, what kind of tax code imposes a
penalty on a couple for deciding to get married, and his answer
was, a bad tax code does that.
Vice President Cheney on another occasion in debate about
marriage penalty relief indicated his concern that the tax code
not do too much to require certain behaviors on the part of
couples or individuals in orderto earn a tax benefit. It is for
that reason, that specific reason, that we believe that marriage
penalty relief should make no distinction between and among the
multifarious work arrangements that couples make in order to earn the
income they need to support their household and raise their children.
There was in the middle of the 1990s a pretty considerable
debate about the ``mommy track,'' about whether or not it was
better for a mother to be in the home, at what ages for the
children this was best, and so forth. We believe that there
ought to be a truce called in that debate, and maybe in some
ways there has been. The real issue is marriage and whether or
not our tax code--and it does, in fact, now--continues to
provide a disincentive to marriage.
The urgency is apparent in the birth data that we continue
to see. There are some 30 percent of all children who are born
without benefit of a father married to the mother. When you
throw in family disintegration, something like four out of ten
children will face a period in their lives when they will not
have a father in the home. The costs exacted on society in the
well-being of children, in economic costs, in educational
deficits, and there is considerable evidence with respect to
delinquent behavior among adolescents, all of these things
suggest that there are considerable cost impositions on the
failure to deal with the need to encourage marriages to occur
and to stay together. Tax policy obviously cannot do all of
this, but it can do something, and the marriage penalty is the
prime thing that it does.
The other reason we have to get away, in my opinion, from
debates about how much and where work is performed by couples
in a marriage is that in most cases, in most marriages, couples
themselves go through cycles. When married, typically both
husband and wife are working. Through the years in which
children are born, even the data now show that the vast
majority of women raise children up until age five. And the
work patterns after that may vary tremendously, from part-time
work to tag-team parenting, where the couple makes sure that
one parent is with the child at all times. All of these things
are just evidence that there is no single family model out
there for work relationships and, therefore, tax relief, in our
view, the elimination of the marriage penalty ought to help all
couples regardless of how they make their work and family
arrangements.
We would urge that there be a generous effort to relieve
the marriage tax penalty, that now, in these times of budget
surpluses, is the time to take this step, and that it should
begin with a decisive down payment on reclamation of the two-
parent married household. We believe the time to act on these
measures is now and we want to express our appreciation to the
Committee for its interest in debating this subject and moving
it forward. Thank you, Mr. Chairman.
Chairman Thomas. Thank you very much.
[The prepared statement of Mr. Donovan follows:]
Statement of Charles A. Donovan, Executive Vice President, Family
Research Council
Good Morning, I am Chuck Donovan, the Executive Vice President of
the Family Research Council, an organization representing some 450,000
families across the United States. Thank you for taking the time to
consider my statement today regarding the position of Family Research
Council on the need for marriage tax penalty relief.
The heart of family, the foundation of civilization, is marriage.
As the institution ordained by the Creator for the begetting and
raising of children, marriage has had special protection within the law
and the culture; it is indispensable to civilized life. American
society cannot survive if marriage ceases to be the normative way to
raise children. When families collapse, communities collapse. The
wreckage is all around us. The institution of marriage deserves the
highest protection under the law. There are many ways government can
help. One way is to treat marriage and married childbearing properly
and favorably in the tax code.
As a matter of family policy, structuring taxes and other
incentives so that they are available only for dual-earner couples
contributes to the undermining of marital arrangements that most
couples prefer. By discriminating against single-earner families, our
tax code effectively dismisses the sacrifice the stay-at-home spouse
makes on behalf of the family and society. In choosing to have one
spouse stay at home families are penalized by the government, and the
labor of love that this arrangement represents is subjected to a
punitive tax.
The tax proposal put forward by the White House is replete with
admirable pro-family and pro-charitable provisions, which we
wholeheartedly embrace. Nonetheless, the proposal moves in the wrong
direction on marriage penalty relief, and marriage is the key to
perfecting the other pro-family provisions in the plan. Those who want
to help strengthen marriages and families must abide by the rule of
non-discrimination: they cannot make family benefits contingent upon
both parents' participation in the workforce. While the proposed tax
package, overall, provides many benefits to working class American
families, the fact remains that it will have a negative effect on
marriage as an institution. The marriage penalty provision picks and
chooses which families get relief and which families do not. From our
perspective, it would be better to do nothing about the marriage
penalty than to do this.
We have this on good authority, Vice President Cheney made the same
case during the Vice Presidential debate last fall, when he defended
stay-at-home moms against his opponent's tax plan, ``They discriminate
between stay-at-home moms with children that they take care of
themselves, and those who go to work who have their kids taken care of
outside the home. You, in effect, as a stay-at-home mom get no tax
advantage under the Gore plan.'' And again: ``If you live your life the
way they want you to live your life, if you do, in fact, behave in a
certain way, then you qualify for a tax credit and at that point you
get some relief.'' (10/5/2000, Centre College, Danville, KY. www.c-
span.org/campaign2000/transcript/debate__100500.asp, p. 7.)
I would argue that the proposal before your committee does the same
thing that Vice President Cheney criticized his opponent for, that is,
it provides incentives for certain behaviors. ``It is a classic example
of wanting to have a program, in this case a tax program, that will in
fact direct people to live their lives incertain ways rather than
empower them to make decisions for themselves.'' (10/5/2000, Centre
College, Danville, KY. www.c-span.org/campaign2000/transcript/
debate__100500.asp, p. 8.)
Is the purpose of fixing the marriage tax to accord long overdue
socioeconomic respect for marriage as an institution fundamental to our
society and to the raising of children? Or is the purpose to enable
government to engage in national economic planning by using tax policy
to influence human behavior?
Giving a tax cut only to two-earner couples would send the message
that the government sees no value in a homemaker's work at home, that
the role of a ``non-working'' wife and mother is less socially
beneficial (or less worthy) than paid employment. In fact, these
spouses, primarily women, have sacrificed all of their income during
this period in their lives and in their children's lives. They have
foregone a second income and all the material advantages they might
have conferred on their offspring. It makes no sense to increase their
taxes merely because they stay home with their children.
This debate is not about money. It is a matter of right and wrong.
Marriage is good for this country, and it's wrong that our tax code
penalizes it. This is not so much a tax cut as it is a tax correction
and correcting the problem is not complex.
There are several ways to eliminate the marriage penalty properly,
without undermining marriage as an institution. The essential idea is
to treat married couples as a single economic unit, just like other
legally recognized economic partnerships, permitting them to share
their income for purposes of taxation. The bill passed by Congress last
year espoused this idea; a pro-marriage solution is available. The
Marriage Penalty Relief Act of 2000 incorporated the very important
policy change of treating all married couples equitably, whether they
earn one income or two.
This committee now has the same--indeed an even better--opportunity
to provide substantial relief to millions of American families, while
recognizing and supporting the vital contribution marriage makes to the
betterment of society. Will your proposal treat all married couples and
their multitude of work and family arrangements alike? It should. It is
unfair to reject marriage tax relief for families who decide to have
one spouse stay at home because they have decided to care for their
children themselves, or because one spouse is unable to work, or
because one spouse is pursuing higher education.
The current proposal for reducing the marriage penalty is modest,
in purely economic terms. But in terms of family tax policy, it
reinforces a policy denigrates some of the most important benefits
marriage confers on society and the economy. More broadly, by moving
toward an individual basis for taxation, instead of a family basis, the
policy discourages the economic and personal interdependence that lie
at the heart of marriage.
While there are 66 provisions in the tax code that produce marriage
penalties, according to the American Institute of Certified Public
Accountants, the standard deduction and the graduated rate structure
combined cause 55.6 percent of extra marriage taxes. Because the
standard deduction amount for joint filers is not twice that for those
claiming single or head of household status, a married couple can
deduct less money from their income than can an unmarried couple with
the same combined income. The income thresholds that push taxpayers
into higher brackets for joint filers are less than twice what they are
for those claiming single or head of household status. This means that
a married couple can be forced into a higher tax bracket than an
unmarried couple earning the same combined income.
Since the marriage penalty is largely the result of inequities in
the rate structure, the marriage tax penalty would be substantially
reduced for all married couples by placing each bracket breakpoint for
married couples at precisely twice the level for single filers.
Expanding the standard deduction for married couples to twice the
amount for singles would eliminate the marriage penalty for lower
income couples and provide at least some tax relief for one-income
families. This approach was taken last year and, according to the
Congressional Budget Office (CBO), doubling the standard deduction
alone would affect approximately 21 million married couples.
Implementing these proposals would help to ensure that ``no married
couple is left behind.''
Family Research Council strongly believes that a policy of tax
fairness is no less important than the dollar figure attached to it.
Any marriage penalty relief should apply equally to all married couples
and all work arrangements. This principle of equity was tested in 1995
when Senators Kay Bailey Hutchison and Barbara Mikulski advocated
legislation allowing homemakers to contribute the same amount to an IRA
as working spouses, thus treating working and ``non-working'' spouses
equally. At that time, the limit had been $2,000 for a working spouse
and $250 for a homemaker. Relying upon that same principle of equity,
Congress should provide equal marriage penalty relief to single- and
dual-earner couples. Tax fairness requires that relief from the
marriage penalty apply equally to all married couples.
Most of you already know the history of the battle to eliminate the
marriage tax penalty, but let me state for the record the work and the
commitment of Congress on this issue.
In 1995, the House and Senate both passed measures to relieve the
marriage penalty. The final version, doubling the standard deduction
for joint filers to twice the amount single filers enjoyed, was
included in a tax package which was vetoed by President Clinton.
In 1998, the House of Representatives passed reductions in the
marriage penalty but the measure died in the Senate.
In 1999, Congress voted to reduce the ``marriage penalty'' by
increasing the standard deduction for married couples to twice that for
singles, and doubling the 15% bracket breakpoint for married couples to
twice that of singles, this too was vetoed by President Clinton as part
of a larger tax reduction package.
Last year, the House and the Senate passed, by overwhelming
margins, marriage penalty relief, which included a doubling of the
standard deduction and bracket adjustments to ensure that all married
couples received marriage penalty relief. President Clinton vetoed this
legislation. The bill passed by Congress last year, H.R. 6, serves as a
good starting point for meaningful reform of the unfair marriage tax
penalty. This approach has the support of the Family Research Council.
I urge the Ways and Means Committee to seize the opportunity before
it. This is not the time for debate and competition among married
couples who arrange their work and family time in an astonishing
variety of ways. Congress passed the right marriage penalty relief in
the recent past when the President's veto pen was at the ready. A new
era is upon us, the revenue to do justice is at hand, and the ink in
that pen has now run dry. It is time to act on behalf of marriage and
to turn the tax code toward home.
Chairman Thomas. Dr. Primus.
STATEMENT OF WENDELL PRIMUS, DIRECTOR, INCOME SECURITY, CENTER
ON BUDGET AND POLICY PRIORITIES
Mr. Primus. Thank you, Mr. Chairman and Members of the
Committee, for the opportunity to come back and testify today
on two aspects of President Bush's tax plan, the expansion of
the child tax credit and marriage penalty relief.
As you know, the President's proposal doubles the current
child tax credit, but it provides no benefit to families who
currently owe no income tax. It also makes eligible for the
first time families with two children who have incomes between
$130,000 and $300,000. Approximately 24 million children, 33.5
percent of all children in this country, would not benefit from
this expansion of the child tax credit. Two-thirds of the
children excluded from the expansion, almost 16 million
children, live in families where earnings exceed $5,150, the
amount equivalent to working half-time for the entire year at
the minimum wage.
Fifty-five percent of African American children and 56
percent of Hispanic children would receive nothing from this
expansion. And if you look at this by State, there are numerous
States where over 40 percent of the children would not benefit,
including Arizona, California, Georgia, Louisiana, New York,
North Dakota, Tennessee, and Texas, for example.
A married family of $25,000 with two children gets nothing
from this expansion, while such a family with $150,000 will get
$2,000 from the child credit provision. This is because the
President's proposal extends the child tax credit to many
families with high incomes that currently receive no credit.
The percentage of children left out under the Democratic
proposal is significantly less, 14 percent versus 33.5 percent
under the President's.
There are four reasons, Mr. Chairman, why working families
that do not pay Federal income taxes should benefit from the
tax legislation. The first is that in the context of a strong
economy and the ``make work pay'' policies of EITC and child
care, many single-mother families have responded to your
welfare reform bill by working harder. Yet, their overall
income gains have been small. They deserve an income boost.
For example, mothers in the second quintile of female-
headed families, the second-to-lowest fifth, who have income
between 86 and 127 percent of poverty, on average, increased
their earnings by $4,600. Yet, their income only increased by
$1,555. Female-headed families in the middle of that
distribution, with incomes between 127 and 173 percent of
poverty, also average earned about $4,550 more, yet their
disposable income increased by less than 40 percent.
The second reason is that this approach fails to reduce
high marginal tax rates that many of these low-income families
face--and I know all the Members of this Committee are
concerned about high implicit marginal tax rates. A large
number of low-income families that confront some of the highest
marginal tax rates of any families in the nation would not have
their marginal tax rates reduced as a result of this proposal.
It is one of the reasons that these families are working harder
but their income gains have not gone up. I have an example in
the testimony from Maryland where a mother who has child care
expenses and increases her earnings from $10,000 to $15,000,
her marginal tax rate is 70 percent. As her earnings increase
from $15,000 to $20,000, she faces a 60 percent marginal tax
rate.
The third reason is that these families owe other income
taxes. They also owe State income taxes, gasoline, property
taxes, and sales taxes. You can fix this by making the child
tax partially refundable, let us say 5 to 10 to 15 percent of
earnings up to the maximum credit allowed, or you could do this
by changing the EITC. Phasing the EITC out at a lower rate
would alleviate some of these marginal tax problems.
Finally, Mr. Chairman, as my colleague here at the table
indicated, about a third of the births in this country are to
unmarried women. Half of these children now come home to a two-
parent unmarried family, but most of those families have very
low incomes and would not benefit from the marriage penalty
relief that is in the President's proposal.
So in conclusion, what I would like to say is our analysis
finds that a third of these children do not benefit, yet these
families pay taxes and face high marginal tax rates. Similarly,
the proposal provides no marriage penalty relief to the
families that face the highest marriage penalties as a percent
of income and does nothing to equalize the tax treatment of
marriage and cohabitation for a family with children in the
part of the income range where cohabitation rates are the
highest. I would respectively urge the Committee to design
alternatives that address those shortcomings.
Chairman Thomas. Thank you very much.
[The prepared statement of Mr. Primus follows:]
Statement of Wendell Primus, Director of Income Security, Center on
Budget and Policy Priorities
Mr. Chairman and Members of the Committee on Ways and Means: Thank
you for the opportunity to testify today on two aspects of President
Bush's tax plan--the expansion of the child tax credit and marriage
penalty relief.\1\ My name is Wendell Primus, and I am Director of
Income Security at the Center on Budget and Policy Priorities. The
Center is a nonpartisan, nonprofit policy organization that conducts
research and analysis on a wide range of issues affecting low- and
moderate-income families. We are primarily funded by foundations and
receive no federal funding.
---------------------------------------------------------------------------
\1\ This testimony draws heavily upon the work of colleagues at the
Center, including Isaac Shapiro, Iris Lav, Nicholas Johnson, Allen
Dupree, and James Sly. The analysis in the following Center papers
contributed significantly to this testimony: In Many States, One-Third
to One-Half of Families Would Not Benefit from Bush Tax Plan, More Than
Half of Black and Hispanic Families Would Not Benefit from Bush Tax
Plan, and Alleviating Marriage Penalties in the EITC. All papers are
available online at www.cbpp.org.
---------------------------------------------------------------------------
My testimony is divided into four sections. The first part of my
testimony discusses the design of the Administration's expansion of the
child tax credit. The second section addresses the question of whether
a tax bill should benefit families raising children that do not
currently pay federal income taxes. The third section examines other
options for improving the tax code and assisting the working poor that
are not reflected in the Administration proposal. The final section
assesses the issue of marriage penalties.
I. Child Tax Credit Expansion is Inappropriately Designed
Under the Bush tax plan, the current child tax credit of $500 per
child is doubled to $1,000 by 2006. Nearly all families that owe no
federal income tax will fail to benefit from this expansion.\2\ For a
family with two children, eligibility for the child tax credit under
current law ends at $130,000 of income for a married family with two
children. The Bush plan would extend this limit to $300,000 for such a
family.
---------------------------------------------------------------------------
\2\ The exception is a limited number of cases including working
families with three or more children that may claim some or all of the
child credit as a refund. In such cases, the credit is limited to the
amount by which the employee share of a family's payroll tax liability
exceeds its EITC. IRS data show that only about 750,000 families
benefitted from this provision in 1998.
---------------------------------------------------------------------------
Many Children Would Not Benefit from Expansion of the Credit
As a result of this design, an estimated 12.2 million low- and
moderate-income families with children--31.5 percent of all families
with children--would not receive any tax reduction from the Bush
proposal.\3\ Approximately 24.1 million children--33.5 percent of all
children--live in these families. The vast majority of left-out
families include workers.
---------------------------------------------------------------------------
\3\ The national estimates were prepared using the latest data
(1999) from the Census Bureau. For the state estimates cited later, we
used Census data from 1997, 1998, and 1999. The data for 1997 and 1998
were adjusted to simulate the current $500-per-child tax credit, and
the combined data at the state level were slightly scaled to match
nationwide estimates of the numbers of left-out families and children
for 1999, the latest year for which CPS data are available. The
resulting state-level figures may be considered accurate to within
about 2 to 5 percent, depending on the state. For comparison, these
figures are approximately as accurate as the U.S. Census Bureau's
annual estimate of poverty rates by state, which also are based on
three-year pooling of data.
---------------------------------------------------------------------------
Approximately two-thirds of the children excluded from the
expansion--a total of almost 16 million children--live in families
where earnings exceed $5,150, an amount equivalent to working 20 hours
per week throughout the year at the minimum wage rate.
[GRAPHIC] [TIFF OMITTED] T3537A.001
Over One-Half of Minority Children Left Out of Bush Tax Plan
Among African-Americans and Hispanics, the figures are especially
striking. While one-third of all children would not benefit from the
Bush tax credit expansion, more than half of black and Hispanic
children would not receive any assistance.
An estimated 55 percent of African-American children and 56
percent of Hispanic children live in families that would
receive nothing from the tax cut.
Of the 24.1 million children living in families that would
receive no benefit from the tax cuts, an estimated 10.1 million
are non-Hispanic whites, 6.1 million are black, and 6.5 million
are Hispanic.
[GRAPHIC] [TIFF OMITTED] T3537A.002
In Many States, Families of One-Third to One-Half of Children Do Not
Benefit
We have also estimated the number of families and children who
would receive no assistance from the Bush tax plan on a state-by-state
basis. As Appendix Table 1 shows, the figures indicate that throughout
the country there would be substantial numbers of children left out of
the plan. In some states, very high numbers of children and families
would receive no benefit.
An estimated 3.7 million children in California, 2.3 million
children in Texas, 1.9 million children in New York, and 1.2
million children in Florida, along with their families, would
receive no benefit from the tax proposal. In each of another
eight states--Arizona, Georgia, Illinois, Michigan, North
Carolina, Ohio, Pennsylvania, and Tennessee--the families of
half a million children, or more, would fail to gain from the
tax cut plan.
Approximately 52 percent of children in New Mexico live in
families that would not benefit under the tax proposal. Other
states in which approximately 40 percent to 50 percent of
children live in families that would not benefit include
Alabama, Arizona, Arkansas, California, Georgia, Idaho,
Louisiana, Mississippi, Montana, New York, North Dakota,
Tennessee, Texas, and West Virginia, plus the District of
Columbia. Not surprisingly, because the families that would be
left out of the Bush plan are those with incomes below the
poverty line or modestly above it, these states tend to have
relatively high levels of child poverty.
[GRAPHIC] [TIFF OMITTED] T3537A.003
The Bush Child Tax Expansion Particularly Benefits Higher-Income
Families
While the proposal to double the child tax credit would be of
little or no help to millions of children in low-income working
families, it would provide the largest tax reductions to families with
incomes above $110,000 and confer a much larger share of its benefits
on upper-income families than on low- and middle-income families. The
chart below illustrates this. A married family of $25,000 with two
children gets nothing under the Bush child tax credit proposal, while
such a family with $150,000 will receive $2,000 just from the child
credit provision.
Married families with two children in the $110,000 to
$250,000 range would receive an increase in the child tax
credit of more than $500 per child. For many of these
taxpayers, the child credit would rise from zero under current
law to $1,000 per child under the Administration's plan.
[GRAPHIC] [TIFF OMITTED] T3537A.004
This is because the Bush proposal extends the child tax credit to
many families with high incomes that currently receive no credit, an
outcome reflecting two aspects of the Bush plan. The plan both
increases the point at which the child credit begins to phase out and
slows the rate at which it phases out.
Under current law, the credit for a married family with two
children phases out between $110,000 and $130,000. Under the Bush plan,
when fully in effect starting in 2006, the credit for such a family
would phase out between $200,000 and $300,000. This means that for a
married family with two children:
All such families with incomes between $110,000 and $300,000
would get a larger credit than under current law.
All such families with incomes between $130,000 and $300,000
would be made eligible for the credit for the first time.
All such families with incomes between $130,000 and $200,000
would receive a gain of $1,000 per child under the
Administration's proposal, for a total of $2,000; under current
law they do not receive a credit.
The precise point at which the credit would drop back to zero would
vary by the number of children in the family. The more children in the
family, the longer it would take for the credit to phase out. If, for
example, a high-income family has three children, the family's new
child tax credit of $3,000 would phase out between $200,000 and
$350,000. There are approximately three million children in higher
income families who would benefit from the proposed increase in the
income eligibility limit for the child tax credit.
In crafting its proposal to expand the child tax credit, the
Administration faced a choice. It could propose increasing the size of
the credit without explicitly changing which families are covered by
it; it could propose extending the credit to more low- and moderate-
income families; it could propose extending the credit to more low- and
moderate-income families and to high-income families; or it could
extend the credit only to high-income families. The Administration
selected the fourth option. As a consequence, Center calculations based
on data from the Institution on Taxation and Economic Policy data
indicate that when the increase in the child credit is fully in effect,
the 20 percent of families with children with the highest incomes would
receive about 35 percent of the new tax cuts. The bottom 40 percent of
families with children would receive less than 10 percent of the tax
cuts.
Democratic Proposal Excludes Many Fewer Children
By expanding the Earned Income Tax Credit, the Democratic
alternative tax cut proposal would extend assistance to many of the
working families that will be left out of the Administration's
proposal. Because the EITC is refundable, this approach would reach a
greater share of children.
[GRAPHIC] [TIFF OMITTED] T3537A.005
As the figure shows, the percent of children left out under the
Democratic proposal is less than half the number left out under the
Bush option. Some 14 percent of children live in families that would
benefit under the Democratic alternative, as compared to 34 percent
under the Administration's plan. Appendix Table 1 shows the differences
in coverage by state. In almost every state, the Democratic alternative
leaves out less than half as many children as the Bush plan.
II. Should Families with Children That Do Not Pay Federal Income Taxes
Benefit from Tax Reduction Legislation?
The estimated cost of the child tax credit expansion over the next
10 years is $193 billion. The President has indicated that the
rationale for expanding the child tax credit is not simply tax relief
but ``to help families rear and support their children.'' He also has
placed a special emphasis on reducing marginal tax rates. This section
will discuss why working families that do not pay federal income taxes
should benefit from the tax legislation.
Many single mother families have responded to welfare reform by working
harder. Yet their overall income gains have been small. They deserve an
income boost.
A major theme of welfare reform has been to prod, assist, and
enable families to work their way out of poverty. There is considerable
evidence that welfare reform--in combination with a strong economy (low
unemployment rates, increasing real wages) and ``make work pay''
policies (an expanded EITC and increased child care expenditures)--has
significantly increased employment rates among single mothers and
expanded their earnings. An analysis of Census data \4\ shows that
female-headed families in the second-poorest fifth of female-headed
families (the 1.8 million families with incomes between 86 percent and
127 percent of the poverty line in 1999) increased their earnings on
average by $4,574 between 1995 and 1999, after adjusting for inflation,
an increase of more than 70 percent. Yet their disposable income
increased only $1,555. Only one-third of their earnings gains were
reflected in disposable income gains.
---------------------------------------------------------------------------
\4\ For a complete description of how the analysis was performed,
see Appendix Table 2.
---------------------------------------------------------------------------
Female-headed families in the middle fifth (the 1.8 million
families with incomes between 127 percent and 173 percent of the
poverty line) had a similar experience. In the context of a strong
economy, they responded to welfare reform and the ``make work pay''
policies by working more and earning an additional $4,550. Yet their
disposable income increased by less than 40 percent of their earnings
increase. It seems appropriate that these families receive an income
boost.
Most of these families, however, will receive no income gain from
the child credit expansion. No additional children will be removed from
poverty as a result of the Bush tax plan. In contrast, approximately
200,000 additional children would be removed from poverty by the
Democratic plan.
A study by the Manpower Demonstration Research Corporation finds
that improving income--and not just employment--is important if the
lives of children in poor families are to improve.\5\ The MDRC report
examined five studies covering 11 different welfare reform programs.
The report's central finding was that increased employment among the
parents in a family did not by itself significantly improve their
children's lives. It was only in programs where the parents experienced
increased employment and increased income that there were positive
effects--such as higher school achievement--for their elementary
school-aged children.
---------------------------------------------------------------------------
\5\ Pamela A. Morris, et al., How Welfare and Work Policies Affect
Children: A Synthesis of Research, January 2001.
---------------------------------------------------------------------------
The Bush approach fails to reduce the high marginal tax rates that many
low-income families face.
Throughout the presidential campaign and early into the new
Presidency, President Bush and his advisors have cited the need to
reduce the high marginal tax rates that many low-income working
families face as one of their tax plan's principal goals. They have
observed that a significant fraction of each additional dollar these
families earn is lost as a result of increased income and payroll taxes
and the phasing out of the EITC.\6\ Yet a large number of low-income
families that confront some of the highest marginal tax rates of any
families in the nation would not have their marginal rates reduced at
all by the Bush plan.
---------------------------------------------------------------------------
\6\ For example, for a family with two children, the size of the
Earned Income Tax Credit is reduced by 21 cents for each dollar of
income between $13,090 and $32,121.
[GRAPHIC] [TIFF OMITTED] T3537A.006
Analysts across the ideological spectrum, including the Joint Tax
Committee on Taxation \7\ and the Congressional Budget Office, have
long recognized that the working families who gain the least from each
additional dollar earned are those with incomes between about $13,000
and $20,000. For each additional dollar these families earn, they lose
up to 21 cents in the EITC, 15.3 cents in payroll taxes (including the
employer share), 24 cents to 36 cents in food stamp benefits, and
additional amounts if they receive housing assistance or a child care
subsidy on a sliding fee scale, are subject to state income taxes, or
have to pay income-related premiums for health insurance. Their
marginal tax rates are well above 50 percent. Yet the Bush plan
provides no marginal tax rate relief to them.
---------------------------------------------------------------------------
\7\ Joint Committee on Taxation, Overview of Present Law and
Economic Analysis Relating to Marginal Tax Rates and the President's
Individual Income Tax Rate Proposals, JCX-6-01, March 6, 2001.
---------------------------------------------------------------------------
To a large extent, these high marginal tax rates are one of the
reasons the income gains between 1995 and 1999 shown previously are so
small relative to the earnings increases. (Another part of the reason
is that in many instances, these families no longer receive food stamp
and cash benefits to which they remain entitled.)
----------------------------------------------------------------------------------------------------------------
----------------------------------------------------------------------------------------------------------------
Gains in Disposable Income as Earnings Increase
for a Mother with Two Children in Maryland
----------------------------------------------------------------------------------------------------------------
Annual Earnings $10,000 $15,000 $20,000 $25,000
----------------------------------------------------------------------------------------------------------------
Disposable Income $17,903 $19,423 $21,414 $24,145
----------------------------------------------------------------------------------------------------------------
% of Earnings Gain Reflected in Disposable Income NA 30% 40% 55%
----------------------------------------------------------------------------------------------------------------
Marginal Tax Rate NA 70% 60% 45%
----------------------------------------------------------------------------------------------------------------
The table above is illustrative. It shows the income gains as
earnings increase by $5,000 for a single mother with two children in
Maryland. These examples (which are similar in other states) show that
the implicit tax rates faced by these families are very high. If the
purpose of the major provisions in the Bush tax cut is to decrease
marginal tax rates for low-income working families, why don't the
families facing the highest marginal tax rates in the nation receive
any marginal rate reductions?
Many of these families owe federal taxes other than federal income
taxes, often paying significant amounts
Since the reason that millions of families and their children would
not benefit from the Bush plan is that they do not owe federal income
taxes, some have argued it is appropriate that they not benefit. ``Tax
relief should go to those who pay taxes'' is the short-hand version of
this argument. This line of reasoning is not persuasive for several
reasons.
First, for most families, the biggest federal tax burden by far is
the payroll tax, not the income tax. Data from the Congressional Budget
Office show that in 1999, three-fourths of all U.S. families paid more
in payroll taxes than in federal income taxes. (This comparison
includes both the employee and employer shares of the payroll tax; most
economists concur that the employer's share of the payroll tax is
passed along to workers in the form of lower wages. This is also the
approach used by CBO and the Joint Committee on Taxation.) Among the
bottom fifth of households, 99 percent pay more in payroll than income
taxes. Low-income families also pay federal excise taxes and state and
local taxes, which are discussed further on the next page. While the
Earned Income Tax Credit offsets these taxes for working poor families,
many families with incomes close to or modestly above the poverty line
who would not benefit from the Bush plan are net taxpayers.
For example, a married family with two children and income of
$25,000 would pay $3,825 in payroll taxes (again, counting both the
employee and employer share) and lesser amounts in gasoline and other
excise taxes. The family pays various state taxes as well. The family
would receive an Earned Income Tax Credit of $1,500, well under half of
its payroll taxes. As a result, even if just payroll taxes and the EITC
are considered, the family's net federal tax bill would be $2,325.
Nonetheless, this family would receive no tax cut under the Bush plan.
Low- and moderate-income families in every state pay state and local
taxes, often paying a larger percentage of income in such taxes than
higher-income families.
Families with incomes below or near the poverty line bear
substantial state and local tax burdens. These taxes commonly include
sales taxes, excise taxes on such items as gasoline, property taxes
(passed on by landlords to tenants in the form of increased rent),
various tax-like fees, and sometimes state- or locality-specific taxes
such as local taxes on wages. In addition, many states have income
taxes that tax families at lower income levels than the federal income
tax does. The Institute on Taxation and Economic Policy estimates that
state and local taxes equal anywhere from eight percent to 17 percent
of the income of an average low-income married couple, depending on the
state. Furthermore, these burdens are inequitably distributed; in
almost every state, lower-income families pay a larger share of their
incomes in state and local taxes than higher-income families do.\8\
---------------------------------------------------------------------------
\8\ Institute on Taxation and Economic Policy, Who Pays?, 1996.
---------------------------------------------------------------------------
Although some states have taken steps to reduce the burden of taxes
on low-income families in recent years, they are limited in their
ability to do so. States that for many years have levied the sales,
excise and property taxes that are most burdensome on the poor cannot
simply eliminate those taxes without dramatic effects on state budgets.
In addition, it can be cumbersome for states to target relief to poor
families that are burdened by these taxes. For example, the sales tax
is collected by merchants from consumers without regard to their income
level, and property taxes are passed through from property owners to
renters as part of a rent payment.\9\ Moreover, states with higher
levels of poverty often have the least fiscal resources with which to
pay for tax relief for low-income families.
---------------------------------------------------------------------------
\9\ States that have income taxes do have the ability to enact
refundable income tax credits that would help offset other taxes for
poor families. Even the most generous such credits, however, offset
only a portion of families' overall state and local tax burdens. In
Minnesota, for instance, one of the two or three states that have made
the most use of refundable tax credits and sales tax rebates, the
Department of Revenue calculates that the overall state and local tax
burden on low-income taxpayers exceeds 10 percent of income even after
the credits and rebates are taken into account.
---------------------------------------------------------------------------
These state and local taxes that poor families pay often help
finance federally required services or joint federal-state programs.
For instance, state contributions to Medicaid typically are financed in
whole or in part by general fund taxes such as state sales taxes and
excise taxes. Similarly, state contributions to federal highway
construction often are financed by gasoline and other motor vehicle
taxes. In part because these and other federal programs rely on state
and local taxes, it can be appropriate for the federal government to
administer tax relief that helps offset the burden of those taxes.
III. Assisting Low- and Moderate-Income Families with Children
If a large tax cut is enacted, it should include, rather than leave
out, low- and moderate-income families with children. The Committee
could benefit low- and moderate-income working families in the
following ways.
Make the child tax credit partially refundable
This could be done in a variety of ways. For example, a family with
children might receive a tax credit of five percent to 15 percent of
earnings up to the maximum credit per child. This would insure that
low-income families with earnings receive assistance in raising their
children. If a partially refundable child tax credit equal to 10
percent of earnings were enacted up to a maximum of $1,000 per child,
only seven percent of children would be excluded from receiving any
benefit. Some 1.1 million more children would be removed from poverty
if the credit were designed in this fashion. In addition, this approach
would lower implicit marginal tax rates significantly and give those
mothers who responded to welfare reform an important income boost.
An alternative approach is one suggested by Belle Sawhill and Adam
Thomas of the Brookings Institution.\10\ This would provide a credit of
15 percent of earnings above $8,000. Such a structure encourages full-
time employment and offsets some of the marginal taxes incurred by low-
income working parents as they become ineligible for means-tested
benefits.
---------------------------------------------------------------------------
\10\ Isabel Sawhill and Adam Thomas, A Tax Proposal for Working
Families with Children, Policy Brief No. 3, The Brookings Institution,
January 2001.
---------------------------------------------------------------------------
Expansion of Earned Income Tax Credit
One important proposal is to provide a larger EITC benefit for
families with three or more children. Congressman Cardin and others
introduced this approach last year in the House. Senators Hatch,
Jeffords, Breaux, and Rockefeller have advanced such proposals in the
Senate. This idea is not a new one; in Wisconsin, a bipartisan group of
state legislators designed and secured passage of a substantially
larger EITC for families with three or more children a decade ago.
Then-governor Tommy Thompson signed that legislation into law and has
championed the Wisconsin EITC.
Recent research indicates the EITC has a powerful effect in
increasing employment among single female parents and also that the
EITC lifts more children out of poverty than any other program or
category of programs. Nevertheless, the official poverty rate remains
24 percent for children in families with three or more children and 19
percent when the EITC and various non-cash benefits are counted. In
both cases, this is more than double the poverty rate among children in
smaller families.
Another useful proposal is to lower the EITC phase-out rate. As I
pointed out earlier, families with two or more children earning between
$13,000 and $20,000 face especially high marginal tax rates. The
Administration's plan fails to reduce the marginal tax rates of these
families because it does not expand refundable tax credits.
One approach the Administration could have taken in assisting these
working poor families with high marginal tax rates would have been to
reduce the rate at which the EITC phases down for families in this
income range.\11\ For families with two or more children that earn
between $13,000 and $22,000, the phase-out rate could, for example, be
reduced from 21 percent to 16 percent. For families with two or more
children who have earnings above $22,000, the phase-out rate would
remain at its current level. If this approach is coupled with EITC
marriage penalty relief (described below), these EITC improvements
would reduce marginal tax rates for a large share of low-income working
families that face high marginal tax rates today and would get no
relief from the high rates under the Administration's plan.
---------------------------------------------------------------------------
\11\ Congressman Cardin and others proposed this change last year.
---------------------------------------------------------------------------
An alternative approach to reducing implicit marginal tax rates
would be to link the phase-out of the EITC to the point where food
stamp eligibility ends.
Other Important Steps to Help the Working Poor
Additional steps would help states in the next stage of welfare
reform and support recipients as they make the transition from welfare
to work. Funds to reduce the vast disparities in TANF resources
available to states through supplemental grants are needed. Another
important step that would benefit low-income working families would be
to enact H.R. 4678, the Child Support Distribution Act of 2000, which
passed the House last year by a vote of 405-18. H.R. 4678 would greatly
improve and simplify the child support distribution system and ensure
that children benefit more when their non-custodial parents pay child
support.
Expanding health care coverage is another important way to support
the working poor. Research has shown that expanding state Medicaid
programs to cover parents also increases the number of low-income
children protected by health insurance. Congress should consider
expanding funding for the State Children's Health Insurance Program
(SCHIP) and allow states to use SCHIP funds to extend coverage (either
through Medicaid or through separate state programs) to low-income
working parents (including noncustodial parents who pay child support),
along with their children. This approach is preferable to a modest
refundable tax credit for the purchase of health insurance.
IV. Marriage Penalties
The rise in the number of unwed mothers receiving low-income
assistance over the last several decades and the increase in
cohabitation has motivated policy-makers to question whether welfare
and tax policies influence a range of decisions about family formation,
including decisions to marry, have children, or cohabit. Conservatives
(and liberals) have been troubled by these trends for many years.
About one-third of births in this country are to unmarried women.
New research indicates that in approximately 40 percent to 50 percent
of cases, those out-of-wedlock babies come home to a two-parent but
unmarried family.\12\ Based upon data from the Urban Institute, about
half of these children live in families below 150 percent of the
poverty level. The question is whether the tax and transfer system is
creating incentives to form single-parent, cohabiting, or married
families. The issue is not solely whether the families become married
but also their choice of living together or living separately.
---------------------------------------------------------------------------
\12\ McLanahan, Sara, Irwin Garfinkel, and Marcia Carlson, The
Fragile Families and Child WellBeing Study Baseline Report: Baltimore,
Maryland, 2000.
---------------------------------------------------------------------------
In a recent paper that I co-authored with Jennifer Beeson, we
examined carefully the economic incentives in the entire tax and
transfer system between those three choices for couples with children.
Contrary to popular wisdom, the transfer system does not treat two-
parent married families differently from two-parent unmarried families
that have a child in common.
When economies of scale and the child support system are taken into
account, this research shows that family income is maximized when the
parents live together--either married or unmarried. If the economic
incentives favor living together, what about marriage? Among these
lower-income families, our research indicates that the transfer system
treats married families and cohabiting families with children about the
same, but the tax code does not. It favors cohabitation over marriage
in many instances because of the marriage penalty in the EITC.
Research suggests that marriage penalties and bonuses in the tax
code have little effect on marriage rates at any income level. To the
extent that studies find any effect of tax considerations on the
decision to marry, the effect on marriage decisions for every tax
dollar foregone has been found to be very small. In some of the latest
research, Ellwood finds that the combination of the Earned Income Tax
Credit and welfare reform has encouraged single parents to work but has
had no discernible effect on marriage or cohabitation.\13\ Rosenbaum
found that tax incentives may have an influence on decision to enter
into marriage, but the magnitude of the effect is hard to measure. He
also finds that it is unlikely that tax incentives influence a decision
to end a marriage.\14\ Nevertheless, there is much we do not know in
this area, and public policy needs to signal strongly what it believes
is best for couples (and their children).
---------------------------------------------------------------------------
\13\ Ellwood, David T., The Impact of the Earned Income Tax Credit
and Social Policy Reforms on Work, Marriage, and Living Arrangements,
unpublished manuscript, 1999.
\14\ Rosenbaum, Dan, Taxes, the Earned Income Tax Credit, and
Marital Status, presented at the ASPE/Census Bureau Small Grants
Sponsored Research Conference, Washington, D.C., May 18-19, 2000.
---------------------------------------------------------------------------
The chart below indicates that couples with lower earnings (the
income range where cohabitation is most frequent) face the highest
marriage penalties. Under current law, a couple where each adult earns
$10,000 faces a marriage penalty of 4.2 percent of income; this
increases to 4.5 percent of the couple's income when each adult earns
$20,000. The couple where each adult makes $30,000 faces a marriage
penalty of less than one percent of income.
President Bush's proposal to reduce marriage penalties by providing
an additional deduction for two earner married couples does not affect
low- and moderate-income working families that have no income tax
liability. The Administration does not make any changes to the Earned
Income Tax Credit, which is the primary source of marriage penalties
for families in lower income ranges. If as a society we want to signal
that marriage is the best solution for raising children, why would we
ignore the cases where the marriage penalties are the greatest, and
where cohabitation is the most prevalent?
In the last session of Congress, virtually every major tax bill
providing marriage penalty relief--including the bills that Congress
passed and former President Clinton vetoed in 1999 and 2000--included a
provision that reduced the marriage penalty for low- and moderate-
income families receiving the EITC. Though the specifics were
different, each bill reduced the marriage penalty in the EITC by
increasing the income level where the EITC begins to phase-out for
married couples, which is set under current law at $13,090 regardless
of marital status. By raising this income level for married couples,
the effect is to increase the amount of EITC a married couple can
receive when its income falls in the phase-out range of the EITC
schedule under current law.
In 2000, the House increased the beginning of the EITC
phase-out by $2,000 in H.R. 4810, while the Senate version of
the same bill increased the beginning of the phase-out by
$2,500. The conference report that passed both houses of
Congress used the $2,000 increase from the House bill.
In 1999, Congress increased the beginning of the EITC phase-
out by $2,000 in its reconciliation tax bill (H.R. 2488).
Democratic alternatives to these Republican tax bills also
included increases in the EITC for married couples, as does the
current Democratic alternative.
The Heritage Foundation, in a recently published book, calls
for a larger effort to shrink EITC marriage penalties and has
called on policymakers to devote $5 billion a year for this
purpose. Isabel Sawhill of the Brookings Institution and David
Ellwood of Harvard also have called for larger efforts to
reduce EITC marriage penalties than last year's bills would
have made.
The Administration's plan departs from the bipartisan consensus
formed in Congress over the past two years to reduce marriage tax
penalties for low-wage working families, not just for middle- and
upper-income families. This is a serious deficiency that is difficult
to understand.
V. Conclusion
This analysis finds that one-third of children would not benefit
from the expansion of the child tax credit. Yet these families pay
taxes, and face high marginal tax rates in many instances. Similarly,
the tax proposal provides no marriage penalty relief to many families
that face the highest marriage penalties and doesnothing to equalize
the tax treatment of marriage and cohabitation (i.e., to stop favoring
cohabitation over marriage) for families with children in the part of
the income range where cohabitation rates are the highest. I would
respectfully urge the Committee to design alternatives that address
these shortcomings.
Appendix Table 1. Non-Beneficiaries of Tax Cut Proposals: Children
----------------------------------------------------------------------------------------------------------------
Administration Democratic Proposal Additional Children
Proposal ------------------------ Assisted by
------------------------ Democratic Alternative
State % -----------------------
# Children % # Children Children %
Children # Children Children
----------------------------------------------------------------------------------------------------------------
Alabama 436,000 38% 195,000 17% 241,000 21%
Alaska 50,000 25% 20,000 10% 30,000 15%
Arizona 565,000 41% 185,000 13% 380,000 27%
Arkansas 276,000 40% 104,000 15% 172,000 25%
California 3,744,000 40% 1,421,000 15% 2,323,000 25%
Colorado 233,000 20% 95,000 8% 138,000 12%
Connecticut 191,000 21% 70,000 8% 121,000 13%
Delaware 70,000 34% 25,000 13% 45,000 22%
Florida 1,213,000 35% 462,000 13% 751,000 21%
Georgia 859,000 41% 362,000 17% 497,000 24%
Hawaii 108,000 33% 42,000 13% 66,000 20%
Idaho 138,000 40% 35,000 10% 103,000 30%
Illinois 985,000 30% 420,000 13% 565,000 17%
Indiana 390,000 26% 137,000 9% 253,000 17%
Iowa 201,000 28% 63,000 9% 138,000 19%
Kansas 201,000 30% 78,000 12% 123,000 18%
Kentucky 326,000 35% 159,000 17% 167,000 18%
Louisiana 496,000 44% 219,000 19% 277,000 24%
Maine 90,000 29% 47,000 15% 43,000 14%
Maryland 255,000 21% 107,000 9% 148,000 12%
Massachusetts 471,000 31% 244,000 16% 227,000 15%
Michigan 807,000 28% 356,000 12% 451,000 16%
Minnesota 297,000 22% 138,000 10% 159,000 12%
Mississippi 339,000 45% 119,000 16% 220,000 29%
Missouri 435,000 30% 187,000 13% 248,000 17%
Montana 98,000 41% 35,000 14% 63,000 27%
Nebraska 132,000 29% 42,000 9% 90,000 20%
Nevada 172,000 29% 46,000 8% 126,000 21%
New Hampshire 83,000 23% 38,000 11% 45,000 13%
New Jersey 486,000 24% 219,000 11% 267,000 13%
New Mexico 278,000 52% 98,000 18% 180,000 33%
New York 1,865,000 39% 939,000 20% 926,000 19%
North Carolina 644,000 34% 261,000 14% 383,000 20%
North Dakota 61,000 40% 21,000 13% 40,000 27%
Ohio 887,000 30% 440,000 15% 447,000 15%
Oklahoma 282,000 35% 120,000 15% 162,000 20%
Oregon 291,000 33% 124,000 14% 167,000 19%
Pennsylvania 835,000 29% 358,000 12% 477,000 17%
Rhode Island 68,000 26% 35,000 13% 33,000 13%
South Carolina 338,000 37% 122,000 13% 216,000 24%
South Dakota 50,000 27% 22,000 12% 28,000 15%
Tennessee 528,000 38% 190,000 14% 338,000 25%
Texas 2,256,000 41% 839,000 15% 1,417,000 26%
Utah 171,000 24% 49,000 7% 122,000 17%
Vermont 43,000 28% 22,000 14% 21,000 14%
Virginia 439,000 26% 164,000 10% 275,000 16%
Washington 391,000 28% 190,000 13% 201,000 14%
Washington, DC 54,000 48% 34,000 30% 20,000 18%
West Virginia 161,000 45% 69,000 19% 92,000 26%
Wisconsin 316,000 20% 114,000 7% 202,000 13%
Wyoming 43,000 33% 16,000 12% 27,000 21%
US Total 24,148,000 34% 9,894,000 14% 14,254,000 20%
----------------------------------------------------------------------------------------------------------------
__________
Appendix Table 2. Income Changes Among Single Mother Families: 1995-1999
(Includes Incomes of Related Adults and Unrelated Males)
----------------------------------------------------------------------------------------------------------------
Percent of Earnings
1995 1999 Change Change Reflected in
Disposable Income Change
----------------------------------------------------------------------------------------------------------------
Quintile 1
Earnings 2,473 3,465 992
AFDC/TANF, SSI, and Food Stamps 4,647 2,932 (1,715) -27.2%
Disposable Income 9,551 9,281 (270)
Quintile 2
Earnings 6,427 11,001 4,574
AFDC/TANF, SSI, and Food Stamps 6,126 3,158 (2,968) 34.0%
Disposable Income 16,331 17,886 1,555
Quintile 3
Earnings 15,661 20,211 4,550
AFDC/TANF, SSI, and Food Stamps 3,696 1,556 (2,140) 39.7%
Disposable Income 22,672 24,480 1,808
Quintile 4
Earnings 26,920 32,423 5,503
AFDC/TANF, SSI, and Food Stamps 1,653 921 (732) 75.6%
Disposable Income 31,009 35,170 4,161
Quintile 5
Earnings 57,423 71,891 14,468
AFDC/TANF, SSI, and Food Stamps 698 251 (447) 94.7%
Disposable Income 59,165 72,865 13,700
----------------------------------------------------------------------------------------------------------------
Source: CBPP tabulations of the Current Population Survey.
Values are in 1999 dollars.
Disposable income income includes the value of means-tested in-kind benefits and the EITC, and deducts federal
income and payroll taxes and work expenses.
Quintiles are formed by dividing the family's disposable income by the poverty threshold for a family of that
size.
Each quintile contains approximately an equal number of individuals, 5.5 million in 1995 and 5.3 million in
1999.
The number of families gradually increase from approximately 1.7 million in the bottom quintile to 2 million in
the top quintile.
The maximum incomes used as quintile cut-points, as a percent of the families poverty threshold, are 86%, 127%,
173% and 252% in 1999. They were somewhat lower in 1995.
Chairman Thomas. I thank both of you for your testimony.
Mr. Donovan, I understand how you feel with your analogy,
always a bridesmaid and never a bride, although I would believe
that the appropriate phrase in the 106th Congress was that you
were left at the altar. You were, in fact, ready to go to the
wedding ceremony and were not allowed. It is my strong belief
that following the November elections, we will move marriage
penalty reform out of the House, out of the Senate, and present
it to the President and the President will sign it.
Dr. Primus, you indicated that the President's plan is
deficient in a number of areas and I want to focus in on, if
you will help me, in terms of, if you will, a prioritization of
where, if the Committee were to focus on adjustments or a
better understanding of where the inequities are the greatest.
If you looked at, for example, the marriage penalty, are you
familiar with H.R. 6 in terms of the adjustment on the earned
income marriage penalty aspect of H.R. 6?
Mr. Primus. Yes.
Chairman Thomas. Would that be a step in the right
direction vis-a-vis the rate adjustment program of the
President?
Mr. Primus. My understanding, Mr. Chairman, is that
particular proposal would only affect families who pay income
taxes and, therefore, would not affect families who are hit by
the highest marriage tax penalties because of the EITC design.
Chairman Thomas. All right. So you are still looking for,
and obviously the President has indicated that we are going to
address the payroll tax question when we look at Social
Security and other areas.
Let us turn to the child credit, then. If you were to pick
the aspect of the President's plan that probably needs to be
focused on most, what would you put as the number one concern?
Mr. Primus. I would probably put as number one reducing the
marginal tax rates for mothers at the beginning of the EITC
phase-out, the mothers from $13,000 to about $20,000 of
earnings, because they have an EITC phase-out of 21 percent.
They can have their food stamps being phased out. In the case
of Maryland, child care copays in the State were going up.
Chairman Thomas. OK. We have in current law, under the
current child credit, a provision which partially adjusts on
the basis of the child credit. Are there flaws with the current
law adjustment?
Mr. Primus. Yes, Mr. Chairman. I think it is very
complicated. For one, it only applies to families, as you know,
with three or more children.
Chairman Thomas. You have been behind the scene on a lot of
activities. I know this was after your time. Why was it
structured to apply to families with three or more rather than
families with one or two?
Mr. Primus. I do not know. There was some attempt to
increase the refundability of the child tax credit in 1997, but
this was a very, very narrow approach to increasing that
refundability. Also, it only takes into account, Mr. Chairman,
the employee portion of the payroll tax, and I think all
economists agree that low-income families pay both the
employer's and the employee's share of those payroll taxes.
Chairman Thomas. I think most economists would say every
employee, whether they are low income or not, pay all of those
costs, notwithstanding the pay stub saying that is divided.
Mr. Primus. OK. We agree.
Chairman Thomas. So would a step toward making it fairer be
to move it to any number of children rather than just above
three?
Mr. Primus. That would be a very small step in the right
direction.
Chairman Thomas. I understand. What other aspects of the
President's proposal would you change if you could on the child
credit?
Mr. Primus. Well, as I indicated in my testimony, I would
like to make the child tax credit partially refundable against
earnings, so that, for example, if you picked a simple 10
percent rate, then a mother who earned $10,000 would get 10
percent of $10,000 or $1,000. If she had two children, she
would not get the full credit of $2,000. But that is what I
would do first with respect to the child tax credit.
Chairman Thomas. And what would you do next?
Mr. Primus. What I would do next is try to do something on
the EITC. But in terms of the child tax credit, making it
partially refundable, I think, is the right thing to do.
Chairman Thomas. And then what would you do next?
Mr. Primus. Then I would do some of the marriage----
Chairman Thomas. No, on the child credit.
Mr. Primus. Do something to reduce----
Chairman Thomas. We are still on the child credit.
Mr. Primus. OK. Some have advocated full refundability. My
sense is that proposal probably is not going to get the vote of
a majority of this Committee. But I talked about the families
that face the highest marginal tax rates, those families that
have, again, responded to your welfare reform bill and are
working harder. I think they need an income boost and that is
for families in the $10,000 to $20,000 range. You can do that
by lowering and do a kink like Mr. Cardin and others have----
Chairman Thomas. Yes, but those are all permutations of
your earlier points and I understand that, so we have exhausted
the suggested changes to the President's plan as far as you are
concerned?
Mr. Primus. Yes.
Chairman Thomas. Otherwise----
Mr. Primus. Oh, I also----
Chairman Thomas. We will keep it in place as he proposed
it.
Mr. Primus. I would not extend it to families of very high
income levels. Since you have provided lots of tax relief in
the rate reduction bill that has already passed the House, I am
not convinced that families above $130,000 need more tax
relief.
