[Senate Hearing 115-331]
[From the U.S. Government Publishing Office]
S. Hrg. 115-331
INDIVIDUAL TAX REFORM
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HEARING
BEFORE THE
COMMITTEE ON FINANCE
UNITED STATES SENATE
ONE HUNDRED FIFTEENTH CONGRESS
FIRST SESSION
__________
SEPTEMBER 14, 2017
__________
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COMMITTEE ON FINANCE
ORRIN G. HATCH, Utah, Chairman
CHUCK GRASSLEY, Iowa RON WYDEN, Oregon
MIKE CRAPO, Idaho DEBBIE STABENOW, Michigan
PAT ROBERTS, Kansas MARIA CANTWELL, Washington
MICHAEL B. ENZI, Wyoming BILL NELSON, Florida
JOHN CORNYN, Texas ROBERT MENENDEZ, New Jersey
JOHN THUNE, South Dakota THOMAS R. CARPER, Delaware
RICHARD BURR, North Carolina BENJAMIN L. CARDIN, Maryland
JOHNNY ISAKSON, Georgia SHERROD BROWN, Ohio
ROB PORTMAN, Ohio MICHAEL F. BENNET, Colorado
PATRICK J. TOOMEY, Pennsylvania ROBERT P. CASEY, Jr., Pennsylvania
DEAN HELLER, Nevada MARK R. WARNER, Virginia
TIM SCOTT, South Carolina CLAIRE McCASKILL, Missouri
BILL CASSIDY, Louisiana
A. Jay Khosla, Staff Director
Joshua Sheinkman, Democratic Staff Director
(ii)
C O N T E N T S
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OPENING STATEMENTS
Page
Hatch, Hon. Orrin G., a U.S. Senator from Utah, chairman,
Committee on Finance........................................... 1
Wyden, Hon. Ron, a U.S. Senator from Oregon...................... 4
WITNESSES
Brill, Alex M., resident fellow, American Enterprise Institute,
Washington, DC................................................. 8
Harrison, Iona C., senior vice president, Pioneer Realty, Upper
Marlboro, MD................................................... 9
Batchelder, Lily L., professor of law and public policy, New York
University School of Law, New York, NY......................... 11
Ponnuru, Ramesh, visiting fellow, American Enterprise Institute,
Washington, DC................................................. 12
ALPHABETICAL LISTING AND APPENDIX MATERIAL
Batchelder, Lily L.:
Testimony.................................................... 11
Prepared statement........................................... 45
Responses to questions from committee members................ 66
Brill, Alex M.:
Testimony.................................................... 8
Prepared statement........................................... 71
Responses to questions from committee members................ 78
Cantwell, Hon. Maria:
``Economists See Little Magic in Tax Cuts to Promote
Growth,'' by Patricia Cohen and Nelson D. Schwartz, The New
York Times, May 23, 2017................................... 80
Harrison, Iona C.:
Testimony.................................................... 9
Prepared statement........................................... 82
Responses to questions from committee members................ 97
Hatch, Hon. Orrin G.:
Opening statement............................................ 1
Prepared statement........................................... 101
Ponnuru, Ramesh:
Testimony.................................................... 12
Prepared statement........................................... 103
Responses to questions from committee members................ 106
Wyden, Hon. Ron:
Opening statement............................................ 4
Prepared statement........................................... 108
Communications
Adoption Tax Credit Working Group (ATCWG)........................ 111
American Retirement Association (ARA)............................ 116
California Association of Realtors (CAR)......................... 120
Charitable Giving Coalition (CGC)................................ 121
Coalition to Preserve Cash Accounting............................ 123
The Jewish Federations of North America (JFNA)................... 126
Kirk, William S.................................................. 130
League of American Orchestras.................................... 130
National Association of Enrolled Agents (NAEA)................... 133
National Volunteer Fire Council (NVFC)........................... 138
Precious Metals Association of North America..................... 141
INDIVIDUAL TAX REFORM
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THURSDAY, SEPTEMBER 14, 2017
U.S. Senate,
Committee on Finance,
Washington, DC.
The hearing was convened, pursuant to notice, at 10:04
a.m., in room SD-215, Dirksen Senate Office Building, Hon.
Orrin G. Hatch (chairman of the committee) presiding.
Present: Senators Grassley, Cornyn, Thune, Isakson,
Portman, Toomey, Heller, Cassidy, Wyden, Stabenow, Cantwell,
Nelson, Carper, Cardin, Brown, Bennet, Casey, and McCaskill.
Also present: Republican Staff: Tony Coughlan, Senior Tax
Counsel; Chris Hannah, Tax Counsel; Alex Monie, Professional
Staff Member; Martin Pippins, Detailee; Preston Rutledge,
Senior Tax and Benefits Counsel; and Jeff Wrase, Chief
Economist. Democratic Staff: Joshua Sheinkman, Staff Director;
Michael Evans, General Counsel; Tiffany Smith, Chief Tax
Counsel; and Adam Carasso, Senior Tax and Economic Advisor.
OPENING STATEMENT OF HON. ORRIN G. HATCH, A U.S. SENATOR FROM
UTAH, CHAIRMAN, COMMITTEE ON FINANCE
The Chairman. The committee will come to order. I want to
welcome everyone here to this morning's hearing, where we will
discuss a major piece of the tax reform puzzle.
Today will be talking about ideas, proposals, and
considerations for reforming the individual tax system. While
we have had countless hearings on tax reform in recent years,
today's hearing is the first in what I hope will be a series of
hearings leading up to an intensive effort of this committee to
draft and report comprehensive tax reform legislation.
We have talked about these issues a great deal. In fact,
since I became the lead Republican on this committee in 2011,
we have had more than 60 hearings where tax reform was the main
focus of the discussion.
I think we are capable and ready to get to work on
producing a bill. And I look forward to working with my
colleagues on this next, all-important stage of the process.
I would like to make a couple of points about that process
for a moment, because there seems to be some confusion as to
what the Finance Committee's role will be in tax reform. I have
heard a lot of talk about a secret tax reform bill or a
comprehensive plan being written behind closed doors.
Most of you have probably also heard about tax reform
details that are set to be released later this month. True
enough, leaders of both the House and the Senate, including
myself, as well as officials from the executive branch have
been discussing various proposals.
But as we stated in our joint statement before the recess,
and as I have stated on numerous occasions, the tax writing
committees will be tasked with writing the bill. This group--
some have deemed us ``The Big Six''--will not dictate the
direction we take in this committee.
Any forthcoming documents may be viewed as guidance or
potential signposts for drafting legislation. But at the end of
the day, my goal is to produce a bill that we can get through
this committee. That takes at least 14 votes, and hopefully we
will get more.
Anyone with any experience with the Senate Finance
Committee knows that we are not anyone's rubber stamp. If a
bill--particularly on something as consequential as tax
reform--is going to pass in this committee, the members of the
committee will have to be involved in putting it together.
Therefore, I intend to work closely with my colleagues and
let them express their preferences and concerns so that when we
are ready to mark up a tax reform bill, the mark will reflect
the consensus views of this committee. That work, in many
respects, has already begun, and we are well on our way.
I will note that I have not limited these commitments to my
Republican colleagues on the committee, which brings me to my
second point. From the outset, I have made clear that my
preference is to move tax reform through this committee with
bipartisan support. I have no desire at all to exclude any of
my Democratic colleagues from this discussion, and I am not
determined to report anything by a party-line vote.
I will note that the President and his team have publicly
said the same thing this week. If any of my Democratic
colleagues are willing to come to the negotiating table in good
faith and without any unreasonable preconditions--and I believe
they are--I welcome their advice and input.
So far, my colleagues have insisted that the majority agree
to a series of process demands before any substantive
bipartisan talks can take place. Effectively, they want to
ensure that we make it easier for them to block the bill
entirely before they will talk about what they want to put in
the bill.
Now that seems kind of counterintuitive to me. And in my
view, it is unreasonable. Furthermore, I do not recall either
side ever offering such a concession when they were in the
majority. We should not let the process concerns keep us from
talking about the substance of a tax reform bill. And my hope
is that my colleagues on the other side will put these demands
aside and let us begin searching for common ground on these
important issues.
Those threshold matters aside, let me talk about today's
hearing. One argument that rears its ugly head in every tax
reform debate is the claim that proponents of reform want to
cut taxes for the uber-rich and give additional tax breaks to
greedy corporations.
We have heard that argument repeated in the current debate,
and while these claims are about as predictable as the sunrise,
they are simply not true. While I cannot see into the hearts of
every member of the Congress, I truly do not know of a single
Republican who, when thinking about tax reform, asks themselves
what they can do to help rich people. That has never been our
focus, and it is not our focus now.
In fact, an argument can be made that the other side has
helped the rich more than we have. Instead, we are focused
squarely on helping the middle class, and recent proposals to
reform the individual tax system reflect that.
For nearly a decade now, middle-class families and
individuals have had to deal with a sluggish economy,
substandard wage growth, and a growing detachment from labor
markets. Tax reform, if it is done right, can help address
those problems and provide much-needed relief and opportunity
for millions of middle-class families.
That, once again, is our goal in tax reform. It is, in
fact, the driving force behind our efforts.
Let us talk about a few specific proposals. Under our tax
code, individual taxpayers or married couples can opt to either
take the standard deduction or itemized deductions to lower
their tax burden. Currently, about two-thirds of all U.S.
taxpayers opt to take the standard deduction. These are often
low- to middle-income taxpayers.
One item that has been central to a number of tax
frameworks is a significant expansion of the standard
deduction, which would reduce the tax burden for tens of
millions of middle-class families and eliminate Federal income
tax liability for many low- to middle-income Americans.
I will note that this is not only a Republican idea. In
fact, a few years back our ranking member introduced
legislation that would have nearly tripled the standard
deduction. And I commend him for it. This is the very
definition of middle-class tax relief, and it goes beyond
direct tax and fiscal benefits.
With a significantly expanded standard deduction, the tax
code would immediately become much simpler for the vast
majority of middle-class taxpayers. And that is no small
matter.