Chairman Thomas. But that is current law, is it not?
Mr. Primus. Yes. It ends at $130,000.
Chairman Thomas. So you would not extend it beyond current
law?
Mr. Primus. That is correct.
Chairman Thomas. OK. Obviously, I want to get the input,
because if we are looking at changing the President's proposal,
I want to make sure, given your background knowledge and
involvement, that I get an exhaustive list of changes from you
so that if, in fact, we make those changes, my colleagues on
the other side of the aisle will be able to readily recognize
where those suggestions came from in terms of trying to fashion
a package that is fairer and more equitable, and I appreciate
your comments.
The gentleman from California.
Mr. Stark. Is it in order for me, Mr. Chairman, as long as
we are dealing with a bill we have not seen, for me to ask
unanimous consent to incorporate Dr. Primus' ideas in the bill
that we will see soon?
Chairman Thomas. The gentleman can certainly try. First of
all, the chair wants to apologize to the other gentleman from
Texas, because I had told him that he would be first off, and
frankly, four votes and lunch blurred my memory.
Mr. Stark. Let me, then, by all means, yield to my
colleague from Texas, if I may, Mr. Chairman.
Chairman Thomas. I appreciate the gentleman allowing me to
honor the commitment that I made to him and to his colleague,
but since his colleague is not here, we only have to allow the
gentleman from Texas.
Mr. Stark. I yield to him.
Mr. Doggett. Let me just ask, as a preface to my questions,
Mr. Chairman, I understand what you said this morning about
this description of the Marriage Penalty and Family Tax Relief
Act, that while you would be perfecting it further through the
benefit of witnesses like this, you anticipate that the
subjects that will be included in the bill we will mark up in a
few hours would be limited to the five that are included in the
description?
Chairman Thomas. I will tell the gentleman, a few hours
means tomorrow----
Mr. Doggett. Yes, sir.
Chairman Thomas. And my characterization of tomorrow is one
I prefer rather than a few hours.
Mr. Doggett. Tomorrow, then.
Chairman Thomas. Yes. I will tell the gentleman that he is
substantially correct, with the exceptions of testimony that
may allow us to make some adjustments that would make the
package more relevant.
Mr. Doggett. On the same subjects?
Chairman Thomas. Exactly.
Mr. Doggett. We are not getting into----
Chairman Thomas. That is correct.
Mr. Doggett. Retirement or estate tax or capital gains
tomorrow?
Chairman Thomas. No, that is correct.
Mr. Doggett. Just these? OK.
Chairman Thomas. The base text will be H.R. 6, as adjusted
with a child credit, subject to modification based upon the
excellent testimony of the witnesses.
Mr. Doggett. I understand and thank you for your
clarification.
Mr. Donovan, our colleague, Mr. Weller, made clear earlier
this morning that he found the proposal by President Bush on
the marriage penalty to be deficient, but as I read your
written testimony, it is much stronger than your testimony you
just gave us. In no uncertain terms, you condemn President
Bush's proposal on marriage tax penalty and, in your words, say
that it is so bad that ``it would be better to do nothing about
the marriage penalty than to do this.'' Does that written
testimony still reflect your position, sir?
Mr. Donovan. That is my written testimony. Let me state our
views on the bill overall.
Mr. Doggett. Well, does that reflect your views, since my
time is limited? You stick by your written testimony that his
proposal is so bad that it would be better to do nothing than
to adopt the Bush proposal, is that correct?
Mr. Donovan. The deficiency in the proposal is that----
Mr. Doggett. Well, let me just ask you if it is correct or
not, your written testimony.
Mr. Donovan. I have stated that that is my testimony and--
--
Mr. Doggett. I appreciate it.
Mr. Donovan. I need to give to the Committee the words
around it, if I may.
Mr. Doggett. I want to ask you one further question to
clarify that, then. Is it your feeling, coming assomeone who
has been married myself now for 32 years and has an appreciation for
the institution of marriage, that the institution of marriage is so
important that we should, in writing our tax laws, seek to discriminate
against those who are not married?
Mr. Donovan. I think that we should provide tax relief to
the American people.
Mr. Doggett. Do you believe that our--just tell me. I
understand you may want to elaborate to other members, but do
you or do you not believe that we should discriminate as we
write our tax laws against those people that do not have the
good fortune, such as myself, to have been married, in my case,
32 years?
Mr. Donovan. Congressman, I think that married people and
the children they raise, if they raise them successfully, they
provide a wealth of benefits to single people, including paying
for the Social Security benefits of that rising generation to
whom a non-married person with no children does not.
Mr. Doggett. I could not agree with you more.
Mr. Donovan. I think that there is no discrimination----
Mr. Doggett. I could not agree with you more that families
who----
Mr. Donovan. As a result of policies that favor families
with children.
Mr. Doggett. Yes, sir. Reclaiming my time, I could not
agree with you more that married families contribute greatly to
our society, and I take your answer, then, to be that you do
think that it is appropriate in designing our tax laws that we
should discriminate against those people who are not married.
Mr. Donovan. I believe that we should provide preferences
for families with children to raise their children, yes.
Mr. Doggett. A preference to me as a married person means
that someone who does not enjoy my good fortune is taxed at a
higher rate, and as you know, there are many single individuals
who are taxed at a higher rate, and if we adopt the proposal
that you advance, we will discriminate against them even more.
And my feeling, Mr. Donovan, is that a widower, an abused and
abandoned spouse, someone who is single by choice, might well
contribute as much as someone who is married, that a single mom
who is out there who is trying to make ends meet and who is
single through no fault of her own and has kids to support and
is working and trying to get them through school and do the job
of two parents, does not deserve to have to pay higher taxes
and be discriminated against just because of your belief and my
belief in the value of the institution of marriage and all that
it contributes to our society.
But that is one of the problems that I have had with the
bills that have been introduced, is that they are not written
on a neutral basis because groups such as yours are so
committed to the institution of marriage that they are willing
to have our tax laws written deliberately to be discriminatory
against single individuals in our society and, in fact, at the
conclusion----
Chairman Thomas. The gentleman's time has expired, but go
ahead and finish your sentence.
Mr. Doggett. It was a mighty fast 5 minutes. In my
district, in Travis County, Austin, Texas----
Chairman Thomas. Time goes fast when you are having fun.
Mr. Doggett. It does.
In Austin, Texas, I actually have more individuals who
stand to not gain and be potential beneficiaries from this
proposal, who are either divorced, separated, widowed, or live
as single individuals, than those who do not. And it seems to
me that the goal ought to be to treat everyone equitably and
fairly without regard to their choice of being married or not
being married. Thank you.
Chairman Thomas. The gentleman's time has completely
expired.
Does the gentleman from Florida wish to inquire?
Mr. Shaw. Thank you, Mr. Chairman. Wendell, it is good to
welcome you back to the Committee where you spent so many
years, both on the majority and the minority side as the winds
of change went about changing much of that. I have always
valued your opinion on many things. I count you as a friend and
perhaps would characterize you as an honest liberal, and that
is not an oxymoron. I think you sincerely believe what you say
and you are a good advocate for it, and I think you make a lot
of sense a lot of times and I enjoy your testimony. I
particularly enjoy the dialog back and forth with the Chairman.
As you recall, we worked together, and I think there was
good bipartisan support for the earned income credit. It was
EITC back then. We have changed the name of it. But I want to
be sure that the record is complete in many areas. Right now,
the EIC payment, someone earning, a family with two kids
earning, say, $10,000 a year, they would receive back, I think
under EIC, $4,000, which is more than the payroll tax that they
would pay in.
I also think the record should be clear that low-income
people, because of the progressivity of the Social Security
payment schedule, that they get a better deal than the high-
income people when it comes to retirement and Social Security.
You are nodding yes, and I assume that I can put a ``yes''
in the record, that you do agree with what we are saying.
Mr. Primus. Yes. They ultimately will benefit from some of
those payroll tax payments.
Mr. Shaw. Now, also, is it your opinion--and this is
getting a little bit out of your scope of direct testimony, but
I think you are certainly qualified to answer the question--is
it your opinion that if we pass these bills and put money back
into the paycheck or refund, as the case may be with the EIC,
that this would go a long way toward helping to stimulate the
economy by putting money back into the economy? Is that your
opinion, particularly at the lower income level?
Mr. Primus. Yes. I appreciate all those kind words, Mr.
Chairman. I am getting a little nervous about where this
conversation is going.
Mr. Shaw. Oh, I think----
Mr. Primus. I firmly believe, yes, that increasing the
EITC--I mean, the purpose of the EITC was, as you know, to
refund or rebate some of the payroll taxes at the bottom end of
the income distribution, but it was also----
Mr. Shaw. It was also to reward work.
Mr. Primus. To give an earnings supplement. Rather than
increasing the minimum wage, the Congress made decisions that
said--because sometimes an increase has adverse employment
effects--the right way to help low-income wage earners was
through the EITC, which then became an earnings supplement and
an alternative way of rewarding their wages, if you will.
And just because that says they should not be paying
Federal income taxes does not necessarily mean that these
families should not get some benefit from the expansion of the
child tax credit.
Mr. Shaw. In other words, then, if you go back to the
minutes of the meetings that we had and the hearings that we
had, the purpose, I believe, as it was framed, was to reward
work. And I think that the Human Resources Subcommittee did an
awful lot of work back then in seeing that that happened.
I do have one simple question that I would like a yes or no
from you. I just want to get it on the record. Is welfare
reform a success, yes or no?
Mr. Primus. For some mothers, yes; for others, no.
Mr. Shaw. That is a yes or no, I guess.
Mr. Primus. I also think that is pretty close to the truth.
Mr. Shaw. Well, I think all of us know that overall it has
been a tremendous success in getting people off the welfare
rolls, getting them to take control of their life and getting
them on the track toward a better life. Even though it may be a
struggle for some at the beginning, at least it is a beginning
for all. And I think that you would agree with that.
Mr. Primus. Yes. And as I said in my testimony, I mean
quite amazingly, these mothers are earning a lot more money.
More of them have gone into the labor force. But the other
effect is they are not getting as much of increased earnings
reflected in their income gains as I think you and I would like
to see. I mean, if you earn an additional $4,500 but only get
$1,500 more in income, that is not a very good return for all
that extra earnings.
Mr. Shaw. Well, at least it is earnings and it is
productivity, and it has really tremendously done a lot for the
self-esteem of particularly these single moms out there that
were really at the bottom rung of the economic ladder as well
as the ladder of self-esteem.
Thank you, Mr. Chairman. I yield back.
Chairman Thomas. I thank the gentleman.
The gentleman from California, Mr. Stark. Thank you for
your courtesy.
Mr. Stark. Certainly. I have been taking a back seat to
some Texans here. I would like to talk to my colleague from
Texas, Mr. Doggett. I refuse to take a back seat any longer. I
presume that if he is going to get credit from Mr. Donovan's
organization for being married, I then would get three or four
times the credit that he is getting. And if this is a linear
sort of thing, I probably then should get three or four times
the tax credit. I like that idea.
Wendell, your appendix suggests that, if I read it
correctly, you talk about non-beneficiaries of the tax cut
proposals, which I presume are those before us. Do you include
in that table a combination of both the earned income tax
credit and the marriage penalty? Is this a compendium or is it
only one of those two?
Mr. Primus. It reflects the President's proposal of the
child expansion, the marriage penalty, et cetera. It reflects
all of the President's proposals.
Mr. Stark. OK. So what you are telling me is that under the
President's proposal, there would be 24,148,000 children who
would not benefit from this proposal. How many children are
there?
Mr. Primus. About 71 million.
Mr. Stark. So more than a third of the children in the
United States would receive no benefit from either of these or
the combination of these proposals.
Now, to be bipartisan, under our Democratic proposal there
would be almost 10 million who would not also, so that this is
not--but it remains that more than two and a half times more
children would be left out of this.
Now, can you characterize for me, if it isn't a random
selection, who are those 71 million children that this bill
would discriminate against?
Mr. Primus. Well, most of those, I think about 80 percent
of the children excluded, have an earner. Two-thirds have an
earner who is earning at least half-time.
Mr. Stark. Excuse me. Have an earner? You mean one----
Mr. Primus. Have some earnings in that family where the
child resides.
Mr. Stark. OK.
Mr. Primus. Two-thirds of those children excluded, again,
16 million, reside in families that earn more than half time,
full year, at minimum wage. So these families have earners and
have substantial amounts of earnings.
Mr. Stark. Could you bracket that? I mean, 20, 30, 40? How
much earnings? I am trying to get a picture of----
Mr. Primus. Well, they clearly have earnings between $5,150
and--where they start to pay Federal income taxes. That range
of income, if you will, is where two-thirds of the children
excluded reside.
Mr. Stark. So under 25,000 bucks.
Mr. Primus. Yes.
Mr. Stark. I guess that is what I am getting at.
Mr. Primus. That is the right number for a family of--a
married family with two children, approximately.
Mr. Stark. So basically we are leaving out of our--in this
bill, and would the suggestions that you made to the Chairman
alter that? I know this is a rough cut, but if we are leaving
out 24 million children in the lowest-income group of
Americans, just to save them the embarrassment of giving all
this money to therichest couple of thousand if we got rid of
the death tax, how could we save the Republicans from themselves and
allow them to do something for the lower income children? Would your
suggestions to the chairman take care of that?
Mr. Primus. Well, obviously, the suggestion that says make
the credit partially refundable against earnings would only
leave out then the children where the household doesn't earn a
thing. And that is a very small percentage; probably 20 percent
of the children now left out would be left out if you made the
credit partially refunded against earings. Obviously, then, if
you start the credit at higher income levels or make it
partially refundable at higher income levels, that percentage,
as you can see from the Democratic alternative, which really
targeted families at about $8,000 and higher, roughly, left out
14 million children.
Mr. Stark. Mr. Donovan, do you think Mr. Primus' idea is
good?
Mr. Donovan. To be honest with you, I haven't studied that
proposal. I would like to read his testimony and have a chance
to respond in writing.
Chairman Thomas. The gentleman's mike is not on. It is hard
to hear the response.
Mr. Stark. He is not familiar with it.
Thank you, Mr. Chairman.
Chairman Thomas. Thank you.
Does the gentleman from Louisiana wish to inquire?
Mr. McCrery. Yes. Thank you, Mr. Chairman.
I will put this question to both of you. What do you think
the purpose of the child tax credit is? Why do we have a child
tax credit? Mr. Donovan.
Mr. Donovan. I believe the child tax credit is appropriate
recognition of the important investment that society and
parents make in their children. It is a recognition of the
extreme costs of raising a child in the world today, from
providing food and shelter, the traditional things, and also
the expectations these days that children will have the best of
education, and parents are responsible, first and foremost, for
providing that. Five hundred dollars is not a huge step in that
direction for most parents.
Mr. McCrery. Do you agree with that, Dr. Primus?
Mr. Primus. Yes, I think the rationale, as the President
has said, it is not just simply tax relief, but to help
families rear and support their children. I think it is an
important public function to help families raise their
children.
Mr. McCrery. I agree, and I also agree with your statement,
Mr. Donovan and Dr. Primus, of the rationale for the public
policy of the child tax credit. And if that is the rationale,
then it seems to me, Mr. Chairman, that this Committee ought to
try to give that advantage in the tax code to everybody that
has children that pays taxes, whether it is income tax or
payroll tax. And so I think that our friends on the other side
of the aisle and Dr. Primus make some good points. And I would
hope that this Committee could maybe look at the President's
proposal and massage it a little bit to make sure that that
sound public policy of helping people to rear their kids is
extended to all parents with children who pay taxes.
Thank you.
Chairman Thomas. I thank the gentleman.
Does the gentleman from Pennsylvania, Mr. Coyne, wish to
inquire?
Mr. Coyne. Thank you, Mr. Chairman.
Dr. Primus, you may have given this statistic, but I guess
it would be worth repeating. How many more low- and moderate-
income families would receive benefits in earned income tax
credit under the Democratic alternative than under President
Bush's plan? Do you have those figures?
Mr. Primus. Because you do all of your additional tax
relief at the bottom through the EITC, that difference is
approximately 10 million children.
Mr. Coyne. Ten million more children would receive the
benefit----
Mr. Primus. No, no. Fourteen million more children.
Mr. Coyne. Would receive the benefit than under President
Bush's plan. Thank you.
Chairman Thomas. I thank the gentleman.
Does the gentleman from Michigan, Mr. Camp, wish to
inquire?
Mr. Camp. Thank you, Mr. Chairman.
Either Mr. Donovan or Mr. Primus, can you talk a little
bit, if you are able to, about the ability of the IRS to
administer a refundable child tax credit? And have you done any
research or do you have any information on the ability to keep
that program with integrity and to make sure that it does
really get to the people who need it and deserve it?
Mr. Primus. I think the IRS is capable of administrating a
refundable child tax credit. Most of those families do get some
benefit from the EITC. We can always try to do a better job,
but there is no doubt in my mind that the IRS could administer
a refundable, as Congressman McCrery indicated, credit that
gave some relief to all families who paid income or payroll
taxes.
Mr. Camp. Have you done any research or any studying on
that area? I realize your supposition, you think they can do
it. Is there anything you have examined that would support
that, or have you----
Mr. Primus. Well, they do administer the refundable credit
of the EITC, which----
Mr. Camp. And there are problems with that in administering
it, would you agree?
Mr. Primus. And there are some problems with that.
Mr. Camp. So why would this not be any different?
Mr. Primus. I think the major problem in the earned income
tax credit is which family should receive taxrelief because of
a child. There are some very complicated provisions of the EITC.
For example, in a household with three generations, let's
say a grandmother makes $25,000, but the mother makes $15,000,
and they would file separate returns today. The EITC doesn't go
to the mother. She is ineligible for the EITC because it is
supposed to go to the grandmother in that household. So that is
one example.
So I think there are ways that some of the very complex
rules surrounding the EITC--the Treasury has put forward some
proposals that--for example, lots of time noncustodial parents
are taking advantage, of the EITC when they are eligible. We
could make sure that doesn't happen by matching IRS information
against the child support registry data and immediately calling
it a math error and adjusting the return. I think those are
some of the provisions that would reduce the EITC error rate
considerably.
Mr. Camp. That would assume any parent paying support
doesn't have custody, which isn't always the case. The registry
doesn't distinguish in terms of where the child is physically
living. But I understand your point and----
Mr. Primus. In most cases, I wouldn't expect a parent who
has custodial status--you know, where the kid is residing with
that parent, shouldn't be paying child support. I mean, either
there is something wrong with the child support system then
where the dad is paying child support to himself because the
kid is residing with him. That doesn't make sense.
Mr. Camp. Well, in a lot of the joint custodial
relationships now, that is different. Anyway, I know my time--
Mr. Donovan, any comment on the refundability of the child tax
credit and its----
Mr. Donovan. No, I have no data on the difficulty in
applying it. I know that there has been some error. We do
support refundability against Social Security taxes, both
employer and employee.
Mr. Camp. All right. Thank you.
Thank you, Mr. Chairman.
Chairman Thomas. I would just interject briefly. It seems
to me that--and I agree with the gentleman from Michigan that
there has been an error rate problem with the earned income
credit. But I think that is largely to the extent of the fact
that a number of these people have multiple employers and that
it is the flow of income and that, as a matter of fact, in any
system that says you get more relief if you claim more income,
whether you actually make it or not, there is a perverse
incentive there.
But in dealing with the child credit, I think everyone
would have to agree that the determination of whether or not
there is a child is an easier determination in which to verify,
much the same as indicating that you are filing married
jointly. No one would do that now because of the penalty. But,
in fact, they may want to file separately, notwithstanding the
fact that they may, in fact, be married.
Both of those, I think, are far easier to detect if someone
is trying to commit fraud on a tax form. It is a question of
degree, but I believe we are pushing the argument quite a ways
if we are dealing with the child credit or marriage penalty, as
opposed to falsifying income for the purpose of actually
getting more back, claiming that you made more than you
actually did. That to me is the real perversity of the earned
income credit in terms of the way in which you can defraud the
system.
Does the gentleman from Massachusetts wish to inquire? Mr.
Neal.
Mr. Neal. Thank you, Mr. Chairman.
Dr. Primus, I had an opportunity to talk with President
Bush about a month ago about the AMT issue, and he described it
as ``a huge problem.'' Based upon the Chairman's bill here, do
you think that there is any legitimacy to the argument that the
same benefit that is being promised in the bill will actually
be denied based upon implementation?
Mr. Primus. I think the issue of the AMT is a huge problem.
My understanding from the Joint Tax Committee is that about 1.5
million taxpayers are hit this year, and under current law that
goes up to 21 million by the year 2011, and that the
President's proposal increases that an additional 15 million or
so.
I know that in the bill that passed the Committee and was
taken up by the full House, there were some provisions to
address that. But my understanding is those provisions made
very small differences in the number of families who would be
affected by the AMT.
Mr. Neal. Let me follow up on that. As I understand it, and
perhaps as you understand it, the bill that passed the
Committee here continues the current law waiver of AMT
limitations for the child credit but not for other non-
refundable credits such as the education credits.
Is it possible that a family with children in college would
actually find their taxes going up next year compared to their
taxes in 2001?
Mr. Primus. Yes. Again, many families in this situation
currently can use the full amount of the education credits, the
HOPE and the lifetime learning credit, if they have two
children in college. But if you don't continue this waiver,
their taxes will go up.
Mr. Neal. My interest here, once again, is not in trying to
draw any partisan fire on this issue as much as it is to
acknowledge that the President is right that it represents a
huge problem. And as much as we have discussed it here, I don't
think any of us really like the solution offered to date.
Mr. Primus. Right. I think you know all this very well. The
alternative minimum tax was set up to make sure that some very
high income families wouldn't take undue advantage of tax
preferences. It was supposed to affect a very narrow band of
high-income families.
I don't believe the majority or the minority on this
Committee is going to let the AMT affect millions and millions
of families, which means they have to do two calculations.
Mr. Neal. Thank you, Mr. Chairman.
Chairman Thomas. Not only new calculations but to spend
money to make sure that people do not fall into the trap of the
AMT, which was exacerbated in the 1993 tax bill and which we
have not addressed, and now discovering in giving people tax
relief, in fact, on the back side, they will not be getting
that relief. And I can assure you as we move these different
pieces of legislation, we will do our best to include
provisions beyond the one mentioned to hold those individuals
harmless until we can sit down and fundamentally address the
problem of the alternative minimum tax.
But no one, no new individuals, if we can help it, should
fall into the alternative minimum tax by virtue of the tax
relief packages that we will be moving through, whether it is
the marriage penalty, child credit, or any other area of tax
relief.
Does the gentleman from Minnesota wish to inquire?
Mr. Ramstad. Thank you, Mr. Chairman. Just very briefly.
Good to see you again, Dr. Primus and Mr. Donovan. I liked
Mr. Shaw's characterization of the honest liberal, and I think
it is healthy when a honest liberal and an honest conservative
are showing such a concurrence of views on some very important
elements of our tax relief that we are trying to get to the
American people. And I think that reflects the bipartisan
nature of this tax relief. Certainly that was reflected in the
vote last year on the bill to eliminated the marriage penalty,
to phase it out, a large number of people from the other side,
Members from the other side of the aisle.
I wanted to thank you particularly, Mr. Donovan, for the
work that you and your organization have done. It will benefit
80,000 couples in my 3rd Congressional District of Minnesota,
80,000 married couples right now paying an average of $1,400
more in taxes. So I appreciate Mr. Weller's leadership on the
panel and certainly your organization's efforts as well.
I just want to take a minute to respond to the colloquy,
Dr. Primus, that you had with Mr. Shaw on welfare reform, just
one minute.
That question, I think, was best answered, for me at least,
not in the statistic that, in fact, 49 percent fewer people are
on the welfare rolls nationally--in Minnesota, it is a little
less, 40 percent fewer welfare recipients than before welfare
reform. But that was answered for me up close, anecdotally, by
a former welfare mother who became a friend of mine through a
group I go to every week to stay sober, a group of recovering
people. And she was a very diehard opponent of welfare reform:
What are you doing? I have two children and you can't take this
welfare away.
At Christmas and Hanukkah season, I was back home at this
meeting, and she came up to me and was very, very warm and
jubilant. And I said, What has gotten into you? And she said, I
just want to thank you for welfare reform; because of it, I
have a job now, I am not on welfare. I was able to learn
computer skills, and for the first time since my kids started
school, they didn't wear hand-me-downs the first day of classes
in September. I went to Target and got them clothes, and I am
making more money than I ever thought possible.
You could just see the dignity, I could just see the
dignity and self-worth, self-respect. So, for me, that is a
resounding yes, and I am glad to see at least partially, Dr.
Primus--and I have always appreciated your views even though
they diverge with mine on some of the issues. But I respect you
and appreciate your honest answer to that question of Mr.
Shaw's. I just couldn't let the opportunity go by without
addressing that.
Thank you again, both of you, for your input here today,
and I appreciate, as I said, the concurrence of your views,
surprisingly, on some of the very important issues that this
bipartisan tax relief package addresses.
Thank you. I yield back, Mr. Chairman.
Chairman Thomas. I thank the gentleman.
Does the gentlewoman from Washington wish to inquire?
Ms. Dunn. Thank you very much, Mr. Chairman. And I, too,
want to applaud Mr. Weller for the good work he has done on
keeping the importance of the marriage penalty before us in
what has turned out to be a very positive era where we have the
dollars that we can do this thing, this right thing, and we can
do it in the right way.
A point on welfare reform. Having served on that Committee,
having helped to write that legislation, I am absolutely
delighted in the results it has had over the last few years. We
took great care as we were writing welfare reform to make sure
that we considered how we could be helpful in moving women from
welfare into work. And now as we consider the reauthorization
of that bill, we have a chance to observe, as I have done over
the years in meeting with welfare moms and dads, to find out
what is going right and what may not be going right with this
legislation. We have a chance now to make sure that nobody
falls through the cracks on welfare reform.
But I guess I am most grateful to Mr. Weller because he has
been persistent on this issue, and at many points he could have
phased out his support. It will be because of him--Mr. Weller--
that we will have been successful at the time that we pass this
off the floor of the House. I think myself personally that it
is time we honor marriage, not tax it.
I yield back.
Chairman Thomas. I thank the gentlewoman.
Does the gentlewoman from Florida wish to inquire?
Mrs. Thurman. Thank you, Mr. Chairman.
I am sorry to both of you that I missed the opening
statements and obviously some exchanges that happened here.
But, Dr. Primus, I just have one question. We are a political
body, and we all have to go back home, and we have to explain
to our constituents why we did or did not vote for something.
And I found your Table 1 very interesting, particularly as it
relates to each State, and particularly the amount of children
that would or would not be in it.
And you may have gone over this in your testimony, and I
hope that my colleagues will just let me ask you to kind of
walk us through here and give us an idea of, as we put a bill
together, what is--how do we make the largest impact on
children with families so generally all children would be
covered?
Mr. Primus. Well, Congresswoman, as that table shows, in
the State of Florida 1.2 million children, or thereabouts,
would not benefit from the expansion of the child tax credit or
even the lowering of the income tax rate because those children
live in families that don't pay income taxes. And most of those
children would have an earner. Obviously, under a proposal that
started to give those families something as they started to
earn money, that number would shrink. And under the Democratic
proposals in Florida, it shrunk to 462,000; or thereabouts,
from 35 percent of kids to 13 percent of kids.
Mrs. Thurman. Is this proposal on all of the tax issues or
any one in particular? Is this the marriage tax? Is this the
bracket change or the marginal--I mean, does this include
everything that has been talked about or----
Mr. Primus. It includes everything that has been talked
about as it affects children or families with children. So it
is not looking at couples without children, et cetera. It is
saying 1.2 million children in Florida don't get any help from
the way the President's tax proposals are designed.
Mrs. Thurman. OK.
Mr. Primus. And you can do something about that, and as I
have indicated in the colloquy with Mr. Shaw, a lot of these
mothers are working harder. And even though their earnings have
gone up $4,500 on average, their income only went up $1,500. I
think, they deserve an income boost. They deserve help in
raising their children. They have done what you wanted them to
do, in essence, but they didn't get much of an increase in
income.
Mrs. Thurman. And these would be some of the same children
that have lost some of their medical benefits, other areas that
we would be very concerned about.
I just might let the Committee know that I was actually in
Tallahassee on Monday. We have a Federal-State summit, and I
found something very interesting, that they have asked for a
waiver from Medicaid, and that was to allow the State employees
of that State to participate in the CHIP program because they
actually would meet the financial criteria that we have set for
children for medical services. So, you know, here is an idea
that if some of this was given back, they would have an
opportunity to buy some of that insurance, do some of the
things that we are asking them to do that we have actually
taken away from them in the past.
So, Dr. Primus, thank you very much.
Chairman Thomas. I would tell the gentlelady, perhaps she
wasn't here when the Chair invited Dr. Primus to indicate where
he thought changes could be made. He indicated that he thought
the current law upper-income level was more appropriate than
the President's proposal. Obviously, as has been discussed a
number of times, that child credit shouldn't apply just to
income but it should apply to other taxes, such as payroll tax
offset. And I inquired about the current law in terms of low
income, which sets it at three or more children, and that I
asked him why it was not one or two. We didn't really have a
good answer and that it seems to me we will be looking at the
question of why not have it apply to the first child, second
child, and so on.
So he has provided a number of options for us to examine
any child credit program, to perfect a program to address the
concerns the gentlewoman has indicated, and a number of other
colleagues on your side.
Mrs. Thurman. Mr. Chairman, would that also include some of
the issues--I know that it has been stated that even in the
earned income tax credit, the marriage penalty was also
included, I think, even in Mr. Weller's and all of the others.
So as we put this bill together tomorrow, those would be
considerations?
Chairman Thomas. We would be looking for adjustments in
that area as well, always mindful that we are going to have to,
as the gentlewoman well knows, pay down the AMT cost so that
people would not find the insidious aspect of getting a tax
reduction but, in fact, on the alternative minimum tax winding
up paying more.
Mrs. Thurman. Well, Mr. Chairman, I believe we have moved a
long way, then.
Chairman Thomas. I believe that is one of the reasons we
have hearings, notwithstanding the reaction of my colleagues
earlier, to hear testimony which may, in fact, produce the
product that will be before us shortly.
The gentleman from Illinois I know wants to inquire.
Mr. Weller. Thank you, Mr. Chairman, and thank you for
conducting this hearing today as we talk about discrimination
in the Tax Code, particularly as it affects married couples. I
note with some interest some of the comments by some of my
colleagues to talk about if we pass legislation to eliminate
the marriage tax penalty, somehow that discriminates against
single people. Well, today under our Tax Code, if two single
people choose to get married, they are going to pay higher
taxes as joint filers; whereas, if they stay single, they pay
less in taxes. So, clearly, our Tax Code today discriminates
against married couples, and we, of course, are looking today
for solutions to eliminate that penalty on families who work
and suffer the marriage tax penalty.
I have a couple of questions I would like to ask, Mr.
Chairman. First, I would like to direct my first question to
Dr. Primus.
Dr. Primus, you noted in your testimony that legislation
that we sent to the President last year that President Clinton
vetoed addressed the marriage penalty that earned income tax
credit participants participate in. Are you familiar with H.R.
6, the legislation that we reintroduced this year, which is
modeled after that legislation?
Mr. Primus. Yes, somewhat.
Mr. Weller. OK. Well, we adjust for joint filers for the
EIC, we adjust the income threshold by $2,000, which eliminates
that marriage tax penalty.
Based on your expertise, for those who suffer the marriage
tax penalty under the EIC, what would that mean in change in
their income, making that adjustment in the income threshold?
Mr. Primus. Well, it doesn't eliminate the marriage tax
penalty. It lowers it. When you expand the phase-out by about
$2,000, you are lowering that marriage tax penalty by about
$400, which is $2,000 times the phase-out rate of 21 percent.
Mr. Weller. It would mean an additional $400 a year.
Mr. Primus. That is right.
Mr. Weller. In income for that married couple.
Mr. Primus. That is right.
Mr. Weller. Thank you.
Mr. Donovan, some have said why not just double the
standard deduction for joint filers to twice that for singles
as a solution to the marriage tax penalty and forget about the
other things. You know, if we were solely to double the
standard deduction which is used by those who do not itemize,
it would not affect those who itemize their taxes.
From your perspective and your organization, what are the
benefits of widening the 15 percent bracket as we propose in
H.R. 6 to married couples who suffer the marriage tax penalty?
Who would benefit directly, and what would be the benefit?
Mr. Donovan. Well, it would certainly benefit a large
number of families who may have just acquired a home, which is
probably the first significant step they have taken financially
since getting married. Theywork hard to get to that place in
life. The expansion of that bracket is not going to help upper-income
families in any way, shape, or form.
I was asked earlier about discrimination between single
people and married couples. The most dramatic difference
between being single and being married is the number of people
you have to care for. The typical family earning the median
income or up to $50,000 or $60,000 a year is caring for three
or four people, not one person. If you look at in terms of the
tax relief they would get by expanding that 15 percent tax
bracket, on a per capita basis they are probably still paying
more taxes than a single person.
So we believe it is essential to reach a large swath of
married couples who need the relief and also the growing group
of individuals who are living together without benefit of
marriage and need an incentive to marry. We would favor that.
We think that tax policy ought to encourage that, not
discourage it.
Mr. Weller. What would you consider to be a typical married
couple? Do you have an example that you could use which would
be a typical married couple suffering the marriage tax penalty?
Mr. Donovan. Well, we have talked in terms of averages. The
average is about a $1,400 penalty for a married couple. The
median family income I believe is in the upper $30,000 range.
That family has one or two children, typically. And if they
were not to be assisted by this tax relief, they would incur
that penalty.
Mr. Weller. I know some have said that many of those who
suffer the marriage tax penalty are rich people. I find that
the average couple that usually brings the marriage penalty to
my attention when I am back home are a construction worker and
a schoolteacher making about $65,000. They have a child. They
own a home. Their average marriage tax penalty is $1,400, and
that is real money. Where I come from, that is a year's college
tuition; $1,400 is several months' worth of car payments for
many families; it is 2 to 3 months of child care at a day-care
center. If both mom and dad work, many times they need day-
care, and that would pay for 2 to 3 months' worth of day-care
per child.
Mr. Chairman, I see my time has expired, and I do want to
thank you again for conducting this hearing.
Chairman Thomas. I thank the gentleman.
Does the gentleman from Texas, Mr. Brady, wish to inquire?
Mr. Brady. Mr. Chairman, we have had a very thorough
discussion today, and I appreciate the panelists here. But in
the sake of time and the other two panels we still have to go,
I would yield the balance of my time.
Chairman Thomas. The Chair thanks the gentleman, and I do
want to thank the panel. We appreciate your testimony,
especially in providing very specific assistance to the
Committee in suggesting some changes that would make a better
package. I want to thank you very much.
At this time the Chair would ask the next panel to please
come forward: Maria Coakley David, chief financial officer of
the C.J. Coakley Company; Bob Stallman, president of the
American Farm Bureau Federation; Frank A. Blethen, publisher of
Seattle Times; Lauren Y. Detzel, who is an attorney; and I
believe Margo Thorning will be with us because, unfortunately,
Dr. Allen Sinai could not get out of Logan Airport because of
the weather. But I would call to my colleagues' attention the
materials submitted by Dr. Sinai that perhaps will be commented
on.
Before I turn to the panel, however, though, I would like
to recognize the gentlewoman from Washington for the
introduction, a special introduction, of one of the Members of
the panel. The gentlewoman from Washington.
Ms. Dunn. Thank you very much, Mr. Chairman, and I welcome
the panel.
Today we are going to hear from a panel of people regarding
the repeal of the estate tax, better known as the death tax.
Some of the members of this panel are going to tell you the
story of how the death tax has begun to impact middle-income
people. I think that is a story that is not often told, and the
reason that I and my cosponsor, Mr. Tanner, have not chosen to
take time away from this panel is because these folks can tell
the story a lot better than we can. They are on the frontlines.
So you will be hearing something about that today.
You will hear about the death tax impact on businesses,
family held businesses, family farms, small businesses that are
owned by families, and probably you will hear how current law
almost totally ignores the health of these operations.
You will also hear how the compliance cost to provide for
paying the death tax after the head of a household dies
extracts huge amounts of money through compliance out of our
economy, some say almost as much money as the death tax brings
into the government itself.
So I am very grateful that we have this panel here so that
you can listen with objectivity, as our Committee always does,
but so you can also question these folks.
It is a particular pleasure that I introduce to you Frank
Blethen who is the publisher and one of the owners of our major
daily newspaper in Washington State, the Seattle Times. He has
worked on this issue for a number of years. He knows the ins
and outs from personal experience. He speaks on behalf of four
other owners of this newspaper and on behalf of five
generations of folks who have been in the same family that owns
the Seattle Times.
I yield back my time, Mr. Chairman. Thank you for that
opportunity.
Chairman Thomas. I thank the gentlewoman.
I would tell each of the panel Members, any written
testimony that you may have will be made part of the record,
and during the time that you have available to you, you can
address us in any fashion you see fit.
I will start with Ms. David, and then we will simply move
across the panel. And you need to turn the microphone on.
STATEMENT OF MARIA COAKLEY DAVID, CHIEF FINANCIAL OFFICER, C.J.
COAKLEY COMPANY, INC., FALLS CHURCH, VIRGINIA, ON BEHALF OF THE
NATIONAL FEDERATION OF INDEPENDENT BUSINESS
Ms. David. Thank you, Ms. Dunn, thank you, Mr. Chairman,
and thank you, members of this Committee. On behalf of the
600,000 members of the National Federation of Independent
Business, NFIB, I appreciate the opportunity to present the
views of small business owners on the subject of death taxes.
My name is Maria Coakley David. I have had the honor and
privilege to watch the American dream unfold before my eyes. My
parents founded a family business. It is known as the C.J.
Coakley Company, Incorporated, which is a commercial
construction company based in Falls Church, Virginia.
I have four children. My oldest is 16, and I hope that one
day I will be able to pass on our family business down to our
third generation.
My father and mother are first-generation Irish Americans.
They started our business with 10 employees in 1962 out of the
basement of our home in Arlington, Virginia. My father was laid
off from his job as a plasterer at the time. I was 2 years old.
Running a family business is hard work. In fact, the
likelihood of a small business passing successfully to the
first generation is about 3 in 10, and passing again to the
next generation is only 1 in 10.
With hard work and luck, we have built a solid, successful
company, but through thick and thin, one overriding challenge
has never been conquered. Its existence threatens our
livelihood and the livelihood of our employees. It threatens
the tax base of our community, our growth, and our ongoing
charitable acts. The threat I am referring to is the death tax.
As many on this Committee know, the death tax taxes the
same assets twice. As an honest citizen, I have paid taxes my
whole life. Annually, I pay income taxes, employment taxes,
property taxes, local taxes, Social Security taxes, Medicare
taxes, and excise taxes, just to name a few. And after I pay
all my taxes, I make a choice to invest these aftertax dollars
into the business.
Sadly, the death tax will take away in after-tax dollars
much of what we have built over the last 39 years. The death
tax endangers both my family's business and the jobs of our
valuable employees because much of our assets are tied up in
the equipment, inventory, and other assets that are necessary
to run our company. If we do not have cash assets available to
pay the death tax, we will be forced to sell critical parts of
the business or the entire business outright in order to cover
these tax liabilities.
My experience with the death tax is extensive. I would
estimate in my 17 years with our family business I have spent
between 6,000 and 8,000 hours studying the estate tax law and
what it is going to do to our company.
My father passed away 2\1/2\ years ago. Today, my mother is
72. While I pray that she will live a long life and outlive all
of us, we know that a day will come when the business must move
from its first generation to the next. When that day comes, the
last thing I want on my mind is a critical business decision.
But today, I am left with little choice. The Federal government
demands that I visit the undertaker and the IRS within months
of each other.
I have been keeping tabs on this debate over the past two
decades, and I often read that only 2 percent of American
taxpayers actually pay this tax. However, I have also read that
77 percent of Americans feel this is an unfair tax.
Mr. Chairman and members of the Committee, I can assure you
that way more than 2 percent of Americans do pay this tax, not
necessarily to the Federal government but to lawyers,
accountants, and life insurance agents. My family alone pays
thousands of dollars a year in life insurance premiums to cover
the liability in the event of my mother's death. Plus, I would
estimate that annual legal and accounting fees cost us
thousands more.
It is important to realize that this is money that is not
available to be spent on growing our business, on providing
better employee benefits, like better health care and better
401(k) benefits.
I know that opponents of repeal say that small business
owners don't need to worry about the death tax because there is
a special provision in the law to protect small businesses.
Unfortunately, the small business exemption that we have on the
books is useless. Very, very few people qualify. That is why
NFIB and I support the full repeal, not a patchwork of reforms.
Additionally, I have heard opponents say that we should all
just use insurance products to mitigate the effects of the
death tax. Well, unfortunately, my father was uninsurable for
many years of his life, as are countless other Americans. We
have purchased a policy on my mother, but as you have heard,
these products are extremely expensive.
In addition, the value of a family business is a moving
target, dramatically impacted by our economy. This makes the
liquidity issue that insurance addresses only a partial
solution.
Personally, I would rather spend my time focusing our
family company on growth, on employee benefits, and on
community relationships. Since 1975, C.J. Coakley Co., Inc.,
has sponsored many charitable causes. One such cause was the
philanthropic entity called Seton Centers, which my mother
founded in 1975. This organization focuses on diagnosing and
assisting children with learning disorders. We also are
involved in supporting activities and scholarship at many
universities, including Marymount University, Clemson
University, Maryland University, and many others.
We do all of this and more because we truly are about these
causes, not because a lawyer told us we could avoid taxes in
doing so. For example, my brother suffered from dyslexia when
he was growing up, and this was why our family was compelled to
create the Seton Centers, which helps students in elementary
and high schools throughout Northern Virginia.
Mr. Chairman, I hope you and the Committee will ignore the
scare tactics surrounding the issue of charitable giving. Most
Americans are generous to their fellow neighbors. We Americans
give because we care, and, of course, we will continue to do
so.
Finally, we all know that there are people out there on the
other side of this issue who say we should keep the death tax.
I could not disagree more. The death tax kills jobs, small
business growth, and the incentive to work hard and take risk.
I implore you to stop holding family businesses hostage to
the death tax. It is quite simply unfair to tax someone a
second time at their death.
In closing, Mr. Chairman, I would like to strongly
encourage this Committee and Congress to bury the death tax
once and for all. I understand that a majority of Members in
the House of Representatives has expressed support for
completely eliminating the death tax by cosponsoring H.R. 8,
the Death Tax Elimination Act. I hope this support will
translate into action in the very near future on legislation
that repeals this unfair tax on small business and on the
economy as a whole.
I thank the Chairman of this Committee for holding this
important hearing, and I thank all of you for the opportunity
to present my views before you today.
[The prepared statement of Ms. David follows:]
Statement of Maria Coakley David, Chief Financial Officer, C.J. Coakley
Company, Inc., Falls Church, Virginia, on behalf of the National
Federation of Independent Business
Good morning. On behalf of the 600,000 members of the National
Federation of Independent Business (NFIB), I appreciate the opportunity
to present the views of small business owners on the subject of death
taxes.
My name is Maria Coakley David. My family owns and operates C.J.
Coakley Company, Inc., which is a construction company based in Falls
Church, Virginia. Our business focuses on interior construction. We are
currently working on rehabilitation at the Pentagon and the Interstate
Commerce Commission. We also work on private buildings, commercial
office space, residential buildings and had a contract for work at
Redskins' Park. Additionally, our company completed work right here--
modernizing the elevators in the Longworth House Office Building.
I have 4 children. My oldest is 16, and I hope that one day I will
be able to pass our family business down to the third generation of
Coakley-David's--my children and my nieces and nephews. My father and
mother, who are first generation Irish-Americans, started our business
with 10 employees in 1962 out of the basement of our home in Arlington,
Virginia. I was 2 years old at the time and throughout my life, I have
been involved in the business. As an adolescent, my father and mother
regularly asked me my opinion on business matters and attempted to
involve me in the workings of the business. After majoring in
accounting and having a brief career as a CPA, I returned to the
Washington, D.C. area to work in our family business. Since then, it
has been my focus almost every day of the year.
Running a family business is hard work. In fact, the likelihood of
a small business passing from the first generation to the next is about
3 in 10, and to pass this same business to the third generation is
about 1 in 10. We struggle at times to keep the doors open during
economic down times. With hard work and luck, we have built a solid,
successful company. But through thick and thin, one overriding
challenge has never been conquered--its existence threatens our
livelihood and the livelihoods of our employees. It threatens the tax
base of our community, our growth and our ongoing charitable acts. The
threat I am referring to is the death tax.
As many on this Committee know, the death tax taxes the same assets
twice. As an honest citizen, I have paid taxes my whole life. Annually,
I pay income taxes, employment taxes, property taxes, local taxes,
social security taxes, and excise taxes, just to name a few. After I
pay all of these taxes, I make a choice to invest these after tax
dollars back into the business. Sadly, the death tax will take away in
after tax dollars much of what we have built over the last 39 years.
The death tax endangers both my family's business and the jobs of our
employees because much of our assets are tied up in equipment,
inventory and other assets necessary to run our company. If we do not
have cash assets available to pay the death tax, we will be forced to
sell critical parts of the business or the business outright in order
to cover the tax liabilities. This tax literally puts almost four
decades of work, planning, blood, sweat and tears at risk.
My experience with the death tax is extensive. My father passed
away two and a half years ago. Today my mother is 72 years of age.
While I pray that she outlives us all, we know the day will come when
the business must move from its first generation to the next. When that
day comes, the last thing that I want on my mind is a critical business
decision. But, today I have no choice. The federal government demands
that I visit the undertaker and the IRS within days of each other. I
think it is terrible that our government places such burdens on
families at a time when it should lend a helping hand.
Many in this room may remember a day in 1985 when a plane crashed
onto the 14th Street Bridge in Washington, D.C. That is the day my
parents decided to do something about the death tax burden. You see, my
parents were on the plane that took off directly ahead of this flight.
Their proximity to that event convinced my parents that it was time to
be proactive about passing the business to the second generation.
Until that point, my parents did not think about death and taxes
being linked. Like many small business owners, they did not think about
anything other than running and building a successful business. Our
business today provides good jobs to over 300 employees. We are a
typical small business when it comes to job creation. In fact according
to the U.S. Small Business Office of Advocacy report, since 1970, small
businesses have created two-thirds of net new jobs in America. If it
were not for the death tax, this job creation would be even higher.
I have been keeping tabs on this debate over the past couple of
years, and I often read that only 2% of American taxpayers actually pay
this tax. Mr. Chairman and members of this Committee, I can assure you
that more than 2% of Americans do pay this tax--not to the federal
government, but to lawyers, accountants and life insurance agents. We
get involved in estate planning, because if we don't, all that we have
worked for will be eliminated. To ignore the death tax statute is
suicide for our family business. My family alone pays $100,000 per year
on a life insurance policy to cover the tax liability in the event of
my mother's death. Plus, I would estimate annual legal and accounting
fees at $20,000.
It's important to realize that this $120,000 is money that is not
spent on growing our business or on providing better employee benefits,
like health care, dental plans or 401(K) plans. These are products that
we want to offer to our employees in order to maintain a quality work
force.
I know that opponents of repeal say that small business owners
don't need to worry about the death tax because there is a special
provision that protects small businesses already in the law.
Unfortunately, the small business exemption that we have on the books
is useless. That's why NFIB supports full repeal, not a patchwork of
reforms. We have been down the path of reform before, as recently as
1997, and at the end of the day, it only led us to a more complex
statute filled with provisions that just do not work, and require more
legal and accounting fees.
Additionally, I have heard opponents say that we should all just
use insurance products to mitigate the effects of the death tax. Well,
my father was uninsurable when he was alive, as are countless other
Americans. We have purchased a policy on my mother, but as you have
heard, these products are extremely expensive. Unfortunately, we have a
tax law that forces small businesses to slow their growth and divert
needed cash flow to inefficient endeavors. Particularly in today's
economy, one must wonder why this is so.
Personally, I would rather spend my time focusing our family
company on growth, on employee benefits and on community relationships.
Since 1975, C.J. Coakley, Inc. has sponsored a philanthropic entity
called Seton Centers. It was founded by my mother. This organization
focuses on diagnosing and assisting children with learning disorders.
We work directly with schools--both at the elementary and high school
level--in the Northern Virginia area. In 1997, we also started a
foundation that fosters educational endeavors. We are also involved in
supporting activities and scholarship at Marymount University.
We do all of this because we truly care about these individual
causes, not because some lawyer told us we could avoid taxes by jumping
through a few hoops. For example, my brother suffered from dyslexia
when he was growing up, which is why our family felt compelled to
create Seton Centers. I support Marymount University because I went to
school there. I also support Marymount because it is a local school
with a strong ethics and philosophy program. Mr. Chairman, I hope you
and the Committee will ignore the scare tactics surrounding the issue
of charitable giving. Most Americans are generous to their fellow
neighbors. We give because we care.
Finally, we all know that there are people out there on the other
side of this issue who say we should keep the death tax. I could not
disagree more. The death tax kills jobs and small business growth in
America. It also kills incentive to work hard and take risk. Why work
so hard to give it all away? If guilt-ridden billionaires are worried
about funding the government, then I would encourage them to fire their
lawyers and accountants and dedicate their estates to the federal
government right now, today. I implore you to stop them from holding
the rest of us hostage to the death tax.
In closing, Mr. Chairman, I would like to strongly encourage this
Committee and the Congress to bury the death tax once and for all. I
understand that a majority of members in the House of Representatives
have expressed support for completely eliminating the death tax by
cosponsoring H.R. 8, the Death Tax Elimination Act. I hope this support
will translate into action in the very near future on legislation that
repeals this unfair tax on small businesses and on all Americans.
I thank the Chairman of this Committee for holding this important
hearing, and thank all of you for the opportunity to present my
experience before you today.
Chairman Thomas. Thank you very much.
Unless anyone does not believe what the American Farm
Bureau does to have political acumen, it is my pleasure to
introduce the national president of the American Farm Bureau
from Columbus, Texas, Mr. Stallman.
STATEMENT OF BOB STALLMAN, PRESIDENT, AMERICAN FARM BUREAU
FEDERATION
Mr. Stallman. Thank you, Mr. Chairman, distinguished
Committee members. My name is Bob Stallman. I am a rice and
cattle producer from Columbus, Texas, and do serve as the
elected president of the American Farm Bureau Federation. Thank
you for the opportunity to explain why the Farm Bureau believes
that the death tax should be repealed.
Eliminating death taxes is the top tax priority of the
American Farm Bureau Federation. Families own 99 percent of our
Nation's farms and ranches, and unless death taxes are
repealed, many of these family farms are at risk.
The impact of death taxes with rates as high as 55 percent
is so severe that its imposition can destroy farm businesses.
When this happens, open space can be lost. Surviving family
Members can be displaced. Employees can lose their jobs, and
rural communities can lose their economic base.
Excessive tax rates are not the only reason that death
taxes are so damaging to farm and ranch operations. Farm
operations are capital-intensive businesses whose assets are
not easily converted to cash. In order to generate the funds
that are needed to pay hefty death taxes, heirs often have to
sell parts of the businesses. When parts are sold, the economic
viability of the business is destroyed.
Death taxes can also affect the longevity of farm and ranch
businesses while the owner is still alive. Children must decide
whether or not they intend to continue the family business.
When faced with the realization that their family farm may not
survive death taxes, many choose to voluntarily leave farm
operations. Without children interested in the business, it is
common for farmers to sell. Where there are alternative uses
for farmland, land is often developed for those other uses and
open space is lost.
An increase in the estate tax exemption is not the answer.
Only repeal can erase the burden and uncertainties of estate
tax planning. Because it is often difficult to predict the
future net worth of a farm or ranch operation, many farmers and
ranchers feel compelled to spend money for estate planning and/
or life insurance. This expense is a drain on ongoing farm
operations, and for some, particularly given the economic
conditions we face in agriculture today, the cost prohibits
estate tax planning. Even with the best of plans, no attorney
or accountant can guarantee that the plans farmers pay for will
actually save their farms.
Death tax relief that targets farmers and small businesses
isn't the answer either. Congress tried to provide relief to
just family businesses in 1997 when it created the qualified
family owned business exemption. Even though well intended, the
provision is so complicated that it is not widely used.
Attempts to target death tax relief make the law even more
complex and necessitate even more extensive and expensive death
tax planning. Even with the best advice, estates may fail to
meet eligibility criteria at death, making a bad situation even
worse.
Those who support death taxes often say that the tax should
not be repealed because only 1 to 2 percent of estates are
subject to the tax. Farm and ranch estates pay taxes at a much
higher rate than the population at large. In a 1997 report,
USDA estimated that over 14 percent of our most productive
farms would owe Federal death taxes. Farm Bureau considers the
loss of the most productive of our Nation's farms and ranches
unacceptable.