Currently, American taxpayers, both individuals and
businesses, spend about 6 billion hours--that is with a ``b''--
and nearly a quarter of a trillion dollars a year complying
with tax filing requirements. This, of course, is not
surprising given that our tax code has grown exponentially into
a 3-million-word behemoth that is basically indecipherable for
the average American.
That one change, expanding the standard deduction, would
let millions of middle-class taxpayers avoid having to navigate
the treacherous landscape of credits and deductions. Combined
with other ideas, including a significant reduction in the
number of credits and deductions in the tax code and a
radically simplified rate structure, this approach will save
middle-class families both time and money.
I expect there to be some disagreements about what credits
and deductions to keep and which to repeal in the name of tax
simplicity, efficiency, and of course, fairness. I expect we
will air some of those differences of opinion here today.
There are other tax reform proposals under discussion that
will help the middle class. For example, an increase and
enhancement of the Child Tax Credit would benefit middle- and
lower-income families almost exclusively. And by reducing
barriers and disincentives for savings and investment, we can
expand long-term wealth and improve the quality of life for
those in the middle class.
Now these are some of the central ideas being discussed to
reform the individual tax system. And in virtually every case,
the primary beneficiaries of these proposals would be middle-
class taxpayers.
I know that there are Democrats who support these types of
reforms. As I mentioned earlier, I hope we can recognize this
common ground and find ways to collaborate in the broader tax
reform effort.
I will also note that the middle class has a significant
stake in our efforts to reform the business tax system, but
that is a matter for another hearing.
Once again, this committee has a lot of work to do. There
is not going to be a top-down directive that makes the hard
decisions for us. I know we are up to that task, and most of us
are game to participate in the process to help us reach a
successful conclusion.
Now, before I turn to my distinguished counterpart, Senator
Wyden, I want to say that I hope we can have a productive
discussion of options to reform taxes for individuals and not a
debate on so-called ``plans'' based on outside analysts'
conjectures and assumptions. It is all too common for
ideological think tanks or partisan analysts to take short
statements outlining broad principles on tax reform and then
fill in the gaps with their own subjective assumptions about
details just to parade out a list of horribles that they then
use to tarnish the entire reform effort.
Let us discuss real ideas and proposals, keeping in mind
that the Finance Committee will not be bound by any previous
tax reform proposals or framework when we start putting our
bill together.
With that, I am going to turn to my friend and colleague,
Senator Wyden, for his opening statement, and then we will go
from there.*
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* For more information, see also, ``The Taxation of Individuals and
Families,'' Joint Committee on Taxation staff report, September 12,
2017 (JCX-41-17), https://www.jct.gov/
publications.html?func=startdown&id=5020.
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[The prepared statement of Chairman Hatch appears in the
appendix.]
OPENING STATEMENT OF HON. RON WYDEN,
A U.S. SENATOR FROM OREGON
Senator Wyden. Mr. Chairman, thank you very much, and let
me state again how much I value our partnership. We showed that
again this week with the beginning of the effort to deal with
children's health.
Obviously, we have a long way to go in the committee
process, but I want it understood that I very much value this
partnership. And I think I can speak for all of the Senate
Finance Democrats--we share the view that the tax system in
this country does not work for millions of Americans,
particularly working-class people who drive this economy.
Seventy percent of the economy is their consumer spending. So
we very much feel that the tax code in this country is broken.
Now just yesterday, the President declared to the Nation
that his tax plan would not give any breaks to the wealthy.
That was yesterday.
But the fact is, today the President's one-page tax outline
has a new lunar crater-sized loophole for the wealthy that
would allow them to abuse what is called a tax pass-through.
The tax pass-through concept is supposed to be about helping
the small business folks.
But the Trump plan turns it into a scheme for letting the
wealthy dodge paying their fair share. In effect, they get to
take ordinary income and convert it into long-term capital
gains income--paying 15 percent. So they get a big break and
they avoid paying their Social Security and payroll taxes.
So in spite of what the President said yesterday about not
wanting to have tax breaks for the wealthy, you can look today
at the one-page tax outline and you can see a huge new break
there for the very wealthy. And that is, colleagues, on top of
the administration's commitment to abolish the estate tax,
which touches only one out of every 500 wealthy estates. That
too is an outlandish giveaway to people at the top.
Now with respect to this whole notion about ``The Big
Six''--and I appreciate the chairman's comments--it was only a
few weeks ago where pictures were being sent by the group
around the country to say, ``We are writing this tax bill.''
This did not come from me or from a Democrat. These pictures
were sent around the country from ``The Big Six,'' saying that
they were writing this bill behind closed doors.
So what we Finance Democrats have said--and overwhelmingly
our Democratic colleagues--is that there are key principles
that we feel strongly about. We feel strongly about having the
regular order so that members on both sides can offer their
ideas and their amendments and not have a partisan
reconciliation process.
We feel strongly about fiscal responsibility. We want a
deficit-neutral plan. We want it to be as progressive as
current law, which means you are not doling out new breaks for
the 1 percent.
And I share the chairman's view with respect to talking
about real ideas, and I would just like to note as we do that,
what President Reagan did in 1986 is, he said there would be
equal treatment with respect to income earned by a wage earner
and income earned by somebody who is in financial services. So
if anything, what Ronald Reagan stood for went beyond,
colleagues, the principles that we Democrats have staked out.
So if you listen to the talking points, you hear a lot
about how the Trump plan would put a big focus on the burden of
complexity the tax code heaps on so many middle-class families.
But if you look at the architecture, again, of what the
President has laid out, it does not reduce complexity or focus
on the middle class. It endows future generations of the mega-
wealthy.
Now, I am just going to conclude my remarks by saying there
is a blueprint for bipartisan comprehensive tax reform that
works, and it is picking up on some of the ideas of the late
President Reagan. And it is certainly not what is being pursued
by the President as of right now.
Republican Reagan-style tax reform fights complexity by
fighting unfairness. As I mentioned, 31 years ago President
Reagan signed a bill that equalized the tax treatment of wages
and wealth. What that means is that a worker who punches a
clock going in and out every shift is not getting a raw deal
compared to a trust fund baby.
Reagan-style tax reform is about cleaning out tax deadwood,
the provisions that do a whole lot more to please special
interests, and what amounts to all of the lapdogs they have who
are trying to come up with new ways to carve out special breaks
for people at the top.
Those are propositions that I believe ought to get a lot of
bipartisan interest again today. And the reason I say that is,
the tax code, colleagues, in America is a tale of two systems.
There is one set of strict rules for a cop and a nurse who
are married and they are raising kids. Their taxes come out of
every single paycheck; no special dodges, no special schemes
for the cop or the nurse to exploit.
Then there is a whole other set of rules for the most
fortunate. It says they can decide how much to pay and when to
pay it. And as I said, as of today, in spite of the President's
comments yesterday that he did not want to help the rich, that
tax outline creates another lunar crater-sized loophole for the
wealthy to exploit.
That is the brand of unfairness that President Reagan said
he was going to go after. So, tax reform in 2017 ought to be an
opportunity to put money back into the paychecks of the cop and
the nurse and working families who are saving for retirement,
to pay for college, and affordable housing.
And that is why I think it is constructive that the
chairman is open to ideas for how we pursue it. The basic
proposition that President Trump has on offer goes after
middle-class tax benefits like the State and local deduction
and incentives for retirement savings and home ownership. And
it gores working families to finance these special breaks,
these special breaks that as of today are still on the Trump
tax outline for the most fortunate and the biggest
corporations.
When it comes to this whole issue of the State and local
deductions, this is fake tax reform. This is not just a play at
taking away from the blue States. There are middle-class
families all across America. They are in deep blue areas that
went for Clinton and scarlet red areas that went for President
Trump, and they will be taxed twice on the same income if State
and local deductions are eliminated. The dreaded double
taxation--if you are opposed to it when it involves corporate
income, you cannot line up behind a plan to double tax middle-
class families twice as hard on their hard-earned pay. That is
what this issue is about.
When it comes to simplification, it is easy to hold up a
proposal to double the standard deduction as evidence you want
to make a filing easier. I appreciated the chairman's kind
words that quite some time ago with several Republican
colleagues--most recently a member of the President's Cabinet,
Dan Coats, who sat right there where Senator Cassidy is
sitting--I advocated tripling the standard deduction. You
triple the standard deduction for a worker in Michigan or any
of our States, and the first thing that happens is immediately
those folks will adjust their withholding. We will put hundreds
and hundreds of dollars of real tax relief into the pockets of
working-class families right away.
The President's plan gives those folks no crumbs, using the
most partisan approach, which is known as reconciliation.
I am looking forward to hearing from our witnesses. Mr.
Chairman, again, I want to express my gratitude for our
friendship. We have worked together on a lot of things. I guess
it is called being in a legislative foxhole or something like
that.
You really worked hard to reach out to me. We Democrats
have laid out core principles that I have described today that
frankly do not even go as far as what the late President Reagan
did when he worked on tax reform in 1986. So I look forward to
pursuing this conversation with you in the days ahead and
hearing from our colleagues.
The Chairman. Well, thank you, Senator.
[The prepared statement of Senator Wyden appears in the
appendix.]
The Chairman. I would like to welcome each of our four
witnesses to our hearing today. Before we begin, I want to
thank each of you for your work and your willingness to testify
and answer questions. Your work on this important issue is very
important to us. We all look forward to hearing each of your
perspectives on tax reform.
First, we are going to hear from Mr. Alex Brill, a resident
fellow at the American Enterprise Institute, AEI. Before
joining AEI, Mr. Brill served as the Policy Director and Chief
Economist for the House Ways and Means Committee. Previously,
he served on the staff of the White House Council of Economic
Advisors. He has served on the staff of the President's Fiscal
Commission, also known as Simpson-Bowles, and the Republican
Platform Committee. Mr. Brill has an M.A. in mathematical
finance from Boston University, and a B.A. in economics from
Tufts University.