Farm Bureau supports H.R. 8, the Death Tax Elimination Act
of 2001, introduced by Representatives Dunn and Tanner. The
bill phases out death taxes by lowering rates 5 percent a year
until death taxes are gone. The legislation offers the added
benefit of doubling the exemption as a way of providing
immediate relief while we wait for the phase-out to be
completed.
Farm Bureau also supports H.R. 8 because it continues the
stepped-up basis. This is important to farmers and ranchers
because of the relationship between basis and the capital gains
taxes that farmers pay. Complete elimination of stepped-up
basis would impose a new, potentially huge capital gains tax on
farmers and ranchers. This would occur because farmers and
ranchers hold their land for as long as they are in business.
Statistics show that 79 percent of a typical farmer's or
rancher's assets is land that has been held for 30 years while
increasing in value 6 times.
Capital gains taxes increase the price of land, making it
more difficult for children to take over the farms while their
parents are still alive. The tax makes it harder for farmers to
acquire land to expand so that additional family Members can
enter the business. In addition, capital gains taxes also make
it more difficult for family Members who want to keep farming
to buy out their non-farming relatives who may have inherited
part of the farm.
Last year, Congress passed a death tax elimination bill
with Farm Bureau's support that provided a limited step-up in
basis of $5.6 million per couple. If a change in basis is
unavoidable, improvements in last year's bill are needed to
make sure that businesses with assets that are held for long
periods of time are not subject to excessive taxation. Farm
Bureau recommends increasing the threshold and taking steps to
make sure that taxes are not triggered on highly leveraged
property at death.
Farmers and ranchers and other small businessmen are not
alone in their support for death tax repeal. Last year,
Congress overwhelmingly passed the Death Tax Elimination Act of
2000. This year, over half of the House has cosponsored H.R. 8.
Public opinion polls consistently show that seven of ten
Americans think that death taxes should be repealed. Now is the
time for Congress to eliminate death taxes.
Thank you.
[The prepared statement of Mr. Stallman follows:]
Statement of Bob Stallman, President, American Farm Bureau Federation
Chairman Thomas, Ranking Member Rangel and distinguished committee
members. My name is Bob Stallman. I am a rice and cattle farmer from
Columbus, Texas, and serve as the elected President of the American
Farm Bureau Federation. Thank you for this opportunity to explain why
Farm Bureau believes that death taxes should be repealed.
Eliminating death taxes is the top tax priority of the American
Farm Bureau Federation. Families own 99 percent of our nation's farms
and ranches and unless death taxes are repealed, many of these family
farms are at risk. The impact of death taxes, with rates as high as 55
percent, is so severe that its imposition can destroy farm businesses.
When this happens open space can be lost, surviving family members can
be displaced, employees can lose their jobs and rural communities can
lose their economic base.
Excessive tax rates are not the only reason that death taxes are so
damaging to farm and ranch operations. Farm operations are capital
intensive businesses whose assets are not easily converted into cash.
In order to generate the funds that are needed to pay hefty death
taxes, heirs often have to sell parts of the businesses. When parts are
sold, the economic viability of the business is destroyed.
Death taxes can also affect the longevity of farm and ranch
businesses while the owner is still alive. Children must decide whether
or not they intend to continue the family business. When faced with the
realization that their family farm may not survive death taxes, many
choose to voluntarily leave farm operations. Without children
interested in the business, it is common for farmers to sell. Where
there are alternative uses for farmland, land is often developed for
other uses and open space is lost.
An increase in the estate tax exemption is not the answer. Only
repeal can erase the burden and uncertainties of estate tax planning.
Because it is often difficult to predict the future net worth of a farm
or ranch operation, many farmers and ranchers feel compelled to spend
money for estate planning and/or life insurance. This expense is a
drain on ongoing farm operations and for some the cost prohibits estate
tax planning. Even with the best of plans, no attorney or accountant
can guarantee that the plans farmers pay for will save their farms.
Death tax relief that targets farmers and small businesses isn't
the answer either. Congress tried to provide relief to just family
businesses in 1997 when it created the Qualified Family Owned Business
Exemption. Even though well intended, the provision is so complicated
that it is not widely used. Attempts to target death tax relief make
the law even more complex and necessitate even more extensive and
expensive death tax planning. Even with the best advice, estates may
fail to meet eligibility criteria at death, making a bad situation even
worse.
Those who support death taxes often say that the tax should not be
repealed because only one to two percent of estates are subject to the
tax. Farm and ranch estates pay taxes at a rate much higher rate than
the population at large. In a 1997 report, USDA estimated that over 14
percent of our most productive farms would owe federal death taxes.
Farm Bureau considers the loss of the most productive of our nation's
farms and ranches unacceptable.
Farm Bureau supports H.R. 8, the Death Tax Elimination Act of 2001,
introduced by Reps. Dunn and Tanner. The bill phases out death taxes by
lowering rates five percent a year until death taxes are gone. The
legislation offers the added benefit of doubling the exemption as a way
of providing immediate relief while we wait for the phase-out to be
completed.
Farm Bureau also supports H.R. 8 because it continues the stepped-
up basis. This is important to farmers and ranchers because of its
relationship between basis and the capital gains taxes that farmers
pay. Complete elimination of stepped-up basis would impose a new,
potentially huge capital gains tax on farmers and ranchers. This would
occur because farmers and ranchers hold their land for as long as they
are in business. Statistics show that 79 percent of a typical farmer or
rancher's assets is land that has been held for 30 years while
increasing in value six-fold.
Capital gains taxes increase the price of land making it more
difficult for children to take over farms while their parents are still
alive. The tax makes it harder for farmers to acquire land to expand so
that additional family members can enter the business. In addition,
capital gains taxes also make it more difficult for family members who
want to keep farming to buy out their non-farming relatives who may
have inherited part of the farm.
Last year Congress passed a death tax elimination bill with Farm
Bureau's support that provided a limited step-up in basis of $5.6
million per couple. If a change in basis is unavoidable, improvements
in last year's bill are needed to make sure that businesses with assets
that are held for long periods of time are not subject to excessive
taxation. Farm Bureau recommends increasing the threshold and taking
steps to make sure that taxes are not triggered on highly leveraged
property at death.
Farmers and ranchers and other small businessmen are not alone in
their support for death tax repeal. Last year Congress overwhelmingly
passed the Death Tax Elimination Act of 2000. This year over half of
the House has cosponsored H.R. 8, the Death Tax Elimination Act of
2001. Public opinion polls consistently show that seven of ten
Americans think that death taxes should be repealed. Now is the time
for Congress to eliminate death taxes.
Chairman Thomas. Thank you very much, Mr. Stallman.
Mr. Blethen.
STATEMENT OF FRANK A. BLETHEN, PUBLISHER, SEATTLE TIMES,
SEATTLE, WASHINGTON
Mr. Blethen. Thank you, Chairman Thomas.
I am the fourth-generation publisher of a 104-year-old
independent, family operated newspaper, the Seattle Times. We
are the largest newspaper in the Pacific Northwest. We employ
over 2,500 people. We are known as a model workplace. We have
been named 9 years in a row to Working Mother magazine's top
100 list. We are one of the few employers in the Pacific
Northwest with an on-site day-care center, which we started 13
years ago.
We are also known for our journalism. We won three Pulitzer
Prizes and were a finalist seven other times in the past
decade.
We are committed to diversity and racial justice. We have
one of the Nation's five most diverse newsrooms. In 1999, the
Washington, D.C.-based Leadership Conference on Civil Rights
awarded me the Chairperson's Award for Special Merit for my
family's fight against I-200, the anti-affirmative action
initiative in Washington State.
We are a values-based organization that puts our public
service stewardship ahead of profits. The average public
newspaper industry profit margin is more than twice what we
will accept. The average industry newsroom has one employee for
every 10,000 circulation. We have two. This is because, like
most other independent and family businesses, we choose to
invest in our company, our employees, and our community.
There are 5 family shareholders in our fourth generation
and 11 in the fifth. Nine of us are actively involved. One is
terminally ill, and the others are still in school.
Having worked with three generations on estate planning for
30 years, I have seen firsthand why the death tax kills most
family businesses after the first generation and the rest after
the second generation. I have experienced the disincentive to
build the business and to create jobs.
When I started my career, the newspaper industry was
dominated by locally owned newspapers that served our democracy
with a wide variety of voices. Today, out of about 1,500 daily
newspapers, there are fewer than 300 independents left.
During my career, I have watched the death tax kill this
wonderful community service and diversity of voices by driving
ownership into a handful of absentee conglomerates who worry
about profit margins rather than local communities and the
First Amendment.
There are other reasons independent businesses don't
survive, but the root problem is clearly the death tax, a tax
which takes the incentive out of investing in the business or
developing competent successors.
Family newspaper owners have few choices when moving beyond
the second generation and planning for the death tax. None of
them are good for their employees or communities and all of
them hurt job creation and investment.
My good friends, publisher Alexis Reeves and Alejandro
Aguirre, will tell you the death tax is just as devastating to
small- and medium-sized businesses as it is to larger
companies. Alexis is a third-generation publisher of the twice
weekly inner-city Afro-American newspaper, The Atlanta Daily
World. She employs about 20 people. Alejandro is the second
generation in the largest Spanish language newspaper in Miami.
The existence of both newspapers is threatened if the death tax
isn't repealed.
I urge you to ask: Why aren't there more multi-generation,
independent family businesses in all industries?
In an era when we lament the corporatization and
impersonalization of America, we have an ineffective tax that
favors absentee public corporations over independent local
ownership. Yet these disadvantaged businesses are where the
bulk of living-wage job creation takes place in America.
Unfortunately, much of this job creation is currently
offset by the rampant public company downsizing and layoffs
hammering our national economy and our local communities today.
By repealing the death tax, you have an opportunity to
repeal the one tax that would turn our tax system around to one
that seeks to preserve, perpetuate, and protect independent
businesses and all the jobs and investments that go with them.
Our economy is comprised of two parts: the publicly traded
sector and the private, non-publicly traded sector. Federal
taxes should be neutral in regards to these sectors.
Unfortunately, the Federal inheritance tax is not neutral. It
severely penalizes the most important sector for job creation:
the private, non-publicly traded sector. And it is a tool for
the publicly traded sector to competitively overwhelm and often
eliminate private sector competition.
Repealing the death tax would be excellent public policy,
strongly favored by a strong majority of voters. Repeal will
finally level the playing field between public and private
companies, and repeal will stimulate the economy by encouraging
all sizes of multi-generation family businesses and
entrepreneurs to grow their business through investment and job
creation.
Thank you.
[The prepared statement of Mr. Blethen follows:]
Statement of Frank A. Blethen, Publisher, Seattle Times, Seattle,
Washington
My name is Frank Blethen.
I am the fourth generation publisher of a 104-year old independent,
family-operated newspaper, The Seattle Times. At 500,000 circulation,
we are the largest Sunday newspaper in the Pacific Northwest, and we
are the largest daily newspaper in Washington state.
We are known in the newspaper industry as a model workplace, having
been named nine years in a row to Working Mother magazine's national
top 100 list for best places for mothers to work. We are one of the few
employers in the Northwest operating an on-site day care center, which
we started 13 years ago, in 1987.
We are also known for our journalism. We won three Pulitzer Prizes
and were a finalist seven times during the past decade.
We are committed to diversity and racial justice. We have one of
the nation's five most diverse newsrooms. We are considered a civil
rights and diversity leader. In 1999 the Washington, D.C.-based
Leadership Conference on Civil Rights awarded me the Chairperson's
Award for Special Merit for my family's fight against I-200, the anti-
affirmative action initiative in Washington state.
We are considered to be progressive in the areas of race, equality,
environment, domestic violence, education, job creation and ethical
leadership.
We are a values-based organization that puts our public-service
stewardship ahead of profits. The average newspaper industry profit
margin is more than twice what we accept. The average industry newsroom
has one employee for every 10,000 circulation, we have two. This is
because we, like most other independent and family businesses, choose
to invest in our company and our community for the long term. This is
what distinguishes the independent, private, non-publicly traded sector
of our economy from the publicly traded sector.
There are five family shareholders in our fourth generation and
eleven in the fifth. Nine of us are actively involved. One is
terminally ill and the others are still in school.
Having worked with three generations of the Blethen family on
estate planning for thirty years, I have seen first-hand why the Death
Tax kills most family businesses after the first generation and the
rest after the second generation. I have seen the disincentive to
invest in and to build the business and to create jobs.
When I started my career the newspaper industry was dominated by
locally-owned, independent newspapers that served our democracy with a
wide variety of voices and who served their local communities with
strong connections and investments.
Today, out of about 1,500 daily newspapers there are fewer than 300
independents left.
During my career, I have watched the death tax kill this wonderful
community service and diversity of voices by driving ownership into a
handful of large, absentee, public-company conglomerates. Many now
controlled by faceless, institutional investors who worry about stock
price and profit margins, rather than local communities, journalism,
public service and the First Amendment.
There are other reasons independent businesses don't survive. But
the root problem is clearly the death tax. A tax which takes the
incentive out of investing in the business or developing competent
successors.
Family newspaper owners have few choices when moving beyond the
second generation and planning for the death tax. None of them are good
for their employees or communities and all of them hurt job creation
and investment. They are:
liquidate
sell out
go public
do costly, extensive estate planning, which drags capital
and precious time away from the business and often does not
solve the problem.
Many weekly and daily newspapers are too small to sell or go
public, even though their very existence is threatened by the death
tax. The ones that are large enough to go public to preserve family
control are living on borrowed time. Witness the recent acquisition of
the Los Angeles Times, Arizona Republic and Indianapolis newspapers by
large, faceless, institutionally-owned public chains.
My good friends publishers Alexis Reeves and Alejandro Aguirre will
tell you the death tax is just as devastating to small- or medium-sized
businesses as it is to larger companies. Alexis is the third generation
publisher of the twice-weekly inner-city African-American newspaper,
The Atlanta Daily World. She employs about 20 people. Alajandro is the
second generation in the largest Spanish language newspaper in Miami.
Both businesses are faced with liquidation or sale if the death tax
isn't repealed.
A holding company technique, such as what my family has adopted,
will only work as long as you can get all shareholders to agree to
forgo wealth and liquidity for modest dividends and possible employment
participation. This happens through heavy restriction on selling stock
outside the family, so as to limit the individual's estate tax bill and
facilitate gifting. But, it necessitates reckless gifting, such as I
was forced to do in 1976 when I gifted 50% of my stock to my then two
and four year-old sons. That gifting could have put our company at
unnecessary risk. How could I know, when my sons were two and four,
what kind of people and stewards they would turn out to be? The death
tax forces family business owners into risky and sometimes fatal
decision making.
Even in a holding company model like this, there is an onerous
financial burden placed on individual shareholders. In our case, each
family owner is forced to spend personally between $30,000-$50,000 per
year on life insurance and estate planning. This is money that would
otherwise be invested back in the business or donated to the community.
I urge you to ask, why aren't there more multi-generational,
independent and family businesses? Quite simply, the problem is the
death tax.
In an era when we lament the ``corporatization'' and
``impersonalization'' of America, we have an ineffective tax that
favors absentee, public corporations over independent, local ownership
in a variety of industries--from newspapers, to funeral homes, to drug
stores, to jewelry stores, to car dealerships. And these are the
businesses that invest in our local communities, and it is where the
bulk of job creation takes place in America.
Unfortunately, much of this job creation is offset by the rampant,
public company downsizing and layoffs hammering our national economy
and local communities today.
By repealing the death tax, you have an opportunity, for the first
time in all of our careers, to repeal one tax that would turn around
our tax system to one that seeks to preserve, perpetuate and protect
independent businesses and all the jobs, investment and community
benefits that go with them.
Our economy is comprised of two parts. The publicly traded sector
and the private, non-publicly traded sector. Federal taxes should be
neutral in regards to these two sectors. We need them both to be
healthy, strong and balanced. Unfortunately, the Federal Inheritance
Tax isn't neutral. It severely penalizes the most important sector for
job creation and investment--the private, non-publicly traded sector.
And, it is a tool for the publicly traded sector to competitively
overwhelm and often eliminate private sector competition.
Repealing the death tax is a responsible measure and a critical
component of tax reform. It will level the playing field between
private and public companies and will certainly stimulate the economy
by encouraging entrepreneurs to grow their businesses, grow jobs and
increase their investment in local communities.
Thank you for considering these critical concerns.
Chairman Thomas. Thank you, Mr. Blethen.
Dr. Thorning.
STATEMENT OF ALLEN SINAI, CHIEF GLOBAL ECONOMIST, CENTER FOR
POLICY RESEARCH, AMERICAN COUNCIL FOR CAPITAL FORMATION, AND
PRESIDENT, DECISION ECONOMICS, INC., AS PRESENTED BY MARGO
THORNING, AMERICAN COUNCIL FOR CAPITAL FORMATION
Ms. Thorning. Thank you, Mr. Chairman. My name is Margo
Thorning. I am the chief economist and senior vice president
for the American Council for Capital Formation. For over 25
years, the ACCF has focused its attention on tax policies to
encourage saving, investment, and economic growth.
Mr. Chairman, I appreciate the chance to appear before this
Committee and to share with you the results of a new study
which I would like to ask be included in the record,
``Macroeconomic and Revenue Effects of the Elimination of the
Estate Tax.''
Chairman Thomas. Without objection, and any written
statements on the part of any of the witnesses will be made a
part of the record.
Ms. Thorning. This new study is based on an analysis by Dr.
Allen Sinai, an internationally respected macroeconomic
modeler, frequent consultant to the Federal Reserve Board, and
other Government agencies. The Sinai-Boston Model, which the
analysis uses, includes considerable detail on the demand, the
supply side, financial flows, capital flows, and other
macroeconomic variables.
Using a model like Dr Sinai's, it is possible to estimate
the impact of a change in tax policy on all sectors of the
economy. Since I have limited time, I just want to give you the
principal findings, and then I would be pleased to answer
questions if you have any.
Dr. Sinai modeled five different options for estate tax
repeal or reform, and the uniform conclusion is that under
repeal and reform options he looked at, gross domestic product
increases by a range of $90 billion to $150 billion over 8
years compared to the baseline forecast. Furthermore, job
growth increases in the range of 80,000 jobs to 165,000 jobs
per year compared to the baseline forecast. New business
incorporations rise in the range of 45,000 a year to as much as
190,000 per year. Finally, tax receipts, excluding estate tax
receipts, increase due to the stronger economy. We see higher
corporate tax receipts, higher income tax receipts, more
capital gains, more payroll taxes. Dr. Sinai estimates that we
get back 20 cents for every dollar we lose for estate tax
reductions.
One of the options he modeled, which was immediate repeal
and loss of step-up in basis, actually raises revenue, total
Federal tax revenues, compared to the baseline forecast.
So, in conclusion, his model allows us to glimpse the
direction of change that the major variables in the economy
would show if we repeal or substantially reform the death tax.
And I think his model rather well captures the stories that
have been told to us by Ms. David, Mr. Stallman, and Mr.
Blethen.
So, with that, let me stop and I would be pleased to answer
any questions.
[The prepared statement of Mr. Sinai follows:]
Statement of Allen Sinai, Chief Global Economist, Center for Policy
Research, American Council for Capital Formation, and President,
Decision Economics, Inc.
Special Report--March 2001
Macroeconomic and Revenue Effects of the Elimination of the Estate Tax
For nearly a quarter of a century, the ACCF Center for Policy
Research has sponsored pathbreaking research on tax policies to
encourage saving, investment, and economic growth. As the Bush
Administration and the U.S. Congress prepare to debate various tax
reduction proposals, the Center, in order to focus the discussion on
the macroeconomic impact of five different options for repealing or
reforming the federal estate tax, offers this Special Report, based on
macroeconomic estimates, prepared by Dr. Allen Sinai, chief global
economist and president, Decision Economics, Inc.
The key conclusions of Dr. Sinai's preliminary findings are that
when his model of the U.S. economy is used, estate tax repeal or reform
increases both real Gross Domestic Product (GDP) and U.S. employment,
compared to the baseline forecast. In addition, there are more new
business incorporations and greater potential output of goods and
services. Finally, federal tax receipts rise in response to the
stronger economy, feeding back approximately $0.20 per dollar of estate
tax reduction, to some extent helping to pay for the estate tax
reduction. In fact, one of the options, immediate repeal and
elimination of step-up in basis, could increase total federal net tax
revenues by $55 billion over the 2001-2008 period due primarily to the
repeal of step-up in basis. ACCF Chief Economist Dr. Margo Thorning was
invited to testify on the ACCF/Sinai study's findings before the House
Ways and Means Committee on March 21. Earlier, the study was released
at a March 15 Senate Finance Subcommittee on Taxation hearing on death
tax repeal and reform.
Introduction
The Sinai-Boston Econometric Model of the U.S. is a large-scale
quarterly econometric model that includes considerable detail on
aggregate demand, financial markets, sectoral flows of funds and
balance sheets, interactions of the financial system with the real
economy, and detailed trade and international financial flows. The
advantage of a general equilibrium macroeconomic model instead of a
partial equilibrium model for analyzing the impact of a change in the
tax code is that a general model measures how the economy will respond
after all aspects of the economy, financial system, inflation, and
potential output are allowed to adjust to the new tax rates.
Macroeconomic Impacts
Dr. Sinai estimates the impact of five different reform and repeal
options, including: (1) immediate repeal coupled with elimination of
the step-up in basis; (2) immediate repeal of the estate tax with step-
up in basis retained; (3) phaseout of the estate tax over eight years;
(4) reduction of the top estate tax rate from 55 percent to 20 percent
(the highest capital gains tax rate); and (5) reduction in the top
estate tax rate from 55 percent to 39.6 percent (the top current
individual income tax rate). Option 3 passed Congress last year as H.R.
8, the ``Death Tax Elimination Act of 2000.''
Preliminary results from early simulations, subject to further work
and analyses, suggest the following effects from immediate elimination
or reform of the estate tax, retroactive to January 1, 2001.
GDP increases a cumulative $90 billion to $150 billion over
the 2001-2008 period, or 0.1 percent to 0.2 percent compared
with the baseline for several years out of the eight years in
the preliminary runs (see Figure 1 and Table 1).
Job growth ranges from 80,000 to 165,000 per year and the
unemployment rate is slightly lower as a result (by 0.1
percent), with essentially no change in the inflation rate (see
Figure 2 and Table 1).
Both consumption and personal saving rise, as does national
saving, despite the loss in estate tax receipts to the federal
government.
The level of potential output is somewhat higher, by an
average $6 billion to $9 billion per year.
Tax receipts, excluding estate tax receipts, rise in
response to the stronger economy and financial system, feeding
back approximately $0.20 per dollar of estate tax reduction, to
some extent helping to pay for the estate tax reduction. One
option--immediate repeal combined with the elimination of step-
up in basis--increases total federal tax receipts by almost $55
billion over the 2001-2008 period compared to the baseline
forecast because of the tax saving from elimination of step-up
and the increase in capital gains realizations (see Figure 3
and Table 1).
Dr. Sinai estimates that about $45 billion of the $55 billion
revenue increase is due to the elimination of step-up, rather than to
faster economic growth.
Phasing in estate tax relief over eight or 10 years obviously
reduces the macroeconomic impacts as does eliminating step-up in basis.
Conclusions
While work remains to be done in simulating and estimating the
effects of removing the estate tax, this early work provides a glimpse
of the directions of movement for key parameters of the macroeconomy--
economic growth, jobs, entrepreneurship, and potential output--in
response to estate tax elimination. Dr. Sinai's findings about the
positive economic impact of estate tax repeal buttress the results of a
recently released ACCF Center for Policy Research analysis by Syracuse
University Professor Douglas Holtz-Eakin, ``Estate Taxes, Labor Supply,
and Economic Efficiency.''
Allen Sinai is President and Chief Global Economist of Decision
Economics. PDE is a global economic and financial market information
and advisory firm serving financial institutions, corporations,
governments, and individual investors, with offices in New York,
Boston, London, and Tokyo. Dr. Sinai is a pioneer in econometric model
building and the information systems approach to economic forecasting,
analysis, and monitoring. His previous experience includes senior-level
positions at Lehman Brothers, Inc., and Data Resources, Inc. (where he
was a co-developer of the DRI model of the U.S. economy). He also has
participated in finance and economic programs at several prominent
universities, is a fellow and past president of Eastern Economic
Association, and author of numerous articles and publications. His
advice is sought by both political parties, Congressional committees,
and he has served as a consultant to the Federal Reserve Board. Dr.
Sinai holds a B.S. degree in economics from the University of Michigan
and Ph.D. in economics from Northwestern University.
__________
Table 1: Impact of Estate Tax Repeal/Reform on U.S. Economic Growth, 2001-2008
Changes from baseline, cumulative except as otherwise noted
----------------------------------------------------------------------------------------------------------------
Immediate Immediate Lower Top
Repeal, Repeal, 8-Year Lower Top Rate From
Loss of Step-up Phaseout Rate From 55% to
Step-up Retained 55% to 20% 39.6%
----------------------------------------------------------------------------------------------------------------
Real GDP (billions of 1996 dollars) $131.6 $149.4 $103.2 $124.3 $88.2
Employment (average difference in levels per 164,761 132,443 94,311 113,647 80,521
year)
New Business Incorporations (average difference 45,736 261,181 130,859 188,929 145,427
in levels per year)
Total Federal Tax Receipts (fiscal years) $54.3 -$211.1 -$110.4 -$108.8 -$37.0
----------------------------------------------------------------------------------------------------------------
Note: Assumes the saving in taxes paid is treated as an increase in disposable income as opposed to reinvesting
in assets or paying down debt. Under different assumptions about how the tax savings is taken, the
quantitative estimates might change but the direction of the results would not.
Source: ``Macroeconomic Effects of the Elimination of the Estate Tax,'' by Allen Sinai, chief global economist
and president, Decision Economics, Inc., preliminary report prepared for the American Council for Capital
Formation Center for Policy Research, Washington, D.C., March 2001.
[GRAPHIC] [TIFF OMITTED] T3537A.008
[GRAPHIC] [TIFF OMITTED] T3537A.009
[GRAPHIC] [TIFF OMITTED] T3537A.010
Chairman Thomas. Thank you very much.
Ms. Detzel.
STATEMENT OF LAUREN Y. DETZEL, ATTORNEY, DEAN MEAD EGERTON
BLOODWORTH CAPAUANO & BOZARTH, P.A., ORLANDO, FLORIDA
Ms. Detzel. Thank you. My name is Lauren Detzel. I am an
attorney from Orlando, Florida, and I have specialized in
estate and tax planning for almost 25 years, and I am a former
Chair of the Tax Section of the Florida Bar. I represent, among
others, business owners, ranchers, citrus growers, and real
estate developers, but I am here today representing the public
sector for the sole purpose of bringing attention to some
possible consequences of pending legislation dealing with the
estate tax that may be overlooked or overshadowed by other
testimony.
First, repeal may cost much more than $236 billion. While
the White House administration claims that the proposed phase-
out of the estate tax would cost the Federal Government $236
billion over the next 10 years, it may cost much more in lost
revenue. How so?
Well, first, repeal of the gift tax will compromise the
income tax because it will permit taxpayers to shift income to
lower tax brackets. The present Federal gift tax system was
adopted not just to supplement the estate tax, but also to
preserve the integrity of the Federal income tax system. If the
gift tax is repealed, the income tax will be compromised
because it will permit taxpayers to give income-producing
assets to others in lower income tax brackets at no gift tax
cost and to reacquire the income again without tax. This will
shift a heavier burden of taxes to those who work because this
shifting of this tax can only be done with investment income,
not earned income.
Second, continued step-up in basis for inherited assets
will erode the income tax even further by allowing individuals
to show low-basis assets to others who will die soon. Under
current law, the income tax basis of an asset is changed to its
fair market value when the owner dies. This is what has been
referred to today here as a step-up in basis. Without a gift or
estate tax, property owners will transfer their appreciated
assets to others who will die soon and arrange fairly easily to
reinherit the property in order to secure the step-up in basis.
Neither the gifts to the others nor the reinheritance will be
subject to gift or estate tax.
Income taxation of life insurance proceeds will have to be
changed or carryover basis will be a hollow victory. Under
current law, proceeds paid by reason of the death of an insured
are not included in gross income. Unless this provision is
repealed, individuals can move a significant portion of their
wealth to life insurance policies to avoid income tax if a
carryover basis system is enacted. Again, this favors those
with investment type assets because this mechanism of moving
assets to inside an insurance product umbrella would not be
available to those owning farms, small businesses, real estate
development, et cetera.
Carryover basis will represent a new complex tax system,
which Congress has previously rejected. In 1976, Congress
adopted a carryover basis system for inherited wealth. Four
years later, and after much study and analysis, it
retroactively repealed that system, in large measure because it
was regarded as too complicated and because it required too
much recordkeeping by taxpayers. Nothing has changed, and the
same will be true today.
Widows and many others will pay more tax with a carryover
basis system and no estate tax. Today, a widow may inherit
assets, pay no estate tax, due to the unlimited marital
deduction, and secure a complete step-up in basis and assets so
that no income tax is paid either. If carryover basis is
enacted, along with the repeal of the estate tax, that same
widow will now pay more tax. She will pay the income tax on
assets sold during her lifetime.
Widows will be adversely affected by repeal of the estate
tax in other ways. In addition to the added income tax burden,
widows also may likely lose in two other ways if the estate and
gift tax is repealed.
First, most States allow a widow to demand a minimum share
of her deceased spouse's estate, but this share can be
diminished in many States by her husband making gifts at least
1 year before death. This doesn't occur now because that would
cost a gift tax. If the barrier of gift tax is taken down,
individuals who want to disinherit their spouses will be able
to do so much more easily.
Second, most married persons leave their entire estate to
or in trust for their surviving spouses, primarily because no
estate tax has to be paid under that arrangement until the
surviving spouse dies. If there is no estate tax, fewer married
decedents will choose to have their entire estate dedicated to
their surviving spouses.
Severe complexity will arise from a phased-in repeal of
estate tax. Many of the bills would phase in repeal of the
estate tax. Such proposals would represent an enormously
complicated system for individuals. Each person would have to
prepare new dual track wills, providing at a minimum for
different dispositions of their wealth upon death, depending
upon whether they or their spouses die before or after the
estate tax is totally repealed. Further, many taxpayers will be
forced to do planning to save estate taxes now because they
can't be assured that they are going to outlive the phase-in
period. And after repeal, they will have to do planning again
in many cases to attempt to unwind the planning that they have
to do now. So they will get to pay me now and they will get to
pay me later. Also, a carryover basis system will likely
require as much or more planning for individuals.
A more sensible approach should be adopted. Virtually
everyone agrees that the Federal estate tax system should be
improved. It shouldn't apply to small family farmers,
businesses, and others whose wealth is relatively modest.
Provisions currently in the Code can be changed to accomplish
that. What is critical is for Congress to thoroughly study the
overall social, fiscal, and economic impact of any significant
change to such an important part of our Nation's tax laws.
Thank you for your consideration.
[The prepared statement of Ms. Detzel follows:]
Statement of Lauren Y. Detzel, Attorney, Dean Mead Egerton Bloodworth
Capauano & Bozarth, P.A., Orlando, Florida
I. SUMMARY
Repeal Will Cost Much More Than $236 Billion. While the
White House administration claims that the proposed phase out of the
estate tax would cost the Federal government $236 Billion over the next
ten years, it will undoubtedly cost the United States government much
more in lost revenue.
Repeal of the Gift Tax Will Compromise the Income Tax
Because it Will Permit Taxpayers to Shift Income to Those in Lower Tax
Brackets. First, the present Federal gift tax system, enacted in 1932,
was adopted not just to supplement the estate tax but to preserve the
integrity of the Federal income tax system. If the gift tax is
repealed, the income tax will be compromised because it will permit
taxpayers to give income producing assets to others in lower income tax
brackets at no gift tax cost.
Continued Step-Up in Basis for Inherited Assets Will Erode
the Income Tax Even Further by Allowing Individuals to Shift Low Basis
Assets to Others Who Will Die Soon. Second, under current law, the
income tax basis of an asset is changed to its fair market value when
the owner dies, in most cases. This basis adjustment is known as the
``income tax free step-up in basis.'' Without a gift or estate tax,
property owners will transfer their appreciated assets to others who
will die soon and arrange to reinherit the property in order to secure
the step-up in basis. Neither the gifts to the others who will soon die
nor the reinheritance will be subject to gift or estate tax.
Not all the bills introduced to repeal the estate tax would permit
an unlimited step-up in basis. However, all bills would provide a
relatively high level of step-up. That means that the ``gaming'' of the
type described above will continue. A limited step-up in basis merely
means it will be harder to achieve a significantly increased basis when
someone dies.
Income Taxation of Life Insurance Proceeds Will Have to be
Changed or Carryover Basis Will be a Hollow Crown. Under current law,
proceeds paid by reason of the death of an insured are not included in
gross income. In effect, life insurance proceeds are entitled to the
income tax free step-up in basis enjoyed by most other assets owned at
death. It seems certain that unless this provision is repealed,
individuals simply will move all or a significant portion of their
wealth to life insurance policies if a carryover basis system is
enacted. If the exclusion from gross income for life insurance proceeds
were eliminated as part of a carryover basis system, the impact on the
life insurance industry and the beneficiaries of such policies would be
significant.
Carryover Basis Will Represent a New Complex Tax System,
which Congress Has Previously Rejected. In the Tax Reform Act of 1976,
Congress adopted a carryover basis system for inherited wealth. Four
years later, it repealed the system retroactive to its original date of
enactment in large measure because it was regarded as too complicated.
The same will be true today.
Widows and Many Others Will Pay More Tax With a Carryover
Basis System and No Estate Tax. Today, a widow or widower may inherit
assets, pay no estate tax (due to the marital deduction) and securea
complete step-up in basis. Others, under the current tax system, save
more income tax from the stepped-up basis of inherited wealth than they
pay in estate tax.
Widows, Charities and Others Will be Adversely Affected by
Repeal of the Estate Tax. As already discussed, widows and widowers
will be disadvantaged by a repeal of the estate tax unless a complete
step-up in basis system is retained. Widows (or widowers) also will
likely lose in two other ways. First, most states require that a widow
(or widower) inherit a minimum share of the deceased spouse's estate.
Although that forced inheritance can be avoided in most states by
making gifts to others at least a year before death, usually that does
not occur because such gifts result in gift tax. If the barrier of gift
tax is taken down, individuals who want to disinherit their spouses
will be able to do so much more easily. Second, most married persons
leave their entire estate to or in trust for their surviving spouses.
The reason is because the tax allows the estate tax to be postponed
until the surviving spouse dies. If there is no estate tax, fewer
married decedents will choose to have their entire estate dedicated to
their surviving spouses. The real impact will fall more severely on
women than men because there are many more widows than widowers.
Charities will likely receive less from decedents' estates than
they do today. Although it is difficult to quantify what the drop off
in bequests to charity will be, many knowledgeable persons think it
will be significant. It might be mentioned that the proposal to make
the income tax deduction for donations to charity an ``above the line''
deduction apparently is premised on the theory that giving tax breaks
for gifts to charity will spur more charitable giving. The same is true
for transfers at death. If there is no tax benefit to making charitable
bequests, during lifetime or at death, fewer will do so.
Severe Complexity Will Arise From a Phased-In Repeal of
Estate Tax. Many of the bills would phase in the repeal of the estate
tax. Such proposals would represent an enormously complicated system
for individuals. Each person would have to have ``dual track'' wills
and other estate planning documents providing, at a minimum, for
different dispositions of their wealth upon death depending upon
whether they (or, in some cases, their spouses) die before or after the
estate tax is totally repealed. Also, a carryover basis system will
likely require as much or more planning for individuals and as many
decisions in post-death estate administration as does the current
estate and gift tax system. Everyone, currently rich or currently poor,
will have to retain records of purchases, sales, depreciation, trades
and all other factors that could affect ownership and income tax basis
to comply with carryover basis rules.
A More Sensible Approach Should Be Adopted. Virtually,
everyone agrees that the Federal estate tax system should be improved.
It should be made not to apply to the estates of owners of small family
farms and other small family businesses and others whose wealth is also
modest. Provisions currently in the Code can be changed to accomplish
that. What is critical is for the Congress to thoroughly study the
overall social, fiscal and economic impact of any significant change to
an important part of our nation's tax laws. The Federal estate and gift
tax system certainly is one of those important parts.
II. ANALYSIS
Repeal Will Cost Much More Than $236 Billion. The $236
Billion revenue loss over the next ten years attributable to the repeal
of the estate, gift and generation-skipping transfer taxes (see
Subtitle B of the Internal Revenue Code of 1986, as amended) is
premised upon an eight- to ten-year phase-out of those taxes. The loss
of revenue to our Federal government attributable to the collection of
those taxes could be as great as $1 Trillion over the ten-year period
following complete repeal. If the phase-in of repeal is faster, the
cost will increase; if the phase-in is slower, the cost will decrease,
all other things being equal. In any case, the $236 Billion estimate of
lost revenue to the Federal government fails to take into account that
the income tax revenues also will be substantially diminished if the
estate and gift tax system is repealed. Income tax revenues will
diminish because individuals will be free to transfer income producing
assets to others in lower income tax brackets and to transfer assets to
others who will die soon, thereby securing the income tax free change
in basis that will occur upon death.
Repeal of the Gift Tax Will Compromise the Income Tax
Because it Will Permit Taxpayers to Shift Income to Those in Lower Tax
Brackets. The present Federal gift tax system, enacted in 1932, was
adopted not just to supplement the estate tax but to preserve the
integrity of the Federal income tax system. See Dickman v. United
States, 465 U.S. 330 (1984). Repealing that tax will compromise the
income tax because it will permit taxpayers, without any gift tax cost,
to give income producing assets to others in lower income tax brackets.
For example, a father, rather than selling appreciated stock he owns,
would give it to his daughter (or a trust for her benefit) who is in a
lower income tax bracket than he is. She (or her trust) would sell it
and pay a lower tax than her father would have paid. She then could
give the proceeds back to her father, again without gift tax.
Individuals, in fact, may gift all income producing assets, such as
stocks producing dividends, real estate producing rents and bonds
producing interest (as well as appreciated assets) to others in lower
tax brackets. This will reduce income taxes on those whose income is
derived from assets and shift a heavier burden to those whose income is
produced by working. John Buckley noted in his article which appeared
in Tax Notes, on January 22, 2001, that 70 percent of individual tax
returns are filed by individuals who are totally exempt or in the 15
percent tax bracket, thus making the pool of individuals to be used for
these purposes quite extensive.
Partnerships also will prove to be a convenient way to control the
recognition of gain, the collection of income and its distribution.
Without any concerns about estate and gift tax, individuals are likely
to form limited partnerships of which they are the general partners and
give away (non-voting) limited partnership interests to others in lower
income tax brackets which will cause the taxable income and gain to be
attributed to the limited partnership units to be taxed to the
recipients of such gifts. Because the wealthy individual is the general
partner, he can control the distribution of any actual cash to the
limited partner and indirectly control the gift of some or all of such
cash back to himself.
Individuals with trusted relatives overseas may be able to
completely avoid paying any Federal income tax on their income
producing assets. They will be able to give the assets to their
relatives (either directly or through certain types of trusts or
partnerships) who are neither U.S. citizens nor U.S. tax residents. The
relatives (or their trusts or partnerships) will be able to invest to
avoid U.S. income taxes (such as by investing in United States Treasury
Bonds). In turn, these individuals will be able to give the income,
directly or indirectly, to the original American property owner who
made the gifts of the income producing assets.
Although some may contend that the ``anticipatory assignment of
income,'' ``sham,'' and ``step transaction'' doctrines would prevent
such income shifting, those claims probably are meritless unless
significant new tax legislation is enacted. Proof of that is contained
throughout the Internal Revenue Code, such as the so-called ``kiddie''
tax contained in section 1, the grantor trust rules contained in
sections 671-679, and the family partnership rules contained in section
704(e). In any case, because such gifted transfers will no longer be
reported (as the gift tax system will be repealed), enforcement will
become extremely problematic. To think that individuals will not take
action to reduce their income taxes when the barrier of gift taxation
is removed ignores the history of our tax system and is naive.\1\
---------------------------------------------------------------------------
\1\ An article written by Jonathan Blattmachr and Mitchell Gans
cites numerous examples of the potential to ``game'' the income tax
system. See ``Wealth Transfer Tax Repeal: Some Thoughts on Policy &
Planning'', Trusts & Estates, Volume 140 #2 pg. 49 (Feb. 2001).
---------------------------------------------------------------------------
Continued Step-Up in Basis for Inherited Assets Will Erode
the Income Tax Even Further by Allowing Individuals to Shift Low Basis
Assets to Others Who Will Die Soon. Under current law, the income tax
basis is changed to the asset's fair market value when its owner dies,
in most cases. See section 1014(a). This is known as the ``income tax
free step-up in basis.'' Without a gift or estate tax, property owners
will transfer their appreciated assets to others who will die soon,
thereby securing the stepped-upbasis and arranging to reinherit the
property when the others die.\2\ Neither the gifts to the others who
will soon die nor the reinheritance will be subject to gift or estate
tax. And, under current law, the person to whom the assets will be
given does not even have to be granted any ownership in the assets that
will be included in his or her estate and which will receive the step-
up in basis at death. All that need be granted is what is called a
``general power of appointment.'' That is a power to direct that the
property may be paid to the person who holds the power, his estate, his
creditors or the creditors of his estate. Such a power causes the
property to be included in the power holder's estate. See section 2041.
But such a power causes estate tax inclusion even if it may be
exercised only with the consent of someone who would not be adversely
affected by the exercise of the power. For example, an individual
holding appreciated property finds an unrelated person who will soon
die. The property owner grants the dying person a general power of
appointment that may be exercised only with the consent of the property
owner's spouse, children, attorney and accountant. It is inconceivable
that the person granted the power will be permitted to exercise it.
Also, the power causes the property to be included in the power
holder's estate even if he is completely unaware of the power. Of
course, any system permitting even a partial step-up in basis at death
will have to be revised to prevent that result. But other methods to
``game'' the system are certain to arise. It is appropriate to mention
that gaming the system with a step-up in basis rule without estate tax
will apply not just to capital gain property but virtually every other
type of property, including inventory and other assets which if sold
would be taxed as ordinary income.
---------------------------------------------------------------------------
\2\ Section 1014(e) disallows a basis adjustment for property given
to a decedent within one year of his or her death but only if the
property is reinherited by the donor. It is relatively easy to
circumvent this provision by having the decedent create a trust for the
benefit of the donor and others such as other members of the donor's
family.
---------------------------------------------------------------------------
Not all the bills introduced to repeal the estate tax would permit
an unlimited step-up in basis. However, all bills would provide a
relatively high level of step-up. That means that the gaming of the
type described above would occur even with a limited step-up in basis.
A limited step-up in basis merely means it will be harder to achieve a
significantly increased basis when someone dies. For example, if a
step-up in basis is permitted for $2.8 Million of assets and an
individual owns $28 Million of appreciated property, he would have to
find ten individuals who will die soon rather than only one. Senate
Bill 275 introduced by Senator Kyl on February 7, 2001, provides for a
step-up in basis at death equal to the aggregate basis of all of the
decedent's property plus $2,800,000.00. Unlike H.R. 8 (the Death Tax
Elimination Act of 2000, passed by Congress but vetoed by President
Clinton on August 31, 2000) which utilized an asset by asset carryover
basis approach, Senate Bill 275 would allow an executor to transfer
basis from assets not likely to be sold or which will depreciate (such
as personal residences, cars, boats, art, jewelry, etc.) to investment
assets to effectively reduce capital gains on the sale of such assets.
Also, depending upon the exact provisions enacted, bills that are
intended to limit the level of step-up in basis actually will permit
individuals to secure a much greater step-up in basis than the dollar
limitation contained in the bill. The reason relates to debt on
property. For example, an individual owns real estate having a current
fair market value of $10 Million with an income tax basis of only $1
Million. The individual borrows $9 Million before death, securing the
debt with the property. (The $9 Million of borrowed cash, of course,
has a $9 Million basis). But now there would be an increase in basis
because, under current law, which does not appear to be changed by the
bills which would limit the step-up in basis, the debt against the real
estate would be added to basis upon the individual's death. In fact, as
explained in McGrath & Blattmachr, Carryover Basis Under the 1976 Tax
Reform Act (Journal of Taxation, 1977) (hereinafter referred to as
``McGrath & Blattmachr''), pp. 161-162, the basis of property subject
at death to debt could be greater under a carryover basis system than
the current system providing for a step-up in basis at death. Moreover,
as that book details, other opportunities to avoid the carryover basis
system exist and will be developed.
Income Taxation of Life Insurance Proceeds Will Have to be
Changed or Carryover Basis Will Be a Hollow Crown. Under current law,
proceeds paid by reason of the death of an insured are not included in
gross income. See section 101(a)(1). In effect, life insurance proceeds
are entitled to the income tax free step-up in basis enjoyed by most
other assets owned at death. It seems certain that unless that
provision of the law is repealed, individuals simply will move all or a
significant portion of their wealth to life insurance policies if a
carryover basis system is enacted. Under the carryover basis system
enacted by the Tax Reform Act of 1976, insurance proceeds continued to
be excluded from gross income and that represented a severe threat to
the integrity of that carryover basis system. For example, individuals
will borrow against their appreciated assets, place them into cash
value life insurance products, and have the same investments made
inside the policy that the individual would have made (or continue to
have made) if the cash had not been placed inside of the policy's cash
value. If the exclusion from gross income for life insurance proceeds
were eliminated as part of a carryover basis system, the impact on the
life insurance industry and the beneficiaries of such policies would be
significant. It would represent the most severe change in the taxation
of life insurance proceeds since the adoption of the Sixteenth
Amendment to the United States Constitution. Clearly, serious thought
would have to be given to making such a fundamental change to the tax
law. Yet serious thought must be given to eliminating or restricting
the income tax free receipt of death proceeds under section 101(a)(1)
if any type of carryover basis system is adopted as part of estate tax
repeal. As pointed out earlier, failure to limit the step-up in basis
at death will go far in destroying the integrity of the Federal income
tax system.
Carryover Basis Will Represent a New Complex Tax System,
Which Congress Has Previously Rejected. In the Tax Reform Act of 1976,
Congress adopted a carryover basis system for inherited wealth. Four
years later, it repealed the system retroactive to its original date of
enactment in large measure because it was regarded as so complicated.
In fact, the House Ways & Means Committee (or subcommittees of the
Committee) held extensive hearings about the system. Most witnesses
stated that the system was ``unworkable.'' The complexity of the system
is discussed in detail in McGrath & Blattmachr. The same will be true
for any carryover basis system enacted today. Yet, as explained above,
some type of carryover basis system is certain to be adopted if the
estate tax is repealed. Otherwise, the Federal income tax system will
be at risk, as detailed earlier.
Widows and Many Others Will Pay More Tax With a Carryover
Basis System and No Estate Tax. Today, a widow or widower may inherit
assets, pay no estate tax (due to the estate tax marital deduction
allowed under section 2056) and secure a complete step-up in basis. As
explained, some type of carryover basis system seems inevitable if the
estate tax is repealed. Hence, surviving spouses will be disadvantaged
by the new system. Allowing widows (or widowers) to continue to enjoy a
complete step-up in basis will erode any carryover basis system
intended to apply to others, such as children. For example, a man would
leave his appreciated assets to his widow, who would secure the tax
free step-up in basis. She could immediately give those assets to her
children. The carryover basis system will be eroded, accordingly, if
not made to apply to the inheritances of surviving spouses. Others,
under the current tax system, save more income tax from the stepped-up
basis of inherited wealth than they pay in estate tax. For example,
under current law a man dies owning real estate having a gross fair
market value of $10 Million, subject to a $9 Million debt, and a basis
of close to zero (due to depreciation taken during lifetime or for
other reasons). He leaves the real estate to his son. Because the net
value of the real estate is only $1 Million, the son will pay no more
than $550,000 \3\ in estate tax, and likely less than that. The son's
basis in the inherited real estate is the property's gross value of $10
Million. If he sells the property for its fair market value of $10
Million, he pays no capital gains tax, and so he nets $9.45 Million
(after the $550,000 estate tax paid). (In fact, if the son could
depreciate the basis of the property and deduct the depreciation
against ordinary income the step-up in basis would save him even more.)
But under the elimination of the estate tax/carryover basis system, he
may be limited to his father's basis of zero. Hence, if he sells the
real estate for $10 Million, he will net only $8 Million because he
will have to pay $2 Million in capital gains tax, and if the debt is
still owed, he will be $1 Million ``in the hole.''
---------------------------------------------------------------------------
\3\ The Federal estate tax, in fact, can rise to 60% in some cases.
See section 2001(c)(2).
---------------------------------------------------------------------------
Widows, Charities and Others Who Will Be Affected by
Repeal of the Estate Tax. As already discussed, widows and widowers
will be disadvantaged by a repeal of the estate tax unless a
completestep-up in basis system is retained. Widows (or widowers) also
will likely lose in two other ways. First, most states allow a widow
(or widower) to demand a minimum share of the deceased spouse's estate.
See e.g., New York EPTL 5-1.1 and Florida Statutes Sec. Sec. 732.201-
228. Although that ``forced inheritance'' can be avoided in most states
by making gifts to others at least a year before death, usually that
does not occur because such gifts result in gift tax. If the barrier of
gift tax is taken down, individuals who want to disinherit their
spouses (or more severely limit what the spouse can demand upon death)
will be able to do so much more easily. Second, most married persons
leave their entire estates to or in trust for their surviving spouses.
The reason is because the tax allows the estate tax to be postponed
until the surviving spouse dies. See section 2056(a). If there is no
estate tax, fewer married decedents will choose to have their entire
estates dedicated to their surviving spouses. The real impact will fall
more severely on women than men because there are many more widows than
widowers.
Charities will likely receive less from decedents' estates than
they do today. Although it is difficult to quantify what the drop off
in bequests to charity will be, many knowledgeable persons think it
will be significant. See The New York Times (National Edition),
Saturday, February 10, 2001, page A-11, entitled, ``A Bush Aide Faults
Plan to Repeal Estate Tax'' (``John J. DiIulio, Jr., Director of the
New White House Office of Faith-Based and Community Initiatives, says
repeal could undercut another administration priority: encouraging
private contributions to charities, religious and nonreligious alike,
that help the poor.'') It might be mentioned that proposals contained
in bills currently before the Congress to make the income tax deduction
for donations to charity an ``above the line'' deduction apparently is
premised on the theory that giving tax breaks for gifts to charity will
spur more charitable giving. The same is true for transfers at death.
In fact, there should be a greater incentive to give more to charity at
the 55 percent estate tax bracket than at the lower income tax
brackets. If there is no tax benefit to making charitable bequests,
during lifetime or at death, fewer will do so.
Severe Complexity Will Arise From a Phased-In Estate Tax.
Many of the bills would phase-in the repeal of the estate tax. Such
systems would represent an enormously complicated system for
individuals. Each would have to have ``dual track'' wills and other
estate planning documents providing, at a minimum, for different
dispositions of their wealth upon death depending upon whether they
(or, in some cases, their spouses) die before or after the estate tax
is totally repealed.\4\ These individuals also will face the
uncertainty of whether total repeal will ever be achieved due to the
needs of our government for additional revenue or because of change in
political philosophy or change in governing parties. Individuals will
be caught in a twilight zone of uncertainty on whether they should make
tax-efficient gifts, use the marital deduction, and take other common
estate planning steps, such as creating a so-called ``personal
residence trust'' described in section 2702 or a ``charitable lead
trust'' described in section 170(f)(2)(B) or family partnerships.
Further, after the estate tax has phased-out, not only will new
documents have to be redone, but it may be difficult to unwind the
planning done in anticipation of estate tax being paid.
---------------------------------------------------------------------------
\4\ In addition, all wills that have previously been ``estate tax
planned'' will need to be reviewed and/or revised, particularly those
that provide a marital deduction formula bequest to a spouse equal to
the amount necessary to reduce the estate tax to zero. If there is no
estate tax or need for a marital deduction, these formula clauses could
end up providing that the spouse receives nothing.