Next we will hear from Ms. Iona Harrison, the current chair
of the Taxation Committee of the National Association of
Realtors. Ms. Harrison was born in San Juan, PR and currently
resides in Maryland. Ms. Harrison has been a licensed realtor
since 1976 and previously served as the president of the
Maryland Association of Realtors. She attended Georgetown
University and received a B.S. in history from the University
of Maryland.
Our third witness will be Ms. Lily Batchelder, a professor
of law and public policy at the NYU School of Law and an
affiliated professor at the NYU Wagner School of Public
Service. From 2010 to 2015, she was on leave serving as the
Deputy Director of the White House National Economic Council
and Deputy Assistant to the President, and as majority chief
tax counsel for the U.S. Senate Committee on Finance.
Before joining NYU in 2005, Ms. Batchelder was an associate
for Skadden, Arps, Slate, Meagher, and Flom, prior to which she
also worked as the director of community affairs for a New York
State Senator and also as a client advocate for a small social
services organization. Ms. Batchelder received an AB in
political science from Stanford University, an MPP in
microeconomics and human services from the Harvard Kennedy
School, and a J.D. from Yale Law School.
Finally, we will hear from Ramesh Ponnuru, a senior editor
at National Review, where he has covered national politics and
policy for more than 20 years. He is also a columnist for
Bloomberg View, which syndicates his articles in newspapers
across the Nation.
He is a visiting fellow at the American Enterprise
Institute, and he serves as a contributing editor to National
Affairs. In 2015, Mr. Ponnuru was included in the Politico 50.
He grew up in Kansas City, KS and graduated from Princeton
University.
I want to thank you all for coming today. Mr. Brill, we
will begin with you, if you will please get us started by
providing us with your opening remarks.
STATEMENT OF ALEX M. BRILL, RESIDENT FELLOW, AMERICAN
ENTERPRISE INSTITUTE, WASHINGTON, DC
Mr. Brill. Chairman Hatch, Ranking Member Wyden, and other
members of the committee, thank you for the opportunity to
testify this morning. My name is Alex Brill. I am a resident
fellow with the American Enterprise Institute.
I commend the committee for holding this important and
timely hearing because of the opportunity for fundamental and
comprehensive tax reform. It is before this committee for the
first time in many decades.
While the tax code has frequently and sometimes
significantly changed over the last 30 years, not since 1986
has it been truly reformed in a manner that sought to broaden
the base and lower statutory tax rates. The last 30 years have
seen tax complexity increase dramatically with the introduction
of more and more tax expenditures. In many regards, the tax
code today imposes unnecessary and undue burdens on families
and individuals.
Reversing this trend of the last 3 decades and pursuing
individual income tax reform means a broader base and lower
statutory tax rates. Such a reform will yield a more neutral
and a more efficient tax code, one that will facilitate a more
productive allocation of resources, and if pursued in
conjunction with business tax reform and without impeding
savings, this can contribute to a pro-growth economic
environment.
My written testimony, which I have submitted for the
record, makes five points which I would like to briefly
summarize. First, as I just noted, the current individual
income tax system is complex. It is burdensome. It is riddled
with deductions, exclusions, and credits. Appropriately
broadening the tax base can mean meaningfully simplifying the
tax code, especially for many in the middle class.
Second, and often under-unappreciated, is the fact that the
current individual income tax system often treats taxpayers
with similar amounts of similar income very differently.
Appropriately broadening the tax base can be an effective means
for correcting this disparity known as ``horizontal inequity''
in the tax code.
For example, nearly 20 percent of taxpayers, one in five
who report about $36,000 in adjusted gross income, pay a higher
average tax rate than 60 percent of taxpayers who earn $50,000.
Third, in addition to contributing to complexity and
horizontal inequity, itemized deductions are generally
regressive tax policies. The deduction for State and local
taxes is an excellent example of this. It is a policy that,
while regressive at the Federal level, ironically incentivizes
States to pursue more progressive, but more inefficient tax
policies. I estimate that this tax provision forgoes $1.4
trillion over the budget window in revenue, providing subsidies
to certain taxpayers in certain States.
Fourth, broadening the tax base, particularly with regard
to limiting itemized deductions, is an opportunity to move
towards a more neutral tax code, one that interferes less in
the allocation of resources--decisions that are often best left
to the free market.
My final point is on tax policy and transition, the
transitionary path from the tax code we have today to a fairer,
simpler, hopefully more pro-growth tax system. That process is
itself a complex challenge, one that will require lawmakers to
strike a careful balance. Inadequate or insufficient transition
relief will cause some taxpayers to face steep and
unanticipated tax burdens; but conversely, overly extended and
generous transition relief may limit the potential economic
gains from tax reform.
In conclusion, lawmakers have the opportunity to simplify
the tax code, improve the horizontal equity of the system, and
reduce economic distortions. Tax reform that wisely broadens
the tax base can achieve these goals. To pursue the additional
core objective of a tax reform that promotes economic growth,
lawmakers should look to reduce if possible--and certainly not
increase--the current tax penalty on savings.
Thank you, and I would be happy to answer your questions.
The Chairman. Well, thank you.
[The prepared statement of Mr. Brill appears in the
appendix.]
The Chairman. Ms. Harrison, we will turn to you now.
STATEMENT OF IONA C. HARRISON, SENIOR VICE PRESIDENT, PIONEER
REALTY, UPPER MARLBORO, MD
Ms. Harrison. Chairman Hatch, Ranking Member Wyden, and
members of the committee, thank you for this opportunity to
testify on behalf of the more than 1.2 million professionals
who belong to the National Association of Realtors.
As with most Americans, Realtors agree that a major result
of tax reform should be simplification. But simplification does
not necessarily equal elimination. From its inception, our tax
system has featured easy to comply with housing incentives
utilized by tens of millions of Americans.
For decades, these have helped facilitate home ownership,
build wealth, and provide stability to families and
communities. NAR believes that tax reform that eliminates or
weakens the current-law tax incentives for purchasing or owning
a home would be shortsighted and counterproductive to a strong
economy and healthy communities. My written testimony outlines
the reasons why in detail, but I would like to focus on three
major points.
First, the deduction for State and local taxes is vital to
a sound tax system. This deduction is so basic that its origins
go back to the Income Tax Act of 1861, and Federal income tax
statutes since then have included it. State and local taxes
paid to benefit the general public are similar to the Federal
income tax in that they both fund central government services.
Allowing a Federal deduction for them is essential to
avoiding double taxation on the same income. Paying involuntary
levies such as taxes is tantamount to the money having never
been earned in the first place. So where is the justification
for taxing it?
Some suggest the deduction be repealed because it
subsidizes State and local governments, leading them to
increase spending. Interestingly, few if any, suggest that the
far more generous credit for taxes paid to a foreign government
subsidizes spending by those nations or encourages profligacy
by them.
Second, the mortgage interest deduction, MID, is a key
incentive to purchasing a first home and building home
ownership in our society. Critics often pan the MID as
benefitting primarily the rich. In reality, the deduction is
utilized by households of all incomes. Fifty-three percent of
those claiming the MID in 2015 earned less than $100,000, and
85 percent had a GI of less than $200,000.
It is important to recognize that the value of the current
tax benefits of owning a home, including both the MID and the
property tax deduction, are embedded in the price of a home. If
those benefits are removed, the value of homes drops.
Some suggest lowering the MID cap from $1 million to
$500,000. Realtors oppose this idea. A $500,000 cap would be
unfair to those living in high-cost areas, many of whom are by
no means rich and have fairly modest homes.
Also, inflation could make the pinch of a lower cap much
more universal in just a few years. Remember the alternative
minimum tax and what happened when it was not indexed? NAR
calculations show that by 2043, the value of more than half the
homes in a majority of States will likely be greater than
$500,000.
Third, and most importantly, a tax reform plan like the
House Blueprint, which doubles the standard deduction while
eliminating most itemized deductions, would bring minimal
simplification at a very high price for many homeowners and
especially those with larger families. The combination of the
larger standard deduction and the repeal of the State and local
tax deduction would wipe out the incentive value of the tax
benefits of owning a home for all but the most affluent.
Essentially, owning and renting a home would be equivalent
for tax purposes for 95 percent of filers. This would drop the
value of homes, wrenching the economy.
Also, many homeowners would pay more tax under such a plan,
while most renters would get tax cuts. Part of the reason is
that the Blueprint repeals dependency exemptions to help fund
the increased standard deduction.
The increased child credit helps offset part of this loss,
but not for larger families or with children older than 16. The
effect could be particularly acute in States like Utah where
families are larger, home ownership is higher, and itemized
deductions are greater than average.
Tax reform that penalizes American homeowners and middle-
class families in the name of simplification or lower corporate
rates is not worthy of the name. Smart tax reform must first do
no harm.
Thank you.
The Chairman. Thank you.
[The prepared statement of Ms. Harrison appears in the
appendix.]
The Chairman. Ms. Batchelder?
STATEMENT OF LILY L. BATCHELDER, PROFESSOR OF LAW AND PUBLIC
POLICY, NEW YORK UNIVERSITY SCHOOL OF LAW, NEW YORK, NY
Ms. Batchelder. Good morning, Mr. Chairman, Ranking Member
Wyden, and members of the committee. My name is Lilly
Batchelder, and I am a professor at NYU School of Law. Thank
you for the opportunity to testify before you today on the
important topic of individual tax reform. It is an honor to be
back with the committee.
My testimony makes five main points. First, the current tax
reform effort is occurring at a time when low- and middle-
income families are facing deep financial challenges. Economic
disparities are vast and have been widening for decades.
The U.S. actually has one of the lowest levels of economic
mobility relative to our competitors. Our debt as a share of
GDP is projected to grow to unprecedented levels in coming
decades, largely because of the retirement of the baby boomers
and increasing life expectancy. This growth in debt will be a
drag on economic growth.
For all these reasons, tax reform should increase revenues
and should increase progressivity. Doing so would boost
economic growth and make the tax code fairer at the same time.
At a bare minimum, tax reform should maintain the current level
of revenues and progressivity. And these both should be
measured consistently and without resort to budget gimmicks
like a current policy baseline.