---------------------------------------------------------------------------
Also, a carryover basis system will likely require as much or more
planning for individuals during life and as many decisions in post-
death estate administration as does the current estate and gift tax
system. See, e.g., McGrath & Balttmachr, Chapter 19. Everyone,
currently rich or currently poor, will have to retain records of all
purchases, sales, depreciation, trades and all other factors that could
affect ownership and income tax basis of all assets (even personal use
assets) they ever acquire to comply with carryover basis rules. No
matter how high the step-up in basis level the law allows, each person
will hope his or her wealth will exceed that level and, as a result,
each will have to maintain the records. In fact, with respect to
marketable securities, a carryover basis system will require much more
record keeping than does the current estate and gift tax system. Under
the current system, no records of basis, stock splits, stock dividends,
tax free exchanges, etc. need be maintained for purposes of inheritance
because of the step-up in basis at death, and the rule for valuation of
marketable securities for estate tax purposes is simple and direct. See
Treasury Reg. 20.2031-2. Under carryover basis, complete and lifelong
record keeping for marketable securities (and all other assets that
might be owned at death) must be kept for life. In fact, it might
require multi-generational record keeping because assets inherited by a
child might be kept until the child, in turn, dies and then inherited
by members of the child's family. It is appropriate to mention again
that Congress retroactively scrapped the carryover basis system it
enacted in 1976 by the Windfall Profit Tax Act of 1980 in significant
part on account of the record keeping and administration problems such
a system presented.
The States Will Lose Enormous Revenue if the Federal
Estate and Gift Tax Systems Are Repealed. Every state will lose in one
way, if the Federal estate and gift tax systems are repealed, and the
43 states (and the District of Columbia) which impose income taxes will
lose to an even greater degree. First, every state, without exception,
imposes a death tax equal to the state death tax credit allowed under
section 2011. That credit reduces the gross Federal estate tax, dollar
for dollar, up to the limit set forth in the section. In many states,
the estate tax represents a significant portion of the state's revenue.
In New Hampshire, for example, it is about 4.5%; in Florida and New
York, it is approximately 2.7%. Although some states could enact an
independent estate tax system to curb this shortfall, that will be
politically difficult if not impossible for many and unconstitutional
for others. For example, Florida's Constitution prohibits the
imposition of any estate tax, except for the state death tax credit
amount because that merely represents ``free'' revenue sharing from the
Federal government to the state. Florida Constitution, Article 7,
Section 5.
As indicated, the states (and cities) that impose an income tax
will face a more serious erosion of revenue if the gift tax is
repealed. The type of shifting of income producing assets to others,
which is certain to happen to avoid or reduce Federal income tax, will
occur to an even greater degree with respect to avoiding state (and
local) income taxes. In fact, it will be easier to avoid state and
local income taxes than Federal income taxes. There are several
reasons. First, states are limited by the United States Constitution
(and often their state constitution as well) as to their ability to tax
property located outside of their jurisdiction. Second, individuals can
create trusts for their own benefit outside of their home state in
jurisdictions which impose no state income tax. That can be done even
if the trust permits distributions back to the grantor only with the
consent of an ``adverse party.'' See section 677(a). Although trusts
reach the top Federal income tax rate at very low levels of taxable
income, so no Federal income tax may be saved by creating such a trust,
all state and local tax may be avoided. If the Federal government loses
no income tax revenue by such shifting of income, it will have no
incentive to try to challenge such arrangements. And, of course,
virtually every state (and local) income tax system relies on
enforcement primarily by the IRS. That, in turn, raises another reason
why the ability to shift income away from the states will occur. It
simply will be impossible, as a practical matter, for the states to
attack such arrangements. The states (and cities) will not even be
aware that the shift of ownership has occurred because there need be no
reporting of such gifts of income producing property because the
Federal gift tax will be repealed.
As indicated, the impact on many states will be more significant
than the loss of the state death tax credit amount. For example, in New
York State, state income taxes on capital gains, dividends and interest
comprise about 9% of that state's total revenues. Certainly, not all
that tax will be avoided but it is likely a significant portion will
be. New York's income tax reaches a level of only about 6%. In states,
such as Oregon and California, where the tax rates are higher, the
erosion will be greater.
It is incumbent upon the Congress to consider the impact on the
states in considering what should be done with respect to the Federal
estate and gift tax systems.
A More Sensible Approach Should Be Adopted. Certainly, the
Federal estate and gift tax system should be revised to make it apply
in ways that are fairer and which simplify the system. Provisions
already in the Internal Revenue Code reduce or eliminate estate tax on
farms and other closely held business and provide ways in which the
estate tax may be paid over an extended time. See sections 2032A, 2057,
and 6166. Certainly, the limitations contained in the Code should be
increased and, perhaps, liberalized and the provisions simplified.
Also, the basic estate tax exemption (currently $675,000) should be
increased, and then ``indexed'' for inflation. Also, the initial rates
above the exemption (now 37%) should be reduced, the ``brackets''
spread out and the top rate (of 55%) should begin only at a very high
level (such as $10 Million). These brackets should also be indexed for
inflation. However, as recently suggested by noted commentator, Steve
Leimberg, ``no matter which side of the repeal/reform issue you are on
. . ., it is essential to perform a thorough and multi-dimensional (and
ideally bipartisan and professionally conducted) impact study before
any new major tax legislation is passed so that the overall economic
and social implications and costs of proposed tax law changes are
thoroughly considered.'' He goes on to note that ``there is no `free
lunch' in the tax law. All change--no matter how it is presented to the
public comes at a cost to someone. We need our leaders on both sides of
the political fence to be more open, honest and provide better and more
complete explanations of how tax law changes affect various segments of
the population.''
Chairman Thomas. Thank you very much. This is the kind of
panel that allows us to allow you to discuss among yourselves
the arguments that are presented so that we can listen, and I
appreciate the panel's willingness to present their positions.
I probably better understand Ms. Coakley David's position
from a real-world situation, I guess, and, Mr. Stallman, I am
little more familiar with farms and the problems especially of
busting up farms and the inability to try to sell the pieces
off to make them economically viable and that downturn, and I
guess a family owned newspaper.
So if the panel will allow me for my time, I would like to
turn to Dr. Thorning and ask her, first of all, to respond to
some of the points that Ms. Detzel made and then give Ms.
Detzel an opportunity to respond back.
In the spirit of expanding on the question of repeal/not
repeal, rather than some interim position, which I think most
of us can envision, which would basically be raising the
threshold, would you comment on the arguments that Ms. Detzel
made about the complications and difficulties of repeal, Dr.
Thorning?
Ms. Thorning. Thank you, Mr. Chairman. I think it is
possible to get there from here, basically. I think it would be
possible to repeal the tax. The issue about step-up in basis,
as the point was made at the Senate Finance Committee hearing
last week, if a provision were structured so that relatively
small estates don't have to keep track of the cost basis of
assets, you would find the middle- or higher-middle-income
people with their estates being able to keep track of the cost
basis of their assets, especially given the change over the
past few years in the composition of those assets. More and
more wealth is held in the form of equities, and it is
relatively easy to keep track of the cost basis of those.
So if a provision were structured to exclude a certain
amount from the estate tax, I think most people would certainly
be able to keep track of the basis. So I think that the fear of
complexity from giving up step-up in basis should not be a
reason to say that we don't repeal the estate tax. I think it
can be addressed and can be handled.
Second, with respect to the overall impact of repeal of the
estate tax, the estate tax is a tax on capital, it is a tax on
business. It requires enormous planning to avoid. The
efficiency cost of the estate tax is probably much greater than
the revenue, $30 billion a year, that is being collected.
Many of our competitors around the world, including Canada
and Australia, don't have an estate tax, and they seem to
function just fine. And most other countries have much lower
estate tax rates.
So for what we are getting, $30 billion a year, we are
spending enormous amounts wasting society's resources trying to
avoid it, and as the results of Dr. Sinai show and Professor
Douglas Holtz-Eakin, who is also at Syracuse University in New
York, has also done some work indicating the drag that this tax
has on our economy in terms of job growth and GDP growth and
other economic variables.
So it seems to me we can get there from here, and we
certainly ought to do it.
Chairman Thomas. Ms. Detzel, what about it? You argued that
it costs a lot of money. Dr. Thorning and others are arguing
that, in fact, it doesn't lose nearly as much and there may be
an adjustment. Do you want to respond to any of the points?
Ms. Detzel. Well, let me just say----
Chairman Thomas. Microphone, please. It is hard to hear.
Ms. Detzel. Let me just say that if we end up with a system
that is something in between a full step-up and a full
carryover, we have just now made the most complicated thing we
could possibly do. A lot of people will spend a lot of time
planning to utilize, whether it is 1.3 or 2.8 that is currently
in the Kyl bill, whatever the partial step-up is, there will be
a lot of planning that will be done to utilize that step-up in
basis, and that will effectively erode the carryover basis.
In addition, if we bring in carryover basis, I thought I
heard one of the gentlemen dealing with family farms was
against the carryover basis because of all the problems that it
gives for farms, particularly debt-financed farms. We would
have to bring in some very complicated, difficult provisions in
order to avoid having problems with debt-financed real estate.
And if you do that, then you allow--if you have an exception
for debt in the carryover basis, then you are going to give
planners a great opportunity to completely avoid carryover
basis by simply borrowing before death.
So every one of these impacts on something else, and my
point here is not to be for or against one thing or the other,
but simply to recognize that we have had the estate and gift
Tax Code for 80-some years and it is integrally related with
the income tax, and we must analyze what changes we make there,
what that will have on other parts of our Tax Code.
Chairman Thomas. And the fact that if we, in fact, make a
decision, a better decision--it is always driven by revenue to
a certain extent--would be to do whatever we do fairly quickly
and fairly cleanly so that people can begin to transition into
the system, although that is a function of revenue available
with a number of other draws.
Ms. Detzel. I would say that the absolute worst situation
for my clients is a phased-in repeal, because they absolutely
have no idea what to plan. We don't have any idea what to plan
right now. So I would hope that whatever it is that we are
going to end up with, we would end up with it quickly.
But a phased-in repeal, most people are going to have to
plan, anyway. How can you take the chance that you are not
going to outlive the 8 or the 10 years? So you are going to
have to plan. You are going to spend those dollars. You are
going to make transfers that are irrevocable, create trusts
that you can't terminate, because you really can't afford to
buy life insurance products, because you can't afford not to.
And then when the estate tax has phased out, you are going to
do it all over again.
Chairman Thomas. Well, my question would be to those who
are in the very real-world situation of planning for that, you
are planning under the current system, anyway. Is it that
complicated?
Mr. Blethen. With all due respect, we are doing all that
right now.
Chairman Thomas. Yes.
Mr. Blethen. And the worst possible case is to not repeal
the death tax, whether it is phase-out or immediately.
Chairman Thomas. The idea being that you are doing all of
that now and eventually you realize at some point someone won't
have to do it if it is not you?
Mr. Blethen. And we are not only doing that, we are making
decisions to not invest in our businesses and to not create
jobs because of it.
Ms. Detzel. Well, let me just say that the planning, this
planning, as I am sure you all can appreciate, is ongoing. It
is not something that you do, you put over in the safety
deposit box, and you are done. This is something that you have
to keep up with every year.
Mr. Blethen. I have been doing it for 30 years. I know it.
Ms. Detzel. And so my point is that a phased-in repeal, you
will have to continue to make these payments. It is not
something you can just plan now and quit. You will be making
these plans, paying these premiums, or paying me for
practically the entire time of the phase-in.
Mr. Blethen. Right. But----
Ms. Detzel. So I would say that a phased-in repeal is----
Chairman Thomas. Let the gentleman who is living it now
respond.
Mr. Blethen. You know, there is one consistency in all
this, that the people who benefit are the insurance companies
and the planners.
Chairman Thomas. And even if it is a phase-out, it at least
eventually comes to an end? Is that----
Mr. Blethen. Well, she is right. I mean, we have got to
continue all that complexity with the phase-out. But at least
there is a light at the end of the tunnel, and at least we can
begin making investment decisions and decisions that will start
in stimulating the economy. The sooner the phase-out, the more
benefit we will get, and the more economic stimulation we will
get.
Chairman Thomas. Any last comments? My time is up.
Ms. David. I would just say I would agree, and I think
ideally a complete repeal immediately is the best scenario,
because it stops all of this spending and all of this wasted
time that businessowners would prefer to invest in their
employee benefits and economic growth.
Chairman Thomas. And we would all like to pay cash for our
house, too. You just have to deal with a lot of desires within
a structure to try to make it as meaningful as possible, and we
will take that advice.
Does the gentleman from Pennsylvania wish to inquire?
Mr. Coyne. Thank you, Mr. Chairman.
Ms. Detzel, as you know, the Democrats have proposed a $2
million per person exclusion in the proposal they have made
relative to the estate tax. I wonder if you could describe who
would be left if that were to be adopted. What types of payers
would be left if that $2 million exemption was given?
Ms. Detzel. Well, I am a Member of the American College of
Trust and Estate Council. It is an organization comprised of
estate planning attorneys, and we have been monitoring this
closely. You will see a number of our members who have
submitted comments on this legislation on both sides of this
argument for as long as it has been proposed. And I would say
that we spend a fair amount of time discussing that, and I
think it is a pretty good consensus by most of us estate
planners around the country that if you adopted an immediate $2
million or $2.5 million per person exemption, the vast majority
of our clients would be exempted from the estate tax. And that
would, you know, eliminate most of the planning, most of the
problems for a large part of our clients.
Mr. Coyne. Could you explain more why you estimate in your
testimony that the true cost of the estate tax repeal is nearly
double than was originally estimated?
Ms. Detzel. Well, I think that there are--first of all, I
think that it is very difficult to estimate. I am not an
economist. It is very difficult to estimate what the estate tax
revenue will be year by year. But I know that from my practice
I have seen more and more over the last few years. Since we
adopted the unlimited marital deduction in 1981, of course, for
the first years there was a significant reduction in estate tax
revenue, and those revenues have been picking up, in large part
because the second spouse--that gave us a deferral of estate
tax until the second spouse died. And now the second spouses
are beginning to die, and so we are seeing a lot more revenue.
And, of course, assets have increased in value. That has
increased the revenue.
Beyond the additional estate tax that I think will probably
be raised because of these factors, there is a lot of income
tax to be lost. A lot of income tax to be lost. I can tell you
that if we get a repeal of gift tax, a lot of my clients will
pay a lot less income tax. It will be very easy to avoid paying
income tax or to move income tax down to lower bracket
taxpayers.
All we have to do is create a--one example, one easy
example is to create a family limited partnership with my
investment assets. I am the general partner. I give away the
limited partnership interest to my children or other family
members in lower income tax bracket. I am the general partner.
I control distributions. I control the disposition of those
assets entirely. But the income tax, most of the income tax
flows through a partnership to its partners. And so that would
go to the limited partners who are in lower income tax
brackets, and I could--and the reason why that is not done now
is because there is a gift tax that is associated with giving
away those limited partnership interests.
So we can give those partnership interests away gift-tax-
free, and then we can even get the income, if any is ever
distributed to those lower bracket taxpayers, back through a
gift that doesn't cost anything either. That is just one simple
example of how income tax could be greatly disadvantaged by a
repeal of a gift tax.
In fact, there was one statistic that was published last
month or in January in Tax Notes that 70 percent of all
individuals who file tax returns pay no income tax or are in
the 15 percent bracket. That is 70 percent of America that can
be used by the other 30 percent to reduce their income tax.
Mr. Coyne. Thank you.
Chairman Thomas. Thank you.
Does the gentleman from Michigan wish to inquire?
Mr. Camp. Thank you, Mr. Chairman. Thank you all for your
testimony. And I understand there are differences of opinion on
this issue, but when I think of lost income tax or lost estate
tax revenue, it is assuming that this is the Government's money
to lose. And, frankly, this is not the Government's money. It
is the people's money.
So I come down on the side of trying to make sure that we
preserve family-owned farms and family businesses because I
think something is lost in the corporate structure that we have
seen with a lot of our businesses that might have remained true
to different principles or to their employees. So there is an
intangible there.
Dr. Thorning, I just want to say I appreciate this report
that you have brought to the Committee because the scoring that
we have around here tends to show that full repeal is a large
revenue loss, because we score under these very strict rules
that don't really look at the real world. And so I think
particularly your report is very helpful to show that
employment would go up and that under some scenarios actually
revenues to the Government would go up under a full repeal
plan. So I appreciate that very, very much.
Mr. Stallman, do you have any comment on an exemption
amount or level that you would support or feel comfortable
with?
Mr. Stallman. Changing the exemption really doesn't address
the fundamental problem that we see with the death tax. It is a
tax policy that discourages savings and investment in favor of
consumption, one that makes the hurdles higher for
entrepreneurs to be successful who create most of the jobs in
this country; and probably from our point of view, it is a tax
that disproportionately and negatively impacts the most
productive farms and ranches in this country.
No matter where you set an exemption, it is still going to
have a definite negative impact on those most productive farms
and ranches in this country who produce most of the
agricultural products. And you don't do away with the burden of
planning. You don't know what asset values are going to do for
the future, and so you haven't really solved much of the
problem. That is why we strongly support repeal of the death
tax.
Mr. Camp. I appreciate that, particularly also your
comments on the fact that many agricultural assets are long-
held, many have had debt, significant amounts of debt, and the
distortion effects of not having a step-up in basis for those
particular farms and ranches is a real problem.
Anyway, thank you all for your testimony, and I yield back
the balance of my time.
Chairman Thomas. I thank the gentleman.
Does the gentlewoman from Florida wish to inquire?
Mrs. Thurman. Thank you, Mr. Chairman.
Mr. Stallman, and also to Ms. David, you know, last year we
did have a piece of legislation, as you know, that would have
gone to the President and that, in fact, would have been signed
into law that would have put it at about $5 million or $4
million.
One of the things that I find interesting is that the plan
that we have looked at over the years is something that is
gradually going to go into effect over a 10-year period of
time. We have seen what that potentially could do in damaging.
In offering something that could have gone into effect,
quite frankly, I would have appreciated your support last year
on that because--and I think some of your farmers and your
small businesses would have appreciated that, because there are
people who are now being affected in the fact that it wasn't
done. And so the very same people you are here to protect may
be the ones that fell or had a death in their family where this
happened to them and they got no effect from any kind of a
repeal in looking at this.
But in saying that, I will tell you that I would probably
support that bill again. I probably cannot support the full
repeal. Mr. Camp's issue about it being the people's money, he
is absolutely correct. It is the people's money. But, Mr.
Stallman, let me just suggest to you that one of the issues
that we have been talking about on the Democratic side in the
budget and something that I have looked at over the years in
the agriculture area has been you come to us constantly to use
the people's money to help strengthen agriculture, to do things
such as research, disaster. This year you are asking--and have
actually jumped up from $18 billion. So we are spending the
people's money in ways that you have also asked us to do to
support.
And, Ms. David, as well, if I look at all of the tax
issues, we have small business tax exemptions for all kinds of
things: health care, meals exemption, travel. We do a lot of
things in the Code today to try to, in fact, take care of those
kinds of issues.
So I think that while I don't disagree--and I certainly
have farmers who would be beneficiaries. Actually, one family
that has come to me most recently very concerned because they
can't pay the death tax of $2 million. But you know what? If
this law had been in effect when we wanted it to be, they
wouldn't be sitting in that situation.
So I think that is a real downfall that we are looking at
in any of these proposals or what has happened, and that is the
immediateness of the issue. So I would appreciate it.
Ms. Detzel, I appreciate the fact that you have come here
by yourself and the only one that seems to be kind of looking
at this issue all the way across the income tax part of it. And
in your remarks you said there are some things we could do to
put into effect something that would be beneficial for all
income taxpayers. Could you expand a little bit on that for us?
Ms. Detzel. I am sorry. What----
Mrs. Thurman. You had just said I think in part of your
testimony----
Chairman Thomas. Ms. Detzel, would you turn your microphone
on?
Mrs. Thurman. In part of your testimony, you talked a
little bit about that there were things that we might could do
to help people such as your clients, and maybe you have already
had this----
Ms. Detzel. Well, I can tell you that my clients would--and
I represent a very broad base of individuals from small citrus
growers to very, very wealthy people in the entertainment
industry in central Florida. But the majority of the clients at
my firm and most of my friends who are attorneys would really
like to see an immediate increase in the exemption now. And
whether that is $2 million or $5 million, I don't know. But a
several-million-dollar increase in the exemption is, I think,
extremely important to come in now.
I am just like you. I have a number of clients that I am
filing tax returns for, people who, if the bill had gone in
last year, we wouldn't be paying those checks. And they are not
terribly thrilled that it is taking forever to get this relief,
and they would like to see the relief at the lower level, not
at bringing rates down gradually for the highest taxpayers over
a number of years, but let's give the exemption to the people
who need it the most, the ones that are just over the $675,000
level.
So I think that my clients would like to see something done
quickly and something done that increases the exemption right
away.
Mrs. Thurman. I appreciate those comments, and I know I
didn't give you all a chance to respond because I needed to get
this other part in, but as you can see, I think that kind of
made our point. Thank you.
Chairman Thomas. Does the gentlewoman from Washington wish
to inquire?
Ms. Dunn. Thank you very much, Mr. Chairman. I am
listening, and I am intrigued by your testimony, Ms. Detzel,
and I just am curious. It seems to me that if you do advocate
an increase in an exemption--and I didn't see that in your
written testimony, but I am hearing you saying now--that all
these moves that you make to sound very fraudulent are going to
still occur. What is to say that they won't?
Ms. Detzel. There are tradeoffs with all of these, OK? And
I am not advocating anything in particular. I am not advocating
complete repeal, a phased-out repeal, exemption increase. My
testimony was to understand that with every single thing that
we attempt to do, there is an impact on others. And it will be
choices. What you all do all the time is make choices between
things. And I simply wanted everyone to understand what was the
effect of particular choices.
Ms. Dunn. Good, thank you very much.
Ms. Detzel. So every single thing has----
Ms. Dunn. That is interesting to me. Let me ask you another
question. You talk about provisions already in the Internal
Revenue Code reduce or eliminate a State tax on farms and other
closely held businesses. I assume, in that one that you are
referring, to the 1997 exemption, I would like to ask Mr.
Blethen what he thinks about that.
Mr. Blethen. That was the stepped up basis that they--I am
sorry.
Ms. Dunn. It was in 1997 we provided, the best of
intentions, a $1.3 million exemption for family held
businesses.
Mr. Blethen. Oh, excuse me.
Ms. Dunn. And I am curious to hear--and certainly, the
other panelists can answer too--I am curious to hear how
effective that has been for you.
Mr. Blethen. Well, it has not been effective at all. While
it would certainly benefit my family personally, it would not
be very good public policy. The issue for us is one of what is
the best public policy that creates economic stimulation and
job creation? And when you look at the private, independent,
non-publicly traded business sector, I can just use my industry
as an example of why raising the exemption doesn't work.
If the IRS were to value the smallest newspaper, daily
newspaper in the State of Washington, from little Ellensburg,
the value would be $10 million. Family-owned newspapers in
Eugene, Oregon and Bangor, Maine, at today's prices, if the
family-owners were to die, will probably be valued at 75 to 100
million by the IRS. Family-owned papers in Bakersfield,
California, Spokane, Washington and Portland, Maine, would be
valued around 200 million by the IRS. These are family
businesses that all mirror what my testimony was. They have
more employees than you have in public companies. They invest
more. They have lower profit margins. They create jobs and they
create investment. And today we all hold off on investment
decisions and job creation decisions, and in our case, $200,000
a year just to pay the insurance companies and the planners so
that we can have a chance of surviving another generation.
Mr. Stallman. As I said in my testimony, the Qualified
Family-Owned Business Exemption was well intended, but the
hoops you have to jump through in terms of definitions of
active engagement of the owner, of the length of time the
assets have to be held in production and several others,
doesn't allow the flexibility you need in today's modern
farming operations and family structures to make the changes
you need. So it has been--hasn't been used just because of that
complexity.
Ms. Dunn. In fact, between 1 and 3 percent of family held
businesses have qualified for that exemption, and two-thirds of
them have been challenged by the IRS, so I think you make a
very good point.
I am concerned about the discussion of an exemption level,
and I would just mention this to Ms. Thurman, because she is
interested in that, and a proposal that came out last year. Any
exemption level is going to be arbitrary, and I think you start
with that as a base level of unfairness.
There is, for example, in my hometown, Seattle, Washington,
an $80 million company, and you would think that sounds like a
wealthy company. They employ 1,000 people. It is called GM
Nameplate. They are going to be forced, if we are not able to
phase out this death tax, to repeal, to sell that company. And
then you have to wonder, because it has happened over and over,
and we all know of companies in our own communities that have
been forced to sell because capital gains tax rates are lower
than death tax rates and the family decides it cannot survive--
--
Mrs. Thurman. Will the gentlewoman yield?
Ms. Dunn. But this is the kind of risk that we run into.
Let me yield, when I am finished with my questions, to Ms.
Thurman.
I would say too, as we discuss this setting arbitrary
limits, people will try to stay within those limits. That is
what compliance costs are all about. We are seeing compliance
costs in the market right now, dollars being taken out of the
private sector, to purchase life insurance policies, or to--to
go to your business, Mrs. Detzel, and hire you for your
services--that are huge amounts of money that aren't being used
to stimulate job increase or to provide medical benefits to
employees in companies. And I think we run into that danger if
we don't take the opportunity we have now to phase this out.
I yield back, Mr. Chairman.
Chairman Thomas. The gentlewoman's time has expired. We
will pick you up. We have got some folks coming.
Does the gentleman from Pennsylvania, Mr. English, wish to
inquire?
Mr. English. Thank you, Mr. Chairman, I do. I am very
intrigued by the testimony that this panel has presented. And,
Ms. Detzel, I am curious about some of the details in your
testimony, or lack thereof. You make the assertion that the--as
I understand it, that the elimination of the estate and gift
tax will have a significant impact on charities. And what you
quote as a source on that is a New York Times article recently.
Are you aware of any--and excepting that you have presented
yourself not as an economist--are you aware of any economic
studies that would support your position on that?
Ms. Detzel. No, sir. And I deliberately stayed away from
discussing the issue of impact on charitiesbecause it is a very
controversial issue, as to whether the repeal of the estate of the gift
tax will have impact on charitable giving. There are a number of
different people who are commenting one way or the other. My personal
viewpoint, from my own personal practice, is that the majority of
charitable planning that is done in my firm is tax motivated, and
whether that is what is around the country, I can't tell you. I know a
number of people have commented. I know of no economic study.
Mr. English. On that point, as I assume you are aware, Mr.
Bush has also proposed some changes in the charitable tax
treatment of charitable giving. Are you aware of that?
Ms. Detzel. Yes, I am. And I guess I am a little confused,
because it seems a little inconsistent to say that----
Mr. English. Really?
Ms. Detzel. Well, the provision in particular that says we
are going to give an above-the-line deduction for income tax
purposes, which generally lower brackets, we need to do that as
an incentive for charitable giving. We need to give that tax
incentive. But we are not recognizing that when we take away a
55 percent benefit, that that might be a disincentive. I mean,
we are saying on one hand we need to give the people an
incentive to make gifts, but on the other hand we take away
that tax incentive.
Mr. English. Do you think that Mr. Bush's plan might, by
providing a new charitable tax incentive, be compensating for
the elimination of the estate tax, and isn't that good tax
policy?
Ms. Detzel. Well, again, I am not a politician or an
economist, but I can simply say that the estate tax and gift
tax rates are at the top end or at 55 percent, and the loss of
a gift--individuals, if they are not able to take advantage of
a 55 percent deduction, they may not make the charitable gifts
that they otherwise would, and whether that will be compensated
or not by the other ones, I can't tell you.
Mr. English. Ms. Detzel, let us be clear, I only brought
this up because it is referenced in your testimony. So you are
the one who has raised the issue of the impact on charitable
giving, which apparently you are not prepared to quantify.
Dr. Thorning, have you studied this issue, and are you
aware of any scholarly work on the likely economic impact on
charities of the repeal of the death tax?
Ms. Thorning. Yes, Mr. English. Let me just mention that
this report issued by the Joint Tax Committee on March 21st
contains some good scholarly references, and I believe the
implication----
Mr. English. More scholarly than a New York Times article?
Ms. Thorning. I think so. I mean, they are citing Jim
Peterba at MIT and people like that. So this Joint Tax
Committee document makes the case that charitable giving might
actually increase with the repeal of the death tax.
Furthermore, there was a Harris Poll recently that concluded
that 71 percent of the people polled said that they would
increase charitable giving if the estate tax were repealed. So
I think there is at least a strong possibility that charitable
giving would be positively impacted by estate tax repeal, and
there is no real reason to conclude that it would drop off.
Mr. English. Now, Ms. Detzel, in your testimony, you also
intimated that the repeal would likely cost more than $236
billion, and the reason being in part, you indicate that income
tax revenues would actually drop because of assets being
transferred to other individuals who have lower tax rates and
might even be transferred offshore.
Dr. Thorning, you have analyzed this. Would you care to
comment on whether that is a serious issue?
Ms. Thorning. The question of how much repeal would cost, I
noticed in Ms. Detzel's testimony, she suggested that repeal
might cost a trillion dollars over 10 years, as opposed to
the--I think it is $266 billion associated with the President's
proposal. So I was wondering about that myself, and it seems to
me, based on the macroeconomic analysis we have seen, for every
dollar of estate tax repeal, we will probably get back at least
20 cents on the dollar. So you already shaved 50 billion off
the 266 billion static revenue cost. And when you take account
of other factors that may come into play, it seems to me that
the case can be made that with a stronger economy and more
jobs, we are likely to see something much less costly than even
the static revenue estimate.
Mr. English. Well, doctor, my time has expired, but I would
recommend to all of the panelists, and in fact, all of my
colleagues on the Committee, a fine thin book by a constituent
of mine, Dr. Hans Senhols, now retired, formerly of Grove City
College. He wrote a book a number of years ago called ``Death
and Taxes,'' which suggests that perhaps the repeal of the
estate tax might actually generate even more revenue than the
estate tax currently generates through increased economic
activity through the balance of the tax system.
But I thank you, I thank all of you for your testimony, and
I yield back, having no time, to the Chair.
Chairman Thomas. I told you I eagerly await an autographed
copy of the book.
Does the gentleman from Missouri wish to inquire?
Mr. Hulshof. I do, and thank you, Mr. Chairman. Thank all
the panelists for being here. Several of you that I have met
and had a chance to converse with on other occasions, and
welcome.
I am mindful, Mr. Stallman, I think, of something you said
as far as the consumer-driven nature that we are as a society.
Our next-door neighbors, my wife and mine, in Columbia,
Missouri, they are an elderly couple. They have got this huge
RV, and a bumper sticker on that RV that says, ``I'm spending
my kids' inheritance.'' And of course, they go to Florida about
3 months every year, probably much to the chagrin of their
children, who we know as well.
Ms. Detzel, let me ask you this, and this is really more of
a rhetorical question. But I am the only son of a farm family
in Missouri. My parents are both healthy, alive and well, and
actively engaged in farming. We have a 600-acre farm. My
question would be, does my father and mother need an estate
plan? And that is a rhetorical question because probably the
answer you would give me would say, ``Well, it depends.'' It
depends on many things. It depends on things within the
decision-making control of my parents, depends on some things
out of their control. For instance, if we were to draw an
arbitrary line and say that family farms up to $1.3 million and
below are not subject to the death tax, a 600-acre farm at
$2,000 an acre, which is not that far afield, just the farmland
itself would come underneath that arbitrary figure. On the
other hand, if improvements were made to that farm and it were
$2,500 per acre, that same 600-acre farm would be over the
exemption at $1.5 million, and really, fair market value, is
something that--and again, I am using this on personal example.
But, Mr. Stallman, in your situation, or any farmer's
situation, there are some things completely within the control
of the individual or family owning the estate, and some factors
completely out of the control, including, of course, when their
time on Earth is gone, and some who have not put those estate
plans in place.
So my real question to you is actually something that Dr.
Thorning suggested, and I quoted Dr. Thorning's words,
``wasting society's resources,'' and again, an anecdotal
situation that occurred yesterday is the reason that I bring it
before this Committee.
A representative of a family winery in my congressional
district, second generation winery, and they are hopeful that
it will be in the family to pass on to the next generation.
They were very candid with me and said that they expend about
between $30,000 and $50,000 a year on term life insurance, the
proceeds of which would go to pay potentially the death tax.
Now, I think that falls right in line with Dr. Thorning's
representations, and others, who have said--Mr. Blethen, yours,
that certain decisions about investments or whether to make
them or not, or how to commit certain resources or not, is
driven by the fact that we have this estate tax. Any comments
on that, and not necessarily my family--I am not asking for a
free estate plan here----
Ms. Detzel. I have some ideas.
Mr. Hulshof. But specifically, I mean, isn't that--in the
example of my constituents say, that spending 30 to 50,000 a
year in term life insurance, isn't that a waste of resources?
Ms. Detzel. Well, I would absolutely agree, and I think
that----
Chairman Thomas. Ms. Detzel, I will have to remind you
again, you need to turn the microphone on.
Ms. Detzel. Sorry. I thought it was on. Excuse me.
I would have to say that I agree with you, and that I think
that--and the worst situation that your parents would be in
would be they don't know where they fall, they don't know
whether they are going to outlive whatever the repeal phase-in
period might be, and wouldn't they be better served by having
certainty of knowing that the estate tax is either repealed, or
they have some large exemption, that they know what it is going
to be and be able to fall within, and not be in this world of
maybe this and maybe that, so maybe I have to buy term
insurance for a while.
Mr. Hulshof. And my comment--because my time is short--I do
appreciate your willingness to be here and have us think about
some of these issues, but I think you have hit--really, you
have come to the crux of the matter, and that is, so long as we
maintain some sort of estate tax, there will always be that
uncertainty. It could be that a new interstate is built
alongside someone's farm and suddenly the value of that farm
has skyrocketed well beyond someone's knowledge at the time
that they created a estate plan. So my belief is--recognize the
Chairman's tapping of the gavel--as a final comment would just
be, that as long as the United States Tax Code, the Internal
Revenue Code, continues to have estate taxes, there will always
be that uncertainty as to whether or not a family farm or
family business would come within that estate tax, and
therefore, is a compelling reason, as far as this
representative is, to the need to see its complete repeal.
Thank you, Mr. Chairman.
Chairman Thomas. Thank the gentleman. Does the gentleman
from North Dakota wish to inquire?
Mr. Pomeroy. Yes, Mr. Chairman. I will begin by yielding 20
seconds to the gentlelady from Florida.
Mrs. Thurman. Thank you, Mr. Pomeroy.
Back to Ms. Dunn. I just want to say first of all, we set
limits on all tax bills. We always have 130, 150, 300,000,
whoever, number one. And second, that was not an arbitrary
number. It was based on the findings that it took in about 98
percent of small business farmers, which was about 2 percent of
the estate tax payers, and that is how that exclusion came up,
which was how the whole dialog started, small businesses and
farmers.
Mr. Pomeroy. I thank the gentlelady, reclaiming my time.
Mr. Stallman, good to see you again. Used to see you up
there on the Ag. Committee, reminded you that it was North
Dakota's three votes in that exciting Farm Bureau election that
put you in as president, so I know you will be very interested
in the view from the northern plains.
Actually, there are two views from rural America about
repeal of the estate tax, and the minority actually sought to
have another farmer on this panel, but one with a very
different position than yours, one opposing repeal. And I would
just--you know, there is an awful lot of loose talk about the
family farm in this estate tax debate. I just would like to put
it into perspective.
In 1998 about 2 percent of all estates were taxable. Of
that 2 percent, 1.4 of the 2 percent had 50 percent of their
assets in farmland. And so we are talking about 642 estates
nationwide. Now, in your testimony, Mr. Stallman, you talked
about these being the most productive farmers. You know, I
don't necessarily agree that the biggest farmers are the most
productive, the very, very biggest few, you talk about them
producing most of the produce. They don't produce most of the
produce. Most of the produce in this country is produced by
family sized farmers, whose problem is having any net worth,
not having a taxable net worth at estate tax time.
I appreciate so the leadership though that you brought to
your organization relative to farm program. You have asked
for--actually, in January you signed a letter that indicated we
ought to double ag. spending up to $18 billion a year. And your
most recent position is we need $9 billion in emergency relief
this year, an additional 12 billion over each of the years of
the 9 years in this period, a total of 105 billion over 10
years over the baseline. I agree with you. I think we need that
kind of new investment in agriculture. Unfortunately, it is not
reflected in the President's budget.
And this really calls into focus, I think, what we are
talking about with the tax bill. There are tradeoffs. We pass a
larger tax bill, there is less we can do in other areas. Now
you have said that repeal of the estate tax is your number one
tax priority. Well, how does it compare to your priority of
increasing the investment in agriculture along the lines that
you have outlined? Would you say that building a farm bill with
counter-cyclical price protection is a bigger priority for you
than repealing the estate tax?
Mr. Stallman. We could probably debate farm policy far
beyond the tolerance of the Chairman.
Mr. Pomeroy. And that is why I didn't even ask you that
question. I asked you a pretty straightforward one, estate tax
repeal or price protection in the farm program?
Mr. Stallman. Well, my point would be that with respect to
farm policy spending, where do those benefits go? You have a
society where consumers spend the lowest amount of their
disposable income of any society in the world. That is how you
can----
Mr. Pomeroy. In court, Mr. Stallman, we would say that is a
non-responsive answer. Let us see you get one of these two
priorities. I am just trying to understand your organization.
Is improving the farm program your biggest priority of this
Congress, or is repealing the estate tax your biggest priority
of this Congress?
Mr. Stallman. Those are both our priorities. We don't
assign rankings on those priorities.
Mr. Pomeroy. So they are equal priorities. That is helpful.
Let us say that the repeal, because of cost factors, would
include carryover basis replacing the present stepped-up based.
Under that circumstance, would you support repeal with
carryover basis, or would that give you cause to look at maybe
increasing the exclusion instead?
Mr. Stallman. Well, at the present time we are in support
of the Dunn-Tanner Bill, and we don't speculate as an
organization, about where we would be on particular issues or
priorities until we see the legislation actually in place. We
have an internal----
Mr. Pomeroy. That is fair.
Mr. Stallman. We have an internal process----
Mr. Pomeroy. Do you oppose carryover basis?
Mr. Stallman. Yes, we want to keep the stepped-up basis.
Mr. Pomeroy. Again, to put it in perspective, I don't think
the debate before this Congress is going to be repeal versus
doing nothing, it is repeal versus reform. I favor a $5 million
exclusion. I believe that the alternative considered will be in
that range. Now, at that point in time, I mean USDA tells us
1\1/2\ percent of all farms exceed 3 million. Let us take it up
to 5. We are clearly dealing, in terms of the issues impacting
the farmer, with the greatest issues that they face.
Now, you mentioned that the estate tax is just so doggoned
unfair we ought to repeal the thing. Do you think it is--you
know, I got a lot more farms being lost and inter-generational
transfer being disrupted due to nursing home costs than I do
impact of estate costs. Do you think it is unfair that a family
farm can't pass from one generation to the other due to nursing
home costs?
Mr. Stallman. I think anything that prevents the inter-
generational transfer of a farm and ranch is probably not,
quote, ``fair.''
Mr. Pomeroy. I absolutely agree with you. So then I think
we need to deal with those points of unfairness interrupting
transfer, that impact the greatest number of farms. I thank the
gentleman.
Chairman Thomas. I thank the gentleman. I thank the panel.
I appreciate very much--oh, I am sorry, the gentleman from
Texas, Mr. Brady.
Mr. Brady. Thank you, Mr. Chairman, especially since we
have a Texan on the panel, which I personally would like to
point out, I like to have Texans on every tax relief panel that
we have if we get a chance. Thank you, Mr. Chairman.
Ms. Detzel, thank you for making the most articulate
argument for substantial reform of the Tax Code that I have
heard in some time, and thank you too for exposing the flaw in
our Democratic friends' proposal. It is time for Washington to
stop picking winners and losers in the Tax Code.
And under their proposal, Mr. Stallman, many of your
farmers we like under that proposal, so you win.
Mr. Blethen, I am sorry, you don't fit our type, you lose.
It is time for us to stop picking winners and losers in our Tax
Code.
Dr. Thorning, you made a very valid point, that if we look
at it economically, repealing the death tax helps grow the
economy, helps create more jobs, helps create new businesses,
and actually helps pay for itself. Those are pretty strong
arguments.
Mr. Blethen, you made a point, or inferred one, that is
real important. Today minority--the two fastest business types,
minority and women-owned businesses, fastest-growing, some are
building wealth the first time their generation, are now
finding that they cannot pass that new wealth, those new
businesses, those farms, down to their next generation. It is
very critical we give them a chance, for a lot of reasons, to
do that.
Mr. Stallman, you know, it is easy. One of our former
Presidents, in visiting Kansas City said, ``It's easy to be the
farmer when you're 1,000 miles from the field. You've got a
pencil for a plow.'' That happens here all the time, and while
we talk about the cost of death tax repeal, I don't think
people realize the cost to our communities when we lose our
family farms. I don't think they understand, even have a clue,
as how devastating it is.
And my belief is we were asking you to make priorities
here, but it seems to me if maybe we would just allow farmers
to compete around the world for business, you wouldn't have
some of these priorities that come up here. So thank you for
being a leader in this effort.
Finally, Ms. Coakley David, let me tell you my story, in
one minute, Mr. Chairman. I had a nursery from our district
come up here to Washington, all the way to Washington, and the
two children who worked in the family nursery, had for a long
time--one of the brothers didn't--but they just went through on
paper how the death tax worked for them. And what they showed
me, was even with the improvements we made a couple years ago,
that basically, if they could afford enough life insurance, and
if they could get a loan when their parents died, they might be
able to keep their family nursery. Now, think what they were
telling me. ``If we can make enough money off our parents'
death, and if we can go back into debt, which we have worked a
lifetime getting out of, by the way, then we might be able to
keep our own business.'' That is wrong, and it is terribly
unfair. And people have different visions of what Washington
should be, but the least, we ought to be fair to people, and
our Tax Code ought to reflect that. So I just want to thank all
the leadership that you have given to NFIB and the farm bill,
your personal perspective, Mr. Blethen, and thank the
panelists.
Thank you, Mr. Chairman.
Chairman Thomas. I want to apologize to the gentleman from
Texas, and I do once again want to thank the panel. It was
especially informative, especially your willingness to discuss
each other's positions. It is very valuable for the Committee
to see that sort of interaction. I know a lot of members would
like to simply have it go one way, but having a three-way
discussion allows us to better understand it from a real-world
point of view. And I want to thank the panel very much for
their time and consideration.
At this time the Chair would call, as we say, the last but
certainly not the least, a panel, Mr. Edward O'Connor, First
Vice President, Retirement and Education Savings at Merrill
Lynch, and he will be representing the Savings Coalition of
America. Mr. Kenneth Gladish--Dr. Kenneth Gladish, National
Executive Officer, YMCA of the United States, speaking for the
Independent Sector. Mr. Robert Canavan, who is Chairman of
Rebuild America's Schools Coalition, accompanied by Mr. Vallas,
who is the CEO of the Chicago Public Schools System.
Given the way you sat down, I would tell you that each of
you, if you have written testimony, it will be made a part of
the record, and you can address us in any way you see fit. And
perhaps we will start to your right and my left with Mr.
Vallas, and then work to Mr. O'Connor and Mr. Gladish.
The microphone needs to be turned on, and you need to speak
directly into it.
STATEMENT OF ROBERT P. CANAVAN, CHAIRMAN, REBUILD AMERICA'S
SCHOOLS
Mr. Canavan. Mr. Chairman, just very briefly, I am Robert
Canavan, chair of Rebuild America's Schools, and if I may, I
will submit my written testimony for the record. Mr. Vallas,
the chief operating officer of the Chicago Public Schools will
present the Coalition's oral testimony.
Thank you for having us here, Mr. Chairman.
[The prepared statement of Mr. Canavan follows:]
Statement of Robert P. Canavan, Chairman, Rebuild America's Schools
Modern Schools: Helping Students Achieve Accountability
Mr. Chairman and Members of the Ways and Means Committee: Thank you
for the opportunity to address the Committee in the context of the
President's revenue provisions. Rebuild America's Schools recognizes
the President's emphasis on education in his budget and revenue
proposals. Leaving No Child Behind is the goal and objective of public
education. We believe parents, school boards, educators, and community
leaders in urban, rural and suburban school districts across America
are committed to meet the President's challenge.
Rebuild America's Schools also supports the President's call for
accountability. Schools boards, teachers, parents and students are
ready to be accountable. But, as we call for greater accountability, we
should also make sure that the students' workplace--where he or she is
performing and being accountable--is a safe, modern learning
environment.
We need to give students the classrooms that will help them
succeed. A clean, safe, modern classroom is more likely to help a child
succeed than a dark, overcrowded, hot or cold, under-equipped classroom
built for the 1950's not the 21st Century.
We read an interesting parallel in the Wall Street Journal of March
19th about Treasury Secretary O'Neill's concern for safe working
environments. Secretary O'Neill is quoted that his focus on worker
safety and worker relations ``. . . is a precondition for beginning to
get people to believe that you care about them and that they matter as
human beings.'' Our coalition asks what is the message we are giving to
America's students if they are not provided clean, safe, up to date
work environments in their schools?
Rebuild America's Schools thanks Congresswoman Johnson and
Congressman Rangel for the leadership they are providing on the
important issue of school facilities. Their ``America's Better
Classrooms Act'' will give local communities a tool to finance modern
schools to help students meet the President's challenge.
Rebuild America's Schools: $268 Billion Necessary to Modernize Schools
Rebuild America's Schools is a national coalition of education
organizations, school boards and districts, PTAs, architects--all
helping local communities find the resources to give their children
modern classrooms.
Rebuild America's Schools Coalition was organized in 1997 in
response to the 1996 Government Accounting Office Study documenting the
national cost to renovate and repair school building at $112 billion.
Communities across the country knew they were struggling at the local
level to find the resources to finance school repairs and renovations.
The GAO study documented that schools in every state were in need of
repair and modernization.
Since the GAO study in 1996 subsequent reports placed the estimates
for school repair even higher. In1999 the National Center for Education
Statistics estimated repair costs at $127 billion. A study by the
National Education Association projected the cost of renovating,
repairing schools and building new schools, for rising student
enrollments, to be $268 billion. This need was documented again in the
recently released report of the American Society of Civil Engineers
grading federal support for infrastructure. Schools again received the
lowest grade, D-.
The American Institute of Architects estimates that thousands of
schools--all across the nation in urban and rural schools are in
desperate need of repair. Nearly, 60 percent of the schools need either
new roofs, plumbing or heating systems, or electrical power and
lighting systems. Many of these schools were built nearly 50 years ago
and most cannot accommodate growing enrollments. The AIA also estimates
that 36 percent of schools use portable classrooms. There are at least
16,000 portable classrooms in use in Florida. More than 2 million
California school children attend classes in portable classrooms.
The need is real.
California: One State's Student Enrollments as an Illustration
The California Federal School Infrastructure Coalition supports
Rebuild America's Schools. Cal-Fed has written to the Committee on this
issue and I will use their information to illustrate one state's school
construction situation. Every state faces the same problems to
differing degrees.
The California Department of Finance estimates that California's
student population will grow by an average of 37,653 pupils per year
between 2000-2005. Currently, California has a K-12 student population
of approximately 5,951,612 students. Projections are that by the year
2005, California will have a student population base of 6,134,412
students.
In 1998 California voters passed Proposition 1A that provided state
funds for modernization and new construction. The state funding from
the proposition requires a match from local school districts. The
entire $2.1 billion has been apportioned to school districts and there
is a pending project list totaling over $1 billion. These state funds
were intended to last through 2002.
Despite this investment, the additional need for deferred
maintenance and modernization in California over the next five years is
estimated conservatively at $7 billion while new school construction
needs are estimated to exceed $9.6 billion.
To illustrate these costs, a 1999 estimate placed the cost of a
600-student elementary school at $7.75 million in California. A 1,000-
student middle school would cost $13.75 million and a 2,000-student
high school would cost $36 million if not higher. Many communities in
California will have to build more than one elementary school, more
than one middle school and more than one high school per year.
School districts and voters in California are struggling to provide
the resources to meet these documented needs. Federal support does
help. California has succefully used the Qualified Zone Academy Bond
program (QZAB) to renovate, repair, and reform programs helping to
create innovative and model schools.
As of January 2001 California has fully allocated the QZAB
allocations for 1998, 1999, 2000, and 2001 totaling approximately
$222,488,000. Local districts have requested an additional $85,000,000
for QZAB projects.
Some of the successful QZAB projects include a Technology Academy
in the Pomona Unified School District, the Center for Advanced Research
and Technology in the Clovis and Fresno Unified School districts, and
two Computer Certification Academies in the Baldwin Park Unified School
District. An extension or expansion of the QZAB program would be
quickly utilized in California and other states as well.
In addition to California, QZABs are being used in 23 of the 25
states represented by members of the Ways and Means Committee.
America's Better Classrooms Act: Leveraging Federal Support Through
School Modernization Bonds
State and local governments are trying to provide the school
facilities that will Leave No Child Behind. But, state and local
resources cannot address the magnitude of the problem. There is a role
for the federal government. The federal government supports
transportation, and science--areas of national interest. Maintaining
our public schools and providing students safe schools and classrooms
is in the national interest.
Congresswoman Johnson and Congressman Rangel and members of this
committee on both sides of the aisle have introduced H.R. 1076 the
America's Better Classrooms Act. This bill will use an estimated
federal investment of $2.7 billion over 5 years to leverage almost $25
billion in local school construction bonds. This is a frugal and wise
investment.
In the 106th Congress 231 members of the House cosponsored the
America's Better Classrooms Act. We expect a clear bipartisan majority
of the House to again support this legislation. Providing students the
decent, modern classrooms they need to learn and succeed is an issue
that should unite members from both sides of the aisle.
As this Committee addresses the issue of tax reduction, Rebuild
America's Schools believes Mrs. Johnson's and Mr. Rangel's bill
provides local property tax relief. Local communities are constantly
struggling to balance local tax rates with the need to modernize
existing schools and to build new schools. The America's Better
Classrooms Act uses a tax credit in lieu of interest to support local
community efforts to finance school construction bonds. The interest
saved through the Johnson Rangel tax credit over the life of the
typical school bond will lessen the burden of local property tax
necessary to finance the bond.
School Modernization Tax Credits: Local Decision Making
The school modernization bonds in the America's Better Classrooms
Act provide a federal tax credit in lieu of interest. The
responsibility for the bond principal is with the states and local
communities.
At the same time, all decision-making prerogatives related to the
actual school renovation and construction remains a local community
decision. The federal government provides an interest subsidy while
leaving the decisions about the construction of the schools at the
local level. The Johnson Rangel bill allocates the credits to the
states through the Treasury Department. States then make sub-
allocations to school districts. That is the extent of the federal
involvement. Decisions about where to build, how to build and what to
build are made at the local level.
Private Activity Bonds: One of a Menu of Options
The President has proposed private activity bonds as a means to
address the nation's school facility problems. We appreciate that this
proposal recognizes the need for federal support for local school
districts. Private activity bonds, which require the participation of a
developer, can be used by some school districts. Some school districts
may be able to find such a partner. But, other districts will not. Many
more will have difficulty finding the resources through their operating
funds to pay the required lease fees. For example, in California,
school districts do not have the revenue source to make lease payments
to a developer constructing a school through private activity bonds.
Many rural schools will have difficulty finding a developer to
build a school with private activity bonds. Rebuild America's Schools
and Organization Concerned About Rural Education (OCRE) estimate that
one out of every two public schools in America is located in a rural
area or small town. Thirty-eight percent of America's students go to
schools in rural areas. Forty-one percent of public school teachers
work in rural schools. Rural communities will have difficulty using the
private activity bonds.
If combined with Mrs. Johnson's and Mr. Rangel's school
modernization bonds private activity bonds could be part of a menu of
federal options available to help school districts address their
pressing school construction needs.
Conclusion
Rebuild America's Schools appreciates the attention the Ways and
Means Committee is giving to the issue of federal support for local
community efforts to modernize schools. The Committee included some
components of the America's Better Classroom Act in the tax bill passed
last year. Rebuild America's Schools asks the Ways and Means Committee
to include the America's Better Classrooms Act school modernization
bonds and the QZAB extension in addition to the private activity bond
proposal in your education tax package this year.
Students need and deserve safe, modern classrooms to achieve the
standards called for by the President.
Thank you Mr. Chairman and Members of the Committee.
Chairman Thomas. Thank you for coming.
Mr. Vallas.
STATEMENT OF PAUL VALLAS, CHIEF EXECUTIVE OFFICER, CHICAGO
PUBLIC SCHOOLS
Mr. Vallas. Well, fine. Thank you very much.
As a member of the Coalition, I was asked to come here
today to really put a human face on how school construction
support can be of benefit to local school districts.
Very quickly, and I will certainly try to be quick, just a
perspective on the Chicago Public Schools. Chicago has 601
schools, 435,000 students. In 1995, when the Mayor was given
full responsibility over the schools, only 10 percent of those
schools were in good condition and about a fifth of our schools
were built right around the turn of the century and hadn't been
renovated in decades. Today, 5 years later, we have 70 new
schools, additions and annexes and over 500 major renovations.