Second, individual tax reform should focus on leveling the
playing field for the next generation and supporting work.
Doing so would blunt economic inequality, broaden opportunity,
and increase productivity by ensuring that jobs are awarded
more often based on effort and talent and less based on
connections and the luck of one's birth.
Some worthwhile proposals that would advance these goals
are expanding the EITC, especially for workers without
dependents; increasing refundability of the Child Tax Credit,
particularly for young children in the poorest families; and
restructuring child care benefits to provide the largest
benefits to those spending the largest share of their income on
child care.
These proposals could make significant headway in
offsetting the much lower earnings growth that working-class
families have experienced over the past few decades compared to
those who are more fortunate. They should be paid for by
raising taxes on the wealthy, including by strengthening and
not repealing the estate tax.
Third, individual tax reform should focus on reducing
transactional complexity, which essentially involves
eliminating opportunities for savvy taxpayers to game the
system. This would accomplish the trifecta of tax reform:
making the tax code fairer, more efficient, and simpler.
To further this goal, I urge the committee to consider
proposals like rationalizing the NIIT and SECA taxes so all
labor and capital income is subject to the Medicare tax on high
incomes in some form, repealing stepped-up basis, narrowing the
gap between the tax rates on ordinary income and capital gains,
and taxing carried interest as ordinary income.
Fourth, individual tax reform should seek to make tax
incentives more efficient and fair, generally by restructuring
them into refundable credits and leveraging the empirical
findings of behavioral economics. Doing so could generate more
social benefits at a lower cost. And one particularly promising
area for reform is tax incentives for retirement savings.
Finally, the very first principle of tax reform should be
to do no harm. Unfortunately, the tax plans offered so far by
the President and the House Republican Blueprint do just that:
they lose massive amounts of revenue. The corresponding
increase in the debt would depress economic growth
substantially over time.
They are both sharply regressive, providing vast tax cuts
to the wealthy and a pittance for everyone else. They create a
giant new loophole for the wealthy in the form of a special
rate cap on pass-through business income, which tax experts on
the left and right agree is a terrible idea.
And to the extent that they include any proposals intended
to benefit low- and middle-income households, they do so in a
relatively ineffective way. Sooner or later, these plans'
massive tax cuts for the wealthy will have to be paid for, and
low- and middle-income families are likely to be left footing
the bill.
I, therefore, urge the committee to consider a
fundamentally different approach.
Thank you for the opportunity to testify, and I look
forward to your questions.
The Chairman. Thank you.
[The prepared statement of Ms. Batchelder appears in the
appendix.]
The Chairman. Mr. Ponnuru?
STATEMENT OF RAMESH PONNURU, VISITING FELLOW, AMERICAN
ENTERPRISE INSTITUTE, WASHINGTON, DC
Mr. Ponnuru. Chairman Hatch, Ranking Member Wyden, and
distinguished members of the committee, thank you for convening
this hearing and inviting me to testify. My name is Ramesh
Ponnuru. I am a visiting fellow at the American Enterprise
Institute, a senior editor at National Review, and a columnist
for Bloomberg View, although my testimony reflects my views
alone and not those of any organization with which I am
affiliated. It is an honor to be testifying today.
While tax policy has been politically contentious, I am
here to discuss a unifying issue. Over the last 20 years, a
broad political consensus has supported tax relief for parents
of dependent children. The major reforms of the tax code
undertaken over this period have consistently, without
exception, included such tax relief.
People from different parts of the political spectrum have
had varying reasons for supporting the child credit, including
an appreciation of the costs of raising children and the belief
that raising children is in no merely metaphorical sense an
investment in the Nation's future. The fact that the child
credit lifts nearly 3 million people out of poverty each year
has also brought it support.
What is not always appreciated is how the child credit
advances a major goal of tax reform, creating a tax code that
raises the desired amount of revenue while minimizing the
distortions that government policy can create. A familiar
example of a distortion is an unjustified tax break. Tax
reformers seek to curtail such tax breaks because they unfairly
enrich some groups to the detriment of others, and they
inappropriately encourage some activities over others.
The child credit advances this goal by reducing a
distortion caused by government policy: the large, though
implicit, tax on parenting that the structure of some of our
largest Federal programs has inadvertently created. It is, of
course, true that all taxpayers, whether or not they have
children, contribute to Social Security and Medicare, but the
financing of those programs relies in a special way on parents.
They contribute to the programs, both through the Federal taxes
that they pay and through the financial sacrifices that they
make to raise children, including in many cases forgone income.
Because the Federal Government does not recognize the
extent of their parental contributions, parents shoulder a
larger share of the burden of government than they should. In
the world before these programs, many of the financial
sacrifices parents made redounded to their direct benefit in
old age as their children took care of them.
Now much of that age-old financial return on parents'
investment in children goes to senior citizens as a group,
whether or not they themselves raise children. That is a shift
that we as a society have made for very weighty and extremely
widely supported reasons, but the shift has had the inadvertent
effect of transferring resources from parents of the childless
and from larger families to smaller ones. We can call this
transfer the ``parent tax.''
Some government policies offset this parent tax, notably,
the tax exemption for dependents and the existing tax credit
for children. But the level of the tax remains quite high even
after these policies. One conservative estimate suggests that
the child credit would need to more than quadruple to eliminate
the parent's tax completely.
A credit that large is unrealistic, but the calculations
suggest that tax reform should--whatever its other parameters--
include an expansion of the child credit so as to reduce the
share of the overall tax burden paid by parents. It suggests as
well that the expansion should take two forms. The maximum
value of the credit should be raised from $1,000 per child to
some significantly larger number, and the credit should be
applied against payroll taxes as well as income taxes.
Finally, it suggests that if the dependent exemption
declines as part of tax reform, the expansion of the child
credit should be large enough to more than make up for that
decline. A Child Tax Credit expansion compares favorably to
other proposals for middle-class tax relief, such as an
increased standard deduction.
The larger child credit would reduce the parent tax
distortion, while the standard deduction would not. In
addition, a larger share of the benefits of a child credit
expansion would accrue to relatively low-income households. An
expanded Child Tax Credit for children should be part of a
larger tax reform that Congress enacts so as to ensure that tax
reform is both pro-growth and pro-family.
Thank you for the opportunity to testify, and I look
forward to your questions.
The Chairman. Well, thank you so much.
[The prepared statement of Mr. Ponnuru appears in the
appendix.]
The Chairman. We will now open this up for some questions.
Ms. Batchelder, a significant part of your written
testimony is spent on suggestions on how to make the tax code
more progressive; that is, in how to make the rich pay more tax
and the poor pay less tax.
So my question is this: would repealing the Federal
itemized deduction for State and local income taxes be a shift
in a progressive direction? And after Ms. Batchelder, if Mr.
Brill would briefly weigh in on this too, I would appreciate
it.
Ms. Batchelder. I think it really depends on how that
revenue is used. So in the current proposals by the President
and the House Republican Blueprint, the revenue from repealing
the State and local tax deduction is used for highly regressive
tax cuts. So on net, it would make the tax code less
progressive.
And if you repealed the State and local tax deduction in
isolation and used that revenue, for example, to expand the
Earned Income Tax Credit or the Child Tax Credit, that would be
a progressive change. But it really depends on what you are
using that revenue for.
The Chairman. Mr. Brill?
Mr. Brill. Senator, I would say that the repeal of the
State and local deduction is a progressive change in isolation
by itself. It is true that in the context of fundamental
reform, we would have to look at all the fundamental pieces and
where all the changes are made, but that piece by itself would
be a step in making the tax code more progressive.
The Chairman. Okay.
Well, let me ask this of Ms. Harrison. In your written
testimony, you write extensively about how the State and local
tax deduction for real property taxes is mostly a benefit for
the middle-class. And we have statistics from the Joint
Committee on Taxation demonstrating that the vast majority of
the benefit of the State and local tax deduction for State and
local income taxes goes to persons with an income exceeding
$200,000 per year.
So it appears that there is a real difference between who
benefits from the deduction for real property taxes, and who
benefits from the deduction for State and local income taxes.
Am I right on that? And also, am I correct in stating that your
testimony is much more focused on preserving the deduction for
real property taxes than it is on preserving the deduction for
State and local income taxes?
Ms. Harrison. While not being a tax expert--and I want to
get that caveat out right from the inception--my information in
the written testimony was based primarily on our
PricewaterhouseCoopers study. As with the mortgage interest
deduction, I would say that my figures are that 75 percent of
the value of real property tax deductions in 2012, for
instance, went to taxpayers with cash incomes of less than
$200,000, and that the typical real estate tax deduction
beneficiary has an adjusted gross income of slightly less than
$81,000, which I think, again, is squarely in the middle class.
So one of the other reasons that we want to maintain this
as a source of home ownership is that for many homeowners this
is a mandatory, obvious tax that they pay throughout their
life. When their mortgage is paid off, they are no longer
getting the benefit of the mortgage interest deduction, if they
took it, but they will continue to be able to utilize the
deduction they pay for State and local taxes throughout their
ownership of that property, if they so choose.
Once again, we want to refer one back to the idea that
because of the standard deduction, many people who are
homeowners get the benefit of that standard deduction as part
of that taxing that takes place at that level. The idea, I
assume, of a standard deduction is to allow people to keep a
portion of their earned income discretionary because they have
already paid it in taxes.
The Chairman. Okay.
Mr. Ponnuru, you suggest a much higher Child Tax Credit.
And as you acknowledge, this will cost a lot in the 10-year
window, and so in the 10 years, this would be difficult to pay
for.
But I suppose one of your points is that it will largely
pay for itself in the long run; that is, today's children will
be tomorrow's Social Security taxpayers. Am I right about that?
Mr. Ponnuru. Thank you for your question, Mr Chairman. I
think that I do not propose that the budget should account for
such long-term effects in financing an expansion of the child
credit. I propose that an expansion of the child credit be
financed in the way that other forms of tax relief are, with
the familiar list of pay-fors that I am sure that all of you
are extremely familiar with.