And by September of next year, all of my high schools will be
fully wired and fully ``Internetted'' in virtually every single
classroom.
If you are familiar with what has happened in Chicago, with
the rising test scores, and the increasing graduation rates,
and increasing enrollment, clearly, the success is, in part,
due to the fact that our schools have been renovated, and most
of them have been renovated, and they are modern facilities.
But we still have about $2.5 billion in need. We have come
close to addressing about 60 percent of our needs. Eighty-one
percent of all of the money that has gone into renovating our
schools, we have already spent close to $3 billion, has come
from local effort, mainly property taxes--18 percent from the
State and only 1 percent from the Federal government.
Our additional needs are to provide us with overcrowding
relief, to continue to renovate our obsolete buildings, to
upgrade facilities for our E-rate qualifications and to upgrade
facilities for the ADA requirements, which remains an
underfunded Federal mandate.
Let me point out that I would like to make a few comments
about Johnson-Rangel proposal. First of all, we have been
strongly in support of this proposal we consider it to be far-
reaching. It also allows us, as a school district, to leverage
a considerable amount of money at a modest cost to the Federal
government. I think it is $6.8 billion over 10 years. Twenty-
five billion would be raised. For Chicago, alone, that could
generate $537 million and cut our borrowing costs in half.
We have been, in Chicago, strongly supportive of financial
support to parochial and private schools. We share many
facilities. We support parochial school charters. We don't
oppose vouchers. We have a growing charter school population in
Chicago, so it is not a public-parochial school issue.
The proposal requires local effort. We have to issue the
bonds in order to take advantage of the tax breaks, so the
local effort is there, and it also is a proposal that places
maximum effort on local autonomy and local control. So, to a
certain extent, school districts still control their own
destiny because they are the ones who have got to decide
whether or not they are going to make that a local effort.
Now, that said and done, that does not mean we are in
opposition to other measures. We support the use of the Tax
Code to promote investment in school construction and repair,
whether they are things like investment tax credits or doing
something through the capital gains or doing something through
private activity bonds. But the bottom line is, each of those
proposals will always have a limited impact of the limited
market. We think a combination of proposals will make a
difference. We truly believe that the Johnson-Rangel bill is
most far-reaching and will have the broadest impact, as pointed
out by my testimony.
In the fifties, the Eisenhower administration built the
interstate highway system in the name of the national security,
and of course Governor Stratton, who recently passed away in
Illinois, Republican Governor, was also instrumental using the
national security issue to do the local investment in the
interstate highway system. We certainly consider education and
the building of the school infrastructure no less a national
security issue today than the interstate highway system was in
the 1950s. We certainly think it is something that is going to
have a long-term far-reaching impact.
But we are a school district that has invested a
considerable amount of money. We do need support to finish the
job. There are districts in far worse shape than us who have
not even begun to do their renovations, and we are certainly
here to be supportive and cooperative in any way. We think,
ultimately, a smorgasbord of proposals will probably be needed
on the part of the Federal government to truly help the locals
complete the job, but the Johnson-Rangel bill we think can be
the cornerstone of any comprehensive approach to help local
school districts, deal with their critical infrastructure
needs.
Thank you very much.
[The prepared statement of Mr. Vallas follows:]
Statement of Paul Vallas, Chief Executive Officer, Chicago Public
Schools
Good afternoon everyone, and thank you House Ways and Means
Committee chairman and members for the opportunity to discuss how the
federal government can help us at the local level rebuild America's
schools.
Since 1996, the Chicago Public Schools has committed $2.6 billion
to improving school infrastructure through our Capital Improvement
Program.
Our main objectives have been to reduce overcrowding, improve the
physical condition and operating efficiency of school facilities, and
improve the overall quality of the learning environment at each school.
As a result, we have 15 new schools, 29 additions and 27 annexes
completed or underway. We have more than 1,100 renovation projects such
as new roofs, tuck-pointing and windows; 70 campus parks; 247 new
playlots; 14 athletic fields and stadium renovations; and have added
1,100 new classrooms. Overall, our efforts have increased student
capacity by 32,000.
In order to fund these projects, we have utilized the Qualified
Zone Academy Bonds thoughtfully created by Congressman Charles Rangel.
Congressman Rangel, we thank you for your leadership in this program.
CPS was the first school district to use the QZAB, which helped
build Chicago's first public JROTC academy. In December, CPS had its
third consecutive annual QZAB issuance, which generated $13.4 million
for school improvements at five high schools.
Now that the QZAB is in its last year, we are asking that it be
extended so more CPS schools can benefit. We also thank Congressman
Weller, for exploring the issue of reallocating unspent QZAB funds to
states like Illinois, which have used their entire allocations every
year since the program began.
We also have relied heavily on state and city revenues to rebuild
the schools in the nation's third-largest school district.
However, more revenue is needed, and CPS and Chicago's taxpayers
cannot continue to fund the expanding costs of this program alone.
CPS still needs an estimated $2.5 billion to complete additional
improvements, and the federal government should help shoulder this
load.
Federal funding could be used to construct more new schools to in
turn relieve overcrowding and replace obsolete buildings. Funds, also,
are needed to renovate existing schools, including the electrical
upgrades necessary to support the low voltage E-Rate wiring discounts
and bringing the schools in compliance with the Americans with
Disabilities Act--an unfunded Federal mandate.
School construction is important in America for three reasons.
First of all, it allows students to learn in a clean and safe
environment that does not distract from the school day.
How can students be expected to concentrate when there are leaks in
the ceiling, a draft from a broken window or when they are housed in a
building that is more than 100 years old? These problems send students
the message that they are not important, and that's not the message we
want to send.
In fact, what we are trying to do is fulfill a second purpose for
capital improvement programs, which is to equip schools with state-of-
the-art labs and technology. These facilities will prepare students to
be a competitive part of America's workforce.
Lastly, school construction means more jobs for America's current
workforce. Take CPS for example, 52 percent of our construction work
has been done by Chicago residents and 54 percent of the work was
completed by minority- and women-owned businesses. Every school
district and city could benefit economically from construction programs
like these.
To reiterate Chicago Board of Education President Gery Chico's 1999
testimony before the House Ways and Means Committee, the federal
government's response to America's school construction needs must be
simple, flexible, substantial and immediate.
We need to develop a significantly larger, long-term, permanent
partnership between the Federal government and state and local
governments in funding school infrastructure needs--a partnership
similar to that which exists in transportation. Just as the Eisenhower
administration justified the interstate highway system investment as
necessary to protect the national security interest, the federal
government must ensure the future security of the nation by investing
in school infrastructure.
A federal program should also support infrastructure funding
through a dedicated revenue source and include private and parochial
schools, among other things.
President Bush's inclusion of private activity bonds in his
Education Plan is proof that school construction is still a national
issue. In Chicago, this has been our philosophy for the past six years.
That is because we have realized that what happens in our school
district affects other school districts, and vice-versa. So together,
we have and will continue to share ideas on how to improve America's
schools for all students.
Now we are again asking the federal government to take a more
significant role in improving schools as well.
Thank you.
Chairman Thomas. We thank the Coalition very much.
Mr. O'Connor.
STATEMENT OF EDWARD O'CONNOR, FIRST VICE PRESIDENT, RETIREMENT
AND EDUCATION SAVINGS, MERRILL LYNCH & CO., INC., ON BEHALF OF
SAVINGS COALITION OF AMERICA
Mr. O'Connor. Thank you, Mr. Chairman and the Committee,
for the opportunity to express our strong support for the
President's proposals to promote education savings.
I am Ed O'Connor, first vice president of Retirement and
Education Savings at Merrill Lynch & Co. I see day in and day
out the challenges people face in trying to save for their
children's education and for their own retirement. I must say I
have been in the business for 15 years, and I have really
sensed very recently the additional stress that American
families are having in being concerned about retirement and
education savings, more than any other time in my career.
I am here today on behalf of the 75-member organizations of
the Savings Coalition of America that have joined together to
support incentives to increase personal savings. At the outset,
I would like to commend the President for his proposals to
provide individual tax relief. One positive way to reduce the
tax burden on Americans is to reduce the anti-savings bias in
the Federal tax law. By giving incentives to save, we will not
only reduce the individual tax burden, but also ensure that
important future education and retirement needs are met and
generate increased national savings that will fuel continued
economic growth.
Mr. Chairman, your leadership on savings issues, including
IRAs, is well-known. My testimony today focuses on the critical
task of helping American families prepare for the cost of
higher education, but before I discuss those issues, I would
like to encourage this Committee to continue its great efforts
to enact the truly bipartisan retirement savings legislation,
like the bill introduced by Representatives Portman and Cardin.
Increasing retirement savings must be a critical national
priority. Changes should include four key elements: The first
is to increase the IRA contribution limit to $5,000; the second
is to increase allowable contributions to the various salary
reduction plans we have; thirdly, we should allow meaningful
catch-up contributions to IRAs and salary reduction plans for
those who are approaching their retirement; and, fourth, we
should enhance the portability of the various retirement
programs.
Efforts in the retirement area would address a very
important issue for Americans, and efforts in education savings
addresses the other one. The high cost of attending college is
well-documented. In the past, most families have been forced to
fund college through a combination of pay-as-you-go financing
and pay-after-you-go student loans. Until recently, Federal
government education programs focused only on financial aid and
loans. Please don't get me wrong. Student loans have helped
many millions of Americans, including myself, to attend college
and should continue to play a part in financing higher
education, but a college education financed merely with student
loans can place a significant financial burden on an American
family as they strive to build their career and/or their
family.
A dear friend of mine and neighbor is just this week making
her final student loan payment. She is a mother of three, and
she is 46 years old. Just last year, she put her oldest
daughter into college. So here she is beginning a new financial
burden before she finished her first financial burden.
We believe that the best way to finance college is to save
as much as possible and as soon as possible. If the Federal
government provides meaningful saving incentives, millions of
more Americans will begin to save more and start sooner, and be
able to meet all or most of the college costs that are in front
of them.
Only in the last few years, with the creation of the
Education IRA and section 529-qualified State tuition plans,
has the signal been sent that saving for college ahead of time
is important. While both the education IRA and section 529
plans have helped, they have the potential to do much more than
they do today. My written testimony highlights a number of
relatively modest changes that would improve education savings
substantially. I will highlight two.
To date, the education IRA has had only a limited impact on
education savings, and this is, in large part, because of the
unrealistically low $500 annual contribution limit. Five
hundred dollars per year clearly is not enough. For a child
born today, if the maximum $500 contribution were made to a
child's education IRA each year, that child will be lucky to
have enough just saved for the first year of school in college.
We support the President's proposal to allow at least $2,000
per year in education IRA contributions.
The second proposal is regarding section 529 programs.
These are, as you do know, the State-run tuition programs, and
they have become an effective savings tool for higher
education, but here also certain modest improvements could
greatly increase their effectiveness. In particular,
distributions from section 529 plans that are used for higher
education expenses should not be subject to Federal tax.
American families should not have to save additional after tax
dollars to pay taxes on dollars dedicated for college.
Thank you, Mr. Chairman and the entire Committee. Let us
not forget that retirement savings is preparing for our future,
and education savings is investing in our future.
Thank you.
[The prepared statement of Mr. O'Connor follows:]
Statement of Edward O'Conner, First Vice President, Retirement and
Education Savings, Merrill Lynch & Co., Inc., on behalf of Savings
Coalition of America
Thank you, Mr. Chairman, for giving us the opportunity to express
our strong support for the proposals to promote education savings that
are contained in the President's budget. I am Ed O'Connor, First Vice
President, Retirement and Education Savings at Merrill Lynch & Co.,
Inc. In that capacity, I see day in and day out the challenges people
face in trying to save for their children's education and their own
retirement. The President's proposals and other similar pro-savings
proposals of Members of this Committee will go a long way in helping
Americans meet those critical savings challenges.
I am here today on behalf of the Savings Coalition of America. The
Savings Coalition was established in 1991 to support incentives to
increase personal savings in the United States. Its main objective is
to win passage of expanded Individual Retirement Account (IRA)
legislation for all Americans. There are approximately 75 member
organizations of the Savings Coalition representing a wide variety of
private interests including banking, securities, financial services,
consumer groups, engineering, home-building, realtors, intangible
assets, trust companies, health care industry, insurance, education and
business groups.
At the outset, I would like to commend the President for his tax
relief proposals, and, in particular, his proposals to provide American
families with expanded tax incentives to save for education expenses.
With taxes consuming an ever-larger amount of Americans' income, we
salute the President's efforts to reduce the individual tax burden. One
positive way to reduce the tax burden on Americans, while also to
fulfilling other important national objectives, is to alleviate the
anti-savings bias in the federal tax code. By providing families with
enhanced savings incentives, not only will the individual tax burden be
reduced, but important future education and retirement needs will be
financed. As a bonus, we will generate the increased national savings
that is critical to fueling continued economic growth in the future.
In recent years, this Committee has been pivotal in providing
American families with exciting new tools for retirement and education
savings. Mr. Chairman, your leadership on savings issues, particularly
with respect to expanded IRAs, is well-known. Similarly, the bipartisan
efforts of Representatives Portman and Cardin and many other Members of
this Committee with respect to retirement savings are well documented.
With the strong leadership of this Committee, I believe that we have a
historic opportunity to reduce Americans' taxes, increase savings, and
solidify the education and retirement future of millions of Americans.
In my testimony today, I will focus on the critically important
task of helping American families prepare for the costs of higher
education. Before reaching those issues, the Savings Coalition of
America, on behalf of millions of American savers, would like to
encourage this Committee to continue its efforts to enact bipartisan
retirement savings legislation introduced last week by Representatives
Portman and Cardin, along with more than 250 of their House colleagues.
Enhanced retirement savings opportunities must be a critical national
priority. Changes should include (1) increasing the IRA contribution
limit to $5,000, (2) increasing allowable contributions to salary
reduction plans (such as 401(k) plans, 403(b) arrangements, 457 plans
and SIMPLEs), (3) allowing meaningful catch-up contributions to IRAs
and salary reduction plans for those approaching retirement, and (4)
enhanced portability of retirement assets between plans. Efforts in
that area would complement the increased education savings
opportunities that I will address in my testimony today.
Background
Families confronting college education costs for one child face a
formidable challenge. For families with two, three or more children,
college education costs can be overwhelming. In the past few years,
Congress has created two new savings tools to help American families
prepare for education expenses--the Education IRA and section 529
qualified state tuition plans (QSTPs). While both the Education IRA and
QSTPs have helped American families meet their education savings
challenges, they have the potential to do much more. Indeed, based on
our experience on the front lines of college financing, we believe that
enactment of a few relatively modest changes described below could
improve Education IRAs and QSTPs substantially.
The high cost of getting a college degree is well documented. Since
the early 1980s, the cost of college has increased at a significantly
faster pace than inflation. Today, most families fund college education
through a combination of pay-as-you-go financing (e.g., part time jobs
for the student) and pay-after-you-go student loans. Over the last two
decades, as college tuition and other education costs have continued to
rise, direct financial aid has diminished. As a result, it has become
more and more difficult for families to cover college expenses as they
are incurred. That, in turn, has meant that student and parent loans
have been used to finance an increasing share of higher education
costs. For many, the price of a college education now involves having
to deal with an overwhelming repayment burden for many years after
graduation. When the interest costs on these loans are factored into
the cost of education, the burden imposed on American families becomes
even greater.
The difficulties in financing higher education are also getting
worse because the level of education and specialization required to
compete is rapidly increasing. In the 1970s, a college degree replaced
a high school diploma as a prerequisite for many jobs. Today, four
years of college is often not enough training. Instead, it has become
increasingly common that graduate studies are necessary to stay current
with either the technology or techniques in a given career. This
necessary post-graduate study further increases the total costs of
higher education.
Federal government programs and policies have historically been
designed to help people deal with the burdens of college through
assistance with these pay-as-you-go and pay-after-you-go methods of
financing. Over the years, Federal assistance has taken many forms,
including grants and other financial aid, tax credits, subsidized
higher education loans, and tax advantages for student loans (such as
the ability to deduct student loan interest). Until the last few years,
those who have wanted to save for college in advance have received
little incentive from the federal government.
Having said that, Mr. Chairman, I also want to stress that we do
not believe that student loans (and other federal programs) to help pay
for college education are bad. Just the opposite, student loans have
helped many millions of Americans attend college. However, by focusing
efforts primarily on assisting with pay-as-you-go financing and
subsidized loans, the federal government has sent a strong signal that
advance funding of college was not very important. To the contrary
though, most families with children will need a wide range of
resources--substantial education savings, federal grants and loans,
student jobs, etc.--to meet their higher education needs.
With this backdrop, it becomes clear that the best way to finance
college education with the least disruption for families, and the
smallest financial burden after college graduation, is to save as much
as possible for college in advance. By saving before a child reaches
college age, families can help ensure that adequate funds will be there
to allow their children to attend college. Moreover, by beginning an
education savings strategy for a child at an early age, the family
further reduces its overall burden through theso-called ``miracle of
compounding.''
Education IRAs and QSTPs are excellent tools for increasing
education savings for the entire family. One aspect of the Education
IRA and QSTP savings programs that is often overlooked is that they are
savings vehicles for the extended family. We have found that
contributions do not only come from parents. They come from
grandparents, aunts, uncles, and others who want to contribute to a
loved one's future education. Often the grandparent may be
uncomfortable giving money directly to the grandchildren (or the
grandchildren's parents), perhaps because they are concerned that the
funds may be expended for another purpose before matriculation. Yet
those same grandparents are comfortable setting up an Education IRA or
QSTP for each of their grandchildren. In providing a mechanism that
allows these extended-family members to contribute to a child's higher
education costs, these education savings vehicles have opened up new
avenues for college savings.
Despite those and other advantages, there is still a need to
improve education savings programs. Many commentators have rightly
criticized the anti-savings bias in the tax code, and a logical step in
alleviating that bias is through enhanced incentives for education
savings--where there is a real chance that each dollar of new savings
will also mean a dollar less of debt incurred through student and
private loans.
Improving the Education IRA
When first created in 1997, the Education IRA held out hope as a
potentially critical new education savings vehicle for American
families. By giving a tax advantage for college savings, the Federal
government sent out a highly visible signal to American families that
saving in advance for a child's higher education costs must be a high
priority.
In spite of this great potential, the Education IRA has had only a
limited impact. While helping some families meet a portion of higher
education costs, the Education IRA has not reached its full potential
for a number of reasons--particularly the unrealistically low $500
annual contribution limit. Indeed, we frequently hear feedback from
parents, grandparents, and other customers that the account is simply
inadequate to meet more than a small fraction of the education savings
need. In addition, the Education IRA rules need to be simplified.
Complex restrictions on eligibility and ``fine print'' on the
availability of favorable tax treatment confuse people and scare them
away from contributing, further discouraging use.
Increasing the $500 Contribution Limit. The current $500 maximum
contribution to an Education IRA is woefully inadequate. For a child
born today, if the maximum $500 contribution were made to the child's
Education IRA in each year, that child would only have about $17,000 by
the time he or she reached college age in 2019 \1\--an amount that
could be little more than is needed to fund one semester's tuition,
room and board at an in-state public institution.
---------------------------------------------------------------------------
\1\ Assumes seven percent annual rate of return on investment in
the Education IRA.
---------------------------------------------------------------------------
The $500 contribution limit also creates many other problems that
severely limit the effectiveness of the Education IRA. First, during
the early years of an Education IRA, the account balance is so small
that the broadly available savings vehicles, whether bank or brokerage
accounts, mutual funds, or annuities, have administrative costs that
could exceed any earnings. For example, if a financial institution
charges only $20 annually to administer an Education IRA, the assets in
the account would have to earn more than 4 percent just to break even
during the first year the account is in existence. In addition, many
products require an initial investment greater than $500. People
understand this, and many are reluctant to begin savings through a
vehicle that could lose them money during the early years.
Equally important, the small account size that flows from the
current $500 contribution limit has meant that many financial
institutions do not even offer Education IRAs to their customers. For
those institutions that have incurred the expense of offering Education
IRAs, advertising has been minimal. If we are to get American families
focused on the importance of saving for college early, we need to make
them more aware of the scope of the financial crunch that comes when
children begin college. Advertising of Education IRAs would be an
effective instrument for educating the American people about the
importance of college saving. Significant advertising is unlikely to
occur as long as the maximum annual Education IRA contribution is $500.
For these reasons, we believe that the annual Education IRA
contribution limit should be increased substantially and we commend the
President for his proposal to provide up to $2,000 per year in
contributions. At that level, significant advertising could be expected
and many of the small account problems would be eliminated for most
contributors. Equally important, if the savings begins early enough in
the child's life, this higher contribution limit could go a long way
toward financing the total cost of a college education.
Allowing Catch-Up Contributions. The members of this Committee may
also wish to consider those who are already approaching college age.
For a family with a child aged fourteen, even $2,000 per year would
only fund a portion of the cost of attending college. In the retirement
area, bipartisan proposals have included ``catch-up'' contributions
that would allow those approaching retirement (i.e., age 50 and older)
to make increased contributions to their IRAs and employment-based
retirement plans. A similar catch-up concept would make a great deal of
sense for children over a specified age (e.g., age 13 or older).
Extending the Deadline for Contributions. Further confusion is
caused by the rules governing timing of contributions to Education
IRAs. Today, an Education IRA contribution for a year must be made by
December 31st of that year. This is different from the rule that
applies to all other IRAs. For all other IRAs, contributions can be
made at any time through the due date of the individual's tax return.
People understand the IRA rule and do not understand why the Education
IRA rule should be different. Having the same deadline for all IRA
contributions (including traditional IRAs, Roth IRAs and Education
IRAs) would reduce confusion.
Perhaps more important, the IRA approach to the timing of
contributions has proven very successful in increasing IRA
contributions. A substantial portion of total IRA contributions occur
after the close of the year. We have found that one of the main reasons
is that many individuals do not focus on the need to contribute until
they focus on the amount of tax they are paying. For others, a tax
refund may provide an ideal resource for saving. If that refund is not
saved right away, however, it often will not remain unspent for long.
For these reasons we strongly encourage the Committee to modify rules
on timing of Education IRA contributions to track the rules currently
applicable to all other IRAs.
Improving Distribution Rules. Another element of unnecessary
complexity in the current Education IRA results from uncertainty
regarding the tax treatment of distributions. Under the rules currently
in effect, amounts distributed from Education IRAs are excludable from
gross income to the extent that the amounts do not exceed qualified
higher education expenses during the year of the distribution. That is
a fair and easy rule to understand--if you use the money for college
costs, you do not pay tax.
The problems with the current distribution rules arise in the
interaction of the Education IRA tax treatment and the HOPE and
Lifetime Learning credits. Today, if the HOPE or Lifetime Learning
credit is claimed with respect to a beneficiary for the year in which
the Education IRA withdrawal is made, then the Education IRA loses its
tax-advantaged treatment. This is true even if the family is entitled
to a HOPE credit or Lifetime Learning credit with respect to some
college expenses and the student is making the Education IRA withdrawal
to pay other expenses.
Although some type of rule to prevent ``double dipping''--claiming
the HOPE or Lifetime Learning credit for the same expenses that are
paid out of the Education IRA--makes sense, the current rule is a clear
case of overkill. For the Education IRA to be successful, individuals
making contributions need to know with considerable certainty that they
will get the tax benefit if they use the account to cover college
costs. As a result, we recommend that the current rule denying all tax
advantages to Education IRA withdrawals in any year in which HOPE or
Lifetime Learning credits are claimed should be replaced with a
narrower rule targeted to combat double dipping.
Expanding Eligibility. Today, eligibility to contribute to an
Education IRA is limited depending on the contributor's modified
adjusted gross income. Our experience with traditional IRAs, Roth IRAs
and Education IRAs shows that limiting access based on income ends up
reducing savings at all income levels. Right about the time someone
starts getting interested in setting up a new IRA or Education IRA,
they hear a disclaimer that only certain individuals are eligible and
that they should immediately check with their tax advisor to see if
they qualify. That scares people, especially middle income families who
do not have a tax advisor. They automatically assume that they are one
of the ones that are excluded. Or they decide not to start the pattern
saving because they assume they will not be eligible next year and that
it is just not worth the trouble.
The experience with the income limits that were placed on
traditional IRAs in 1986 is illustrative of this point. Although the
intention may have been to take the IRA away from more affluent
households, the end result of the 1986 Act income limits was to drive
over seven million Americans with income below $50,000 out of IRAs. In
fact, IRA contributions dropped by more than 40 percent for those who
continued to be eligible for deductible IRAs in the year after the
income limits were imposed. Before the changes that went into effect in
1998, IRA participation among those with income under $50,000 had
dropped by over 65 percent.
The lesson of the IRA experience is clear. Income limits confuse
potential contributors and, in the end, also drive away people who are
eligible to contribute. All Americans should have access to savings
vehicles for their children's education. For these reasons, we strongly
encourage elimination of complex Education IRA income eligibility
rules.
Permitting Rollovers to Roth IRAs. A similar problem arises with
the severe restriction on Education IRA withdrawals if the individual
does not withdraw funds to go to college. Today, an individual must
withdraw all Education IRA balances within 30 days after attaining the
age of 30 and the earnings portion of such distribution is fully
taxable and subject to a 10 percent penalty tax because the amount was
not used for education.
To understand the uncertainty that this age 30 rule creates, you
can put yourself into the shoes of a grandparent wanting to contribute
to an Education IRA of a young grandchild. That grandparent may hope
(or even expect) that the grandchild will go to college, but they have
no way of being absolutely certain. In many cases, that uncertainty can
be enough to cause the grandparent not to make the Education IRA
contribution. If on the other hand, the grandparent knew that if the
child did not use the funds for college they could be transferred to a
Roth IRA as the start of a retirement nest egg, the chances are
increased that the grandparent would make the contribution.
In fact, the large lifetime earnings differential between those who
have a college degree and their peers who are high school graduates is
well documented. A leg up on retirement savings for those who are more
likely to work all their lives at lower wage rates would be an
important and equitable step in closing that gap. Of course, the vast
majority of the children will end up using the money for college as
originally intended, but the added flexibility will provide the needed
comfort to the individual making the contribution in the first place.
Qualified State Tuition Programs (QSTPs)
Section 529 of the Internal Revenue Code provides federal tax rules
for state-run QSTPs. Merrill Lynch assists states by acting as program
manager for QSTPs. In that capacity, Merrill Lynch and other Savings
Coalition members provide management, investment, administrative and
advisory services to the programs.
QSTPs operate differently than Education IRAs, and have their own
federal tax rules. QSTP are sponsored by a State, and can operate
either as a ``pre-paid'' tuition plan or an education savings account--
(many states sponsor both). In most instances, states have contracted
with a financial institution like Merrill Lynch to administer its QSTP.
QSTPs are relatively new arrangements that are evolving as the
different states continue to improve their programs to better meet the
higher education savings needs of American families. For those who have
become acquainted with the unique advantages of QSTPs, however, these
state-run programs have become a powerful tool for higher education
savings. Still, certain improvements could greatly enhance the
effectiveness of QSTPs in helping children attend college. These
include the following:
Improving the Tax Treatment of Distributions. Today, for federal
tax purposes, QSTP distributions for higher education expenses are
generally taxable to the student to the extent they exceed
contributions. We urge enactment of proposals that would allow QSTP
distributions (or education benefits) to receive tax treatment similar
to that currently afforded Education IRAs (i.e., distributions for
higher education expenses generally would not be taxable). To the
extent that American families are saving for higher education expenses
and receiving distributions from QSTPs solely to meet those expenses,
the federal government should exempt such amounts from federal
taxation. By doing this, American families would not have to save
additional amounts to pay taxes on QSTP distributions, and they would
be provided an additional tax incentive to save for their children's
higher education costs. Consequently, we support the President's budget
proposal to provide a full tax exemption to all QSTPs.
Confirming That Periodic Rebalancing of Investments is Allowed.
Section 529(b)(5) provides that a QSTP contributor or beneficiary may
not directly or indirectly direct the investment of contributions to
the QSTP. In other areas of the tax law where there are prohibitions on
investor control by account or fund owners, those requirements have
been interpreted to mean that the owner cannot select the individual,
underlying investments of the account or fund (e.g., the owner would
not be permitted to direct the purchase of stock in a particular
company or companies).
With respect to QSTPs, however, the Internal Revenue Service
(Service) has issued proposed regulations that imply that QSTP owners
would generally be prohibited from changing their broad investment
criteria after the initial selection. The narrow interpretation of the
law contained in the regulations is inconsistent with the underlying
purpose of the legislation and is not supported by the statutory
language or its legislative history.
With the kind of volatility we have seen in investment markets
recently, it is understandable why many individuals would be reluctant
to make an irrevocable investment decision for a period of perhaps
twenty years with regard to a matter as important as a child's
education. Yet, that would be the end result if the Service were to
finalize the position taken in the proposed section 529 regulations.
While there are other issues that remain to be resolved in
connection with the regulatory process, we urge the members of this
Committee to clarify (either formally or informally) that the section
529(b)(5)prohibition on investment direction in the statute was not
intended to preclude reasonable periodic rebalancing of broad
investment choices within a QSTP. There seems to be no policy rationale
for the view that an investment decision once made could never be
changed.
Expanding the Definition of Qualified Higher Education Expenses.
Section 529 currently limits the maximum amount of qualified higher
education expenses for room and board to the minimum amount charged by
an institution to any student, without regard to whether or not the
student has reasonable living expenses that are higher than the
minimum. This limitation can be particularly unfair to students living
off-campus. Thus, the definition of qualified higher education expenses
should be amended to permit reasonable room and board expenses.
Allowing Rollovers. Today, QSTP amounts cannot be rolled over to a
first cousin of the designated beneficiary. Because the federal
government should encourage higher education savings by extended family
members, the rules should allow rollovers to first cousins. Under this
more logical rule, a grandparent could contribute to a QSTP for one
grandchild, but if it became prudent to transfer those amounts to the
QSTP of another grandchild who is a first cousin of the original
designated beneficiary, the grandparent would have the flexibility to
do so. Similarly, when there is no change in the designated
beneficiary, rollover from one QSTP to another should be allowed. We
urge this Committee to provide that a transfer of credits (or other
amounts) from one qualified tuition program for the benefit of a
designated beneficiary to another qualified tuition program for the
benefit of the same beneficiary would not be considered a distribution,
without any restrictions being placed on such transfers.
Conclusion
Thank you for giving me the opportunity to present this statement
on the critically important issue of education savings. We need to give
American families the best tools we can to help them prepare for their
children's future education costs. While the Education IRA and QSTPs
are a good start, modest improvements in these programs could help them
reach their full potential--and unlock the key to the higher education
dreams of millions of American families and their children.
In the end, each American must accept significant responsibility
for saving for their future needs. But the government must help by
reducing the tax burden on those who save and by making the savings
choices simple and understandable. With that end in mind, our national
savings strategy must include an effective set of incentives that will
expand personal savings, especially for education and retirement.
Improving existing savings vehicles like the Education IRA, QSTPs,
IRAs, and employment-based plans should be the backbone of that effort.
We need to give American families the best tools we can to help them
prepare for the future.
Chairman Thomas. Thank you very much, Mr. O'Connor.
Mr. Gladish.
STATEMENT OF KENNETH GLADISH, PH.D., NATIONAL EXECUTIVE
OFFICER, YMCA OF THE USA, ON BEHALF OF INDEPENDENT SECTOR
Mr. Gladish. Thank you, Mr. Chairman and Members of the
Committee. I am Ken Gladish, national executive director of the
YMCA of the USA. I am honored to testify today on behalf of the
nation's 2,500 YMCAs (I might say, parenthetically, YMCAs in
each of the districts of the Congressmen represented here) and
on behalf of Independent Sector, a nonpartisan, nonprofit
coalition of over 700 national voluntary and philanthropic
organizations.
We are heartened by President Bush's call for increased
charitable giving and community involvement, and we strongly
endorse his proposal to provide tax incentives to increase
charitable donations by all taxpayers, not just those who
itemize their deductions.
The YMCA itself reaches 17 million people across the
country and provides a wide range of vital community services
in such areas as child care, juvenile delinquency prevention,
health and wellness classes, teen centers and family programs.
To ensure that our programs are available to people of all
faiths, ages, and abilities, and incomes, YMCAs collectively
raised more than $682 million last year across the country to
provide scholarships and subsidies for those in need. Every
dollar of this makes a difference, and a lot of it comes a
dollar at a time.
Take New York City, population 8 million. The YMCA of
Greater New York, which I understand was Congressman Rangel's
alumni YMCA, raised $1,700,000 last year in one particular
program to provide low-income youth with financial assistance
and subsidies. This $1.7 million came from 6,106 donors.
Ninety-four percent of those donors gave $1,000 or less, 66
percent of those donors gave $100 or less. As a matter of fact,
the most common contribution was $20.
Now look at Dubuque, Iowa, population 60,000. Last year,
the YMCA of Dubuque raised $44,000 for their campaign called
Partners for Youth. Average contribution: $100. This holds true
in YMCA's throughout the country and for many not-for-profit
entities and organizations of all kinds. A huge amount of our
support comes from what most of you would consider small gifts
and small givers. It is these small giftswe rely on, and it is
this type of people that we need more of.
Our Tax Code is the most powerful tool available to send a
message that we, as Americans, highly value and strongly
support charitable giving, but today this message goes only out
to the 30 percent of taxpayers who itemize their deductions.
Mr. Chairman, the nonitemizer deduction would provide a strong
stimulus for increased giving and new givers. My written
testimony cites a recent report by PricewaterhouseCoopers which
showed that had the President's nonitemizer charitable
deduction been in effect in 2000, total charitable giving would
have increased by $14.6 billion, an increase of 11.2 percent.
And perhaps more importantly, 11 million Americans who are not
currently givers would have been inspired to begin the habit of
giving. And once you start giving and you see the amazing
impact you can have on the life of another person, it is hard
to stop.
When the Clippard family of Colerain Township outside of
Cincinnati first started giving to the YMCA, their annual gift
was about $100 a year. Over the years, their contributions
slowly increased, the number of hours they spent volunteering
slowly increased, and now thanks to a large and generous gift,
this same family that started at $100 has named the new
Clippard Family Branch of the YMCA serving Colerain Township.
I know that this Committee will be working to provide major
tax relief for America's hardworking low- and middle-income
families. The nonitemizer deduction is an extremely attractive
means of providing part of this needed tax relief since the
deduction would achieve three important social goals rather
than just one. It would reduce taxes, target those cuts to low-
and middle-income taxpayers who make up the majority of
nonitemizers and encourage increased charitable giving to the
thousands of community-based and faith-based nonprofits that
are on the front lines of helping our neediest citizens.
I mentioned earlier that YMCA has raised $682 million last
year to provide programs for those in need. While we consider
$682 million a good start, more needs to be done. We want more
families to be able to afford high-quality child care; we want
more teens to have safe and structured activities after school
and in good school programs; we want more elderly people to be
able to participate in our health and wellness programs.
Mr. Chairman and Committee Members, allowing nonitemizers
to take the charitable tax deduction will be a powerful tool in
helping charitable organizations address the pressing needs of
communities and citizens throughout the country.
Thanks for the opportunity to share our views on this
important provision in the President's tax plan to encourage
increased charitable giving.
I speak on behalf of the YMCA of the USA, our 18 million
members, and our colleagues of the Independent Sector.
[The prepared statement of Mr. Gladish follows:]
Statement of Kenneth Gladish, Ph.D., National Executive Director, YMCA
of the USA, on behalf of Independent Sector
Mr. Chairman and Members of the Committee, I am Ken Gladish,
National Executive Director of the YMCA of the USA. Together, the
volunteer-run, community-based YMCAs are the nation's second largest
national nonprofit organization. Across the country, there are nearly
2,500 YMCAs serving nearly 17 million people, half of whom are youth.
We serve all ages, incomes, abilities and faiths through a variety of
programs including child care, delinquency prevention, health and
wellness, teen centers, and family programs. YMCAs collectively are the
largest providers of child care and school age care in the country--
serving 9 million youth in out-of-school time. To successfully provide
these and other critical youth and family programs, last year YMCAs
raised $682 million in charitable gifts and had over 600,000 volunteers
give of their time and energy.
The YMCA of the USA is proud to be a member of Independent Sector,
a nonpartisan, nonprofit coalition of over 700 national voluntary and
philanthropic organizations that share a commitment to strengthening
communities through philanthropy, volunteerism, and citizen initiative.
I am honored to testify on their behalf this morning about the tax
incentives President Bush has proposed to encourage charitable giving
by all Americans.
America's charitable nonprofits, both secular and faith-based
organizations, are vital to our democracy and our quality of life. We
depend on a strong base of charitable giving to sustain programs and
services that benefit all citizens, particularly our most vulnerable
individuals and families. Our tax code has been and remains the most
powerful tool available to send the message that we as Americans highly
value and strongly support charitable giving. But today, that message
goes out only to the 30% of taxpayers who itemize their deductions. The
tens of millions of hard-working low- and middle-income Americans who
claim the standard deduction do not receive any recognition or
encouragement through the tax code for their charitable giving.
Intended or not, the message those taxpayers receive is that their
charitable contributions are not worth counting.
Tax policy should strongly encourage giving by all Americans--not
just those taxpayers who itemize deductions. President Bush's proposal
to extend the charitable contributions deduction to all taxpayers would
provide that strong incentive and encouragement. We applaud and endorse
the legislation introduced by Representative Philip Crane (H.R. 777)
and Representative Jennifer Dunn (H.R. 824) which includes this
critical provision of the President's tax plan. Enacting the charitable
deduction for taxpayers who do not itemize their deductions is the only
real way for Congress to send the message that charitable giving is an
important value for all Americans.
Beyond its powerful symbolic importance, the non-itemizer deduction
would provide a strong stimulus for increased giving and new givers. A
recent report by the National Economic Consulting Division of
PricewaterhouseCoopers concluded that had the non-itemizer deduction as
proposed by President Bush been in effect in 2000, total charitable
giving would have increased by $14.6 billion--an increase of 11.2%.
Perhaps even more important, PricewaterhouseCoopers concluded that the
non-itemizer deduction would have stimulated charitable gifts by 11
million Americans who would otherwise havegiven nothing. The long-term
importance of encouraging these millions of Americans to develop the
habit of giving will be invaluable to the ability of charitable
nonprofits to carry out the programs and services so imperative to the
continued health and vitality of communities throughout America.
There is further clear and compelling evidence that providing a
non-itemizer deduction would dramatically increase charitable
contributions. In 1981, Congress enacted the non-itemizer deduction on
a 5-year trial basis from 1982 to 1986. The deduction was phased in
gradually and was in full effect only in 1986. Significantly, between
1985, when non-itemizers were allowed to deduct only 50% of their
contributions, and 1986, when non-itemizer gifts were fully deductible,
total giving by non-itemizers increased by 40%, according to IRS data.
Sadly, since Congress permitted that legislation to sunset in 1986,
seven of ten taxpayers can no longer deduct their charitable
contributions and the resulting loss in charitable giving has been
substantial. A recent analysis drawn from the Spring 2000 IRS
Statistics of Income Bulletin shows a dramatic difference between the
amounts contributed by itemizers and non-itemizers in every income
group.
The increased charitable contributions that will result from the
non-itemizer deduction will provide much needed funding to thousands of
community-based and religious organizations that are addressing
America's most urgent social concerns. Well over half of the
contributions made by non-itemizers go to religious and human service
organizations. A tax deduction for charitable contributions will
provide additional funds to those non-itemizers who already give to
increase their donations, and it will provide the needed incentive to
new givers to make contributions to the agencies that serve their
community.
With the increased contributions produced with the non-itemizer
deduction, community-based organizations, like the YMCA, will be able
to continue to provide vital social services. These very contributions
will allow YMCAs to effectively serve the growing needs of our
country's youth. The YMCA has recently launched the YMCA Teen Action
Agenda--a national campaign to double the number of teens we serve from
one in ten to one in five by 2005. We are committed to providing teens
with the services and support, such as GED and job training, mentoring,
tutoring, and computer skills training, to become contributing members
of society. To succeed at this auspicious goal and effect change among
disadvantaged teens and their families, in particular, the YMCA will
have to raise substantial funding--much of which will have to come from
individual contributions. We are currently partnering with JCPenney
Afterschool Alliance and PepsiCo, which have generously provided
critical corporate support for Y teen programs. But, this provides only
a start. To serve 4.8 million teens, caring, committed individuals in
communities across our nation will have to generously contribute to
their local YMCA. The non-itemizer deduction will prove critical in
making this a reality. No other measure could do more to strengthen
America's vital infrastructure of community-based service
organizations.
The non-itemizer deduction would be simple for taxpayers and easy
for the IRS to administer. It is hard to imagine a tax provision easier
to explain. The message to non-itemizers would be simple and clear:
when you donate to a charitable nonprofit, you can take a deduction off
your taxes. The deduction would require only a single additional line
on the Form 1040EZ, and the IRS has already developed clear, user-
friendly instructions explaining what types of contributions are and
are not deductible for itemizing taxpayers.
A first-dollar non-itemizer deduction would not create an
unreasonable compliance risk. Itemizers--whose gifts account for 80% of
all charitable giving--have always been allowed a first-dollar
deduction for their charitable gifts. Congress has never viewed this as
creating an unacceptable compliance risk, and there is no reason non-
itemizers should be treated less favorably.
A first-dollar non-itemizer deduction does not give an
inappropriate double tax benefit for charitable contributions. Congress
has never viewed the standard deduction as including an explicit
charitable contributions component. Instead, Congress has fixed the
amount of the standard deduction based on its desire to encourage a
high proportion of Americans to use the simpler ``short form'' tax
form. There is no policy tension between maintaining the standard
deduction and allowing a first-dollar non-itemizer deduction. In fact,
there is clear precedent in the 1981 legislation that permitted non-
itemizers to take a standard deduction and to deduct their charitable
contributions.
Implementing the charitable contribution deduction without a floor
will have the most positive effect on increasing contributions and
encouraging new givers. The PricewaterhouseCoopers study I referred to
earlier found that a non-itemizer deduction without a floor would have
produced a $14.6 billion increase in giving in 2000 and would have
stimulated 11 million Americans who had not previously donated to begin
to develop a lifetime habit of giving. By contrast, the PWC study
showed that imposing a $500 floor would have stimulated only $3.7
billion in increased gifts.
Another study by the Urban Institute, using a different charitable
giving model, also found that allowing non-itemizers to deduct
charitable gifts beginning with the first dollar given would stimulate
more giving than allowing a deduction only for gifts in excess of a
floor of $250 for single filers.
Last, but not least, the non-itemizer deduction would provide
important tax relief to low- and middle-income Americans. In recent
months, broad consensus has emerged on the importance of enacting a
significant, broad-based tax cut. Major tax relief for America's hard
working low- and middle-income families must surely be a part of any
such legislation. The non-itemizer deduction is an extremely attractive
means of providing part of this needed tax relief since the deduction
would achieve three important social goals rather than just one--it
would reduce taxes, target those cuts to low- and middle-income
taxpayers who make up the majority of non-itemizers, and encourage
increased charitable giving to the thousands of community-based and
faith-based nonprofits that are on the front lines of helping our
neediest citizens.
It is important to note that this benefit will only extend to
taxpayers at the lowest income levels if the legislation allows a
deduction for the first dollar given. Adding a floor below which
contributions could not be deducted would immediately put this
important deduction beyond the reach of many low-income non-itemizers.
Low-income non-itemizers considering making gifts early in the year
often won't know whether they'll be able to make total gifts during the
year in excess of the floor. And thus, they won't know whether any of
their gifts will be tax deductible. This is hardly the way to affirm
the importance of their gifts.
IRA Charitable Rollover Incentive Act
President Bush's tax proposals include other incentives to increase
charitable giving which we know will receive careful attention from
this committee. Before I conclude, I would like to add our voice of
support for one other specific proposal, and that is the provision in
the President's proposal that would make it easier for individuals to
donate funds from their Individual Retirement Accounts to charities.
The IRA Charitable Rollover Incentive Act (H.R. 774) removes the tax
barriers to such donations by allowing donors to exclude from their
taxable income any IRA funds rolled over to a charity. This proposal is
widely supported in the nonprofit sector, and would, if enacted, unlock
substantial new resources for the support of charitable organizations
and their public-service missions. Although charitable organizations
frequently receive inquiries from potential donors about giving regular
IRA funds during their lifetimes, when donors realize that they may
have to pay a significant amount of tax to make the contribution, these
types of gifts rarely get made.
This proposed legislation is good public policy. It would unlock
substantial new resources for the support of charitable organizations
and their public-service missions. There are many middle-income
Americans who have accumulated funds in their IRAs that, as a result of
favorable markets and moderate inflation, now exceed their needs and
expectations and who would like to contribute some of those funds to
charity if it would not have detrimental tax consequences.
The work of our secular and faith-based charitable nonprofits is
integral to strengthening communities throughout our country and
addressing the pressing issues and concerns they face today. The non-
itemizer charitable deduction will provide significant help in
recognizing and encouraging charitable giving by all Americans to
support these important efforts. Moreover, it will provide the needed
incentive to spur more Americans to get involved in community-based
organizations and begin a life-long habit of making charitable
contributions. Thank you for the opportunity to share our views on
these important provisions in President Bush's tax plan to encourage
increased charitable giving. I would be pleased to answer any questions
that you may have.
__________
Independent Sector
A Charitable Tax Deduction for Nonitemizers Should Be Enacted by
Congress
Since Congress permitted the charitable tax deduction for
nonitemizers to sunset in 1986, seven of ten taxpayers, the
nonitemizers, can no longer deduct their charitable contributions and
the resulting loss in charitable giving has been substantial. This
becomes obvious when a comparison is made of the amount contributed by
itemizers and nonitemizers who are in the same income groups.
----------------------------------------------------------------------------------------------------------------
Amount Amount % of Income % of Income
Income Group Contributed by Contributed by Contributed by Contributed by
Itemizers Nonitemizers Itemizers Nonitemizers
----------------------------------------------------------------------------------------------------------------
$1 < $5,000 $308 $29 10.6% 1.1%
$5,000 < $10,000 $738 $138 9.3% 1.8%
$10,000 < $15,000 $941 $216 7.4% 1.7%
$15,000 < $20,000 $1,186 $285 6.8% 1.7%
$20,000 < $25,000 $1,150 $330 5.1% 1.5%
$25,000 < $30,000 $1,333 $364 4.8% 1.3%
$30,000 < $40,000 $1,349 $465 3.9% 1.3%
$40,000 < $50,000 $1,425 $654 3.2% 1.5%
$50,000 < $75,000 $1,740 $965 2.8% 1.6%
$75,000 < $100,000 $2,357 $1,333 2.7% 1.6%
$100,000 < $200,000 $3,466 $1,254 2.6% 1.0%
$200,000 < $500,000 $7,694 $2,934 2.7% 1.0%
$500,000 < $1 million $19,651 $6,876 2.9% 1.0%
$1 million or more $140,972 $21,015 4.7% 1.0%
----------------------------------------------------------------------------------------------------------------
Source: Data prepared for The New Nonprofit Almanac and Desk Reference by Independent Sector (Jossey-Bass, 2001)
using data from the IRS Statistics of Income Bulletin, Spring 2000.
The average annual amount contributed per tax return for itemizers
is $2708; the average for nonitemizers is $328.
Eighty-seven million tax filers are nonitemizers. It is clear that
if all nonitemizers raised their contributions to the amount given by
itemizers, giving would increase greatly. In fact, charitable
contributions by nonitemizers increased by 40% or $4 billion from 1985
to 1986, according to Internal Revenue Service data. Nonitemizers were
permitted to deduct only 50% of their charitable contributions and they
gave $9.5 billion that year. In 1986, they could deduct a full 100%
and, according to the IRS, they gave $13.4 billion--an increase of 40%.
The message from that experience is apparent. Charitable tax deductions
do stimulate substantially increased giving from middle income
Americans.
Nonitemizers are low to middle income American households (70
million have incomes under $30,000 a year) who support services such as
the Red Cross and the American Cancer Society. They give to churches
and synagogues, environmental organizations, schools, colleges,
hospitals, food programs for the homeless, and the Boy Scouts and Girl
Scouts. They give to advocacy organizations, health research, the arts,
international development, and myriad activities in the public interest
that enrich our society and protect its people. Congress should enact a
legislation that will permit these moderate income Americans to take a
deduction for their contributions to charity.
Mrs. Johnson OF CONNECTICUT. [Presiding.] Thank the
gentleman and thank the panel.
Mr. McCrery.
Mr. McCrery. Thank you, Madam Chair, and I want to thank
the panel for your testimony.
Mr. O'Connor, with respect to the Portman-Cardin proposal
that would increase the opportunity to save and invest, you
have mentioned that you considered this to be something that
Congress could do to stimulate the economy. Could you go into a
little more detail as to why the Portman-Cardin provisions
would stimulate economic activity.
Mr. O'Connor. Let us look at the history. Today we have
approximately $12 trillion that Americans have saved in some
form of a retirement plan. That has been accumulating over the
past 20 years, and I do not think that it is a coincidence that
we have just experienced unprecedented economic expansion.
My previous position in Merrill Lynch, just to give it from
another perspective, was an international assignment. And I
must tell you, if you are not aware of this, that all of the
other major countries in the world look at our retirement
system and want to emulate it. However, when you look at our
savings rate, as you well know, it is the lowest out there from
all of the developed countries.
What I see in behavior, and this is from my marketing
experience with Merrill Lynch, is today about 35 to 40 percent
of the people who can make an IRA contribution do. The rest do
not, for various reasons. We have done extensive research on
why you do not do something that is good for you, and it comes
down to complexity. Quite frankly, it is only $2,000 a year,
and over the last 20 years inflation has eaten away at that
value. So, hence, to grow it to $5,000 is just merely to begin
to give back some of that inflation that is taken away from us.
I believe that if we increase the IRA contribution to
$5,000, not only will the people who currently save $2,000 put
more in, possibly as much as $5,000 if they can afford it, then
many other Americans that have forgotten about the IRA will
also be stimulated to save. And I see trillions more that will
be saved in retirement plans that are securing the retirement
of Americans in the future and providing capital to our small
businesses and large businesses going forward.
Mr. McCrery. So, when people save, that helps small
businesses and other businesses to expand and produce jobs; is
that what you mean by the last statement?
Mr. O'Connor. Yes. Yes, clearly.
Mr. McCrery. Well, your speaking was a little fast for
somebody from Louisiana, but I think I caught most of it. The
gist of it is that Portman-Cardin would be good for the economy
and would be a boost to economic activity.
Mr. O'Connor. Yes.
Mr. McCrery. Even maybe this year, in the anticipation that
it would be coming.
Mr. Brady. Would the gentleman yield?
Mr. McCrery. I would be glad to yield.
Mr. Brady. I didn't catch quite all of it. What percentage
did you say of those who can save do use IRAs?
Mr. O'Connor. There are 2 percentages, actually. The best
way to compare this, there are two studies that were done.
In 1986, when we put the income limitations on the IRA, 40
percent of the people who could make an IRA deduction in the
subsequent year, stopped making IRA deductions--people with an
income far below the income limitation. There have been studies
done, and we have researched that, that once they saw an extra
complexity coming into play, it scared people away. And some of
the comments I heard earlier with regard to the death tax and
the complexities that scare people away and cause more burden
on people than you realize. I think that is what happened with
the IRA.
Mr. Brady. So we scared 40 percent of the proven savers
away.
Mr. O'Connor. IRA contributions dropped 40 percent once we
instituted the income limits.
Mr. Brady. Thank you, Mr. McCrery.
Mr. McCrery. Mr. Chairman, thank you.
Mr. O'Connor. Was that slow enough?
[Laughter.]
Mr. McCrery. It could be better, thanks.
Mrs. Johnson of CONNECTICUT. Thank you very much.
Mr. Coyne.
Mr. Coyne. Thank you.
Mr. Canavan, Mr. Vallas, we appreciate your testimony on
behalf of the school construction and bond legislation, and Mr.
Rangel from New York, I know, appreciates your endorsement of
that concept and would have been here except that he was called
to another meeting.
Mr. O'Connor, I wonder what extent your proposal, relative
to the help with education bonds and education efforts, is
geared toward the moderate and low income of the country?
Mr. O'Connor. Well, I believe a $2,000-a-year education IRA
clearly is for middle class America.
Mr. Coyne. What about the lower income than middle class
America, how would you--how would you describe your efforts on
behalf of those people who don't consider themselves middle
income?
Mr. O'Connor. Well, there are other programs that are
helping lower income families.
Mr. Coyne. Are they a part of your recommendation?