I would just point out that whatever proportion of a tax
cut is paid for with tax increases or spending cuts elsewhere,
we should be consistent, and a child credit should not be
treated any differently than other forms of tax relief.
The Chairman. Senator Wyden?
Senator Wyden. Thank you very much, Mr. Chairman.
Welcome to all of you. And, Ms. Batchelder, it is very good
to see you. It was not very long ago when we enjoyed having you
on this side of the dais and I was sitting down there somewhere
beyond where Michael Bennett is now. So we are glad to have
you.
As I indicated, times are different--2017 is different from
1986 when Democrats and Ronald Reagan got together. But the
principles of tax fairness are there for the ages.
And I would like you--if you would, for my opening
question--to contrast what the President said yesterday, where
he said there are not going to be any tax breaks for the very
wealthy, the people at the top, with what is on offer as of
this morning from President Trump.
Ms. Batchelder. Thank you for the question. It is a
pleasure to be back with the committee and fun to be on the
other side of the dais.
I tend to believe people based on their actions and not on
their words. And so, I think when you look at the President's
statement yesterday where he is saying that he will not cut
taxes for the wealthy, it is hard to square, to say the least,
with the plans that he has put out.
He has put out different iterations of his plan. They have
all been estimated by nonpartisan organizations, and I cannot
think of a single credible analysis of any of his plans that
finds that they do not cut taxes substantially for the wealthy
and are regressive overall.
So, if you look at his plan overall, it includes huge tax
cuts for the wealthy. The top 1 percent gets about half the
value of the tax cuts in his plan. I tend to think of the best
way of looking at the distribution of tax changes as a
percentage change in after-tax income, and the top 1 percent
gets a boost in their after-tax income of 12 to 13 percent,
versus 0 to 2 percent for the vast majority, 80 percent of low-
and middle-income families.
In addition, his plan raises taxes, actually, on millions
of families.
Senator Wyden. On working families.
Ms. Batchelder. Working families, yes.
So an astonishing 45 percent of families with children are
estimated to face a tax increase immediately in 2018 under his
plan, and 70 percent of single parents. And he has known this.
This has been in the press since last year. I find it very
surprising that he has not chosen to fix the plan and address
these tax increases in the midst of a plan that overall is
reducing revenues by trillions of dollars.
The last thing I would say is, sooner or later that
trillion-dollar revenue loss--that is $3.5 trillion according
to the most recent estimates--is going to have to be paid for.
Right now it appears that he is proposing to deficit-finance
it. His budget plans would potentially reduce entitlements and
other spending in ways that would hurt low- and middle-income
families.
But even if those spending cuts were not passed now, it is
very likely in the future that low- and middle-income families
would be left holding the bag in the form of either tax
increases or spending cuts to----
Senator Wyden. It is a very important point you make, that
these errors that they have said they have made have not been
corrected. That has been the case with the outrageous pass-
through provision, which is a huge gift to the super-wealthy.
And it is correct with respect to the working families who get
hurt, which they said they did not want to see happen in tax
reform, but the fact is they have said for months that they
would correct it. It has not been done as of today. Words
matter. Yes, deeds matter even more.
Mr. Ponnuru, just a question for you on this question of
the Child Tax Credit. As you know, the committee made this
permanent. We feel strongly about it. We would like to do
everything we can to help working families.
I was pleased about a part of your answer to the chairman,
where you basically rejected dynamic scoring. The chairman got
into this question of, how are you going to pay for it? Then
you said, hey, look, you have to pay your bills in the real
world. We are not going to have some dynamic scoring. So I am
pleased about that, and to have a conservative make that point
is especially welcome.
The second point is--and I have read your articles and know
that you think down the road about these issues. You said,
okay, we will pay for the expansion--which I would certainly
like to see--and for helping working families. We will do it by
changes in Medicare and Social Security.
And what we have tried to do around here is to update the
Medicare guarantee, and particularly, look at chronic illness
and the like. It is going to take a lot of money to do what you
are talking about with respect to the Child Tax Credit.
How would you go about finding the revenue? I mean, we
would like to start closing some of these outrageous tax
loopholes at the top. I did not see that in your statement, but
we welcome your thoughts on it.
Mr. Ponnuru. Thank you for providing me the opportunity to
clarify. I support dynamic scoring, but I----
Senator Wyden. You did not use it with respect to your
answer to the chairman.
Mr. Ponnuru. I support the idea of dynamic scoring. I do
think that, in particular, when you are talking about the Child
Tax Credit expansion, the possible revenue payoffs are so far
in the future that it becomes even more subject to uncertainty
than the usual exercise in dynamic scoring.
I have my own preferences as to how tax reform should be
financed. My main point in this testimony has been to discuss
the idea that part of the tax structure should be a positive
change for parents regardless of what other choices the
Congress makes.
My own views on how to finance these tax reforms, though,
would include some long-term restructuring of entitlement
programs, as I mention in my written testimony. I do also think
that certain revenue pay-fors, such as a scaling back or
elimination of the State and local deduction, scaling back of
the mortgage interest deduction, would make sense.
And then finally, I also believe that expanding the width
of the top tax brackets so that high-earning individuals pay
the top rate on a larger percentage of their income also makes
sense as a revenue raiser in a balanced package.
Senator Wyden. I am over my time, Mr. Chairman.
The Chairman. Thank you, Senator.
Senator Isakson?
Senator Isakson. Thank you, Mr. Chairman. I want to assure
Senator Cornyn and the other members to my left that I am not
using my back situation as an advantage in my seniority, but I
was here first. [Laughter.]
Thanks for letting me move over.
Mr. Brill, in the last tax act of 1986, I was in business.
One of the most serious negative effects--and I was all for the
1986 tax act, by the way--but one of the most significant
negative effects of it was the clawback on passive loss. And
when the Congress did away with passive loss against earned
income retroactively, it actually put a number of people out of
business and created the real estate investment trust, because
everybody had to go to the stock market to raise capital to get
their balance sheet in order.
Your testimony, if I am not mistaken, addresses that and--
not specifically that case, but a case of not clawing back. Do
you agree or disagree that we should avoid any clawback on
existing tax treatment that was made on investment prior to the
time the tax law was changed?
Mr. Brill. Thank you, Senator. I think that the transition
issues, as I mentioned in my opening statement, are very
important and can be very tricky. And in particular, the
question that you are relating to of retroactive changes that
raise taxes on decisions that have previously been made under a
prior set of policies is one that can damage the confidence in
the tax code.
If investors, small business owners, see a risk that tax
changes can be made retroactively, that is only going to be a
drag on their willingness to be entrepreneurial and to make new
investments. The proper transition relief is, sort of, a
provision-by-provision question.
But as a general matter, we want to make these changes on a
prospective basis as we make new tax policy.
Senator Isakson. And that was my point. I read that in your
testimony, and prospective is the way to look at these things.
We have a tendency as politicians to label things either
progressive or liberal, or wealthier or conservative, or
whatever. And sometimes we act on a label and we do not act on
common sense. But it is only common sense to tell the American
people that if we are going to tax you on investments you made
in 2008, we are not going to change that in 2012 and come back
and make it a different tax rate.
Once somebody has made an investment decision based on a
tax code that applies to their investment of that time, that
ought to stick, period. I think the same would be true for the
internal buildup of dividends and generating life insurance,
many other types of things that are longitudal investments like
that. It is very important that we not do it.
The second thing--one of the things I have worked hardest
on in this committee is incentives for Americans to save for
their future. I think the best thing we can do to protect our
republic in the long term is see to it that Americans can take
care of themselves as much as the government can take care of
them, or more so if possible.
Do you consider a deferral of tax liability, for example on
an IRA investment or something like that, a benefit to the rich
or do you think it a common-sense incentive for the tax code?
Mr. Brill. Thank you, Senator.
Obviously, the tax code has a series of provisions related
to savings, and the Joint Committee and the Treasury Department
will identify these policies as tax expenditures. However in a
technical sense they may be, these are policies that promote
savings, which is critical for the long-term viability and
economic growth of our country.
And income tax is by its very nature going to discourage
future savings by its design. And these policies that promote
individual savings--401(k) plans, IRAs, as well as policies
that just promote savings generally--are all things that can
lead to long-term positive economic growth.
Senator Isakson. And eventually, in the long-term
investments that are tax-deferred, like an IRA investment that
someone might make, eventually the revenue is going to be paid
by the taxpayer when they withdraw the money. Is that not
correct?
Mr. Brill. That is absolutely correct.
Senator Isakson. Which also applies, I think, Ms. Harrison,
to 1031 exchanges. Is that not correct?
It is not a matter of not collecting the tax, it is a
matter of the timing of the collection of the taxes. Is that
right?
Ms. Harrison. Absolutely. And 1031 exchanges, again, are
utilized throughout my profession, not just by practitioners
who do massive commercial deals. They can be very small single-
property transactions which allow folks to sell a rental
property and use that tax deferral advantageously.
Deferral does not mean you are never going to pay it. It
just means, I do not have to pay it right at this minute.
Senator Isakson. And with Ms. Cantwell here, present on the
committee, Senator Cantwell, I want to make another point about
labeling. She has worked steadfastly on low- and moderate-
income housing tax credits, and you have in your testimony a
reference to tax credits.
There are those who might consider tax credits as a benefit
to the wealthy who are buying the tax credits to defer a tax or
put it off down the line, but in fact, it is the best way we
can raise money for housing for people at the low- and
moderate-income level that will be needed after Harvey and Irma
and other storms that we are going through right now.
So let us not be too quick, Republicans or Democrats, to
label something as anti-progressive or as a tax break for the
rich. When we look at the whole consequence and the collection
of that tax, sometimes we are mislabeling things for the wrong
reason.
Would you agree with that? And just say, ``yes.''
Ms. Harrison. I absolutely do. Labels tend to be very
dangerous. They lead us not to examine the actual facts
underlying the statements we have made.
Senator Isakson. Thank you, Mr. Chairman.
Ms. Harrison. Thank you.