Mr. O'Connor. I am sorry.
Mr. Coyne. Are they a part of your recommendation here?
Mr. O'Connor. Certainly, certainly. The education IRA today
you can put away as little as you can afford, and we encourage
you to put away whatever you can if you can, in fact, save.
Today, though, if you are fortunate enough to save as much as
$500, it is still not enough. And what we are really looking to
do here is help middle-class Americans to be able to save for
college.
Mr. Coyne. Well, if you are a family of four, with a
$22,000-a-year income, it is very difficult to be able to put
away $2,000 for education purposes.
Mr. O'Connor. It is very difficult.
Mr. Coyne. Yes.
Mr. O'Connor. But today----
Mr. Coyne. So your proposal, is there anything that
addresses that instance, where the family has an income of
$22,000, a family of four?
Mr. O'Connor. Well, I guess the best way to answer that,
you are absolutely right, for that example of a family of four,
at $22,000, it would be very difficult to put away that much
money. But, today, with the anti-savings bias we have, it is
impossible for them today to put away that much money.
Mr. Coyne. All right. Thank you.
Mr. O'Connor. It is much more difficult.
Mr. Coyne. Thank you.
Mrs. Johnson of CONNECTICUT. Mr. English.
Mr. English. Thank you, Madam Chair.
This is an excellent panel. Mr. O'Connor, I appreciate your
testimony, and I would be particularly interested if you could
elaborate on a couple of points. For example, one of the points
in your testimony relates to the income eligibility limits for
participation not only in education IRAs, but also other IRAs.
Can you comment, your experience has been that by putting in
artificial income limits, for an instrument that is intended to
attract people who are going to invest in the long term, that,
as a practical matter, it ends up making the instrument
substantially less attractive to the individual, as I
understand your testimony. Would you care to comment on that,
and how much more attractive would education IRAs be if we were
to take income limits off them entirely?
Mr. O'Connor. Well, again, let us point to the history
again. I will give you two examples. I will mention again the
experience of 1986, where 40 percent of people who were
eligible to make an IRA contribution who did the previous year
stopped because of the additional complication that was applied
to an IRA.
In Merrill Lynch's own business with their clients, we have
noticed that it is closer to 66 percent of our own clients, who
are essentially middle-class Americans who are eligible to make
an IRA contribution each and every year, do not. And what we
believe, also, we found with the education IRA, there are two
reasons we believe, from our research, that has not become as
popular as it should have. One is it is, again, only $500 a
year, and it is something they realize is not nearly enough to
save. So, again, it dissuades them from even considering it.
And, again, I really believe that complication, that there
is an income limit, it is funny, and you would think people
would be more rational, but clearly, from the behavior we have
seen, once you put complications such as income limits, and
again perhaps let us talk about the previous panel and the
death tax, you put complications, it adds much more of a burden
to an American family than you would think otherwise.
Mr. English. One of the reasons why we put these income
limits on is a concern that these provisions might ultimately
come to benefit the affluent taxpayers. I am not sure why that
bothers us as much as it does, but it certainly seems to figure
large in the debate.
I noticed Mr. Bush's proposal, with regard to QSTPs, would
substantially make them much more attractive, take much of the
tax burden off of participants in State tuition assistance
plans of various sorts. I have long supported liberalizing the
tax treatment of these particular State-managed programs. But I
noticed in 1997 the Treasury came out very strongly, at the
last minute, against our inclusion of new tax breaks for the
State programs, and the rationale that was provided was, to me,
an astonishing one, that somehow these QSTPs could become a tax
break for the affluent, a loophole.
Can you visualize any situations where Bill Gates, for
example, could utilize one of these tax-exempt--well, one of
these tax-advantaged, and we hope in the future, tax-exempt
programs to avoid the payment of taxes? Can you see any ways
that these programs could be gamed from a tax standpoint?
Mr. O'Connor. It is very hard to visualize. If you treat
these as education savings vehicles, which they are, and if you
want to call it tax-favor treatment only applies to qualified
expenses of a student going to school, I don't see how it could
be created as a tax shelter for some other purpose.
Mr. English. And I can't really picture that either, but
that certainly has been a concern in the past. If we were to
liberalize the tax treatment of QSTPs, say, make them
completely tax free, which would be my preference, question one
is should we include any income limitations, and question two
is should we allow private institutions, for example, an
association of private universities, to set up competing plans
and manage plans with the same tax advantage, offering the same
benefits to students?
Mr. O'Connor. Well, the Savings of Coalition of America is
pro-savings. So any time we do hear about an income limitation
of any sort, again, my previous discussion about what that does
to the overall interests of Americans to the plan.
With regard to qualified State tuition plans and the
ability for private institutions to have a plan, again, the
Savings Coalition of America is pro-savings, and any vehicles
that again provide tax incentives, really, I delay, when I say
tax incentives, because we really start with a biased system
for savings, and any of these programs to help alleviate that
bias, we are for, for all income levels and from all sources.
Mr. English. Thank you very much.
Mrs. Johnson of CONNECTICUT. Mr. Hulshof.
Mr. Hulshof. Thank you, Madam Chairwoman.
Earlier today, probably long before you all came into this
magnificent hearing room and we were discussing the marriage
penalty, maybe some of you were here, but our colleague, Mr.
Ryan of Wisconsin, as we were discussing a marriage penalty,
pointed out the fact that he has been now happily married for 3
months, and I think 16 days, and how that changed his
perspective, as we were talking about the marriage penalty.
My wife and I have a 16-month-old daughter, and I will tell
you, Mr. O'Connor, we seem to be focusing our entire
questioning with you, but how our perspective has changed, as
we think way down the road about college or education expenses.
I was extremely pleased that in the last session of Congress
the speaker asked me to take forward H.R. 7, which was the
Education Savings and School Excellence Act, and we are working
on that legislation again on this side. I know the Senate
Finance Committee considered it last night.
So a couple of points I want to really echo and then maybe
ask you to comment on. I think, and do you have any statistics
to bear out the fact that there is a $500 annual contribution
limit, that if we were to increase that, say, to $2,000 per
year, the additional savings that might occur? Do you have any
numbers or statistics to help in that regard?
Mr. O'Connor. Additional savings, meaning additional
savings----
Mr. Hulshof. For education savings accounts.
Mr. O'Connor. Oh, no, we really don't because this is a new
program. We suspect it will be a significant increase,
significant for two reasons. One, as you may have noticed, when
the education IRA was first passed, a lot of our colleagues in
the industry, our competitors, didn't even bother to advertise
the $500 education IRA because, quite frankly, we are profit-
making enterprises, and it was very hard to justify significant
advertising. So the awareness of education IRAs is still quite
low.
I am, personally, proud of Merrill Lynch because we have
been very active in telling our clients that we do have a
vehicle here and we have been advertising it. Now, in our
advertising, we have acquired approximately 60,000 families who
have opened up an education IRA with us, and we are very proud
of that.
I really don't want to try to put a number to this, but I
believe that if we increase the education IRA to $2,000, not
only would Merrill Lynch be more successful in acquiring
accounts and getting families to save more, but many more
financial service providers would get involved, and it would be
manyfold more in savings, manyfolds.
Mr. Hulshof. Let me pass along, at least, the best
information that we have, at least under last Congress's bill,
H.R. 7. First of all, if we were to increase the contribution
limit to $2,000 and, as you also know, Mr. O'Connor, there are
some limitations. You mentioned that the education expenses
have to be qualified expenses----
Mr. O'Connor. Yes.
Mr. Hulshof. And, of course, right now under current law,
back in 1997, is that it is just the tax buildup or the
interest buildup that is going to see the tax savings. I mean,
these are aftertax dollars going into an education savings
account. It is the compound interest that is derived over the
life of this education savings account, and it can only right
now, under present law, be used for a public college. And so we
are trying to expand that option of not just public college,
but any college or any K through 12 expense, regardless of
where the child goes to school or whether the child is home
schooled.
And some of the numbers that we have received in analysis
by either Joint Tax or Congressional Budget Office is that 70
percent of the tax savings from an expanded education savings
account would go to families with children in public schools
making less than $70,000 a year. And so I think it really
undercuts the argument. In fact, my colleague from Pennsylvania
talked about there seems to be some skepticism of expanding
these accounts because it would go to the more affluent, and I
think, at least the best analysis that we have is that
predominantly these tax savings go to middle-income families or
those making up to or below $70,000 a year--roughly, 14 million
families, of which about 11 million families have children who
would attend public schools.
And, again, that is part of this discussion is people say,
well, we can't do this because it is taking somehow money away
from public schools into private schools, when, in fact, this
has nothing to do with the amount of money we allocate or
appropriate every year through the appropriations process.
These are additional dollars not being committed to educating
our kids that would now be part of the educational process,
over and above what we are allocating and appropriating every
year.
And so I want to thank you, particularly, and all of you
for your viewpoints today, and thank the Chairman for yielding.
Mrs. Johnson of CONNECTICUT. Mr. Brady.
Mr. Brady. Thank you, Madam Chairwoman.
Dr. Gladish, growing up in a small to medium town, I can
tell you the YMCA had a very positive impact on my life. We
need to do what we can to keep encouraging contributions to
organizations like yours.
Mr. Vallas and Mr. Canavan, I am not quite yet convinced
about the Federal government's role in local school
construction, but for the sake of not having the Chairwoman hit
me in the head with her gavel, let me move on quickly to Mr.
O'Connor on savings.
[Laughter.]
Mr. Brady. For the life of me, I don't understand why we
tax savings. We encourage people to save for the future, but we
tax them when they do. We say, ``Don't rely on Social Security
for retirement. Build your own retirement plan,'' but we say
you can only save this much without us taking our share of it.
And it seems like with Congressman Hulshof's bill, if
education, if we save early, the interest works for us, the
money builds for us, and it helps us reach our American dream.
I have a 27-month-old child, just a little older than
Kenny's daughter, and so I am concerned about it, too. But if
you wait or in a situation where you have to borrow, the
interest and the money works against you. It makes it harder to
reach that dream. It just makes good sense to encourage people,
especially middle-income families. Thankfully, we have programs
for a family that makes $22,000 with four children. Thankfully,
we have Pell grants and student loans, work study programs and
scholarships.
Those on the other end of the spectrum, who have plenty of
money, don't worry about it. But it is a lot of middle-income
families who really look at the cost of education and college
these days and just swallow hard. I mean, how are they ever
going to save enough money for that? And the only way they are
going to stand a chance to do that is if we allow them, and get
out of the way, to allow them to save.
And my final point is people say that savings reform is tax
relief. I don't think it is tax relief for us to remove an
artificial barrier for people saving their own money for their
future, and I dare someone to call that tax relief. That is
simply getting out of the way so that people can save their own
hard-earned money, which has already been taxed at least once,
and to allow them to move forward.
Any comments you have?
Mr. O'Connor. Well, just to add to that, you may recall, in
the beginning of my oral statement, in the 15 years I have been
in this business, in trying to help people save for college,
save for retirement, it really, in the last few years, it has
really become a very big issue for Americans, and I am talking
middle class Americans--middle class Americans who, because of
a greater share of their income today than 10 years ago is
taxed, because financial aid for college is down, housing costs
are up, all of the other costs that are on a middle class
family, and inflation of college has grown 1- to 2-percent
faster than regular inflation and 2- to 3-percent faster than
their incomes.
Education savings is a big issue for middle-class America,
and I see it every day in my job.
Mr. Brady. A final note. As you have noted before, even in
our best economic times, we seem to be saving less and less.
Since we have scared off 40 percent of our proven savers in
1986, we ought to try to do our best to attract them back into
the savings effort.
Mr. O'Connor. I agree.
Mr. Brady. So thank you, Madam Chairwoman.
Mrs. Johnson of CONNECTICUT. Thank you.
Mr. Canavan, I do want to thank you for your intense
interest in the issue of schools and their ability to build the
schools that we need now and for communities and their ability
to build the schools that we need now and to repair and
modernize that our schools are in.
Would either you or Mr. Vallas like to comment on the
difference between the money we appropriated last year, which I
believe was $1.2 billion, which is a fair amount of money, and
this leveraged approach that we are proposing in the bill that
Charlie Rangel and I have sponsored? What is the relative
impact of these two approaches?
Mr. Vallas. Well, if I can just speak insofar as Chicago is
concerned, we have once again, just to put it into perspective,
we have 601 schools, 435,000 students. We are the third-largest
school system in the country.
The emergency bill that was passed last year generated $25
million for Chicago. And, of course, it required really no
local contribution. It was an allocation to us. The Johnson-
Rangel bill would generate $537 million in reduced borrowing
costs.
Mrs. Johnson of CONNECTICUT. In other words, the local
communities would still have to make----
Mr. Vallas. That is correct.
Mrs. Johnson of CONNECTICUT. Roughly the investment they
are planning to make now, but by lifting the interest costs
from their investment, just like a family who had a 25- or 30-
year mortgage, the interest cost is often as much as the
mortgage.
Mr. Vallas. In effect, on like 30-year notes, it would
reduce our borrowing costs by half, which would enable us to
build twice as many new schools.
In Chicago, for example, while we have built 70 new
buildings, and the price of an elementary school is roughly
between $15 to $18 million, the price of a middle school is $20
to $22 million, and the price of a high school is $30 to $35
million.
Mrs. Johnson of CONNECTICUT. And what were those prices
about 10 years ago?
Mr. Vallas. The prices are going up. I would say that the
prices were about one-third less, but the ability to borrow now
and to build now saves us money over the long term because the
costs just continue to climb, and the ability to raise the
money now and to invest now allows us to accelerate the
progress that children have made academically.
Because let me tell you there is a direct correlation
between the quality of the facilities, whether they are wired
for the Internet, whether they are modern facilities, and the
maintenance, the upkeep. For example, when I build new schools,
when we built our 70 new buildings, our utility costs in those
schools were cut in half, in part because we now have modern,
efficient buildings. Despite the gas crunch, the natural gas
crunch that everybody experienced over this past year, my
utility costs last year went down about 15 percent, largely
because we had so many new buildings online and because they
were much more efficient. So investing now not only benefits us
from an academic standpoint, but it actually saves school
districts money over the long term.
But $537 million, the beauty of the Johnson-Rangel bill is
it requires local match. It requires that local investment be
made. It simply doesn't say we are going to give you money, and
you don't have to exercise any local effort, and the fact that
it leaves autonomy at the local level so that school districts
can make their own choices about what to build, what to
renovate, what to replace, and I think that is the great
advantage of the proposal.
Mrs. Johnson of CONNECTICUT. The great number of schools
that a city like Chicago has to manage and the need to replace
so many old schools, as well as repair and modernize, is simply
an extraordinary need.
I believe that you said it went up a third in the last 10
years.
Mr. Vallas. Yes.
Mrs. Johnson of CONNECTICUT. If you look at the last big
round of school building, I think costs have gone up more like
double because of the greater code requirements, the greater
wiring requirements, and in some places, earthquake
requirements and so on.
Mr. Vallas. In Chicago, we have been able to maintain very
tight controls because we have, we take full advantage of the
market, and while there is clearly school control and oversight
over our construction programs, we have privatized much of the
management of our construction programs.
For example, we have built--those prices I gave you are the
prices that we spent on schools for the last 5 years--we have
had maybe 5.5 percent change orders on our construction
project. This is very well-managed. So there has been no
controversies about the costs of our buildings. But for many
smaller school districts--we are a large district, and it gives
us the ability to leverage our resources. It gives us the
ability to negotiate rate reductions on utility costs because
we are so large.
But when you get into smaller districts, rural districts,
downstate districts, they don't have that capacity. When a
district just wants to borrow enough to build one new school or
two new schools or maybe torenovate half a dozen schools, they
don't have the capacity to control the costs because they don't
dominate the market. We are so big, and we are building so many new
things, that we can literally, it becomes a buyer's market, and that
gives us the ability to leverage.
But, certainly, some of the smaller districts, the rural
districts, the suburban districts where you have three or four
schools, their costs, their per-unit, per-classroom
construction costs are probably increasing at a much faster
rate than we are. The suburban schools have been built at more
expensive cost to the school district than the city schools
have been.
Mrs. Johnson of CONNECTICUT. Thank you.
Bob, did you want to ask----
Mr. Canavan. Yes, thank you very much, and I will be
extremely brief because I know it is the end of the day.
But one thing I wanted to point out on the strength of your
bill and Mr. Rangel's bill is that you pay particular attention
to the needs of rural school districts. Thirty-eight percent of
the students in the United States are actually attending
schools in rural areas. The balance that the Johnson-Rangel
bill provides through these bonds is that urban districts, as
well as rural districts, have the opportunity to use the tax
credit to leverage their investment in schools in such a way
that, in effect, in our opinion, it is local property tax
relief because every dime of leverage they get from Federal
support is one less dime they have to ask the local taxpayers
to provide.
Mrs. Johnson of CONNECTICUT. I think that is a very
important point. Having been born and raised in Chicago, I
understand the enormity of your challenge. But lots of the
towns that I represent have had literally no growth in their
property tax base in the last decade, and they aren't likely to
have much, but the costs of school building continues to rise.
And I would rather have good local schools than regional
elementary schools.
And if we are going to be able to maintain that tradition
of kids going to school close to where they live, we are going
to have to find some way to create a partnership that is not
just State and local in school building, but that is State,
local and Federal.
Mr. O'Connor, I did want to close by asking you one
question. Does it concern you that 50 percent of the workers in
America have no access to pension plans?
Mr. O'Connor. Yes, it does concern me very much.
Mrs. Johnson of CONNECTICUT. And does it concern you that,
of that 50 percent, probably 30 percent of them, under today's
rules, couldn't afford to save?
Mr. O'Connor. I am sorry, could afford to save?
Mrs. Johnson of CONNECTICUT. Could not afford to save. In
other words, they don't make enough really to save, and there
is nothing we do that actually helps them save.
Mr. O'Connor. That is a very big concern.
Mrs. Johnson of CONNECTICUT. Well, I really share that
concern, and it is for that reason that I do worry about having
no income limit on, and sort of Government incentives to
savings. If you make lots of money, you can save whether we
encourage you to save or we don't encourage you to save. You
can still buy stocks, and the people still do. I mean, lots of
their money is put into investments that are not rewarded
through the Tax Code.
And I think we are doing such a very poor job of looking at
how we might help people of very minimal means save for their
retirement, much less their children's education. But I think
we really have to look at how can we more creatively reach not
only--and Portman-Cardin will change the rules so a lot more
employers will be able to offer their employees a pension
savings vehicle--but they all know, and we all know this is
true, it is like health benefits, small employers are no
margin, but low-income employees are not, those folks are not
going to be able to save for their retirement unless we find a
way to, in a sense, assist them in the same way we are
assisting middle-class and upper-middle-class families in
savings.
And I hope that you and your firm would be thinking about
how we might do that.
Mr. O'Connor. We would do that. What I would suggest,
though, we are very much pro-savings, and I am speaking here
for both my firm and the Savings Coalition of America. We are
pro-savings for all income groups because it is vitally
important, particularly in the group you are discussing.
Mrs. Johnson of CONNECTICUT. Yes.
Mr. O'Connor. But what I would recommend is, when we look
at that, that we try to integrate that into current savings
retirement plan systems we have today.
Mrs. Johnson of CONNECTICUT. But in being pro-savings, I
think your groups, and I am pro-savings, but I have come to be
very sensitive to the amount of money that we are expending to
encourage savings.
Mr. O'Connor. Uh-huh.
Mrs. Johnson of CONNECTICUT. And it is all increasingly
among the group that are saving. Now they are not saving
enough, but we have got to, in addition to encouraging savings,
in general, we have got to be sensitive to the fact that we
need to broaden the savers' base, and to do that we need a
broader array of approaches. And I really think you guys have
got to take far more seriously what are the kinds of subsidies,
like the earned income tax credit really helped people get off
welfare because it reduces their tax burden even through the
payroll tax.
But we have to find some way to help people save, even on
low salaries, because Social Security is not going to be enough
to live on, and if they don't have some additional income
stream. In the same way, I would ask your thoughts on whether
it might not be wise to tax reward, annuity-type vehicles, more
than we tax reward just straight savings. Because Social
Security is not going to be enough to live on, there is a
social interest in making sure retirees are secure. Don't we
have a higher responsibility to make sure that people develop a
retirement income to complement Social Security than simply
that they save so when they get to 65, they can buy a yacht? I
mean, is there no social merit difference here?
Mr. O'Connor. Well, there is a social merit that perhaps we
are not considering here. I think the best program would be for
more jobs to be generated, better jobs to be generated, and
that if there was more savings by all income groups, our
economy would, in fact, be stronger, and there would be better
jobs for everyone going forward. And, hence, they would maybe
perhaps be able to save for themselves better than they can
today. That I think is the best program.
Mrs. Johnson of CONNECTICUT. But that program is just more
of what we have got, and more of what we have got are not
helping a third of America's workers save, and they are not
differentiating between savings that could create real
retirement security and just savings that could buy a nice
second home on retirement or buy a big sailing ship or
whatever.
And I would say that when something is publicly subsidized,
there ought to be a public purpose. So I am no longer, as I
once was, comfortable with your position that savings is
savings, and we ought to just foster more and more of it. We
have got to look at the fact that there is a big slice of
working America that can't afford to save, and their not being
able to save is going to be a public burden when they retire
because Social Security is going to be inadequate. It is
inadequate now, but it is going to be really inadequate then
and that we have to begin looking at this, and that, second,
there is a different public policy benefit in making sure that
people have a parallel income stream to Social Security than
that they just have a lot of money on retirement.
So I think you guys need to start thinking deeper, more
deeply, about this issue of savings. I want savings for jobs,
too, but you know and I know that most of the investment
capital in America just comes from people investing money in
stocks, and they are not Government-incentivized savings. So,
as important as Government-incentivized savings plan are, and I
think they are terribly important, our policy is too narrow and
too broadly focused.
Now I think the education issue is separate because that is
another one of these issues in which we really need to help
people save more because the product has gotten so expensive,
but I think we need to begin to differentiate between savings,
savings, savings and subsidizing savings versus who are we
helping to save, how much of America is being benefitted by
Government savings policy, and are there some savings that are
a greater public policy purpose than other savings?
So I just hope that your group will be more aggressive in
thinking more broadly about the needs of America because just
sitting here yesterday, the estimates were that by 2030, that
is 29 years from now, Social Security, Medicare and Medicaid
will take every single dollar of revenue, every single dollar
of Federal revenue. Now no society can sustain that. We can't
let that happen. But it does tell you how big our problems are
for retirees and for the working families of the future. And I
think we can no longer be quite as simplistic about things as
we have been in the past, and I would encourage your group, who
has been so important to our thinking through savings, to begin
thinking through savings, who is saving and what are they
saving for.
Thanks.
Mr. O'Connor. We will do that. Thank you.
[Whereupon, at 3:46 p.m., the hearing was adjourned.]
[Submissions for the record follow:]
Statement of Howard E. Abrams, Professor of Law, Emory University,
Atlanta, Georgia
Mr. Chairman and Members of the Committee, my name is Howard E.
Abrams and I am submitting these comments to you today on the issue of
the income tax consequences of repeal of the federal estate, gift, and
generation-skipping taxes. I am a professor of law at Emory University
specializing in the taxation of corporations and partnerships. These
comments are my own. However, I undertook this study at the request of
The Real Estate Roundtable.
There is broad bipartisan support for repeal of the federal estate
and gift taxes. If repeal is forthcoming, though, and a change is not
made to the rules governing the basis of property received through the
estate of a decedent, repeal of the death taxes will have the effect of
exempting substantial unrealized appreciation from all federal
taxation, income as well as estate. Accordingly, Congress may seek to
preserve taxation of this unrealized appreciation by providing, as to
property passing through the estate of a decedent, that the donee will
take a carry-over basis in such property, much like a gift is treated
under current law. In general, such a rule will tax the heirs on the
eventual sale of devised property as the decedent would have been taxed
had he sold it prior to death; that is, the heirs will step-in-the-
shoes of the decedent for income tax purposes.
If the property transferred is encumbered, application of current
doctrine to this new regime might impose taxation not when the heirs
sell the property but rather when it passes to them from the decedent
or from the decedent's estate. Such a result can be easily avoided by
enacting language applicable to death-time transfers modeled after
current code section 1041, the Code section currently applicable to
transfers of property between spouses or ex-spouses. Section 1041,
another step-in-the-shoes rule, accomplishes in the context of divorce
precisely what a carry-over basis at death rule is intended to
accomplish in the context of death-time transfers. The discussion that
follows includes a proposal for such statutory language.
A carry-over basis rule can impose substantial hardship on the
heirs if devised property is encumbered. Especially in the context of
family farms and other real estate holdings, substantial encumbrances
are the norm. When such property is transferred in a carry-over basis
regime, upon eventual sale of the property the heirs will be required
to pay both the lender and the taxes. If the debt is relatively high
and the carry-over basis relatively low, it could be the case that
these two payments exceed the full value of the property. In such
circumstances, the heirs would have in fact received negative value
assets. To ensure that the death-time transfer of property does not
result in a net detriment to the beneficiaries, either the amount of
the gain could be limited or a partial step-up in basis could be
provided for certain specified debt. The discussion that follows
includes alternative proposed statutory language for reducing the
hardships imposed on the heirs in either of these ways.
Thank you.
Benefits and Implications to Real Estate Owners of Estate Tax Repeal
and Carry-Over Basis at Death
Howard E. Abrams,\1\ Professor of Law, Emory University
---------------------------------------------------------------------------
\1\ Mr. Abrams has been a professor of law at Emory University
since 1983 and has taught at Cornell Law School, the University of
Oklahoma School of Law, the University of Georgia School of Law, and at
Leiden University in the Netherlands. He is the author of four books on
the taxation of corporations and partnerships, and his articles have
appeared in the Harvard Law Review, New York University's Tax Law
Review, the Virginia Tax Review, and other periodicals. Mr. Abrams is a
regular speaker at the American Bar Association's Tax Section:
Committee on Real Estate meetings, New York University's Institute on
Federal Taxation, the AICPA National Real Estate Conference, and
similar events. Mr. Abrams spent the 1999-2000 academic year with the
national office of Deloitte & Touche, LLP, as the Director of Real
Estate Tax Knowledge.
---------------------------------------------------------------------------
Overview
Any tax lawyer will tell you that the best way to minimize income
taxes is to die, though few clients are willing to act on that advice.
But even those clients who seek to prove their immortality can take
comfort that if they depart, the income tax man may be left behind. For
individuals with substantial assets and insubstantial planning, the
grim reaper can bring a potentially crippling estate tax liability. But
for astute taxpayers who hold appreciated assets until death, gains so
far deferred become gains forever exempted.
This favorable outcome results from the step-up basis at death
rule.\2\ Under our current income tax system, death is not a taxable
event,\3\ which means that those who die owning appreciated assets are
not by the fact of death alone taxed on their accumulated gains. Taxes
not visited on the dead, though, would be visited on the survivors were
it not for the statutory step-up basis at death.
---------------------------------------------------------------------------
\2\ See Sec. 1014(a)(1).
\3\ E.g., Rev. Rul. 73-183, 1973-1 C.B. 364.
---------------------------------------------------------------------------
Thus, if I purchase real estate for $1,000,000 and hold it
throughout my life as it appreciates to $5,000,000, I pay no taxes on
that appreciation because I have yet to sell or exchange the property.
If I continue to hold that property at my death, I will never pay
income tax on the $4,000,000 of increased value. Further, my heirs will
be treated as if they bought the property for $5,000,000, ensuring that
when they sell the property they will pay taxes, if any, only on the
increase in value of the property occurring after my death: the
$4,000,000 of gain that accrued in my hands is simply untaxed forever.
Of course, whether the $4,000,000 of accrued gain escapes the income
tax or is captured by it because I sell the property prior to my death,
the entire $5,000,000 value of the property will be ensnared by the
federal estate tax.
Estate Repeal May Include Carry-Over Basis at Death
President Bush has proposed repeal of the existing federal estate,
gift and generation-skipping taxes. By itself, this represents
substantial tax reduction benefiting a variety of taxpayers including
all those owning assets at death sufficient to generate an estate tax
liability; under current law, those are taxpayers with estates of more
than $675,000. The current estate tax rates range from 18 percent to 55
percent, with the 55 percent rate applying to estates of $3 million and
over. Estates between $10 million and $17,184,000 pay a 5 percent
surcharge on amounts in excess of $10 million in order to phase out the
benefit of the graduated rates.
There exists broad bipartisan support for repeal of the federal
estate and gift taxes not only because repeal represents tax reduction
but more generally because of a shared sentiment that taxing income
when it is earned and second time when it is transferred is
inappropriate double taxation. In addition, by taxing wealth when it is
transferred, the federal estate and gift taxes can impose a tax burden
when there are no liquid assets with which to pay the tax liability,
forcing a sale of farms and small businesses.
However, political realities suggest that repeal of the estate,
gift and generation-skipping taxes likely will bring with it some form
of income tax alternative to the step-up basis at death rule.
Otherwise, untaxed appreciation would escape estate and income tax
entirely. A carry-over basis at death rule would treat my heirs not as
if they bought the property for its death-time value of $5,000,000 but
rather for the $1,000,000 I actually paid. This carry-over basis rule
would mean that my heirs step-in-my-shoes for income tax purposes: when
they sell the property, they are taxed on the amount of gain that I
would have been taxed on had I sold it during life. As a result, if the
sale proceeds amount to $5,000,000, the taxable gain will be
$4,000,000.
The step-up basis rule likely will be repealed only in part, with
some limited step-up continuing to be available. For example, the Kyl-
Breaux bill (S. 275) proposes a $2,800,000 step-up cap; other limits,
both lesser and greater, have been suggested. Under the Kyl-Breaux
bill, for example, if I die holding a piece of real estate with a basis
of $1,000,000 and a value of $5,000,000 at my death, my heirs would
take a basis in this property of as much as $3,800,000,\4\ leaving the
heirs with a taxable gain of as little as $1,200,000.
---------------------------------------------------------------------------
\4\ Senate bill 275 proposes a partial step-up basis rule limited
to $2,800,000 of step-up apportioned over all property gratuitously
transferred by the decedent at death and during life (and still held by
the donee at the moment of the donor's death). Without knowing the
gross unrealized appreciation in all property transferred by the donor,
it is impossible to know the precise basis that any particular asset
will take in the hands of the donee under the terms of this bill.
---------------------------------------------------------------------------
Ensuring Death is Not a Recognition Event
For decedents whose estate consists exclusively of cash and
unappreciated property, estate tax repeal is pure tax reduction and the
basis rule is irrelevant. Indeed, for taxpayers leaving large estates
with significant basis, the trade-off of carry-over basis in exchange
for estate tax repeal will be favorable. Even for taxpayers with
moderate estates comprised of low-basis assets, the trade-off can be
positive. For example, consider the case of a taxpayer who dies leaving
a single piece of real estate valued at $5,000,000 and having an
adjusted basis of $1,000,000. Under current law, the estate tax burden
should be about $2,169,450.\5\ If the estate tax is repealed and in
exchange the heirs are forced to take a carry-over basis in the
property, the income tax burden on a subsequent sale will amount to
$800,000 if the gain qualifies as long-term capital gain (or more if
the property is subject to the 25% depreciation recapture capital gain
rate). Thus, estate tax repeal saves $1,369,450 in federal taxes even
with the carry-over basis change. Of course, carry-over basis will also
force the taxpayer to recognize gain for state income tax purposes (in
those states having an income tax), so that the effective rate of
taxation on the gain might be somewhat larger.
---------------------------------------------------------------------------
\5\ The estate tax liability on $5,000,000 is $2,390,000 less the
current credit of $220,550, for a net estate tax liability for
$2,169,450. This liability might be reduced if the decedent devised
some of the property to charity or to a surviving spouse; it could be
greater if the decedent made significant life-time transfers.
---------------------------------------------------------------------------
If the property is encumbered, though, repeal of the estate tax
coupled with carry-over basis can be much worse for the heirs. Suppose
this piece of real estate is encumbered by a nonrecourse debt of
$4,500,000, so the decedent's equity is but $500,000. In such
circumstances there is no estate tax liability at all under current law
because the decedent's taxable estate value is determined net of the
debt, and estates less than $675,000 in net value are not subject to
estate tax under current law. However, if the heirs were burdened by a
carry-over basis, the income tax liability again would be at least
$800,000. That is, repeal of the estate tax and imposition of a carry-
over basis rule would increase net taxation from $0 to at least
$800,000. Even under the Kyl-Breaux partial step-up bill, the heirs
would be saddled with an income tax liability of at least $240,000
despite receiving no benefit from the estate tax repeal.
And what is worse, much of that tax liability might be due not when
the heirs sell the property but rather at the moment of the decedent's
death. To be sure, no one yet is proposing to treat death as taxable
event under the income tax. However, if the current step-up basis rule
is changed to a carry-over basis rule, death likely will be a taxable
event for those who die holding heavily mortgaged property. And while
Congress could avoid that result by enacting specific language to the
contrary, such a fix might (in limited circumstances) be worse than the
cure. To understand why, we must first look at the tax treatment of
sales and gifts of mortgaged property under current law.
When property is encumbered by indebtedness in excess of adjusted
basis, transfer of the property can result in uncomfortable tax
consequences for the transferor. Debt may exceed adjusted basis because
the owner has borrowed against unrealized appreciation in the property,
because depreciation has been claimed at a rate faster than the
mortgage has been paid down, or by a combination of the two. Regardless
of the cause, transfer of such excess mortgaged property generally will
produce gain to the transferor.\6\
---------------------------------------------------------------------------
\6\ See generally New York County Lawyers' Assn., Committee on
Taxation, Excess Mortgaged Property--Caveat Venditor: A Report on Some
of the Consequences of the Carryover Basis Rules on Inherited Excess
Mortgaged Property, 33 Tax. L. Rev. 139 (1977).
---------------------------------------------------------------------------
Thus, if a taxpayer owns property with adjusted basis of
$1,000,000, current fair market value of $5,000,000, and subject to a
nonrecourse debt of $4,500,000, sale of the property for $500,000 cash
(subject, of course, to the debt) yields a gain to the seller of
$4,000,000 because, for computing the seller's gain, both the actual
cash received as well as the debt transferred are treated as sales
proceeds.\7\ This taxation is appropriate because the seller has
pocketed not only the $500,000 cash received at closing but also the
$4,500,000 received previously as loan proceeds, loan proceeds that
were not taxable when received and which will no longer have to be
repaid because the debt has been transferred along with the property.
---------------------------------------------------------------------------
\7\ Commissioner v. Tufts, 461 U.S. 300 (1983).
---------------------------------------------------------------------------
Essentially the same analysis applies if the owner makes a gift of
the property rather than selling it. To be sure, if the property is
gifted rather than sold the owner will not receive any cash at closing.
Equally true, though, is that the owner received $4,500,000 tax-free
when the loan was taken out, and because the loan again goes with the
property, those tax-free proceeds will not have to be repaid by the
donor. As a result, the law is clear that if property is gifted having
adjusted basis of $1,000,000 and subject to a nonrecourse debt \8\ of
$4,500,000, the donor must recognize income of $3,500,000, that being
the excess of the loan proceeds over the donor's adjusted basis in the
property.\9\
---------------------------------------------------------------------------
\8\ If the debt is with recourse, then the loan will have to be
repaid by the estate prior to the transfer to any heir, either forcing
the taxable sale of the property or consuming other assets of the
estate so that the property can be passed on unencumbered.
\9\ Levine v. Commissioner, 634 F.2d 12 (2d Cir. 1980); see
Diedrich v. Commissioner, 457 U.S. 191 (1982). If the gift is to a
charitable organization, the taxation is even greater by reason of
Sec. 1011(b). Ebben v. Commissioner, 783 F.2d 906 (9th Cir. 1986).
---------------------------------------------------------------------------
Because the donor is taxed on some of the accrued appreciation, the
donee's basis must be adjusted upward to ensure that this appreciation
will not be taxed a second time. Despite the general carry-over basis
rule for gifted property, the regulations properly provide that the
donee may increase his basis for any gain recognized by the donor on
the transfer.\10\ Thus, in this example the donee will take a basis of
$4,500,000 in the property, so that if the donee eventually sells the
property for $5,000,000, there will be only $500,000 further gain to be
recognized.
---------------------------------------------------------------------------
\10\ Treas. Reg. Sec. 1.1015--4(a) (1972).
---------------------------------------------------------------------------
If the current step-up basis rule at death is changed to a carry-
over basis rule, the taxation of death-time transfers becomes virtually
identical to that of gifts. And because we know that gifts of heavily
mortgaged property are taxable to the donor when the gift is made,\11\
presumably the same rule would be applied to transfers at death. Thus,
a carry-over basis rule at death not only preserves substantial gain
not taxed under current law but likely accelerates taxation of that
gain to the moment of the decedent's death.
---------------------------------------------------------------------------
\11\ See sources cited at note 9 above.
---------------------------------------------------------------------------
In the context of death-time transfers under a carry-over basis
regime, it might be the case that transfer from decedent to executor is
ignored and that the recognition event for heavily mortgaged property
does not occur until transfer from the executor to the ultimate
beneficiary. This does not solve the problem of accelerating
recognition but merely postpones it slightly. Indeed, in some
jurisdictions real property is not treated as passing through the
executor's hands; rather, title is treated as flowing directly from
decedent to beneficiary, and in such cases the recognition event would
have to be the time of death. In the following discussion when I refer
to taxation at the time of a decedent's death, it should be understood
that this reference includes the possibility that such taxation might
not occur until the property passes through the hands of the executor.
Death as a recognition event would also arise, if property is not
given a full step-up in basis at death, upon the death of a partner
having a negative capital account. For example, suppose four
individuals contribute $100,000 to a partnership, and the partnership
uses its $400,000 of equity plus a loan of $1,600,000 to purchase
improved real estate for $2,000,000. After 10 years, the partnership
has claimed depreciation of about $800,000, so the partnership's
adjusted basis in its property equals $1,200,000. The outstanding
balance on the loan is about $1,400,000 (assuming a 30-year
amortization schedule), which means that each partner's capital account
is negative by about $50,000.
Current law's step-up basis at death ensures there is no taxation
to a partner who dies at this point, and his share of appreciation in
the partnership assets escapes income taxation, now and forever. But if
Congress enacts a carry-over basis at death rule, the partner who dies
presumably will be taxed at once on a gain of about $50,000.\12\ And
this taxation is imposed independent of the current value of the
property. This problem of negative capital accounts is especially
likely to arise in connection with highly-leveraged real estate
contributed to an umbrella partnership as part of an UPREIT roll-up.
---------------------------------------------------------------------------
\12\ Upon the sale or exchange of a partnership interest, the
transferor partner's share of liabilities are treated as part of the
amount realized. Treas. Reg. Sec. 1.752-1(h).
---------------------------------------------------------------------------
Congress could, of course, carefully specify that death-time
transfers will not be taxable to the decedent even if the property is
encumbered. Such language would ensure that if I die holding property
with value of $1,000,000, adjusted basis of $100,000, and subject to a
nonrecourse debt of $850,000, I would not be taxed on the death-time
transfer.\13\ Indeed, since my estate may have no liquid assets with
which to pay a substantial income tax liability, failing to prevent
acceleration of the gain risks forcing an immediate and distressed sale
of assets by the estate.
---------------------------------------------------------------------------
\13\ This is how property is treated when transferred between
spouses or between ex-spouses incident to divorce. See Sec. 1041.
---------------------------------------------------------------------------
Unfortunately, no current legislative proposal actually includes
language to ensure this result. If such language were included,
however, it would then be the case that whoever inherited the property
would receive a basis of only $100,000, precisely the result that a
carry-over basis regime presumably intends. To accomplish this result,
Congress should amend section 1014 as follows:
Sec. 1014. Property acquired from a decedent [carry-over basis]
(a) In general.--In the case of property acquired from a decedent
within the meaning of subsection (b)--
1. No gain or loss shall be recognized by the decedent or the
decedent's estate on such transfer; and
2. The basis of such property in the hands of the person
acquiring it from the decedent shall be the basis of such
property in the hands of the decedent immediately prior to
death.
(b) Property acquired from the decedent.--
[no change to existing law]
Highly Mortgaged Property Can Be Underwater to the Heirs
But now consider the hapless beneficiary who has just inherited
property with current value of $5,000,000, carry-over basis of
$1,000,000, and subject to a debt of $4,500,000. This inheritance may
not be quite so good as getting the property free and clear, but the
equity of $500,000 is still real money. Or so it seems.
If the property is sold for its current value of $5,000,000, the
loan must be paid off before the new owner is entitled to keep any of
the proceeds. Thus, of the $5,000,000 received for the property,
$4,500,000 must be given to the lender, leaving the new owner with only
the equity value of $500,000. That would still be a good day's work
were it not for the pesky carry-over basis rule; because the new
owner's basis in the property was carried over from the decedent, the
sale is taxable to the tune of $800,000.\14\ As a result, the new owner
now not only owes the bank $4,500,000 but the IRS some $800,000 as
well, so that the inheritance of $500,000 in equity is in reality worth
negative $300,000. Well advised individuals might know to reject an
underwater bequest, but who without a tax lawyer in the family would
suspect that receiving property with $500,000 in equity puts your out-
of-pocket by $300,000 or more?
---------------------------------------------------------------------------
\14\ Sale for $5,000,000 with a carry-over basis of $1,000,000
yields a taxable gain of $4,000,000. Taxed at the lowest income tax
rate applicable to long-term capital gain produces a tax liability of
$800,000. State taxes would add to this amount.
---------------------------------------------------------------------------
Not all highly mortgaged property will be underwater in the sense
that a sale yields proceeds insufficient to both pay of the mortgage
holder and pay the income taxes on the gain. For example, property with
current value of $5,000,000, adjusted basis of $1,000,000, and
encumbered by a debt of $3,000,000 offers net value to a donee who
takes this property with a carry-over basis. Assuming capital gains are
subject to a total federal and state tax burden of 25%, our donee can
sell the property for $5,000,000, pay off the debt of $3,000,000 as
well as the tax burden of $1,000,000, and still have $1,000,000 in
hand. Heavily mortgaged property will only be underwater if the amount
of the outstanding encumbrance plus the tax burden on the unrealized
appreciation exceeds the value of the property.
What should Congress do? Under current law, this problem is solved
by the step-up basis rule at death by eliminating the income tax
liability. A carry-over basis rule, though, leaves the income tax
liability intact, which means someone--decedent, heirs, or a
combination of the two--must both pay off the loan and pay off the
taxes.
Current legislative proposals include only a partial repeal of the
step-up basis at death rule. The Kyl-Breaux bill (S. 275), for example,
eliminates current death taxes yet retains the step-up basis rule to
the extent of $2,800,000 in unrealized appreciation. It thus provides
complete tax relief for individuals whose assets at death include
appreciation of $2,800,000 or less, regardless of any encumbrance. For
an individual who dies owning property with value of, say, $10,000,000
subject to a debt of $9,000,000 and with adjusted basis of $500,000,
this relief will be partial at best even though the net value of the
estate is well under the $2,800,000 amount. That is, there will still
be taxable gain of $6,700,000 (value of $10,000,000 less carryover
basis of $500,000 plus step-up basis of $2,800,000), of which most
presumably will be imposed on the decedent at death (gain at death
presumably will equal outstanding loan amount of $9,000,000 less total
basis of $3,300,000, or $5,700,000 of taxable gain).
Imposing a heavy tax burden on the decedent both accelerates the
tax liability and imposes it at a time when there may be no funds with
which to pay the taxes. Letting the decedent escape taxation shifts
that burden to the heirs who, when they sell the property, will end up
with far less than the equity they anticipate. Indeed, they might even
end up out-of-pocket.
The most direct solution to this dilemma would be to defer taxation
of the unrealized gains until the heirs sell the property--that is,
provide by statute that no gain is recognized on the devise of
encumbered property--and then limit the tax liability to ensure that
the heirs are not out of pocket by reason of the inheritance. Putting
such a limitation into law would require something like the following:
Sec. 1014. Property acquired from a decedent [gain limitation]
(a) In general.--In the case of property acquired from a decedent
within the meaning of subsection (b)--
1. No gain or loss shall be recognized by the decedent or the
decedent's estate on such transfer; and
2. The basis of such property in the hands of the person
acquiring it from the decedent shall be the basis of such
property in the hands of the decedent immediately prior to
death [possibly including a partial step-up].
3. Upon the disposition of such property by the person
acquiring it from the decedent, any gain recognized shall not
exceed the value of the property less the amount of debt
encumbering such property at the time it was acquired from the
decedent times the highest tax rate applicable to net capital
gain.
(b) Property acquired from the decedent.--
[no change to existing law]
Alternatively, Congress could eliminate the problem entirely by
providing that (1) the decedent is not taxed on the death-time transfer
of property even if encumbered and (2) the heirs get a step-up for the
amount of any encumbrance existing at the time of the debt. This would
avoid the problems indicated above, but it would do so only by bringing
back--at least in part--the step-up basis rule.
An astute taxpayer who owned appreciated assets could exploit such
a rule by borrowing against low-basis property shortly prior to death.
For example, suppose T owns land with adjusted basis of $0 and current
value of $10,000,000. Under a carry-over basis at death regime,
someone--decedent or heir--is supposed to be taxable on the $10,000,000
appreciation when the property is sold. Yet, if property transferred at
death qualifies for a step-up basis at death to the extent of any
encumbrance on the property, T should borrow as much as possible
against the property immediately before dying.
For example, suppose T places a $9,000,000 mortgage on the property
prior to death and then devises both the encumbered land and the
$9,000,000 loan proceeds to his child. Child takes the property with a
basis of $9,000,000 rather than $0 if a step-up is provided for the
debt. However, Child can use the cash to retire the debt and thereby
own the land free and clear. By running the debt through the decedent's
estate, the carry-over basis rule has been almost entirely avoided.
This tax avoidance technique could be eliminated by providing a
step-up basis only for old and cold debt; that is, for debt placed on
the property more than one, two or even three years prior to the death-
time transfer. Careful taxpayers could still exploit this rule by
borrowing early enough, but in such circumstances the loan likely would
have some business legitimacy because interest would have been paid for
months or years. Nevertheless, probably the best way to limit gain
recognition on heavily mortgaged assets without opening the door to
wholesale tax avoidance is to provide for a basis step-up only as to
excess qualified nonrecourse financing (within the meaning of
Sec. 465(b)(6)(B)). By incorporating the definition of ``qualified
nonrecourse financing,'' the partial step-up is targeted to real estate
activities and excludes the potential abuse areas of related party debt
and seller financing. And by further limited the partial step-up to
excess debt (that is, a step-up for such debt only to the extent it
exceeds adjusted basis), the step-up will be limited to those cases in
which the basis is low and the gain to the heirs will be substantial;
that is, to cases in which the property's equity may not be sufficient
to cover the eventual tax liability. To enact this result, Congress
should enact language such as:
Sec. 1014. Property acquired from a decedent [debt step-up]
(c) In general.--In the case of property acquired from a decedent
within the meaning of subsection (b)--
1. No gain or loss shall be recognized by the decedent or the
decedent's estate on such transfer; and
2. The basis of such property in the hands of the person
acquiring it from the decedent shall be--
i. the basis of such property in the hands of the
decedent immediately prior to death [possibly increased
for a partial step-up], plus
ii. the amount of any qualified nonrecourse financing
as described in Sec. 465(b)(6)(B) to the extent the
amount of such debt exceeds the adjusted basis of such
property determined under subparagraph (i).
(d) Property acquired from the decedent.--
[no change to existing law]
Conclusion
Repeal of the estate tax is not intended to be fundamental income
tax reform. Yet, if a carry-over basis rule at death replaces the
current step-up basis rule, the death-time transfer of encumbered
property might well include not only a new and substantial income tax
liability but also an acceleration of that liability to the moment of
death. Carefully drafted language can avoid that acceleration. In
addition, a tailored step-up for qualified nonrecourse financing can
ensure that heavily mortgaged real estate will not be a negative value
asset in the hands of a decedent's heirs.
Statement of Larry Taylor, President, Air Conditioning Contractors of
America, Arlington, Virginia
On behalf of the Air Conditioning Contractors of America (ACCA), I
would like to thank the Committee for holding this hearing which is of
vital importance to the economic health and future of working families
across our nation. In addition to being President of ACCA, I am
President of Air Rite Air Conditioning Company, Inc., a Fort Worth,
Texas, company that specializes in heating, ventilation, air
conditioning and refrigeration (HVACR) systems.
Mr. Chairman, I began my HVACR career working for a company known
today as TD Industries and stayed with them for over 19 years before
purchasing Air Rite in 1990. My wife Linda and I, along with our son
Toby, operate Air Rite and employ 33 ``partners'' who work together to
make it a better workplace for future ``partners.''
Air Rite is a fair representation of the typical member company of
ACCA, and like many of the family-owned company members of ACCA, it is
Linda's and my sincere hope that we will be able to pass along our
business to our children.
Mr. Chairman, ACCA is the nation's premiere trade association of
those who maintain, design, and install heating, ventilating, air
conditioning and refrigeration (HVACR) systems. We have 60 state and
local chapters, representing approximately 9,000 members nationwide,
the vast majority of which are family-owned and operated small
businesses. We appreciate the opportunity to support President Bush's
proposal to repeal the death tax. Repeal of the estate and gift tax has
long been a legislative priority of ACCA, and we hope the Committee's
efforts will help focus attention on the need to restore a measure of
common sense to our nation's tax code by passing H.R. 8.
Death tax relief is long overdue for four principal reasons. First,
as you are aware, the death tax is the single greatest threat to
family-owned businesses. It is estimated that 90 percent of small
businesses that fail shortly after the death of the founder do so
because of the punitive estate tax burden placed on the surviving
family members. In an effort to soften the blow of the death tax and to
beat these sobering odds, small family businesses spend approximately
$6 billion a year on lawyers, accountants, and insurance. This is money
that could be put to better uses, such as growing their businesses.
Nevertheless, some 70 percent of family businesses still do not survive
into the second generation. By the third generation, the loss is 87
percent. H.R. 8 recognizes that this is money that should be used to
grow business. Eliminating the death tax will dramatically reduce the
time, money, and energy spent on estate planning, thereby freeing up
scarce resources and allowing business owners to concentrate on growing
their businesses, which in turn will produce more revenue to hire new
employees and expand the family business.
Second, the death tax lacks economic rationale. If the business of
the federal government is to confiscate assets simply because it has
the power to do so, then the death tax is the perfect expression of
that power. But if the goal of our federal tax policy is to tax
economic activity, then the death tax merely repeats action already
taken. It's important to remember that the assets of a deceased
business owner's estate have been subject to previous taxation. As
such, it is thoroughly perplexing to family-owned businesses that they
should be singled out for double, sometimes triple, taxation.
Third, the death tax exposes the foolish complexity of our tax
system. Due to the inordinately high rates of the death tax, it is more
cost effective for families to sell the family business before the
death of the owner and pay the dramatically lower rates of the capital
gains tax than to pass the business to the next generation.
Fourth, and perhaps most troubling, the death tax borders on the
immoral and runs counter to the ideals upon which this nation was
founded. This tax, more than any other in the entire Internal Revenue
Code, singles out and penalizes those Americans who work hard and save
for their children. There is nothing more inherently wrong than taxing
the loved ones of a deceased family member upon his death. For an air
conditioning contractor or other small business owner to work hard all
of his life, pay business and income taxes, contribute to his
community, and then to have family members taxed on whatever remains
upon his death is simply wrong, especially if they are forced to sell
all or part of the assets to satisfy the tax man.
There are a couple of arguments levied against adoption of H.R. 8
that need to be addressed. Opponents of repealing the tax assert that
H.R. 8 is simply a tax break for the wealthy and that repeal risks
bankrupting the country. Such assertions make for nice soundbites, but
the truth is far different. Regarding the charge that only wealthy
Americans will benefit, it is important to note that, on average, 46
workers lose their jobs every time a family-owned business is forced to
shut its doors. And let me assure you that I am not spending my
weekends with the Rockefellers. The families of deceased HVACR
contractors are not typically bequeathed stacks of money. In fact, what
they are left is a business that requires a lot of hard work, time, and
energy.
And concerning the suggestion that the national budget will be
placed at risk, one need only look at the fact that revenues from the
death tax account for just a little over one percent of federal revenue
to know that this tax actually provides little benefit to the federal
treasury. As you know, the government spends considerable funds to
collect the tax so the net gain is minimal. Further, this argument
proves too much: if the federal government is truly strapped for cash,
then why wait until someone dies to confiscate his assets? Why not
simply raise the marginal tax rates today? But curiously, we don't hear
calls for such action. In fact, we're currently debating the merits of
providing long overdue relief on marginal rates as well. Perhaps this
is because the federal treasury is not in such dire straits as
opponents of death tax relief would have us believe.
Mr. Chairman, the death tax combines two certainties, death and
taxes, into one onerous liability for family-owned small businesses. We
urge you and members of the Committee to put an end to the death tax by
supporting H.R. 8. ACCA appreciates this opportunity to testify on this
issue and believes your role in addressing this critical issue, which
is of vital concern to small businesses across America, deserves to be
recognized. We at ACCA are pleased to do so, and thank you for your
attention to the needs of family-owned small businesses.
Cal-Fed School Infrastructure Coalition
Sacramento, California 95814
March 20, 2001
The Honorable Bill Thomas
Chair, House Ways & Means Committee
Attention: Bob Winter
House Ways & Means Committee
1102 Longworth House Office Building
Washington, D.C. 20515
Subject: School Construction Needs
Dear Chairman Thomas:
We appreciate the opportunity to provide information regarding
school construction needs in California as part of the House Ways &
Means Committee hearing on the Budget Proposal.
In California the school facilities problem is at critical
proportions and necessitates partnerships among local, state and
federal governments. Based on the California Department of Finance's
estimated public school enrollment for 2000-2005, California's student
population will grow by an average of 37,653 pupils per year.
Currently, California has a K-12 student population of approximately
5,951,612. Projections indicate that by the year 2005, California will
have reached a student population base of 6,134,412.
California passed Proposition 1A in 1998 that provided State funds
for modernization and new construction needs with a match from local
school districts. All $2.1 billion allocated for modernization has been
apportioned with a pending project list totaling over $1 billion. New
construction funding is available to school districts that qualify
under a complex priority point system and funds are going quickly.
These funds were intended to last through 2002. Estimated needs for
deferred maintenance and modernization in the next five years begin at
$7 billion as a conservative estimate while new construction needs will
exceed $9.6 billion.
It is important to remember that school district capital needs are
greater than the resources that can be provided from one or two
government entities. Participation by local, state and federal
governments is the only way we will develop the resources to build and
modernize the schools our country needs to serve all our children in
the future.
As an example of the above-mentioned support, the Qualified Zone
Academy Bond Program (QZAB) has been extremely successful in
California. All funding allocated in 1998, 1999, 2000 and 2001,
totaling approximately $222,488,000, was fully allocated as of January
2001. The State of California has received over $85,000,000 in
additional requests for QZABs that the State cannot meet. An extension
or expansion of this program would be well utilized in California. Some
examples of successful QZABs include a Technology Academy in the Pomona
Unified School District, the Center for Advanced Research and
Technology in the Clovis and Fresno Unified School Districts and two
Computer Certification Academies in the Baldwin Park Unified School
District, all exemplary programs featured on the U.S. Department of
Education website.
In addition, the America's Better Classroom Act, introduced last
week as H.R. 1076 by Congresswoman Nancy Johnson (R) of Connecticut and
Congressman Charles Rangel (D) of New York, is an important bill
addressing the need to assist local communities in the building of
schools. H.R. 1076, providing a federal investment of $2.76 billion
will generate $24.8 billion in interest-free school construction bonds.
The federal government provides a tax credit in lieu of interest and
the responsibility for the bond principal will be at the state and
local level. All decision-making prerogatives related to the actual
school renovation and construction remains a local community decision.
The success of the QZAB program illustrates this fact--the federal
government provides an interest subsidy while leaving all school
construction decisions to the local community.
California is in the process of developing a program for the School
Renovation Program providing $133 million in school renovation, IDEA,
and technology funds included in the FY 2001 budget. It is expected
that these funds will be depleted immediately upon implementation of
the program.
Cal-Fed is aware of alternative funding sources such as private
activity bonds. However, these alternatives do not provide the
assistance that can be gained through the QZAB Program and most
importantly the school modernization bonds proposed under H.R. 1076.
For instance, in California, school districts do not have the revenue
source necessary to make lease payments to a developer constructing a
school through private activity bonds. The QZAB Program and H.R. 1076
would utilize tax-credits thereby providing a better alternative source
for school districts and better leverage of federal dollars for school
construction.
California, like the rest of the nation, has an immediate need for
school construction funds through a partnership between local, state
and federal governments. We request your support for the inclusion of
school construction funding in the current Budget Proposal as well as
the passage of H.R. 1076.
Thank you for your consideration.
Sincerely,
Terry Bradley
Chair
College Savings Plans Network
Lexington, Kentucky 40578-1910
March 22, 2001
The Honorable William Thomas
Chairman
Committee on Ways & Means
United States House of Representatives
Room 1102 Longworth House Office Building
Washington, DC 20515
Dear Mr. Chairman:
On behalf of the College Savings Plans Network (``CSPN''), which
represents the college savings programs of all 50 states and the
District of Columbia, I am writing to express our support for
legislation to provide an exclusion from gross income for distributions
from the qualified state tuition programs. CSPN applauds your
leadership on legislation to encourage saving for college. Section 529
programs now represent over 1.5 million families who have invested over
$9 billion for their children's future higher education.
The state-sponsored college savings programs have achieved
tremendous success. Since enactment of the Small Business Job
Protection Act, the number of children participating in the programs
has skyrocketed, and the number of states with programs has nearly
doubled. The state-sponsored college savings programs help families
save for the high cost of a college education. As a result, many more
of our children will have the opportunity to gain a higher education,
which benefits the entire nation through a better educated, more
productive workforce.
The College Savings Plans Network believes that establishing an
exclusion from gross income for distributions from the qualified state
tuition programs is essential to encouraging savings and college
attendance. An exclusion from gross income would also recognize that
contributions to the programs cannot be used for any purpose other than
higher education. Any tax withheld from the distribution would reduce
funds available to pay college expenses, increasing the cost to attend
college. The public policy of this proposal is to enable and motivate
families to save for college by providing clear and easily understood
tax treatment of the qualified state tuition plans.
The states also support three additional amendments to Section 529.
The first is an increase in the amount plans are allowed to pay out for
room and board costs. The current off-campus amounts are fixed and do
not take into account geographic differences in the cost of living and
are not indexed for inflation. The College Savings Plans Network also
supports the inclusion of first cousins in the definition of ``member
of family,'' which will allow grandparents to transfer accounts among
all of their grandchildren. Lastly, the Network supports an amendment
that would allow for rollovers among qualified state tuition programs
without having changing the beneficiary. These amendments were included
in the Senate Finance Committee Chairman's mark of the ``Affordable
Education Act of 2001'' and the modifications (JCX-9-01 and JCX-11-01)
approved on March 13, 2001.
As the administrators of the state-sponsored college savings plans,
we are concerned about proposals to expand Section 529 to permit
private colleges and universities to establish qualified savings trust
programs. CSPN supports proposals designed to encourage families to
save for their children's higher education. But, as the proposal to
permit private institutions to establish qualified savings trust
programs moves forward in the legislative process, we urge the
Committee to ensure that there is effective oversight and financial
security of the private institution programs.
The College Savings Plans Network supports allowing private
institutions to establish qualified prepaid tuition programs under
Section 529(b)(1)(A)(i), but believes these institutions must be
subject to regulation and oversight as rigorous as the oversight to
which the state programs are subject. Limiting these types of programs
to prepaid tuition plans rather than savings trusts, we believe, would
provide adequate safeguards for the sound operation of independent
school programs.
The state-sponsored college tuition programs are secured by the
moral obligation of the states. To back this moral obligation, the
state programs are subject to multiple levels of oversight. Oversight
examples include state boards; gubernatorially appointed boards with
specific qualifications; state audit review; legislative oversight
committees; public audit reports; required public disclosure; and open
meeting laws, as well as public record accessibility requirements.
These oversight mechanisms protect the financial integrity of the
programs, ensuring that the contributions to the programs are soundly
invested and that the actuarial goals of the plans are met. Safe
financial operation of the programs means that when a beneficiary
enrolls in college, the program can pay out the proper amount of
tuition.
The passage of legislation to improve the tax treatment of state-
sponsored college savings programs is crucial to states currently
administering a college savings plan, as well as to those states
implementing new plans for the benefit of their residents. Thank you
again for your leadership and strong support of the state college
savings programs and the hundreds of thousands of families who
participate in them. We look forward to working with you as this
legislation moves through Congress.
Very truly yours,
Georgie Thomas
Chairman, College Savings Plans Network and
New Hampshire State Treasurer
Statement of the Hon. Constance A. Morella, a Representative in
Congress from the State of Maryland
I am here to applaud the President's proposal to increase the child
tax credit from $500 per child to $1,000 per child. Throughout America,
families with children struggle with the extra cost associated with
raising children today--especially child and health care costs.
During the President's inaugural remarks, he said, ``America, at
its best, is compassionate. In the quiet of American conscience, we
know that deep, persistent poverty is unworthy of our nation's
promise.'' With much applause, the President continued, ``And whatever
our views of its cause, we can agree that children at risk are not at
fault. Americans in need are not strangers, they are citizens, not
problems, but priorities.''
The President's proposal to double the child tax credit from $500
to $1,000 is an important first step towards achieving our shared
goals. Unfortunately, the child tax credit expansion, as proposed,
discounts over 16 million children because they live in families with
no federal tax liability and therefore will receive no benefit from an
increase in the child tax credit because it's not refundable--it's not
available to families without federal tax liability.
An additional 7 million children live in families who will not
benefit from an increase in the child tax credit unless it's refundable
due to their limited tax liability. Yet, these families pay taxes. They
pay federal and state taxes, payroll taxes, gas taxes, phone taxes, and
other taxes. Overwhelmingly, they represent working families. Yet, at
$12,000 or $20,000, they have no federal tax liability and therefore
unless the child tax credit is made refundable, they will receive no
benefit from an increased child tax credit.
Making the child tax credit fully refundable would lift more than 2
million poor children out of poverty (one in six). It would lift 1.6
million extremely poor children (one in three) above one-half of the
poverty line (above $6,645 a year for a three person family). While it
may not be realistic to achieve full refundability in this tax bill, I
believe it is important to take the first step towards helping those
children most in need.
To that end, I, along with several of my Republican colleagues,
have formulated language that duplicates the President's proposal to
double the existing child credit from $500 to $1,000 and increase the
income phase-out from $110,000 to $200,000. Our bill simply makes $500
of the credit refundable to low and middle income families. This step,
modest as it is, would lift over 1 million children out of poverty.
Certainly, if we agree that children in higher income families need
help from the child credit, we can agree that low-income children need
that help as well. It is unconscionable that in America today, federal
budget experts predict a federal budget surplus of $5.6 trillion over
the next 10 years and an ``on-budget'' surplus of $3.1 trillion over
the next 10 years--that over 12 million children live in poverty.
We can take advantage of the current resources our great nation
has, by attempting to move children out of poverty--to ensure that no
child is hungry or homeless, without health coverage, unable to
concentrate in school because their parents cannot afford a decent
apartment or a balanced meal. Making the child tax credit refundable
would be one of the most effective antipoverty strategies in years.
While I support expanding the Earned Income Tax Credit (EITC) for large
families, making the child tax credit refundable is several times more
effective in moving children out of poverty.
Often people talk about the complexity of the tax code. The beauty
of making the child tax credit refundable is its simplicity. Families
in need, regardless of income tax liability, would receive much needed
benefit--no marriage penalty and very little chance for fraud. Unlike
some programs, a refundable credit would not result in fraudulent
claims because children must qualify as dependents. The IRS already has
an effective system in place to verify any claim of dependents. The
credit is not income-based so you don't have to have systems set up to
track parents as they navigate their way through a series of low wage
jobs.
Mr. Chairman, I supported the President's income rate tax proposal
because, like many of my colleagues, I believe Americans pay too much
in several sections of the tax code. The concept of a refundable child
tax credit is not new. Back in 1991, the Bipartisan National Children's
Commission that included the former President George Bush's nominee for
HHS Assistant Secretary for Families, Youth, and Children Wade Horn
recommended that Congress should enact a refundable child tax credit.
Certainly, making the child tax credit refundable will not solve
child poverty but, it is a step in the right direction, and moving over
1 million children out of poverty is a giant leap in poverty reduction.
During the President's inaugural address, he made this pledge: ``When
we see that wounded traveler on the road to Jericho, we will not pass
to the other side.'' Thank you, Mr. Chairman, for this opportunity to
submit my testimony to your committee. I know we share a commitment to
our nation's children and look forward to working with you on this
issue.
National Association of Realtors
Washington, DC 20001
March 22, 2001
The Honorable Bill Thomas, Chairman
Committee on Ways and Means
1100 Longworth House Office Building
House of Representatives
Washington, DC 20515
Dear Mr. Chairman:
The National Association of Realtors (NAR) appreciates the
opportunity to comment on features of President Bush's tax cut
proposal. The National Association of Realtors represents more than
760,000 Realtors who are engaged in every facet of real estate
brokerage, leasing, property management and sales.
Our members generally favor low tax rates. Presently, they are
hopeful that Congress and the Administration can strike a balance
between tax cuts and reducing the debt. Real estate is particularly
sensitive to interest rates, and we believe that the combination of tax
and fiscal policy should foster the lowest possible interest rates and
tax rates.
Two features of the President's tax cut plan are the subjects of
hearings on March 21. NAR wishes to express concerns about marriage
penalty relief and about some technical aspects of estate tax repeal.
Marriage Penalty Relief
NAR supports the marriage penalty relief specified by both
Candidate Bush and in the Administration's ``Blueprint for New
Beginnings'' (the budget plan). The budget plan reinstates the Reagan
solution to the marriage penalty. The proposal allows a deduction for
two-earner families that allows the lower-earning spouse to deduct 10
percent--up to $3,000--of the first $30,000 of income. An identical
provision was in effect from 1981-1986. The provision was repealed as
part of the Tax Reform Act of 1986 because the low tax rates enacted in
that legislation significantly reduced the impact of the marriage
penalty. Since 1986, however, tax rates have increased and the marriage
penalty has again become an anomaly of the Code.
NAR favors the Bush budget solution to the marriage penalty over
methods that focus on the standard deduction. In 1999 and 2000, the
House passed marriage penalty relief that would have doubled the
standard deduction. Thus, the provision would have gone beyond the
scope of simply reducing the marriage penalty by providing tax
reductions to couples who do not experience the penalty because only
one spouse earns income. Doubling the standard deduction is a simple
method for addressing this problem, but it excludes working couples who
itemize their deductions. We cannot discern any policy reason why those
families who itemize should be denied marriage penalty relief.
NAR believes that two-income families who itemize their deductions
should also receive marriage penalty relief. We believe that
fundamental fairness requires this result. Therefore, we support the
Administration's budget proposal over relief methods that focus on the
standard deduction.
Provisions similar to those found in this year's H.R. 6 were
advanced in 2000 to correct the marriage penalty. Those provisions were
vetoed in 2000. This year, H.R. 6 doubles the standard deduction,
widens the 15% bracket and mitigates the marriage penalty in the earned
income credit. The sponsors of H.R. 6 acknowledge that it provides no
relief to individuals who itemize their deductions. They attempt to
correct this disparity by widening the 15% bracket for married joint
filers. While this will provide relief to all married taxpayers,
including those in higher brackets, we note that those who utilize the
increased standard deduction will also receive the benefit of the
bracket changes, while those who itemize will receive only the relief
of the bracket widening. Moreover, since the bracket widening provision
is phased in, it will take several years before taxpayers who itemize
will receive relief. Again, we can find no policy basis for providing
immediate relief to non-itemizers while providing only a single form of
phased-in relief to itemizers.
Estate Tax Repeal--Support for H.R. 8 as Introduced
When H.R. 8 was debated in Congress in 2000, NAR sent House and
Senate members a letter of support for final passage of the conference
report on the bill but expressed concerns about that bill's provision
eliminating stepped up basis in favor of carryover basis. In this
Congress, Ms. Dunn and Mr. Tanner have again introduced H.R. 8 and have
retained stepped up basis. NAR strongly supports repeal of the estate
tax and thus supports H.R. 8 in its current form. We believe that the
Committee should adopt H.R. 8 in its current form, as it achieves both
objectives of repealing the estate tax and retaining stepped up basis
for all assets.
Challenges of Carryover Basis
Because Congress has passed carryover basis once, however, we wish
to express our concerns about many of the problems associated with that
change. Our concerns about carryover basis are based largely on
administrative challenges for property owners, estate administrators
and tax administrators. We believe that carryover basis is unduly
complex. Indeed, the carryover basis provisions enacted in 1976 were
delayed in 1978 until 1980. The Joint Committee ``General Explanation
of the Revenue Act of 1978'' noted that
Congress believes that it should thoroughly review the
concept of carryover basis in addition to considering its
effect on the administration of estates. The Congress believes
that the effective date should be postponed in order to review
the provisions before they become effective. (General
Explanation, p. 294.)
Congress undertook that review, and concluded that while carryover
basis was perhaps a supportable policy, it was almost impossible to
implement. Thus, the carryover basis rules were never put into effect
and were repealed in the 1980 Crude Oil Windfall Profit Tax Act of
1980. In fact, the IRS and practitioners were unable to design rules to
make the carryover basis concept operational. The Joint Committee
``General Explanation of the Crude Oil Windfall Profit Tax Act of
1980'' that accompanied the repeal of carryover basis described the
``Reasons for Change'' as follows:
A number of administrative problems concerning the carryover
basis provisions have been brought to the attention of the
Congress. Administrators of estates have testified that
compliance with the carryover basis provisions has caused a
significant increase in the time required to administer an
estate and has resulted in raising the overall cost of
administration. Congress believed that the carryover basis
provisions are unduly complicated and should be repealed.
(General Explanation, p. 120.)
Advocates of carryover basis have expressed concern that the repeal
of the estate tax, coupled with retention of stepped up basis, would
permit substantial amounts of built-in gain in appreciated assets to
completely escape taxation. Their concerns must be weighed against the
problems inherent in designingworkable carryover basis rules.
Even when the estate tax is repealed, the effects of inheriting
assets will still be felt by heirs because the assets that the heirs
receive will remain subject to the income tax rules. Thus, rules for
determining the value of the assets that the heirs receive are
essential. Current law permits the heirs to receive assets at their
fair market value by providing a stepped up basis. Carryover basis
requires that the heirs receive the assets at the value they have in
the hands of the decedent.
The vetoed 2000 version of H.R. 8 would have permitted a stepped-up
basis for $1.3 million of assets. All other assets would be subject to
carryover basis. This rule has an effect similar to an exclusion and
would eliminate the complexity of carryover basis for smaller,
relatively simple estates. This year, Senator Kyl, an advocate of
carryover basis, has introduced S. 275, which repeals the estate tax
and institutes carryover basis, subject to a stepped up amount of $2.6
million per decedent. Thus, under S. 275 a couple could convey assets
with a value of up to $5.6 million with a stepped-up basis. This
provision will eliminate some of the challenges of carryover basis and
will reduce the number of taxpayers subject to the carryover basis
regime. The remainder of estates and their administrators and heirs
will, however, face new complexities. The discussion that follows
enumerates some of the problems with carryover basis and/or a part step
up, part carryover model.
Recordkeeping: Carryover basis requires meticulous recordkeeping.
Heirs will need to know when an asset was acquired and at what price.
Additional costs arising from acquisition might also have changed the
basis of the asset. These costs could include items such as commissions
paid, title search costs and legal and/or financial advice related to
the acquisition. In the case of stocks and other securities, the heir
would need to know whether there had been splits and/or mergers or
acquisitions that applied to the stock. In the case of real property or
certain tangible personal property, the heir would need to know the
costs of improvements and repairs, as well.
Some would say that this is no different from the information the
recipient of a gift would need to have because gifts are subject to a
carryover basis. The stark difference between a gift and a bequest,
however, is that the donor is alive and able to provide information in
the case of a gift, but the person with all the information is dead in
the case of a bequest and so cannot provide information.
Liabilities in Excess of Basis: Under current law, the amount
property that is subject to the estate tax is the net value of the
property in the estate. Thus, in a taxable estate, an individual might
have a property with a fair market value (FMV) of $4 million at death,
a basis in that property of $300,000, and a debt on the property of $3
million. The estate tax on this property would be imposed on a value of
$1 million--the net FMV of the property ($4 million less $3 million
debt). If an heir later sold the property for $4.5 million, the taxable
gain would be $500,000 ($4.5 million sales price less stepped up basis
of $4 million). The debt would have no effect on the stepped up basis
of the heir at the time of disposition.
By contrast, the transfer of a debt-encumbered property with a FMV
of $4 million, debt of $3 million and a basis of $300,000 would be
treated much differently under carryover basis. The heir would have a
basis in the property of only $300,000 (the same as the decedent's). A
subsequent sale of the property for $4.5 million would generate a
capital gain of $4.2 million ($4.5 million less $300,000--the debt is
given no effect for measuring gain). At a tax rate of 20% on the
capital gain, the tax due would be $840,000. This is substantially
higher than the $550,000 that would be due under the estate tax with
stepped up basis even if the decedent's estate had been subject to the
highest estate tax bracket. When the heirs in the stepped up basis
example above sold the property for $4.5 million, their capital gain
was $500,000 for an income tax liability of $100,000. The combined
$550,000 estate tax and $100,000 capital gain tax are still less than
the $840,000 capital gains tax due in this carryover basis example. The
$840,000 amount would be even higher if the transaction involved
recaptured depreciation allowances (which are taxed at 25%).
Capital gains taxes are imposed on gross amounts, while the estate
tax is imposed on net amounts. Low basis property with debt
encumbrances might thus actually be subject to greater tax burdens
under carryover basis than those imposed by the estate tax. A low tax
rate imposed on a large base can, depending on circumstances, yield a
higher tax liability than a high rate tax imposed on a small base.
A Tax at Death?: Another anomaly might occur with carryover basis
transfers of low basis, debt-encumbered property. This anomaly arises
because of the operation of the income tax law, not the estate tax.
Under current income tax law, the disposition of debt-encumbered, low
basis property results in a gain to the transferor if the property is
sold and both the property and the debt are conveyed to the purchaser
or if the property and the debt are transferred as a gift. The rules of
Section 1014 operate to require immediate recognition of gain in these
circumstances.
If the estate tax were repealed, the income tax rules may affect
the transfers of property from an estate to an heir. If the basis of
the property were stepped up as in the example above, the recognition
provisions of Section 1014 would generally not apply to the estate or
heir. Current law taxes the net estate and then steps up the basis for
the heir so that the debt is generally covered by the new basis. By
contrast, carryover basis could trigger a taxable event at death. If
the transferor is an estate transferring encumbered property to an
heir, there may be an immediate tax due because of these income
recognition rules of current law. The fact that the estate tax is
repealed would not change the income tax outcome for these assets if
carryover basis applied. Similar results (i.e., a tax at death) could
occur when property is distributed from a trust to a beneficiary
pursuant to a bequest.
Although the number of assets that would be debt-encumbered and low
basis is relatively small compared with all assets, we urge Congress to
correct this anomaly so that the inheritance of debt-encumbered, low
basis property will not trigger an immediate income tax event. A stated
goal of advocates of repeal is to assure that death is not a taxable
event. Correction of this problem will assure that result.
Tax Attributes: Congress will need to make determinations about how
to treat the various tax attributes that accompany both individuals and
their property under the income tax. While the estate tax burden would
be eliminated with repeal, the estate and its assets will still be
subject to income tax rules. Congress will need to determine, for
example, how to treat suspended losses under the passive loss rules
under Section 469. Will the heir receive a basis adjustment for them,
or will they disappear, or will they simply remain suspended losses?
Similarly, Congress will need to make determinations about the
treatment of charitable contribution carryforwards for individuals and
businesses, net operating loss carryovers for small businesses,
investment interest carryforwards and capital loss carryovers. Whether
these attributes continue to have separate identity and remain subject
to various limited or unlimited time constraints, or whether they
become adjustments to basis, administrators will have new burdens as
carryover basis requires them to attempt to determine which assets
produced which attributes. These burdens will be magnified in a part
step up, part carryover scheme like the 2000 version of H.R. 8 or this
year's S. 275.
Allocations of Basis: Part carryover, part step up models such as
last year's H.R. 8 or the current S. 275 will create unique problems
for administrators of estates that are larger than the allowable step-
up amount. Administrators will need to allocate the step-up amount
among assets. They will be required to make market predictions about
the probable subsequent appreciation of the decedent's assets and the
probable pattern of asset retention and disposition among the heirs so
that they can make the most favorable allocations for the heirs. Even
in the absence of an estate tax, it can be assumed that heirs will want
tominimize their exposure to subsequent capital gains (and, if
applicable, recapture) taxes. When the size of estates is only
marginally less than the step up amount, administrators (or Congress)
will need to devise both taxpayer and IRS recordkeeping rules that will
allow subsequent heirs to verify either the stepped up or carryover
basis of each asset.
Multiple Heirs/Multiple Generations of Heirs: Estate administrators
of estates larger than any step-up amount will be particularly
challenged in allocating the step-up amount among two or more heirs. In
the absence of instructions from a decedent, how would an administrator
choose to distribute cash, appreciated real estate, appreciated stock
(whether these appreciated assets were high or low basis) and the
residue of an IRA or 401(k) plan? Under stepped up basis, the
determination of comparable value among these assets is relatively
simple, because the value of each asset in the estate and thus to the
heir is stepped up to its fair market value.
Under carryover basis, there would be no consistent method of
valuing the assets for the assets for the heirs. To the extent that
heirs disagreed with either the type of property received or its basis
allocation and potential value, there could be increased controversy
about disposition of estates. Heirs would likely prefer to receive
either cash or high basis assets. Because of the potential tax exposure
for low basis assets, those may become undesirable bequests. Moreover,
there would be substantial differences in the yearly income tax
benefits and liabilities to an heir of receiving these different types
of assets.
Even more complicated problems arise for multiple heirs and
multiple generations. Assume that a decedent had an estate with $8
million of stock in various companies, all acquired on different dates.
The decedent leaves this stock to each of 3 children, and the allowable
step-up amount is properly allocated. (This assumes that it is possible
to make a basis determination and that the decedent had sufficient
records on all of the stock with which to make the determination.) Each
of those 3 children holds the stock until his or her death, and each of
them also has sufficient other assets for his or her own step up amount
and some carryover basis assets, as well. Further, each of the 3
children has heirs.
How will the third generation heirs trace their basis from the
first generation bequest? from the second generation? How will the
records--which could cover a period of 40 or more years--be kept and
retained? Who will bear the responsibility of keeping the records for
the original bequest? How will the IRS know what assets from the
original bequest received the step up and which received carryover
basis? Will it be necessary to file returns, even for stepped up
amounts? Will the IRS still have those records in a readable format
after 40 or 50 years? Who will bear the burden of proof for
establishing basis in multi-generation property? What if some of the
assets become capital loss property?
Inevitably, the movement of property from generation to generation
under carryover basis will compound the complexity of the taxpayer's
obligations--even in the absence of an estate tax.
Potential Lock-in Effect: Over time, the basis of some assets will
become very low relative to the appreciation and built-up gain in the
assets, especially when the assets are carryover basis assets. This
will be particularly true of depreciable assets, where, in theory, at
least, the basis could be reduced to zero if it is not increased by
improvements and renovations. While we have no empirical data to test
our view, we believe that, over time, there could be an increasing
lock-in effect as heirs find that the tax costs of selling low basis
appreciated assets become increasingly disproportional. Historically,
Congress has sought to eliminate the lock-in effect for appreciated
assets. A long holding period for appreciated property with a low basis
would surely have some lock-in effect.
Impact on Surviving Spouses: Under current law, an unlimited
marital deduction permits a spouse to leave all property to the
surviving spouse without an estate tax consequence. The basis of the
assets is stepped up to their fair market value. Then, when the second
spouse dies, the estate tax is imposed on the value of the remaining
assets. Under carryover basis, the marital deduction disappears, so any
assets a surviving spouse will receive will be subject to the carryover
basis rules. Even with a partial step up as under S. 275 (or last
year's H.R. 8), a surviving spouse who needs cash or income could be
forced to pay substantial taxes that would not be due under current
law.
This will be particularly true in the case of an estate with a
limited number of illiquid assets. For example, a spouse might inherit
a going concern small business. The survivor may not wish or be
competent to operate the business and may wish to derive her income
from other, more stable sources such as fixed income funds or
annuities. Under current law, if the spouse sold the business, he/she
would incur only a capital gains tax on the difference between the fair
market value of the business at the decedent's death and the sales
price of the business. Under carryover basis, depending on the
relationship of sales price, carryover basis amounts and stepped up
basis amounts, the income tax/capital gains tax liability to the spouse
at the time of sale might be significantly greater than any estate tax
might have been.
Conclusion
The National Association of Realtors supports President Bush's
original marriage penalty relief provision and is hopeful that any
marriage penalty that the Committee crafts will apply equally to those
who itemize their deductions and those who do not.
NAR also supports full estate tax repeal as found in the 2001 Dunn-
Tanner version of H.R. 8. Despite our concerns from 2000 about
carryover basis, we believe that its impact can be mitigated by
assuring that only the most sophisticated taxpayers are subject to it.
This mitigation can be accomplished by assuring that a step up amount
at least as great as the $2.8 million in S. 275 is provided. NAR's
Federal Taxation Committee and leadership have reviewed this issue
carefully, and believe that full estate tax repeal is in the best
interests of our members and the clients they serve.
Should you or your staff have questions related to these issues,
please feel free to contact me at 202 383 1083 or at
[email protected].
Sincerely,
Linda Goold
Tax Counsel
Statement of Robert J. Maguire, Chairman, National Automobile Dealers
Association
Mr. Chairman and members of the Ways and Means Committee, I am
Robert J. Maguire, CEO of Saturn of Bordentown, Saturn of Toms River,
Bob Maguire Chevrolet Inc., Bordentown, N.J., Windsor Nissan,
Highstown, N.J., and 2001 chairman of the National Automobile Dealers
Association. On behalf of NADA, I commend you for holding this hearing
and am pleased to submit this testimony in favor of eliminating the
federal estate tax.
NADA represents more than 19,500 franchised new car and truck
dealers who employ more than one million people nationwide. The
majority of NADA's members are small family-owned and community-based
businesses. Many dealerships span two, three or four generations. I am
a second-generation dealer myself. My father started his business in
1938, and I joined him in 1962 before beginning my own in 1976.
The estate tax in its current form is destructive to America's
entrepreneurs. Under the current law, heirs could be required to pay up
to a 55 percent tax on the estate when the owner dies. There is
something very wrong in our system when a small businessman or
businesswoman spends a lifetime building a company, paying taxes,
providing jobs and serving the community only to have the government
step in and take 55 percent of everything at death.
The death of the owner of a small business can trigger an estate
tax obligation that has immediate adverse consequences. The surviving
family members often do not have sufficient cash reserves to cover the
estate tax bill, so they have to borrow money to pay the IRS. This
increased debt severely restricts the ability of the surviving entity
to obtain additional capital, which can cripple or kill the business.
Even the most sophisticated estate tax planning and the purchase of
life insurance cannot mitigate the effects of the death tax. Most
assets of automobile dealers are not liquid. A dealer's capital is
invested in the land under the dealership, buildings housing showrooms,
vehicle repair equipment, and other facilities. Also, dealers need
substantial working capital to finance new and usedcar inventory, as
well as parts and accessories. If the government demands half of the
fair market value of the business just because the owner dies, families
in the automobile business are left with few options but to sell their
businesses or incur substantial debt to pay the tax.
The estate tax also negatively impacts businesses before the death
of an owner. Dealers spend thousands of dollars each year in fees to
attorneys, accountants and life insurers in an attempt to prepare for
an eventual estate tax liability. Dealers have paid taxes on these
assets and are frustrated by throwing money at preparation costs rather
than on more productive measures such as business expansion and
employee benefits.
Moreover, the notion that death taxes affect only the rich is
wrong. To the extent that these taxes reduce savings and investment,
they slow economic growth and job creation. When a family-owned
business has to curtail growth or, in many cases, liquidate part or all
of the business to pay estate taxes, it hurts everyone involved--
owners, customers, suppliers, employees, and their families.
Preserving family-owned and community-based businesses is crucial
to the health of the national economy and essential to the economic
welfare of local communities. These businesses provide the majority of
new job growth in the country. Very often, family-owned businesses are
central to the economic vitality of local communities, providing career
opportunities for millions of working Americans. The vast majority of
the one million people that dealers employ depend on the stability of
our businesses to provide for their families. The elimination of the
estate tax will enable dealers to continue to provide these jobs and
will help assure the continuity of family business ownership for
generations to come.
The death tax is anything but fair. I urge Congress to bury the
death tax for good.
Statement of Bruce R. Bartlett, Senior Fellow, National Center for
Policy Analysis
Mr. Chairman, thank you for the opportunity to testify today on
issues relating to the marriage penalty and child credit.
To begin with, I would like to say that my general philosophy of
taxation is that tax policy should influence individual decisionmaking
as little as possible. People should neither be encouraged nor
discouraged from getting married because of the Tax Code. Nor should
their choice to have or not have children, or to have many or few
children. These are extremely intimate aspects of family life that I
think the government intrudes upon only at its peril.
In short, I favor tax neutrality to the greatest extent that it is
possible to achieve it. Of course, I recognize that no tax system can
be completely neutral. But there are degrees of non-neutrality and I
believe that our current tax system strays very, very far away from
neutrality and would be improved by moving back in that direction.
Some people take the position that since perfect neutrality is
impossible and that tax policy must necessarily influence such things
as marriage and child bearing to some degree, it follows that it should
actively promote them. I think this is wrong and leads down a very
slippery slope that advocates of an aggressive ``pro-family'' policy
have not fully considered.
I think it is important to recognize that the current pro-family
bias of the Tax Code did not come about because Congress made an
explicit decision to aid families. It resulted from a Supreme Court
case that gave residents of community property states a tax cut
unavailable to those in common law states. In effect, the former
allowed married couples to split their income for tax purposes--each
spouse being taxed as if he or she earned half the couple's total
income. With income tax rates much higher than those today and few
women in the labor force, this meant that married couples in community
property states paid far less federal income taxes than couples in
common law states or singles with the same income.
Eventually, Congress codified income splitting, extending the
benefits to couples in every state. This created, for the first time,
an explicit pro-family tax policy, insofar as a married couple
constituted a family. Prior to this time, couples and singles with the
same aggregate income paid the same tax. Henceforth, couples would
generally pay less taxes than a single person with the same income.
Today, single-earner couples continue to receive the benefit of
this policy change that took place in 1948, under pressure from a court
case and without any conscious intent on the part of Congress. Such
couples generally receive a bonus from the Tax Code, meaning that they
pay less federal income taxes than a single person with the same
income.
By the late 1960s, the gap between a married couple and a single
person with the same income became so great that it was viewed as
unfair. Some couples were paying more than 40 percent less income taxes
than their similarly-situated single counterparts. This led Congress to
reconfigure the rate schedule such that no married couple would pay
more than 20 percent less than a comparable single person.
The unintended result of this policy change was to create a
marriage penalty for the first time. I define a marriage penalty as a
situation in which a married couple pays more federal income taxes than
a single person with the same income. In response to outcries, Congress
enacted a second earner deduction in 1981, which substantially
mitigated the effects of the marriage penalty. However, this deduction
was eliminated in the Tax Reform Act of 1986. Since then, there has
been growing agitation to once again redress the marriage penalty, a
situation intensified by the growing role of women in the labor
force.\1\
---------------------------------------------------------------------------
\1\ For further details, see Bartlett (1998a).
---------------------------------------------------------------------------
At this point, I would like to emphasize something: the marriage
penalty only affects two-earner couples. No single-earner couple ever
pays a marriage penalty. For the most part, the latter continues to
receive substantial bonuses from the Tax Code. Thus, the so-called
marriage penalty is less a penalty for marriage than a penalty for work
by the secondary earner; usually the wife, but increasingly the
husband.\2\ Although there is some evidence that the marriage penalty
affects marriage and divorce decisions, mainly through timing, the
impact is minuscule.\3\
---------------------------------------------------------------------------
\2\ According to the Census Bureau, 22.3 percent of married women
earned more than their husbands in 1999, up from 15.9 percent in 1981.
\3\ See Alm and Whittington (1992, 1995a, 1995b, 1997 and 1999);
Alm, Thatcher and Whittington (1999); Dickert-Conlin (1996); Gelardi
(1996); Sjoquist and Walker (1995); Whittington and Alm (1997).
---------------------------------------------------------------------------
Of much greater importance is the impact of the marriage penalty on
the work decisions of secondary earners. A large body of economic
literature, as well as anecdotal evidence, indicates that such earners
(i.e., the lower-paid spouse) are much more sensitive to marginal tax
rates than is the primary earner.\4\ Thus there is reason to believe
that the marriage penalty is discouraging a not-inconsiderable amount
of labor at a time when the national unemployment rate is historically
low.
---------------------------------------------------------------------------
\4\ See Boskin and Sheshinski (1983), Congressional Budget Office
(1996), Eissa (1996), Feldstein and Feenberg (1996), Leuthold (1978,
1979 and 1984), Neff (1990), and Quester (1977 and 1979).
---------------------------------------------------------------------------
Once it became clear that the major effect of the marriage penalty
was in discouraging paid labor by married women, the terms of the
debate changed. Previously, many pro-family advocates had strongly
opposed the marriage penalty, believing that it discouraged marriage
and encouraged cohabitation. But when they realized that the marriage
penalty actually had a trivial effect on marriage, but a big impact on
the labor supply of married women, they altered their position. Instead
of abolishing the marriage penalty, many now want more bonuses for
married couples instead.
Thus we see that one of the main marriage penalty relief bills in
the last Congress would simply have increased the standard deduction
for married couples, so that it would be twice that for singles. While
it is true that the current break points for the standard deduction do
contribute to the marriage penalty, this proposal would only offset
about one-fourth of the total marriage penalty. Moreover, almost half
the benefits, in terms of tax savings, would go to couples who have no
marriage penalty.\5\ In short, it is more of a general tax cut for
married couples with low incomes--or at least those that who do not
itemize--than relief of the marriage penalty.
---------------------------------------------------------------------------
\5\ See Bull et al (1999).
---------------------------------------------------------------------------
To really get rid of the marriage penalty, Congress must allow
couples to choose their filing status. That is, they could continue to
file jointly or with each spouse filing as a single, depending on which
way they come out ahead, tax wise. Of course, there are important
administrative and technical problems with this approach. For example,
regulations would have to specify how income and deductions from
jointly-held assets are to be divided. There is also the question of
who gets the personal exemption and tax credit for the children.
Although these are important issues, I think they can be dealt
with. The real problem is that once we have adopted a system in which
couples can choose their filing status, it will become clear that the
sensible thing to do would be to adopt a system in which the
individual, rather than the family, is the basic unit of taxation. This
has been advocated for some years by a number of tax theorists.\6\
---------------------------------------------------------------------------
\6\ See Davis (1988), Gann (1980), Kornhauser (1993), McCaffery
(1993), Munnell (1980), Rosen (1977), and Zelenak (1994a).
---------------------------------------------------------------------------
Of course, a major consequence of this would be to eliminate
existing marriage bonuses from the Tax Code. This is never going to
happen for obvious political reasons. Nevertheless, it is the logic of
where a comprehensive effort to eliminate the marriage penalty leads
us, which is why I think there has been a fall-off in support for
comprehensive solutions, in favor of half-way measures.
While the notion of moving away from the family as the basic filing
unit for taxation may sound like an anti-family policy, I do not
believe that it is. In my view, a childless married couple has no
greater claim to be considered a ``family'' for tax purposes, and thus
entitled to pay lower taxes under the joint schedule, than a cohabiting
couple or those living in any arrangement considered to be a household
by the Census Bureau.
In my view, it is the presence of children that defines a family.
Thus one cannot separate family tax policy from tax policy regarding
children. This brings me to the question of the child credit.
The proposal for a child credit grew out of a concern that the
personal exemption had not kept pace with inflation for many years. The
feeling was that the cost of raising children had grown, while the
exemption had not.
Implicit in this concern about the erosion of the personal
exemption was the idea that the exemption ought to be related to the
actual cost of child rearing. This is consistent with the notion that
all taxpayers should receive some allowance for the necessities of
life.\7\ But, of course, there has never been any serious effort to
calculate such necessities and tie the personal exemption to it.
Rather, we get at this in a round about way through a combination of
the personal exemption, standard deduction, EITC, deduction for
mortgage interest, the child credit and other provisions of the Tax
Code.
---------------------------------------------------------------------------
\7\ See Seltzer (1968) and Groves (1963).
---------------------------------------------------------------------------
In any event, the feeling among many Members of Congress was that
current economic circumstances justified additional tax relief for
children. The sensible thing to have done, in my opinion, was to raise
the personal exemption for children. As far as I can tell, the tax
credit route was chosen primarily for mathematical simplicity, rather
than any considered notion that tax credits are inherently superior to
tax exemptions. From my research, it seems that it was too difficult
for some people to calculate the dollar value of a higher personal
exemption, because it is a function of their marginal tax bracket. The
credit approach simplified this calculation, since almost everyone got
the same dollar amount of tax saving.\8\
---------------------------------------------------------------------------
\8\ See Bartlett (1998b).
---------------------------------------------------------------------------
I think this was an unfortunate decision. I believe it has moved us
down a slippery slope of increased government intervention in the
family. The credit is also inferior from the point of view of economic
incentives.
The problem with the child credit, in my view, is that tax credits
in general are too much like direct government spending. Whereas a
deduction, exemption or exclusion implies that a taxpayer is only
keeping his or her own money free from the government's grasp, tax
credits imply that the government is making taxpayers a gift. Tax
credits also lend themselves more easily to refundability, as with the
EITC, which blurs the distinction between tax savings and a direct
government handout.
I believe it is only a matter of time before demands that the child
credit be made fully refundable are heard. And once the credit becomes
refundable and it becomes more like a direct spending program, there
probably will be calls to formally establish a system of family
allowances, as are common in Europe. Not only will this put virtually
every family with children on the dole, but it will open the way for
government regulation of the family.\9\ As we all know, government aid
never comes without strings. State and local governments, for example,
are continually threatened with loss of federal aid unless they change
their laws or policies in some way favored by Washington.
---------------------------------------------------------------------------
\9\ See Brannon and Morss (1973) and Zelenak (1994b).
---------------------------------------------------------------------------
Furthermore, tax credits are generally inferior to tax deductions
or exemptions precisely because they are not impacted by one's marginal
tax bracket. Work, saving and investment decisions are all made at the
margin. Thus the tax rate on the marginal dollar--the last dollar
earned--is the critical one for economic decisionmaking. Although there
are those who say that exemptions and credits can be made to be
economically equivalent, this is a fallacy. They arrive at this
conclusion only by looking at the effective tax rate and ignoring
marginal rates.\10\ The logic of this approach is that there is no
economic difference between a flat rate of 10 percent on $40,000 of
taxable income, yielding a tax of $4,000, and a tax rate of 100 percent
with a $36,000 tax credit. Obviously, the incentive effects are going
to be quite different, even though the same tax is paid in each case.
---------------------------------------------------------------------------
\10\ See, for example, Turnier and Kelly (1984).
---------------------------------------------------------------------------
Because exemptions and deductions affect marginal tax rates, by
raising the income level affected by higher rates, they improve
incentives to work, save and invest. Although tax credits can be
designed to increase work, saving and investment, they are inferior to
deductions. That is because, as I noted earlier, credits are too much
like subsidies. Government subsidies are almost always bad, because
they divert economic activity away from those areas established by the
market toward those dictated by government. The result is malinvestment
that can cause productivity to fall even when the volume of seemingly
productive economic activity rises. This is the reason why European
economies have been less competitive than ours in recent years despite
higher ratios of saving and investment. Because such investment was
encouraged and directed by government, rather than market forces, much
of it simply is wasted.
The same principle applies to individuals. We want to lower
marginal tax rates because we want more productive economic activity.
For this reason, I applaud this Committee's recent action to lower
marginal income tax rates for all workers and investors. However,
increasing the child credit cannot be justified on the same grounds.
Its purpose is not to increase growth or even to increase births, it is
simply a way of lowering the tax burden on families with children, in
the belief that they need it.
I certainly would not argue with the proposition that raising
children is an increasingly difficult and expensive proposition these
days. However, the logic of giving a tax credit to families solely
because they need it, without any underpinning in tax or economic
theory, poses a danger. It will be much harder in the future to resist
direct subsidies for families that will bring along increased
government control as well.
I would urge the Committee at some future date to perhaps
commission a study by the Joint Committee on Taxation on the question
of what principles should underlie tax policy toward children and the
family. I think the current approach of making ad hoc adjustments in
response to political pressure is not the best way to go about it.
__________
References
Alm, James, and Leslie Whittington. 1993. Marriage and the Marriage
Tax. 1992 Proceedings of the National Tax Association, pp. 200-205.
Alm, James, and Leslie Whittington. 1995a. Income Taxes and the
Marriage Decision. Applied Economics, vol. 27, no. 1 (January), pp.
25-31.
Alm, James, and Leslie Whittington. 1995b. Does the Income Tax Affect
Marital Decisions? National Tax Journal, vol. 48, no. 4 (December),
pp. 565-572.
Alm, James, and Leslie Whittington. 1997. Income Taxes and the Timing
of Marital Decisions. Journal of Public Economics, vol. 64, no. 2
(May), pp. 219-240.
Alm, James, and Leslie Whittington. 1999. For Love or Money? The Impact
of Income Taxes on Marriage. Economica, vol. 66 (August), pp. 297-
316.
Alm, James, Jennifer Thacher, and Leslie Whittington. 2000. Income
Taxes and Cohabitation. 1999 Proceedings of the National Tax
Association, pp. 261-268.
Bartlett, Bruce. 1998a. Tax Aspects of the 1997 Budget Deal. National
Tax Journal, vol. 51, no. 1 (March), pp. 127-141.
Bartlett, Bruce. 1998b. The Marriage Penalty: Origins, Effects, and
Solutions. Tax Notes, vol. 80, no. 11 (September 14), pp. 1341-
1357.
Boskin, Michael, and Eytan Sheshinski. 1983. Optimal Tax Treatment of
the Family: Married Couples. Journal of Public Economics, vol. 20,
no. 3 (April), pp. 281-297.
Brannon, Gerard, and Elliott R. Morss. 1973. The Tax Allowance for
Dependents: Deductions versus Credits. National Tax Journal, vol.
26, no. 4 (December), pp. 599-609.
Bull, Nicholas, et al. (1999) Defining and Measuring Marriage Penalties
and Bonuses. Department of the Treasury, OTA Paper 82-Revised
(November).
Congressional Budget Office. 1996. Labor Supply and Taxes. CBO
Memorandum (January).
Davis, Laura Ann. 1988. A Feminist Justification for the Adoption of an
Individual Filing System. Southern California Law Review, vol. 62,
no. 1 (November), pp. 197-252.
Dickert-Conlin, Stacy. 1997. Taxes and Transfers: Their Correlation
with Marital Separation. 1996 Proceedings of the National Tax
Association, pp. 299-307.
Eissa, Nada. 1996. Tax Reforms and Labor Supply. In Tax Policy and the
Economy, vol. 10, pp. 119-151. Edited by James Poterba. Cambridge:
MIT Press.
Feldstein, Martin, and Daniel R. Feenberg. 1996. The Taxation of Two-
Earner Families. In Empirical Foundations of Household Taxation,
pp. 39-73. Edited by Martin Feldstein and James M. Poterba.
Chicago: University of Chicago Press.
Gann, Pamela B. 1980. Abandoning Marital Status as a Factor in
Allocating Income Tax Burdens. Texas Law Review, vol. 59, no. 1
(December), pp. 1-69.
Gelardi, Alexander. 1996. The Influence of Tax Law Changes on the
Timing of Marriages: A Two-Country Analysis. National Tax Journal,
vol. 49, no. 1 (March), pp. 17-30.
Groves, Harold M. 1963. Federal Tax Treatment of the Family.
Washington: Brookings.
Kornhauser, Marjorie. 1993. Love, Money, and the IRS: Family, Income-
Sharing, and the Joint Income Tax Return. Hastings Law Journal,
vol. 45, no. 1 (November), pp. 63-111.
Leuthold, Jane H. 1978. The Effect of Taxation on the Probability of
Labor Force Participation by Married Women. Public Finance, vol.
33, no. 3, pp. 280-294.
Leuthold, Jane H. 1979. Taxes and the Two-Earner Family: Impact on the
Work Decision. Public Finance Quarterly, vol. 7, no. 2 (April), pp.
147-161.
Leuthold, Jane H. 1984. Income Splitting and Women's Labor-Force
Participation. Industrial and Labor Relations Review, vol. 38, no.
1 (October), pp. 98-105.
McCaffery, Edward J. 1993. Taxation and the Family: A Fresh Look at
Behavioral Gender Biases in the Code. UCLA Law Review, vol. 40, no.
4 (April), pp. 983-1060.
Munnell, Alicia. 1980. The Couple versus the Individual under the
Federal Personal Income Tax. In The Economics of Taxation, pp. 247-
278. Edited by Henry J. Aaron and Michael J. Boskin. Washington:
Brookings.
Neff, Deenie Kinder. 1990. Married Women's Labor Supply and the
Marriage Penalty. Public Finance Quarterly, vol. 18, no. 4
(October), pp. 420-432.
Quester, Aline. 1977. The Effect of the Tax Structure on the Labor
Market Behavior of Wives. Journal of Economics and Business, vol.
29. no. 3 (Spring/Summer), pp. 171-180.
Quester, Aline. 1979. Women's Behavior and the Tax Code. Social Science
Quarterly, vol. 59, no. 4 (March), pp. 665-680.
Rosen, Harvey. 1977. Is It Time to Abandon Joint Filing? National Tax
Journal, vol. 30, no. 4 (December), pp. 423-428.
Seltzer, Lawrence H. 1968. The Personal Exemptions in the Income Tax.
New York: National Bureau of Economic Research.
Sjoquist, David, and Mary Beth Walker. 1995. The Marriage Tax and the
Rate and Timing of Marriage. National Tax Journal, vol. 48, no. 4
(December), pp. 547-558.
Turnier, William J., and Douglas G. Kelly. 1984. The Economic
Equivalence of Standard Tax Credits, Deductions and Exemptions.
University of Florida Law Review, vol. 36, no. 5, pp. 1003-1019.
Whittington, Leslie, and James Alm. 1997. 'Til Death or Taxes Do Us
Part: The Effect of Income Taxation on Divorce. Journal of Human
Resources, vol. 32, no. 2 (Spring), pp. 388-412.
Zelenak, Lawrence. 1994a. Marriage and the Income Tax. Southern
California Law Review, vol. 67, no. 2 (January), pp. 339-405.
Zelenak, Lawrence. 1994b. Children and the Income Tax. Tax Law Review,
vol. 49, no. 3 (Spring), pp. 349-418.
Statement of Michael Dennis, Vice President and General Counsel, Nature
Conservancy, Arlington, Virginia
Mr. Chairman and members of the Committee, thank you for the
opportunity to submit testimony on the critically important issue of
tax incentives for land conservation. I am speaking today on behalf of
The Nature Conservancy, a private conservation organization that
protects the land and water needed to protect the diversity of life on
earth. For fifty years, we have worked with the private sector, using
the tools of the market place and the best available scientific
information, to conserve the special places that ensure the survival of
plant and animal species. To date, we have helped protect more than 11
million acres of land in the United States. Our experience working
hand-in-hand with landowners in diverse communities has led us to seek
changes in the federal tax code that would more effectively encourage
and reward private conservation actions.
I am pleased to be testifying at a time when the White House has
joined with members of this committee and others in Congress in
supporting just such a change to the federal tax code. President Bush
included in A Blueprint for New Beginnings: A Responsible Budget for
America's Priorities a proposed 50% reduction in capital gains tax on
sales of land or easements for conservation. This is the proposal that
Congressman Rob Portman has championed over the last several
Congresses, and I would like to congratulate Congressman Portman for
his leadership on this issue. He has been joined in his support of this
legislation by colleagues on this committee Congresswoman Johnson and
Congressmen Matsui, Tanner, Houghton and Neal. I urge the Committee to
support this provision and to include it in tax legislation that it
sends to the floor.
In September 1999, I appeared before the Oversight subcommittee to
outline a number of federal tax code changes that would provide the
most benefit for conservation. As I testified then, the sustainability
and quality of life in every region of the country is in danger. The
rate of the development of land exceeds by far both the rate of
population growth and the rate of open space conservation. For example,
between 1987 and 1997, California lost 3 million acres of rangeland.
The cumulative effect of seemingly unrelated activities such as
deforestation, the paving over of agricultural land, the filling in of
wetlands and urban sprawl has been to fragment the landscape and strain
the fabric of wild and human habitat. We need better tools to encourage
private landowners to protect their land.