The Chairman. We will now turn to Senator Cardin.
Senator Cardin. Thank you, Mr. Chairman. I very much
appreciate this hearing, and I appreciate the comments that
both you and Senator Wyden made.
One of the reasons we talk about principles is that we want
to make sure that when we do certain changes in the tax code,
it does not have unintended consequences that are contrary to
the purpose of what we are trying to do in tax reform.
So, Mr. Chairman, when you mention that middle-class
families need help, I agree with you. And I think most of us
agree, and we want to make sure at the end of the day that,
when everything is said and done, we are not asking middle-
income taxpayers to shoulder a greater burden of the cost of
this country than they already are. In other words, we want to
make sure the progressivity is maintained and that hopefully it
is made more progressive as a result of our action.
When we look at other principles--and one I just really
wanted to underscore is, many of you have been in the health-
care debate, asking our States to do more. We talk about
partnerships with our States. Well, let us respect federalism.
There is a reason why there is a State and local tax
deduction beyond just the impact it has on who pays taxes. It
is respect for the fact that it is the same taxpayers who pay
State and local taxes who pay Federal taxes.
And there is something to be said about double taxation.
The chairman was very active in trying to deal with corporate
integration to deal with double taxation. Let us not create
double taxation on those who are paying State and local taxes.
I just point out there are principles that become very
important in our debate. And, Ms. Harrison, I am glad you are
here, because home ownership is one of our principal
objectives. And we should recognize that we want to make sure
at the end of the day that we do not hamper the ability of
individuals to own their homes. It has many positive aspects to
it.
But what I want to ask a question on deals with fiscal
responsibility, and it follows up a little on Senator Isakson's
point. I think we all should agree that one of our principles
is that we want to make sure that tax reform does not add to
the debt, that it is at least fiscally neutral. And as I
pointed out earlier, I hope that the Joint Tax Committee will
be our arbiter as it relates to that.
But there are timing issues as to when you collect taxes,
and Senator Isakson raised that issue. Senator Portman and I
have worked a long time to try to improve retirement security
in this country, because we recognize it is important. People
are living longer. We believe in the three legs of the stool:
Social Security, retirement, and personal savings. We need all
three.
And if we do proposals that deal with timing in order to
get revenues short-term, it could have an adverse impact on
retirement security, but it certainly is not fiscally
responsible. So, it is an issue that may have merits, but to
use it for revenue, it has no merit.
So I wanted to ask, Ms. Batchelder, if you could just go
over a little bit on the retirement security front as we look
at tax reform, the impact it would have if we use timing issues
for rate reductions, the impact it has on overall fiscal
responsibility, and also what impact it could have on
retirement security.
Ms. Batchelder. Thank you for the question.
I think this is a really important issue that needs to be
discussed a great deal more. So the proposal that some people
have advanced is to require people to make all or part of their
contributions to their retirement plans on a Roth basis, which
means that they are after-tax instead of pretax. And generally,
right now people can choose between the two, whether to
contribute on a traditional or Roth basis. And if their tax
rates are constant over time--which is a big ``if''--then those
are actually identical economically. And it is hard for people
to predict whether their tax rate is going to go up or go down.
So as a general matter, if a lot of people shifted to
saving on a Roth basis, that should not have a large impact
either way on revenues.
The problem is that it would have a very big timing impact.
So it would mean that all of a sudden people who are taking
deductions now when they make contributions to 401(k)s would
not be taking those deductions and instead they would never be
paying tax on the withdrawals.
And so you would end up raising a lot of revenue within the
budget window and losing a tremendous amount of revenue outside
of the budget window, which is why I think it is really
critical that, whenever any tax reform bill or proposal is
advanced, the committee obtain estimates from the Joint
Committee on Taxation, both on the revenue impact within the
budget window but also outside, because you can have very
different effects in those two periods.
And as I mentioned in my testimony, I believe tax reform
should raise revenue, but at a bare minimum be revenue-neutral.
And it is really important that that is examined both within
the budget window and on a long-term basis. As Mr. Brill's
testimony referenced, those long-term budget impacts are really
important.
Senator Cardin. Thank you for that. Mr. Chairman, I just
want to note that in regards to State and local, I had asked
Secretary Mnuchin a long time ago for information as a follow-
up to one of these hearings, and he has not responded. I would
hope you would help me get that information from the Secretary.
The Chairman. I will be happy to try.
Senator Cassidy, you are next.
Senator Cassidy. Thank you, Mr. Chairman.
Mr. Brill, Mr. Ponnuru references increasing the Child Tax
Credit. Your testimony, though, contrasts two families, same
income, but with different aged children. Implicitly, you are
criticizing the Child Tax Credit deduction. So just elaborate
on that. Again, I always like to take you all's testimony and
see how it plays with each other. So go ahead.
Mr. Brill. Thank you, Senator, for your question.
I would note in my testimony, as you described, and in some
previous writings and articles that I have authored, that there
is a wide disparity in tax liabilities currently, based on
family size. That is by design in the tax code today, both as a
result of the personal exemption and as a result of the Child
Tax Credit, first at $500 in 1997 and then $1,000 starting in
2003.
This is part of this horizontal inequity that I described
in my testimony. Ramesh makes an argument defending that
disparity. I am simply pointing out that--in many regards--this
question of fairness in the tax code relates not only to
differences in tax liabilities about people who make more or
less, but even within the same group----
Senator Cassidy. But on the other hand, he is justifying
that difference between those in the same group, saying that if
you look at life-cycle expense of raising a child, that net, it
comes out--now it is a bigger picture, if you will, if I may
speak for him. He makes the problem bigger, and you make the
problem more focused.
Again, do you, kind of, not accept the validity of his
approach?
Mr. Brill. I would not personally promote a larger Child
Tax Credit in the context of fundamental tax reform, but I am
very respectful of the arguments that he is making with respect
to its impact on taxpayers and entitlement reform.
Senator Cassidy. Secondly--again, I do not mean to pick on
you. I just liked your testimony, so it triggered ideas. Ms.
Batchelder cites a reference by you--I think it is reference
number four--that you, with Joe Antos, put out something
stating that our national taxes should be an increased amount
of our GDP.
Now implicitly there, you are kind of rejecting the concept
of dynamic scoring. Thoughts on that?
Mr. Brill. Sure. Well first, with respect to dynamic
scoring, certainly no, Senator. I do think that some tax policy
changes can lead to dynamic effects and dynamic responses--not
every tax policy change for sure--and that we should recognize
that. That is one of the core reasons we are pursuing tax
reform, I think: to promote economic growth. And to the extent
that we are successful, we should capture those responses in
our analyses. Sometimes those responses are overstated by some
analysts, but I think they are real and that we should be able
to rely on that information.
Second, with respect to the footnote, I did co-author a
paper 4 or 5 years ago that was focused around a fiscal reform,
around finding fiscal balance, bringing the debt-to-GDP ratio
down in the long run. In that reform, there were a whole host
of changes including a net increase in revenues over the long
run.
Senator Cassidy. Except that you just spoke about bringing
down debt-to-GDP, and so therefore--just to, kind of, complete
it, you would increase your tax revenue for the State going
forward relative to GDP in the short-term, I gather, in order
to decrease debt in the long-term. Is that, again, a fair
statement?
Mr. Brill. I cannot recall all the specifics. I believe
that the revenue increases were phased in over time. This is a
factor, that there are fundamental demographic shifts underway
over the next few decades that will put increasing fiscal
pressures on the government. We can reform those programs to
save money, but we can also look at other ways to find
balance----
Senator Cassidy. So to put a point on that, and because I
have been thinking about how we have a demographic bulge of the
baby boomers going onto Medicare and Social Security, straining
those programs. Medicare is going bankrupt in 17 years, and
people are talking about Medicare for all.
So I gather then, from what you say, that in the short term
you think that we may need--I am just quoting you; tell me if I
am wrong. We need to increase the tax-to-GDP total amount in
order to fully fund our Social Security and Medicare programs
to take care of the bulge of the baby boomers?
Mr. Brill. I am not actually advocating for a tax increase
in the payroll tax to prefund future Social Security
expenditures. I do think that given the increased demands on
the system through the demographic changes, it is reasonable to
think that, while those reforms to Medicare and Social Security
are needed very much so, we cannot address those challenges
only by changes in revenue. But I do think that if we can find
efficient ways to raise revenue, that in the long run if there
is more revenue into the system, if that revenue is collected
in an efficient manner, that is a reasonable part of a
comprehensive fiscal reform solution.
Senator Cassidy. There are two components of that. If you
grow the economy, people will pay more into the system only
because they are making more money. The same percent results in
more absolute dollars.
The second--your suggestion--is that you might sluice off
dollars from another source that would feed into it over and
above that which is coming from the payroll taxes.
Mr. Brill. That is correct. I would be willing to consider
both of those in the context of a comprehensive fiscal reform.
It is different from the context of a fundamental tax reform
before the committee today, but if we are thinking more broadly
about the long-term fiscal challenges--this country faces
many--we should be thinking about all our options.
Senator Cassidy. I am over time. I yield back. Thank you.
The Chairman. Senator Brown?
Senator Brown. Thank you, Mr. Chairman.
This spring, the guru of failed trickle-down economics,
Martin Feldstein, let the cat out of the bag in a Wall Street
Journal op-ed on April 26th, the day after Gary Cohn and
Secretary Mnuchin released the one-page Trump tax plan.
Professor Feldstein laid out in detail how Washington elites
plan to pay for so-called tax reform with massive cuts to
Medicare and by raising the retirement age for Social Security
to 70.
The latest proposal now that they floated would take away
freedom the American people have to choose a retirement savings
plan that works best for them and force everyone into a Roth
account, slapping taxes on retirement savings of working
middle-class families. You have got to be kidding. I mean, the
three best ideas to pay for massive tax cuts for Wall Street
are to cut Medicare, raise the eligibility age to 70 for Social
Security, and then steal from the retirement accounts of
working middle-class Americans.
Tell the barber in Dayton, OH that he has to work until he
is 70. Tell the construction worker in Warren, OH that she has
to work until she is 70. Tell the waitress at a Columbus diner
that she has to work until she is 70.
If the President and congressional Republicans want to work
together with us, as Chairman Hatch promises us, to build a tax
code that puts more money in the pockets of working Americans,
that understands you grow the economy not by trickle-down, top-
down tax cuts, but you grow the economy by investing in the
middle class, we are there. Senator Wyden and I and all of us
want to work--we want to reward employers that keep jobs in the
United States. We are there to work together.
But if Senator McConnell decides to follow the same
template he did on health care, where he brought in a handful
of five or six--turns out to be all Senators who look like me,
different party, but look like me--join with a few drug
company, insurance company lobbyists, and then write the bill
behind closed doors, he is going to have a hell of a fight on
his hands, and we know that.
We know that this committee wants to work bipartisanly, the
way we did on CHIP, the way we did last year, Senator Portman
and I and others, on the Earned Income Tax Credit. But if they
do not even show us a bill, as they did on health care, replace
and repeal, or repeal and replace, or whatever they said--they
do not want to show us a bill--if they are just going to try to
jam us on a party-line vote for reconciliation, count us out.
I mean, I want to see a tax bill that focuses on the middle
class to build the economy out that way. It is really pretty
simple.
So my question, Professor Batchelder, is, what would be the
impact of converting--their idea of raising the eligibility age
of Social Security, cutting Medicare--what would be the impact
of that, coupled with converting our current retirement savings
vehicles from a tax-deferred model to a Roth model, on middle-
class families trying to save for retirement? Talk through the
impact of that, if you would.
Ms. Batchelder. Thank you for the question, Senator.
Well first, Medicare and Social Security--and I would add
in Medicaid--are all programs that low- and middle-income
families rely on tremendously in retirement and also, in the
case of Medicaid, before retirement. So cutting those would put
further strain on families who have spent their whole working
lives counting on these benefits and have seen their incomes
largely stagnate, especially compared to the most wealthy.
The Rothification idea, as we discussed a bit earlier--
first of all, I am deeply concerned by the potential use of
that proposal as a timing gimmick where it would raise, you
know, potentially a trillion dollars within the budget window
and lose more than that outside the budget window. And if one
did not account for both those affects, one could use that
trillion dollars within the budget window to pay for tax cuts
for the wealthy and then end up losing even more outside of it,
which would place even further pressure on programs like Social
Security and Medicare in the long term.
The other point I did not have a chance to make is the
Rothification idea would be really a dramatic change in
retirement savings policy. Different families have different
incentives whether they should select to save on a Roth basis
or on a traditional basis. And for some it is advantageous to
save on a Roth basis; for others it is not. And there are also
very different rules about preretirement withdrawals. There are
different effective contribution limits. So it is a real sea
change in retirement savings policy that I think should only be
done after very careful analysis of the impact on retirement
savings on different families at different segments of the
distribution, and not just because it happens to serve this
budget gimmick.
Senator Brown. Thank you. There is one more point I want to
make about something slightly different, Mr. Chairman. One
thing we did last year was put together--as we expanded EITC
and CTC on a permanent basis, we put together a robust package
of program integrity measures to make sure that we are doing
everything possible to reduce the error rate for the tax
credits on EITC, such an important anti-poverty measure, such
an important incentive for work.
Now the House budget--and we were proud of that, that there
is not really a lot of fraud in the EITC. There are a lot of
mistakes in the EITC, where people were paid more or less
because of errors in filling the forms out. That is the
important point to understand.
Now the House budget has proposed that not one working
family receive its Earned Income Tax Credit until the IRS has
conducted a mini-audit of their finances.
What is that all about, Mr. Chairman? We need to go to work
and make sure that our reforms on EITC stay in place and not
the, sort of, mean-spirited attack on families making $20,000
and $30,000 and $40,000 and $50,000 who depend on that $3,000
or $4,000 or $5,000 or Earned Income Tax Credit for the
incentive, for the reward for their working hard and playing by
the rules.
Thank you, Mr. Chairman.
The Chairman. Senator Heller?
Senator Heller. Mr. Chairman, thank you, and thank you to
the ranking member. Thanks for holding this hearing.
I cannot imagine that there is a more important place to be
today than to have this discussion in this hearing. So thank
you so much, and I want to thank the witnesses also for taking
time, for being here, the first hearing on tax reform.
I know everybody has the same goals; that is, to expand the
economy, simplify the tax code, and to give the middle class
some tax relief. So if you will indulge me for just a minute, I
want to share my perspective from the State of Nevada, and that
is that our middle class has suffered under an outdated and
unfair tax code that discourages job creation and makes it
harder for Nevadans, and frankly people all across America, to
get ahead.
Just the other night, Mr. Chairman, I had a telephone town
hall meeting, and I heard from a teacher in Las Vegas who spoke
of stagnant wages. I also heard recently from a young Nevadan
who started his own business while going to school full-time,
and this 21-year-old brought up the enormous amount of money he
is paying in taxes as well as how complicated it is to navigate
our current system.
So Nevadans have been waiting for a fair, simpler tax code
for way too long. According to a recent poll conducted by my
office, more than half of Nevadans said it is important that
Congress pass tax reform legislation by the end of this year.
And now we have a prime opportunity to do that and to
provide relief to the American people who have been waiting for
a fair and a simpler tax code. To me, relief means letting the
middle class keep more of their hard-earned paychecks, making
our tax code easier to understand--in essence, less paperwork,
more money in their back pockets. It also means quality jobs,
higher wages, and growth in our communities.
So the current economic situation is not acceptable. I look
forward to working with all of my colleagues on both sides to
address this issue.
Mr. Brill, if I could start with you. The average median
household income in Nevada is about $55,000 according to the
Census Bureau data. And, under various tax relief proposals, we
have now seen a reduction. We have not only seen a reduction in
the number of tax brackets from seven to three, but also a
significant reduction in the income tax rates.
If we were to be successful here with this committee on tax
relief and get it through Congress, how much money can the
average hardworking Nevada family expect to keep?
Mr. Brill. Thank you, Senator.
Perhaps that is the hardest question I have been asked so
far.
Senator Heller. I think it is the question.
Mr. Brill. I appreciate the importance of understanding the
tangible consequences of tax reform.
What I would note--there are three things that I think
matter to median households.
One is the amount of tax that they are going to have to
pay, just quite simply as you are suggesting, what their tax
bill is. The larger that tax bill is, the less resources there
are for other activities.
In addition, what their marginal tax rate is. And I know
that a lot of people are not necessarily always aware
explicitly of their effective marginal tax rates, numbers that
economists like to discuss, but there is clear evidence that
people are responsive to changes in these marginal rates. And
higher rates are going to discourage work and discourage
entrepreneurship and discourage investment.
And then finally, it is not only the taxes that are paid,
but it is the cost associated with complying with those taxes.
Many people who are earning $55,000 a year enjoy a relatively
simple tax code today. They claim the standard deduction, but
many do not and are faced with additional tax burdens,
compliance burdens.
And in particular as it relates to the anecdote that you
mentioned earlier, folks who are trying to start small
businesses face additional compliance burdens much more so than
ordinary wage earners, and that can be a hindrance in efforts
to get those businesses going.
Senator Heller. Mr. Brill, thank you.
Ms. Harrison, real quick. I am assuming--I am sorry I
missed your testimony. I am assuming you are here representing
the Realtors industry, and I want you to know that I appreciate
all that your industry does, and I do consider it an economic
indicator of how well an economy is doing. In no State was that
more obvious than the State of Nevada during the recent
recession.
And I missed your testimony. Will you tell me what your
biggest concern is in this bill moving forward?
Ms. Harrison. Well, I think I concluded with first, do no
harm. When you are adjusting the moving pieces that this
discussion is inevitably going to involve, we want to make sure
that, just as you stated, the economic engine of home ownership
and the transfer of real property in this country remains
unfettered and is still allowed to continue in the way that it
has, because, again, I am looking here at real estate household
equity getting back to building wealth, $13.7 trillion. For
many, many Americans, wealth building begins with the equity in
their home.
They do not own stocks. They do not even think about that,
but they do want to own a home. And to the extent that we have
a stable economy, a growing economy, the equity in that home
will grow with them as well and be available to them as they
downsize their housing needs and their requirements change.
We want to make sure that that is preserved.
Senator Heller. What is more important to you, growing an
economy or your interest deduction?
Ms. Harrison. I do not think that one exclusively is in the
way of the other. I think done well, you can have both, because
we know that, as I said, the transfer of real property is an
economic driver.
When you have a depressed real estate market, you have a
depressed country in terms of its economic----
Senator Heller. And I said that in my opening comments.
Yes, I agree with that.
Ms. Harrison. Yes.
Senator Heller. Mr. Chairman, thank you.
The Chairman. Thank you.
Senator Carper?
Senator Carper. Thanks, Mr. Chairman. Thanks to you and our
ranking member for holding this hearing. And I would just
reiterate how important it is, I think, for us to return to
regular order, to hold hearings, bipartisan hearings like this,
where folks, stakeholders can come in from around the country
and share with us their views. It is just incredibly important,
and not only that we do it here, we do it again and again with
other stakeholders at the table, and then we talk amongst
ourselves as much as we did yesterday afternoon. So I applaud
that, encourage that.
Lily, nice to have you back. It is great to see you, to
welcome our other guests too.
My colleagues have heard me say this before, but I look at
every proposal for tax reform through four questions. Is it
fair? Does it foster economic growth? Does it simplify the tax
code or make it more complex? How does it affect the deficit?
Those are the four screens, if you will, through which I look.
Let me just ask each of you, ``yes'' or ``no,'' do you
think those are four good questions to ask? We will just start
with you, Mr. Brill, just ``yes'' or ``no''?
Mr. Brill. Yes, I do.
Senator Carper. Thank you.
Ms. Harrison?
Ms. Harrison. Absolutely essential questions.
Senator Carper. Ms. Batchelder?
Ms. Batchelder. Yes.