Today, I urge you to take the first step by enacting the proposed
provision that speaks to one of the most important conservation needs
in our country today: allowing landowners to protect the ecological
values without forfeiting the economic value of their land.
What the proposal does
The proposal included in the President's Blueprint excludes from
taxation 50% of any gains realized from private, voluntary sales of
land or easements for conservation. It creates a vitally important
incentive for ``land-rich, cash-poor'' landowners who voluntarily chose
to protect their land. Although every landowner's financial situation
is unique, I believe that such an incentive would encourage more
landowners to consider favorably a conservation option for their land
because they would realize a higher return from such a sale after the
taxes were paid than if this provision were not in place.
For example, the Conservancy is working with the owners of Cherry
Hill Dairy to protect 170 acres of critical upland and wetland habitat
on the shores of Utah Lake near Provo, Utah. Cherry Hill Dairy has been
a well-known farming operation and the property has been in the family
for over 100 years. Should the family sell and easement for the agreed
upon price of $400,000, the capital gains taxes would be steep and has
been a barrier to the owners' decision to sell. If President Bush's
proposal were enacted, the tax savings on such a sale would persuade
the owners to protect the farm permanently.
How the proposal works
The capital gains tax conservation incentive is a fiscally
conservative, market-based approach to land conservation. It achieves
environmental objectives without imposing new land use regulations. The
provision is strictly voluntary, administratively simple, and uses
definitions and tests for conservation purposes that are already
contained in the tax code. It provides capital gains tax relief for
sales of land for conservation to government agencies or qualified
conservation nonprofits. The bill would allow landowners to financial
value. It would exclude 50% of any gain realized from private,
voluntary sales of land or interests in land for conservation. The land
must be used to protect fish, wildlife or plant habitat or open space
for agriculture, outdoor recreation or scenic beauty.
The proposal also helps states and local governments leverage funds
and accomplish more with their tax dollars. Estimates indicate that,
for every dollar of lost revenue from this tax provision, almost two
dollars worth of land would be protected. Sales of land to state and
local governments for conservation would qualify, in addition to such
sales to federal agencies and conservation nonprofit organizations.
Citizens who vote to increase their taxes to fund bonds for land
conservation will benefit because the funds raised will go farther
toward reaching the community's conservation goals.
Conclusion
Land conservation is a growing national need. Private landowners
hold the future of biodiversity in their hands. The tax incentives the
Conservancy recommends would provide interested landowners with the
tools to conserve their land and contribute to the public interest in
the preservation of the diversity of life.
We appreciate not only the support of President Bush, but also the
leadership of Congressmen Portman and Congresswomen Johnson and
Congressmen Matsui, Tanner, Houghton and Neal and encourage the other
members of Congress to support the innovative, voluntary tax proposals
that we are discussing today.
Thank you for your consideration of The Nature Conservancy's
testimony and the proposal for public incentives for private
conservation actions.
Statement of Judith A. Carsrud, Niche Marketing, Inc., Newport Beach,
California, and Tracy Sunderlage, Professional Benefit Trust, Chicago,
Illinois
Chairman Thomas and Members of the Committee, thank you for this
opportunity to describe the benefits working Americans receive from
welfare benefit trusts set up under Internal Revenue Code (IRC) Section
419A(f)(6). We urge you to take the necessary steps required to assure
that these valuable benefits remain available to employees of America's
small businesses.
First, let us introduce ourselves. Niche Marketing, Inc. is itself
a small business. We have three owners, with seven full-time employees.
We sponsor three 419A(f)(6) trusts, with over 452 participating
employers. Our trusts provide life insurance and severance benefits to
all of the participating employers' employees, including the owner-
employees.
Professional Benefit Trust is based in the Chicago area, and
sponsors one 419A(f)(6) trusts, covering 384 employer participants and
their employees. Benefits available to plan participants include life
insurance, severance benefits long term care and post-retirement
medical benefits. PBT employs 3 owners, with six full-time employees.
The Purpose of 419A(f)(6) Trusts: Provision of Welfare Benefits
The ability to participate in a multiple employer welfare benefit
plan allows all employers--especially small employers--to offer a
benefits package that enables them to attract and retain a quality
workforce. In addition to the traditional life and health insurance
type benefits, the benefits package frequently includes severance
benefits. These severance benefits give employees a measure of
confidence and security in making a decision to work for a small
company that is more vulnerable to dissolution, acquisition, or
outright failure as a result of market swings, economic downturns,
under-capitalization, cash flow shortages, and other known plights of
small business. Both the amount and the timing of severance benefits
are limited by law--benefits can be paid only when severance occurs
unexpectedly, and they are limited by Department of Labor rules to no
more than twice the amount of the worker's annual compensation.
Welfare benefits provided pursuant to Section 419A(f)(6) are bona
fide benefits to the employees whose employers adopt such plans, and
are necessary to the ongoing success and prosperity of such businesses.
Continuing to allow a tax incentive to provide these benefits is in the
best interest of the business community, and the workers, who in most
cases would not otherwise be covered by such benefits.
The welfare benefits typically provided by a multiple employer plan
include death benefits and severance benefits.
Many small businesses provide welfare benefits in addition to
retirement plans, such as a 401(k) or a pension/profit-sharing plan.
Severance benefits are not provided as an alternative to pension plans.
In fact, severance benefits are forfeited to the multiple employer
trust (not the remaining employees of the employer group) at the
retirement of the employee.
A software company in California is a fair example of how severance
benefits have provided meaningful benefits to its employees and allowed
the business to recruit top-level employees in their field. Technology
is a highly competitive field, with fluctuating ups and downs for
smaller firms. However, the ability of these firms to recruit and
retain skilled employees is crucial to the firms' success.
The California company we're describing here employed 12 people.
Their adopted welfare benefit plan levels included a death benefit of
ten times compensation and a severance benefit of 10% of compensation
per year of service. Following a financial setback, a much larger firm
purchased the business in March 1999. The successor firm did not employ
the employees, except for the owner-employees. But the employees of the
old, small firm received severance benefits--taxed as ordinary income--
from the welfare benefit plan, giving them the financial cushion they
needed while they found new employment.
If the employer had not been allowed to contribute the cost of the
current liability for the stated benefits, then there would have been
no money available to provide severance benefits at the time the
business was sold. These workers would then have had to deplete their
savings, if any, or try to live on unemployment compensation. In other
words, small businesses typically do not have the same ability to ``pay
as you go'' as do larger firms. These plans do not offer an unfair
advantage to small business--large businesses are also eligible to
participate in multiple employer welfare benefit plans. In fact, they
instead help to level the playing field.
In short, participation in a 419A(f)(6) trust levels the playing
field. It helps minimize a competitive advantage a bigger employer
would otherwise enjoy in putting together a compensation package. It
puts small employers on a more equal footing as they compete with
larger, more established employers for quality workers.
Here's how it works. IRC Section 419A(f)(6) authorizes a tax
deduction for contributions to welfare benefit plans within a framework
of defined rules. Generally, 10 or more employers must band together to
provide welfare benefits; no one participating employer can normally
contribute more than 10% of the total plan contributions; there can be
no experience rating by employer--i.e., all of a trust's assets at all
times must be available to pay benefits to any participating employee;
and there can be no retirement or other deferred compensation type
benefits provided through the plan. Assets are independently trusteed
and administered, and can never revert to the employer.
The rules seem clear to many 419A(f)(6) plan sponsors,
administrators and participants. However, in recent years some of the
rules have been questioned, and some advisors have recommended
strategies that make aggressive use of the 419A(f)(6) rules.
Consequently, there has arisen some concern about whether the rules
need to be tightened to be sure they work as Congress intended--to
provide a way to allow 10 or more employers banding together to offer
real benefits to real workers.
Initial Proposal to Clarify, Tighten Falls Short
The first salvo in the debate on whether or how to clarify the
rules occurred almost two years ago in then President Clinton's FY 2001
budget submission. That proposal would have limited the 419A(f)(6)
deduction to contributions to trusts that offered only group term life,
health and disability income insurance.
This proposal is fatally flawed in that it would eliminate
important welfare benefits--including severance, post-retirement
medical, and long-term care coverage. Further, in disallowing the use
of permanent life insurance in a trust, it would impose the very cash
flow hardship that IRC Section 419A seeks to mitigate--protection of
employees. At the same time, the proposal, while making the trust
benefits more expensive and less useful, would not adequately address
the problems that are causing concern among policymakers.
The proposal was defeated in a variety of contexts in 2001, but the
underlying concerns that prompted the proposal in the first instance
were not addressed. As a result, a cloud remains hovering over the
419A(f)(6) marketplace. Employers are uncertain about whether they can
continue to participate in multiple employer welfare benefit trusts;
and trust sponsors, administrators and participants cannot rely on the
continued viability of this important employee benefits tool.
As a result, the usefulness of this tool as a way to attract and
retain quality workers is being eroded. The very existence of
businesses like ours that focus on the operation of these multiple
employer welfare benefits trusts is threatened.
Clarification Is Urgently Needed
The uncertainty surrounding the continued existence of multiple
employer welfare benefit trusts makes the need for clear rules, as soon
as possible, urgent. The rules must assure that these benefit plans
operate as intended--that 419A(f)(6) trusts cannot be used as a way to
fund deferred compensation on a tax-favorable basis, or as a way to
circumvent pension contribution limitations. But clarifying rules,
which need to be tight and clear, must also allow continued operation
of trust benefits.
Proposed Modification: Experience Rating, Nondiscrimination, Funding
Limits
To achieve clear, appropriate rules, we respectfully offer a
proposal that would eliminate the abuses that cause concern among
policymakers and industry representatives alike, but at the same time
allow continued availability of multiple employer welfare benefit
trusts. Our proposal, described in detail in the chart below, would
clearly restate the current law rule that prevents ``experience
rating'' by employer. This means that no participating employer would
realize the results of its own experience with respect to benefits
claims paid or forfeited, or with respect to segregated asset
performance or variance from actuarial assumptions.
This is crucial to the appropriate use of permanent life insurance.
It is important to emphasize that we believe that current law prevents
use of experience rating by employer, whether overt or covert. But it
is apparent that some in the marketplace do not read current law rules
as restrictively as we do, and so it is appropriate to restate, with
complete clarity, the rule that disallows experience rating by
employer.
Our proposal also sets out rules that will assure that all of a
participating employer's workers will benefit under the plan.
Generally, the proposal follows the IRC Section 410 rules as to
eligibility--an employer's plan must cover all workers who are at least
age 21, who have one year of service, and who work at least 1,000 hours
per year. Limitations on both the level of benefit and on the allowable
deduction for the annual funding of accrued benefits are offered.
Finally, the proposal includes a fair effective date rule--one that
gives participating employers and plans two years to make the changes
that would be required by this proposal in order to bring the plan into
compliance with the new, clarifying rules.
In short, our proposal suggests rules that would: (1) result in
multiple employer welfare benefit plans that cover all a participating
employer's workers; (2) appropriately limit the annual deduction
available to help fund the benefits; and (3) assure that the plan works
equally and as a whole for the benefit of all the workers of the
participating employers.
We have tried to design a proposal that meets tax and social policy
goals and that works for the entire, diverse Section 419A(f)(6)
marketplace. Our own trusts will have to make extensive and expensive
modifications to comply with these rules. It is likely that no multiple
employer welfare benefit trust currently in existence will not face the
same need to amend plan rules in order to comply. We believe this
proposal will eliminate the ability to make aggressive and
inappropriate use of IRC Section 419A(f)(6), and will allow continued
availability of this important tool for designing practical and
attractive employee compensation and employment packages.
The Details of the Proposal
The chart below lays out the various elements of our proposal. It
describes funding requirements, antidiscrimination rules, and
appropriate limitations on the annual deduction. It delineates the
types of benefits that should be available in a multiple employer
welfare benefit plan. Finally and very importantly, it offers an
effective date rule that protects employers who have already entered
into a Section 419A(f)(6) trust, but requires the trust to make the
changes required to come into compliance with the new rules.
MULTI-BENEFIT EMPLOYER PLAN FOR TEN OR MORE EMPLOYERS REFORM OF SECTION
419A(f)(6): Alternative Proposal (March 2001)
------------------------------------------------------------------------
------------------------------------------------------------------------
Funding Requirement The plan must provide that at all times,
all plan assets are available as a
single, undivided pool to provide
benefits to the covered employees of all
individual employers participating in
the plan.
The definition of experience rating will
apply as defined by the Tax Court in
June 1997 in Booth v. Commissioner, 108
TC 524 (1997).
------------------------------------------------------------------------
Benefits available from the Plans will be non-discriminatory:
plan, on a nondiscriminatory (1) Participation in plan benefits
basis will be provided to any employee
meeting these standards: Age 21, 1,000
hours of service annually, one year of
service.
(2) All benefit formulas must provide
a uniform multiple of compensation to
all participants.
(3) A look-back rule would apply at
employer termination from the trust,
to include all former eligible
employees terminated 24 months prior
to employer termination from the
trust. All eligible employees would be
entitled to a prorata share of a
plan's assets.
(4) Each employer plan must benefit
at least one non-owner employee for
each two owner-employees who benefit;
trust must benefit at least three non-
owner employees for every owner-
employee benefited.
------------------------------ ----------------------------------------
Distribution rules for In General: No assets of the plan may
benefits and plan assets revert to the employer. No assets may be
loaned to an employee participant. An
employer can only terminate its
participation based on a bona fide
business purpose.
Forfeiture Pool: All assets in forfeiture
pool must be used in a nondiscriminatory
manner solely for the benefit of plan
participants.
For employers without severance benefits:
An employer can only terminate its
participation if all employees of the
employer receive a pro-rata share of the
plan assets.
For employers with severance benefits: If
an employer offers severance benefits,
the plan assets used to fund the
severance benefits cannot be distributed
for a purpose other than severance
benefits, which are limited to 200% of
compensation (as defined in IRC Section
401(a)(17)) and payable over not more
than 24 months, as defined under DOL
Regulation 2510 3-2(b), or other
benefits as provided under the plan.
For employers with post-retirement
medical benefits: No assets used to fund
post retirement medical benefits can be
distributed for any reason other than
post-retirement medical benefits. If a
plan participant--including the owner--
dies prior to using all his/her post-
retirement medical benefits, the unused
amounts revert to the plan (a
forfeiture). Even when a participating
business terminates participation in the
plan due to insolvency, sale, merger-
acquisition, or other Treasury-approved
event, assets attributable to post-
retirement medical benefits must stay in
the plan until/unless they are paid in
the form of medical expense
reimbursement after retirement.
Rollover: The trustee to trustee transfer
of benefits from one multiple employer
welfare benefit plan to a similar
multiple employer welfare benefit plan
will be permitted and not cause
constructive receipt to a plan
participant.
------------------------------------------------------------------------
Benefit Levels Death Benefits:
(1) The maximum benefit will be
governed by the life insurance company
providing the benefits and by the life
insurance industry's standard
financial underwriting guidelines.
(2) Minimum death benefit amounts
will be determined either by the
plan's formula for benefits or by the
life insurance company's minimum
issue, if greater than the plan
formula.
Benefit Levels cont.
Severance Benefits:
(1) The maximum severance benefit
will be in accordance with Department
of Labor regulation 2510 3-2(b) (not
in excess of 200% of compensation),
with countable compensation limited by
pension law (IRC Section 401(a)(17).
Post-Retirement Medical Benefits:
(1) Normal retirement would be the
year of eligibility for Medicare or
total and permanent disability, as
defined by Social Security.
(2) Forfeiture: Assets to fund these
benefits remain in the plan to pay
benefits. If benefits are never
collected, the result is a forfeiture
of those assets to the welfare benefit
trust.
(3) Pre-retirement death of the
employee: medical reimbursement funds
would be available to pay any
uncovered medical expenses of the
deceased employee's estate.
------------------------------ ----------------------------------------
Cost of Benefits Deductions would be limited to:
Death Benefits:
(1) If term insurance, the annual
term insurance premium.
(2) If whole life insurance, the
level annual premium to normal
retirement age (non-vanish) contract
premium.
(3) If universal life, the guideline
level annual premium (IRC Section
7702). The Section 7702 guideline
level annual premium is the level
annual premium amount payable over a
period not ending before the insured
becomes age 95, computed in the same
manner as the guideline single
premium, except that the annual
effective rate remains at 4% (IRC
Section 7702(c).
Severance Benefits:
(1) Reasonable actuarial principles
to purchase the level benefit stated
in the plan document.
(2) No prefunding in excess of the
current level of liability for the
stated level of benefits annually.
Medical, health, disability benefits:
(1) Insurance company premiums, and
self-funding up to deductibles and
elimination periods. But, self-funding
would be subject to forfeiture at an
employee's death or termination or
termination of an employer from the
welfare benefit trust.
------------------------------ ----------------------------------------
Application of new rules to These new rules would be effective as of
existing plans the date of enactment, but benefits
earned as of the date of enactment would
be grandfathered at their existing level
and previous deductions would be
grandfathered at their existing level,
if the plans are brought into compliance
within 24 months of enactment.
------------------------------------------------------------------------
Contact Dani Kehoe (202/547-7566) or Bill Himpler (202/661-6361).
Summary: Multiple Employer Welfare Benefit Trusts Allow Employer To
Offer Well-Designed Employee Compensation Packages, But Current
Law 419A(f)(6) Rules Require Clarification
It is important to the competitive well being of many American
small businesses to assure the continued availability of the multiple
employer welfare benefit trust mechanism. The benefits packages of life
and health insurance, and severance benefits payable when termination
is unexpected and without cause, are significant tools for small
business' ability to attract and retain quality workers.
However, the rules governing 419A(f)(6) plans need clarification.
The proposal we offer, which makes clear that all plan assets are
available to pay benefits to all plan participants, eliminates the
possibility of offering benefits on a discriminatory basis, and
appropriately limits the annual deduction available for the funding of
these benefits, solves the concerns of policymakers who seek to prevent
misuse of IRC Section 419A(f)(6) as a way to circumvent pension limits
and/or provide deferred compensation, but at the same time assures the
continued viability of the 419A(f)(6) plan.
We respectfully request and encourage Congress to enact this
proposal, as swiftly as possible.
Thank you. We would be happy to discuss any part of this proposal
or issue in more detail. You can contact us through our Washington
Representatives, Bill Himpler for Professional Benefits Trust, 202/661-
6361; or Dani Kehoe, for Niche Marketing, 202/547-7566.
Statement of Charles E. Collins, Responsible Wealth, Boston,
Massachusetts
My name is Chuck Collins. Thank you for allowing me to submit
testimony in opposition to the repeal of the federal estate tax.
I am testifying on behalf of Responsible Wealth, a national
association of business leaders and investors concerned about economic
inequality in America. I am coordinator of a petition signed by over
700 business and philanthropic leaders entitled the Call to Preserve
the Estate Tax.
Last Thursday, William H. Gates, Sr., testified on behalf of
Responsible Wealth before the Subcommittee on Taxes and IRS Oversight
of the Senate Finance Committee.
Our petition reads as follows:
We believe that complete repeal of the estate tax would be
bad for our democracy, our economy, and our society. Repealing
the estate tax, a constructive part of our tax structure for 85
years, would leave an unfortunate legacy for America's future
generations.
Only the richest 2 percent of our nation's families currently
pay any estate tax at all. Repealing the estate tax would
enrich the heirs of America's millionaires and billionaires
while hurting families who struggle to make ends meet.
The billions of dollars in state and federal revenues lost
will inevitably be made up either by increasing taxes on those
less able to pay or by cutting Social Security, Medicare,
environmental protection, and many other government programs so
important to our nation's continued well-being. The estate tax
exerts a powerful and positive effect on charitable giving.
Repeal would have a devastating impact on public charities
ranging from institutions of higher education and land
conservancies to organizations that assist the poor and
disadvantaged.
We recognize the importance of protecting America's family
farms and small businesses, and the estate tax has many special
provisions that do so. But this concern, the rationale usually
advanced for eliminating the estate tax, can be addressed by
amending the existing estate tax system.
Let's fix the estate tax; not repeal it.
To date, over 700 individuals have signed the Call to Preserve the
Estate Tax. Recent signers include:
Robert Crandall, retired Chairman, AMR Corporation (American
Airlines)
Ted Turner, Vice Chairman, AOL Time Warner
Paul Brainerd, developer of PageMaker software
Adele Simmons, former President, The MacArthur Foundation
Sol Price, founder, Price Clubs and Chairman, Price Entities
J.P. Guerin, former Chairman, Pacific Southwest Airlines
Arthur Rock, Venture capitalist, Arthur Rock & Co.
A complete list of signers to date can be viewed on our web site:
www.responsiblewealth.org.
There are many well known and super-wealthy individuals who have
signed the Call to Preserve the Estate Tax. But the majority of the
signers are more like the ``millionaires next door'' described in the
recent book by Thomas Stanley and William Danko, those with wealth
between one and ten million dollars. Many of the signers have family
enterprises and will pay estate taxes, yet we believe it would be bad
for our country to completely repeal it.
The signers of the Call to Preserve the Estate Tax want to
stimulate a national dialogue about the potential negative consequences
of estate tax repeal. We hope the Committee will address important
fiscal and social questions, such as: What will a $7 billion reduction
in charitable giving do to our hospitals, universities, nature
conservancies, and human service organizations? How will states manage
without the $5.5 billion in their annual revenue that comes linked to
the federal estate tax? What is the true 20-year fiscal impact of
repeal? What will be the impact on our economy, democracy and civic
life of further concentrating wealth and power in the hands of a few,
at the time of the greatest inequality since the 1920s?
Some might argue, ``It's easy for these super-wealthy to call for
preservation of the tax. After all, they can afford high-priced
accountants and lawyers to avoid it.'' But the estate tax toll is paid
primarily by the richest half of 1% of households, the 4,000 people who
die each year with estates over $5 million. Many wealthy people do
estate planning to reduce their estate taxes by gifts to family members
while alive, and through charitable giving. But unless they leave their
entire legacy to charity or a spouse, they cannot escape death nor
estate taxes.
We believe, along with Theodore Roosevelt, Louis Brandeis, Herbert
Hoover and scores of other wise observers in the early 1900s, that it
is not in the interest of this country to have large fortunes passed
from generation to generation creating great concentrations of wealth
and power.
While we may not be able to insure that all children start their
lives on a level playing field, that is something we should strive for
and the estate tax brings us closer to that ideal. A good life should
be something that is achieved. It should not be delivered as a result
of the womb you happened to start out from.
We believe that the estate tax is an appropriate tax and accept it,
as we do federal income taxes, as the price of living in the United
States and being a U.S. citizen. It is appropriate that a special tax
be imposed on those who have so very fully enjoyed the benefit of the
things this country provides: schooling, order, freedom and
encouragement to succeed and models of success. In a very practical
sense the wealth one accumulates derives as much from the environment
which this grand nation makes available and it is perfectly appropriate
that the cost of its maintenance be paid back in proportion to what has
been extracted.
In the present setting when new tax packages are being designed it
seems to us particularly bad policy to subtract from the necessary
revenue the sums produced by the estate tax when those dollars are
going to have come from somewhere else; someone else. It is perfectly
clear that that someone else will be a citizen with much less ability
to pay than the heirs of our wealthiest people. We are concerned about
the true fiscal impact of repeal. Revenues from this tax will grow
dramatically in the future. The personal wealth that has been created
in this country in the last 10 or 20 years is immense and will be
reflected in sharply increased estate tax revenues.
We believe that repeal of estate tax will be harmful to our
charitable institutions and vital civic sector. While many Americans
give generously regardless of tax consequences, the estate tax greatly
enhances giving, particularly among those with estates exceeding $20
million. Charities hurt by repeal would include religious
organizations, which receive almost 60% of all bequests representing
10% of total bequest dollars. Educational, medical and scientific
institutions receive 31% of bequest dollars. And 30% of bequest dollars
go to private foundations, accounting for one-third of foundation
assets. We do not know what the full consequences of wholesale repeal
will be on our nation's hospitals, universities, land conservancies and
private charities.
We know this Committee is discussing a proposal to make charitable
contributions tax deductible for non-itemizers because it would
encourage charitable giving. We support this proposal and believe the
same logic applies to the estate tax. Tax policy is an inducement to
enable already generous people to give more.
People oppose the estate tax claiming it is not fair. Each tax that
we have will elicit those who feel this way. But we ask, ``Fair
compared to what?'' Is it unfair to tax the accumulated wealth of the
richest 1% of households, much of which is in the form of unappreciated
capital gains that have never been taxed? Is it more fair to tax the
wages of low wage workers trying to survive today? Is it fairer than a
sales tax or property tax? We accept that we must have taxation, and
that within the spectrum of taxes, the estate tax is among the most
fair.
We do not deny that there are some situations where the application
of the estate tax leads to a result that is undesirable. We are
concerned that the current estate tax may still affect a small number
of small farms and family-owned small businesses. The estate tax was
reformed in 1997 to provide further protections for these enterprises
through lower asset valuations, higher exemptions and extended low-
interest payment terms. We advocate further reforming the estate tax by
simplifying it and raising exemptions.
While we support reform of the estate tax, we strongly oppose
outright repeal. Society is the co-creator of wealth and as such, we
believe it is entirely reasonable that a portion of wealth be returned
to society upon the death of those who have been blessed with great
wealth. In this manner, the estate tax undergirds social investment
that will allow the next generation their opportunity at the American
Dream as our country's founders envisioned.
Statement of Former Senator Alan K. Simpson, Washington, DC
Chairman Thomas, Ranking Member Rangel, and all the other
distinguished Members of the House Ways and Means Committee. I am very
pleased to have this opportunity to submit testimony today on the issue
of the federal estate tax.
First let me express my strong support for the President's efforts
to substantially reduce taxes for all Americans. President Bush, Vice-
President Cheney, and the entire Administration have successfully and
commendably changed the course of the debate in this country from
whether we should cut taxes to how we should best do it. This is the
most talented group of men and women to serve in the highest levels of
an Administration in my lifetime. They are also extremely savvy and
fully understand the legislative process. Lawrence Lindsey, the
President's chief economic advisor, recently discussed the tax package
with the Republican leadership saying: ``You guys make the sausage, I
just brought the meat and spice.'' To me, this indicates that the
President, the Vice-President, and other key officials who crafted the
Administration's plan would not summarily reject constructive dialogue
on how best to achieve their legislative goals. Even from my perch here
in the private sector, I too would like to engage in such a dialogue.
However, at the end of the day, when the discussions and the debate are
over, this country deserves the strongest possible bipartisan tax
reduction plan, and I for one fully intend to be a very vocal supporter
of that package.
In the spirit of early, constructive dialogue I would also
respectfully recommend to this Committee and to my friends in the White
House, that as an alternative to a phase out of the estate tax over an
8 to 10 year period, they might take a serious look at providing
immediate and dramatic estate tax relief by greatly increasing the
exemption over which an estate would be liable thereby immediately
eliminating nearly 90% of those estates that, under current law, would
have to pay an estate tax. For the small number of estates left that
would still have to pay, I would further recommend a reduction in the
rates. I am not attempting to advise you what the exemption should be,
but it should be large enough to protect the family ranchers and
farmers that I have known from ever having to worry about this
liability. In fact, to ensure that result, due to their unique status I
think it would be worthwhile to craft a special exemption from estate
taxes for family ranches and farms. There are several reasons why I
believe that this method of reform is the best route to take, and I
will briefly list them in this testimony.
I support the efforts of Americans for Sensible Estate Tax
Solutions (ASsETS) a coalition including charities, academics, tax
experts, farm and ranch groups, and estate planners. ASsETS does have
members who have an economic interest in this matter. There is nothing
wrong with that, but my participation in this effort is primarily
motivated by what I believe a phased-out repeal of the tax would do to
charitable giving in this country. My wife, Ann, and I have spent a
substantial part of our lives serving on the boards of institutions
such as Fords' Theater, the Folger Shakespeare Library, the Buffalo
Bill Historical Center, the Kennedy Center, the Terra Museum, the
University of Wyoming Art Museum, and the Smithsonian Institution. I
have seen first hand how the estate tax promotes charitable giving. In
fact the U.S. Treasury has estimated that a total repeal of the estate
tax would result in a decrease of up to $6 billion annually in
charitable giving. Charles Collier, Senior Philanthropic Advisor at
Harvard University, has said that ``wealthy donors will clearly leave
more money to their heirs than they will to charities if this repeal
goes through.'' Multibillionaire, George Soros calls the estate tax
``one of the main incentives for charitable giving.'' From a practical
perspective, it's easy to see that without any estate tax, even on the
very wealthiest, potential heirs may likely say: ``Dad, don't leave the
Picasso to some museum. Sell it or give it to me, instead.'' And it's
not just the Picasso, it's also real money to universities, hospitals,
and other non-profit health and educational groups throughout the
country.
My second concern is that there is a great benefit in being able to
obtain tax advice which has certainty. Under the President's tax
proposal, estate tax rates would gradually be phased-out over 8 years--
but the limited exemptions in current law would be kept. Today, a
person can exempt $675,000 from estate tax liability. That will go up
to $1 million in 2006. Under the President's bill, if your estate
exceeds the current exemptions, your family would still have to pay
estate taxes. To believe that an estate phase-out won't be changed by a
future Congress is really betting the farm! As I don my Republican hat,
I would like the Members of this distinguished Committee, particularly
the majority, to assume the possibility--however frightening you think
it may be--that (1) control of Congress shifts and (2) a future
Congress needs revenues in order to fund some disaster relief.
Knowing what we all know about politics, one of the most likely,
logical revenue raisers would be to further delay or even cancel the
phase-out. So if we are to leave the final decision to future
Congresses, the estate planner cannot render the kind of tax advice
that Americans deserve. Death is quite bad enough. It's even worse in
combination with financial uncertainty!
The ASsETS Coalition is promoting immediate, drastic reform of the
estate tax. We leave it to Congress to decide the exemption, but
consider this: In 1998 the last year for which we have national
records, less than 48,000 estates paid any estate tax. That represents
2% of the number of deaths that year. If you set the exemption at $2.5
million rather than the current law, you would have eliminated nearly
40,000 of those estate taxpayers. If you set the exemption at $5
million, you would have knocked out nearly 4,700 more estates. That
would leave about 3,000 estates in the entire country owing any estate
tax at all for that year. Using these 1998 numbers for my state of
Wyoming, of 4,000 deaths in 1998, a $2.5 million exemption would have
eliminated all but 6 estates. A $5 million exemption would have totally
eliminated all but 2 estates. But under the proposal to gradually
phase-out the rates, 40 Wyoming families would have still had to pay an
estate tax!
I think most Wyoming folks would rather have a guaranteed higher
exemption now and pay nothing, rather than have some ``Congressional
promise'' to gradually reduce rates and still have to cough up based on
current exemptions.
Contrary to some of the hot and heavy rhetoric out there, I am not
an advocate for the estate tax. It is burdensome, unfair, and ought to
be changed. I specifically do not want the estate tax to be a threat to
Wyoming's, or to the rest of the country's family farmers or ranchers
and their ability to pass those properties down to the next generation.
In fact, I would even favor a form of legislative ``carve out'' to
ensure their protection. As stated, it is not a question of whether to
change the estate tax, but how. I prefer a dramatic, immediate reform
which would exempt 99% of Americans from paying anything at all. I
would also prefer immediately lowering the top rates for the eight to
ten thousand estates that would still be subject to the tax.
One other aspect of total repeal which should be considered is its
impact on hard pressed state budgets. Many states have estate tax
revenues which are dependent on the Federal version. The February 20,
2001, Dallas Morning News cited that Texas stands to lose $300 million
a year. My state of Wyoming derives $9.7 million in these kind of
estate taxes each year. A total repeal would put a hole the size of a
.45 caliber slug in my state's budget!
In summary, I very much want the President to succeed with a $1.6
trillion tax cut. According to the February 18 Washington Post,
Lawrence Lindsay stated that the President wants to see his approach
adopted, but is leaving the structure up to the Congress. In order to
keep the package at $1.6 trillion, a less costly, long-term phase-out
of the estate tax was chosen. My position, respectfully submitted to
you, is to keep the package's total price tag, but to provide dramatic
benefits immediately, provide additional protection for family farms
and ranches, eliminate all but the super wealthiest from paying any
estate tax at all, then reduce the rates for the remaining estates
which do have to pay. That's it. Such an approach will cost less, will
maintain incentives for charitable giving, will protect farms and
ranches, will protect state revenues, and will provide clarity and
certainty in tax planning.
I would earnestly trust that such an approach would merit your full
consideration. Thank you so much. My best personal regards to all of
you.
Statement of LaBrenda Garrett-Nelson, Phillip D. Moseley, and Robert J.
Leonard, Washington Council Ernst & Young
Washington Council Ernst and Young (a division of the National Tax
Practice of Ernst & Young, LLP, a professional services firm)
represents a variety of clients on tax legislative, regulatory, and
policy issues.
Introduction
As Chairman Thomas recognized in his announcement of today's
hearing, now that the House of Representatives has passed the heart of
President Bush's tax relief plan for individuals, the Ways and Means
Committee can ``turn to fixing other problems in the tax code.''
Rationalizing and simplifying the most complex provisions of the code
is one way to reduce significantly the burden on individual taxpayers.
In this regard, the personal holding company (``PHC'') penalty tax
ranks among the most outmoded provisions in the Code. This statement
highlights the need to rationalize the PHC provision to prevent the
treatment of an active franchising business as a passive personal
holding company. Several years ago the Congress took action to update
another aspect of the PHC tax--the provision dealing with lending or
finance businesses in the Taxpayer Refund and Relief Act of 1999--but
that legislation was vetoed by former President Clinton.\1\ As was
proposed in the 1999 PHC legislation for lending or finance businesses,
the PHC provisions should be modernized to address the treatment of
franchise royalties.
---------------------------------------------------------------------------
\1\ See section 1114 of the ``Taxpayer Refund and Relief Act of
1999,'' H.R. Conf. Rep. 106-289, 106th Cong. 1st
Sess. (1999) at page 486, describing a provision to modify the PHC
``Lending or Finance Business'' exception.
---------------------------------------------------------------------------
The Outdated Personal Holding Company Tax Targets Individual
Taxpayers
The PHC penalty tax was intended to prevent individuals from
avoiding the graduated individual tax rates by holding investments
through corporations. A corporation constitutes a PHC if at least 60
percent of its adjusted gross income is PHC income and if more than 50
percent of its stock is owned by five or fewer individuals at any time
during the last half of the taxable year. PHC income generally is
defined as interest, dividends, royalties, and rents. Section 541 of
the tax code imposes a 39.6% tax on undistributed PHC income (in
addition to the normal corporate tax).
When the PHC tax was originally enacted in 1934, the maximum
corporate tax rate was only 13.5%, but the top individual rate was 63%;
this rate differential created an incentive for individuals to organize
closely held corporations to hold their personal investments. Income on
the investments would be taxed at the much lower corporate rate, and
when the individual wanted to unwind the investment, the corporation
could be liquidated on a tax-free basis. Today, the differential in the
tax rates no longer provides the same incentive (as the maximum
corporate tax rate is 35%, only 4.6% less than the top individual rate
of 39.6%) and a PHC can no longer be liquidated free of tax. Thus,
commentators have long argued that the PHC tax has outlived its
original rationale.\2\
---------------------------------------------------------------------------
\2\ See, e.g., comments of the American Bar Association Section of
Taxation, Committee on Corporate Tax, reprinted in Tax Notes Today
(July 26, 1999), presenting arguments in support of repealing the PHC
penalty tax on the grounds that ``the personal holding company tax adds
significant complexity to the tax law but raises little revenue,'' the
tax is a penalty tax that no longer serves its historical purpose; and
repeal would ``advance the simplification cause without undermining the
corporate income tax.''
---------------------------------------------------------------------------
The Current Treatment of Franchise Royalties Fails To Take
Account of Active Businesses that Generates This Income
As one commentator noted ``the 1934 regulation that included
franchise royalties in the definition of PHC taxable income (the
predecessor of Reg. 1.543-1(b)(3). . .) has remained virtually intact
since its inception.'' \3\ The current regulation simply fails to take
account of active franchisors that have numerous employees and provide
substantial services to franchisees (such as training programs,
assistance in site selection, building plans, marketing, research and
development, and managerial services).
---------------------------------------------------------------------------
\3\ Accounting and Tax Aspects of Franchising, Schaeffer & Allbery
(Aspen Publishers, Inc.), page 66.
---------------------------------------------------------------------------
Congressional Precedents for Updating the PHC Penalty Tax
The PHC provisions were never intended to apply to active business
income. Thus, from time-to-time, the Congress has updated the PHC
provisions to take account of modern practices.\4\ More generally, the
Congress has acted many times to prevent the treatment of an active
business operation as a passive activity under the PHC rules.\5\ As
traced by one commentator:
\4\ 1982 amendments took account of the fact that lending or
finance companies were making loans of longer maturities and of the
increasing use of indefinite maturity loans. H.R. Rep. No. 404,
97th Cong., 1st Sess. 20 (1981).
\5\ See, e.g., S. Rep. No. 1707, 89th Cong., 2d Sess. 7,
63 (1966) (``Your committee believes that . . . rental income arising
from property manufactured by the taxpayer, in reality, is no more
passive than sales income derived from property manufactured by the
taxpayer.'')
---------------------------------------------------------------------------
From the inception of the personal holding company tax,
banks, life insurance companies and surety companies were . . .
recognized as active businesses, and were excluded from the
personal holding company provision. Thereafter, . . . [relief]
has been granted . . . by Congress for comparable reasons:
holders of mineral, oil or gas royalties (in 1937), licensed
personal finance companies (in 1938), affiliated groups of
railroad corporations (in 1938), industrial banks and Morris
Plan companies (in 1942), other small loan companies and
finance companies (in 1950), corporations renting property to
shareholders for use in an active commercial, industrial or
mining enterprise (in 1950, retroactive to 1945), domestic
building and loan associations (in 1951), shipping enterprises
depositing amounts in Merchant Marine Act reserves (in 1954),
corporate affiliated groups generally (in 1954), corporations
renting property to shareholders but not having other
significant personal holding company income (in 1954), small
business investment companies (in 1959), music publishers (in
1960), movie producers (in 1964 and again in 1976), securities
dealers handling U.S. government bonds (in 1964), manufacturers
leasing their products and also realizing related royalty
income (in 1964 and again in 1966), corporate affiliated groups
with life insurance subsidiaries (in 1974), and franchisors
leasing the franchise and other property to shareholders for
use in an active business (in 1976). Congress, in aiding those
afflicted, has repeatedly expressed the intention to keep
active businesses out of personal holding company
entanglements.\6\
---------------------------------------------------------------------------
\6\ Morgan, ``The Domestic Technology Base Company: The Dilemma of
an Operating Company Which Might Be a Personal Holding Company,'' 33
Tax L. Rev. 241-244 (1978) (footnotes omitted).
More recently, the Congress acted to modify the application of the
regulation that produces an inequitable result in the case of franchise
royalties--the Tax Reform Act of 1986 amended Section 543 of the tax
code to exclude active software royalties from the definition of PHC
income.\7\ Based on these precedents, a similar amendment should be
made to exclude active franchise royalties from the definition of PHC
income.
---------------------------------------------------------------------------
\7\ See General Explanation of the Tax Reform Act of 1986, prepared
by the staff of the Joint Committee on Taxation (May 4, 1987), at page
371.
---------------------------------------------------------------------------
Conclusion
A review of the legislative history of the PHC provisions supports
the view that, notwithstanding the language of the relevant Treasury
regulation, the Congress did not intend to subject active business
format franchisors to the PHC penalty tax. Under the mechanical
approach of the regulations, however, the risk of accidental inclusion
is real and the stakes for individual taxpayers are substantial.
Modernizing the PHC penalty tax by excluding active franchise royalties
would greatly simplify the tax code as it applies to individuals, and
reduce an unnecessary level of complexity.
White House Conference on Small Business
March 21, 2001
The Honorable William Thomas
Chairman
Committee on Ways & Means
United States House of Representatives
Washington, DC 20515
Re: Statement for the hearing on the President's Estate Tax Proposals
Dear Chairman Thomas:
The undersigned are the elected Regional Taxation Chairs
representing the 2000 delegates to the last White House Conference on
Small Business. We were delegated the responsibility for advancing
implementation of the Conference's recommendations with regard to the
tax issues and reporting progress back to the delegates.
The President has proposed a tax relief measure that incorporates
full repeal of the estate tax, phased in over a period of years, and
making permanent the tax credit for research and experimentation. We
are gratified his proposal addresses these elements of tax relief which
our Conference recommended to Congress, and which we have personally
recommended to your Committee in past testimony.
We have said in the past that the White House Conference endorsed
full repeal of the estate tax, but the delegates have been grateful for
any changes that reduce the tax heirs to a business might pay at the
death of a principal owner in order to preserve what is the single
largest source of new job opportunities in America, the small business.
The passage of a small business from one generation to the next also
has a positive impact on the community, promoting stable employment,
long-term community support of community groups, and an active interest
in maintaining the quality of education and life in the
``neighborhood.'' Whatever could be done to increase the exclusion or
move family-owned business or farm property out from under the estate
tax is welcomed.
The President's proposal does not appear to specify how property
that passes to heirs is to be treated for tax purposes. The Congress
will decide whether the property receives a stepped up basis, or
whether the old basis is carried over to the heirs. A number of the
members of our White House Conference group are concerned about the
complexity and difficulty of keeping adequate records to support a
carry-over basis. The country has been down this road before and the
tax practitioner's within our group still get severe headaches whenever
they recall the difficulty of reconstructing the basis of business (or
other) property that has been in a family for a lifetime. If the
revenue were necessary to make the President's tax plan feasible, we
would urge the committee to raise the threshold for property excluded
from any estate tax to a sufficient level to ensure that most small
businesses are completely excluded. In the alternative, we ask the
committee to consider some simplified system of evaluating the basis of
property (a safe harbor) that will not require weeks or months of
evaluation and paperwork.
The White House Conference on Small Business Tax Issue Chairs
welcome the opportunity to continue our work with Congress to suggest
ideas that would help the nation's small business community. We hope
Congress continues to listen to the recommendations of small businesses
and analyze all legislative proposals for their impact on small
businesses and their employees. Small businesses, after all, provide
most of the new jobs for our economy. With this in mind, we have
attached a copy of our latest ``Tax Action Plan'' for you and your
staff to review. Thank you for your time and attention to our needs.
Sincerely,
The White House Conference Tax Chairs
Debbi Jo Horton, Region I, East Providence, Rhode Island
Joy Turner, Region 2, Piscataway, New Jersey
Jill Gansler, Region 3, Baltimore, Maryland
Jack Oppenheimer, Region 4, Orlando, Florida
Paul Hense, Region 5, Grand Rapids, Michigan
Tommy Bargsley, Region 6, Austin, Texas
Edith Quick, Region 7, St. Louis, Missouri
Jim Turner, Region 8, Salt Lake City, Utah
Sandra Abalos, Region 9, Phoenix, Arizona
Eric Blackledge, Region 10, Corvallis, Oregon
WHITE HOUSE CONFERENCE ON SMALL BUSINESS
Small Business Tax Issue Priorities
This Tax Issue Priority Listing was developed by the Regional Tax
Issue Chairs representing the 2000 delegates to the White House
Conference on Small Business. These priorities were developed with the
input and active assistance of thousands of small business people who
were Delegates to the last White House Conference on Small Business.
Because federal tax laws impact every small business, it is critical to
the growth and progress of the small business community that the law
reflect sound public policy and fundamental fairness while imposing as
little administrative burden as possible.
The Tax Chairs were elected by Delegates from each region of the
country, and given the responsibility for advancing implementation of
the Conference's recommendations on tax issues and reporting progress
back to the delegates. The Tax Chairs have testified before Congress on
ten occasions, and meet periodically with the staffs of the Ways and
Means Committee, the Finance Committee, and the House and Senate Small
Business Committees to help further develop clarifying legislation. In
addition, the Tax Chairs have worked with IRS Commissioner and the
Office of Tax Policy at Treasury to create policies that are helpful to
small businesses.
TAX SIMPLIFICATION IS KEY
The unifying thread running through all the recommendations of the
White House Conference is a desire to reduce the overall complexity of
government for small businesses. The most significant benefit to small
businesses would come from simplifying the tax code. Allocating and
reporting income taxes and payroll taxes is the one common experience
of every business, and may be the only interaction that most businesses
have with the federal government. Simplifying the tax process would,
therefore, improve the situation for every small business. Federal
government studies demonstrate that it costs small businesses
considerably more, as a percentage of revenue, to comply with the tax
laws than it costs large businesses.
The conclusion is that small businesses are at a significant
competitive disadvantage from the start due to governmental
requirements. For this reason, the Tax Chairs fully support the
restructuring passed by Congress and implemented by the IRS, and urge
that the focus remain on helping small business comply with the law and
reducing the administrative burdens the tax system imposes.
One of the major recommendations of the White House Conference
urged Congress to concentrate on creating a simpler and fairer tax
system. The Conference attendees did not specify what that system
should be, but the overriding principle, whether the entire system is
overhauled or the existing system is streamlined, is that each new tax
proposal be thoroughly analyzed for its impact on small business. New
systems which increase the tax or the record keeping burdens on small
business, prolong the existing problem.
Within the context of the current tax code, the following items top
the list of the recommendations made by the delegates to the White
House Conference and are items we believe should be addressed by
Congress. Each item reduces the complexity of the Code or extends to
small businesses reasonable incentives to ensure that government
requirements do not unfairly reduce their competitiveness.
100% HEALTH CARE DEDUCTION EQUITABILITY
The tax issue chairs are gratified with the progress that has been
made to achieve the full deduction of health care expenses for the self
employed partnerships and S corporations, but remain disappointed that
the full deductibility enjoyed by larger business will still only be
phased in over 5 years for smaller businesses. Equal treatment with
large businesses should dictate that small businesses be able to deduct
100% of the cost immediately. The White House Conference recommendation
called for the immediate increase to 100% deductibility to encourage
more small businesses to provide insurance for their employees.
Additionally the White House Conference recommendation called for
the cost to be deducted from business income prior to the calculation
of FICA, Medicare, or self employment tax as larger businesses do.
Parity with other forms of business organization and with non-self-
employed workers can never be achieved without recognizing the business
nature of worker health care costs. It is un-reasonable to allow full
deductibility and excludability of these benefits for large corporate
employers and to subject these same benefits to Section 1401 SE taxes
(or FICA and Medicare in the case of S corporations) for the owners of
smaller businesses.
Although there is some tax loss, the immediate increase helps serve
the policy goal of providing health insurance for as many people as
possible. When there is a reduced tax incentive for a small employer to
buy health insurance for themselves and their family (note that 1.4
million children of self-employed individuals have no health coverage),
they may decide to forgo offering it to their employees as well. In C-
corporations, the health insurance of the principals in the business
has always been fully deductible. Unrelated employees of all types of
business organizations are also allowed full deductibility and
excludability of such benefits. The Tax Chairs feel tax based decisions
should not be substituted for sound business judgment in the selection
of business structure. The 107th Congress should enact, and President
Bush should support legislation to allow immediate full deductibility
at the business level as a matter of equity for all business owners.
ESTATE TAX REFORM
One of the strongest recommendations of the White House Conference
on Small Business was a call for the repeal of the estate tax. The
Taxpayer Relief Act of 1997 included a provision that provides some
help for some qualifying small business (in cases where the value of
the small business is over half of the gross estate). While this is
welcome relief, more needs to be done to protect businesses from being
dismantled at the death of the principal. The passage of a small
business from one generation to the next has a positive impact on the
community, promoting stable employment, long-term support of community
groups, and an active interest in maintaining the quality of education
and community infrastructure.
If outright repeal is viewed as too costly, proposals that provide
for a larger, more effective, targeted reduction of the tax burden on
small business assets would be helpful. By focusing the legislation,
Congress can provide relief directly to farms and small family
businesses with a relatively small loss of revenue. The Congress should
adopt a tax policy that moves the country toward the positive goal of
sustaining the economic vitality of a small business and away from a
policy which requires expensive, complex estate plans and insurance.
The reality today is that elaborate and costly estate plans must often
be developed to protect a family business, which drains assets from
productive business investment. Without such complex plans, there is no
assurance that the business will survive to serve the next generation
of owners and workers.
INCREASED SMALL BUSINESS EXPENSING
Internal Revenue Code Sec. 179 Expensing--The expensing limit of
IRC Sec. 179 was gradually increased to $25,000 (by the year 2003) as a
result of the Small Business Job Protection Act passed by Congress in
1996. We appreciate the attention past Congresses gave to this issue,
but believe there is a need for additional increases and quicker
implementation. The Tax Chairs would support, for example, the increase
of the expensing limit to at least $30,000 effective immediately.
Expensing is one of the most useful tax simplifiers for small business,
but its use still remains limited. In addition, Congress did not
correspondingly raise the $200,000 phase-out limit on purchases. These
days, one piece of machinery (even for a very small business) can
exceed this limit, effectively eliminating many small businesses from
any benefits.
Expensing Extended to Costs of Fixing Up Property--The Tax Chairs
support extending Section 179 expensing provisions to cover property
fix up and improvement costs. Small business store owners should be
able to expense the costs of improving their store front or the
building which houses their shop to remain competitive and to help
ensure that the shops ``on the downtown square'' remain an attractive
shopping destination for the community. Legislation such as S. 1341,
The Main Street Business Incentive Act, which was introduced in the
last Congress, could provide substantial assistance to small business
for a reasonable cost.
Software Expensing--One area where the Tax Chairs feel Congress
could make a tremendous contribution is to allow expensing in the year
a business purchases standard software for business purposes. It is
practically impossible to determine what the useful life of software
will be. With the pace of technology, useful life gets shorter and
shorter as better products that exploit hardware advances seem to hit
the market continuously.
DEDUCTION FOR MEALS AND ENTERTAINMENT
The White House Conference on Small Business recommended
restoration of the full deduction for meals and entertainment directly
connected to business. Although no legislation has yet received the
support necessary for enactment of full deductibility, the Tax Chairs
would support any increase in deductibility as a step in the right
direction. Provisions that would raise deductibility to 60% or 80%
would be valuable to small businesses. This issue is very important to
those whose business depends on networking contacts or personal
presentations to close a deal. The ``shop floor,'' or the kitchen table
of a small business, areunsuitable for marketing or negotiations and
the best alternative is usually meeting over meals. The tax chairs
believe that reasonable limits could be placed on full deductibility,
similar to the governmental ``per diem'' amounts, if needed to prevent
abuse.
NO INCREASE OF PAYROLL TAX
The payroll tax can be especially burdensome on a small business
because it is a regressive tax which must be paid whether or not the
business makes any profit. The White House Conference was concerned
that increasing the payroll tax not be viewed as a ``quick and painless
fix'' for structural deficiencies in federal employment benefit trusts.
The Conference recognized the importance of public confidence in the
programs but felt the problem should be addressed directly. Other
correction proposals, such as fund diversification or partial
privatization, should also be analyzed for their potential impact on
small business.
CLARIFICATION OF THE INDEPENDENT CONTRACTOR DEFINITION
Resolving the long-standing employee vs. independent contractor
controversy was the number one recommendation of the White House
Conference on Small Business. The current vague standard leads to
retroactive reclassifications by the IRS and substantial tax
assessments plus interest and penalties. For example, the IRS assessed
almost $750 million using such reclassifications between 1987 and 1994.
While there have been a number of improvements in ``safe harbors'' to
reduce overzealous enforcement, as long as the standard remains
unclear, worker classification is a problem. There must be a clear
standard defining the difference between an employee and an independent
contractor so that a business can utilize contract service providers
with confidence. The Tax Chairs have worked with key House and Senate
Committee staff members and Administration Officials to indicate the
types of legislation that would set a clear standard to provide
security for small businesses while protecting the rights of workers
who are properly classified as employees. The Tax Chairs believe that a
reasonable consensus can be reached on this issue and should be adopted
in the 107th Congress.
ALTERNATIVE MINIMUM TAX REFORM
One of the top 60 recommendations made by the White House
Conference delegates to the President and Congress included an overall
concern for a simplification of the tax code, particularly as it
related to small business. One major source of complexity is the
Alternative Minimum Tax, which was originally targeted at wealthy
taxpayers with low taxable income, but now impacts many average
taxpayers. With the passage of provisions such as Section 1202, lower
individual income tax rates, various new tax credits and other similar
legislation, without a corresponding update of the alternative minimum
tax provisions, these newer provisions are having the unintended effect
of subjecting middle income taxpayers, and particularly small business
owners to its impact and significantly eliminating some of the benefits
intended to be provided from the tax provisions mentioned earlier.
Accordingly, the White House Conference Tax Chairs urge the Members
to seriously address alteration of the Alternative Minimum Tax rules to
limit it's application to truly high income taxpayers, so that tax
incentive provisions can have the broad benefits which Congress
intended.
-