Senator Carper. And Mr. Ponnuru?
Mr. Ponnuru. Yes and yes.
Senator Carper. Yes. Thank you so much.
In one of my other hearings--I have three committee
hearings going on this morning. I want to be in all of them,
but we have not figured out how to clone me yet. So I will
bounce back and forth from one to the other.
But one of the hearings we are having is a follow-on to a
GAO report. The idea in the Homeland Security Committee hearing
that is going on right now is, how do we stop wasting money in
a particular area? So that is the focus.
I remember having a hearing on the budget deficit years ago
when I was a Congressman, and we talked about the need for
revenues in order to, you know, we needed some extra revenues,
we needed to do a better job on controlling spending. And one
woman raised her hand at the back of the room, and she said,
``I do not mind paying more taxes if it will erase the deficit.
I just do not want you to waste my money.'' I just do not want
you to waste my money--I have never forgotten that. So we are
focusing on that in the Homeland Security Committee this
morning.
One of the other things GAO does every other year is, they
give us a high-risk list, high-risk ways of wasting money. And
one of the things they have been dwelling on of late deals with
the funding for the IRS. We have cut funding for the IRS by
about 20 percent in the last 5, 6, 7 years.
And the current budget proposal from this administration
calls for reducing the IRS budget by another 2 percent.
Meanwhile, what we do in the Congress is, we change the tax
code. We usually do it late in the calendar year. We do it in
ways that make the tax code more complex, not less complex. We
cut revenues to the IRS for people and for technology to
provide customer service, and then we say, ``Well why don't you
fix this? Why do you guys not do a better job?'' It is crazy.
For every dollar that we spend on funding the IRS, we are
told we get back $4 to $10--for every dollar that we fund.
Should we continue to cut, as has been proposed, continue to
cut funding for the IRS in the next year? And we will start
again with just ``yes'' or ``no.'' Mr. Brill?
Mr. Brill. I am sorry, but I am really not an expert on the
budget side of the administration of the tax code.
Senator Carper. Okay. Thank you.
Ms. Harrison?
Ms. Harrison. I am certainly no expert, not in any way,
shape, or form, but I would absolutely say wasting taxpayers'
dollars is something no one looks forward to or wants or
expects.
Senator Carper. Ms. Batchelder?
Ms. Batchelder. I think we should be substantially
increasing the IRS budget. As you said, if for $1 that is spent
on the IRS budget for enforcement, the IRS collects--the last
statistic I saw was $18 from people who are underpaying their
legally owed taxes. Our tax gap right now is about $400
billion.
So a very easy way to collect more revenue from people who
legally owe it and are evading it is to slightly increase the
IRS budget.
Senator Carper. Thank you.
Same question, Mr. Ponnuru. I am just looking for a simple
``yes'' or ``no?'' Should we continue to cut the budget for the
IRS? We cut it by 20 percent. Should we continue to cut it,
knowing that for every dollar we cut, we lose four or five
bucks?
Mr. Ponnuru. I am going to associate myself with Alex
Brill's ``no comment.''
Senator Carper. Okay. All right. That is an interesting
response.
One of the things we try to do in a hearing like this is
look for some consensus. It is a diverse panel--complex
subjects, difficult subjects.
Give me one idea where you think you all agree on
something, Mr. Brill.
Mr. Brill. I think that--I certainly would associate my
comments with Ms. Batchelder's comments about Rothification,
both as it relates to timing and the potential significant
impacts it has on retirement savings.
Senator Carper. I succeeded Senator Roth in the Senate and
on this committee, and he would be pleased to know his name is
being used in this manner, I think, today.
Mr. Brill. He would.
Senator Carper. Please, Ms. Harrison, something where you
think you all agree, and to the extent that you could agree on
some things, it really helps us. Where do you agree on one
issue?
Ms. Harrison. We agree that tax code should be fair.
Senator Carper. All right. Thanks.
Ms. Batchelder?
Ms. Batchelder. Well I would, of course, associate myself
with Mr. Brill on Rothification, but I also agree with Mr.
Ponnuru that we should be seriously considering expanding the
Child Tax Credit, particularly for the lowest-income families.
There is strong evidence about the impact on future child
earnings, health, education, especially when there are young
children, and especially when they are from particularly low-
income families.
Senator Carper. Thank you.
Mr. Ponnuru?
Mr. Ponnuru. I agree with the comments about Rothification,
and I also think, as Ms. Batchelder pointed out in her
testimony, that eliminating the dependent exemption and
increasing the standard deduction would be a bad tradeoff for a
lot of middle-class families.
Senator Carper. All right. Thanks.
Thank you all, and we will look forward to following up
with some of you later on. Thanks.
Thanks, Mr. Chairman.
The Chairman. Senator McCaskill?
Senator McCaskill. Thank you, Mr. Chairman. I think one of
the things that we all talk about is the complexity. And I am
worried that the way this train is moving, we are going to get
off on the track of rates and remove ourselves from the
difficult job on complexity.
This is going to be a priority, as far as I am concerned,
in terms of how we write this bill. A tax rate can be based on
whether it is regular wage income, ordinary dividends,
qualified dividends, long-term capital gains, short-term
capital gains.
A deduction credit for higher education is different
depending on whether it applies to continuing education, higher
education, a family member's education, or several other
subcategories.
We cannot even manage to define the word ``child''
consistently across the code. To me, we have two issues here.
One is a disagreement over rates, both corporate and business
organization around those rates, and a conversation about
individual rates, and I do not hear enough heat around the
complexity part.
Do you believe that clearing up some of the complexity
could be as important to economic growth and prosperity in this
country as some of the other things that are consuming all the
oxygen in the room?
We will start with the guys who do not want to comment on
how dumb it is that the IRS--there is nothing like being in
debt and cutting your receivables department. Go ahead.
Mr. Brill. I do agree that the complexity of the tax code
is a cost separate and apart from the revenues that are imposed
on taxpayers.
The number of itemizers in the system today, those
taxpayers, 40-plus million taxpayers who itemize their returns,
face additional burdens as a result of that. Now, they may get
tax breaks as a result of that, but the compliance costs with
itemizing are significant. In addition, over 40 million
taxpayers claim a credit, which is additional paperwork as
well.
Again, they are receiving tax reductions as a result of the
policies, but they are also burdened with costs. This disparity
creates similar taxpayers with different tax burdens, sometimes
very similar taxpayers with different burdens.
If your child is 17 or 16, your tax liabilities will be
different. If you rent or if you own a home, of course, your
tax liabilities will be different. So this creates some degree
of complexity and uncertainties that are significant, and I
think that it is reasonable and appropriate to address those
complexities in the process of pursuing tax reform.
Senator McCaskill. If we do not do it now, I do not think
it will get done. I think we will still have 70,000 pages.
I want to challenge a little bit our Realtor. I certainly
understand that the mortgage interest deduction is a behavior-
modifying provision as it relates to people when they buy their
first home. No question. I did the math. This is what I am
paying for the apartment, this is what it will cost me in a
mortgage where I get to deduct the interest; therefore, I was
ready to buy my first home. I do not remember doing that
analysis when I bought a still very modest second home.
Do you have any studies that show that the buying of homes,
the second or third or fourth home that the family buys, that
somehow they are considering going back to an apartment if they
do not get a mortgage interest deduction?
I mean, the idea behind the mortgage interest deduction was
to modify behavior and encourage home ownership.
Are there any studies that show that you would lose people
to rental properties if this deduction was removed for people
who were moving on to bigger and bigger homes in their lives?
Ms. Harrison. The short answer is, I do not think so. But
again, the deduction for mortgage interest, this has been
embedded in the tax code since 1913, I think. So it is not
something that we just kind of put in place to encourage first-
time homebuyers, but it certainly is in place to encourage home
ownership itself.
As regards recurring transactions, we real estate
professionals and Realtors, certainly that is how we make
money, and it is also the story of our lives, if you will,
because we begin with the first home, perhaps a condo, as a
single person and maybe we get a partner.
So as our circumstances change, our housing needs change,
and that often is the trigger for the purchase or the sale of
the first home, the purchase of the second home.
So it is a life story that is going on here. What we have
here with the mortgage interest deduction is that statement by
the Federal Government that we believe in home ownership and
the benefits that go beyond simply that tax benefit, but the
benefit that that gives to society when we are indeed a Nation
of homeowners rather than a Nation of renters.
Senator McCaskill. I understand the point you are making,
but if we look at what we do with the tax code, the tax code
provisions ostensibly are in place to encourage certain
behavior and/or economic growth.
I just think it is important as we try to analyze the tax
code and figure out a way to bring down some rates and make it
fairer that we look at every single one to see if it is
accomplishing what it is supposed to be accomplishing; if it is
not, we should reconsider it.
That is why I wanted to see if there were any studies that
showed it did modify behavior for future home purchases beyond
the first home.
Thank you, Mr. Chairman.
The Chairman. Thank you.
Senator Casey?
Senator Casey. Mr. Chairman, thanks very much. We
appreciate you and the ranking member having this hearing and a
number of hearings on the broad issue of tax reform. So I
commend you for that.
I know there is a substantial disagreement about the
insistence on our side to have three basic guiding principles.
I do not understand the opposition to those, but I just want to
state them again for the record. Number one, regular order--
that should be easy. I think both sides agree on that one. So
far we are batting 300.
The second one, of course, is making sure that we do not
increase the deficit by way of tax reform. I think we can agree
on that, I hope.
The third one seems to be the most difficult, and I have a
very strong view of this. You, Mr. Chairman, I am sure,
disagree. But why is it that we cannot agree that the top 1
percent should not benefit from this process? The top 1 percent
of the last generation has had a bonanza. They have been doing
pretty well.
Anyway, I just wanted to restate those, because I know we
have to be honest about the differences even as we commend the
work of the chairman trying to keep people together in terms of
hearings.
The Chairman. I do not think there are any differences with
regard to the top 1 percent.
Senator Casey. I hope not, and I appreciate it.
The Chairman. Certainly not that I know of.
Senator Casey. I want to focus on something that we do not
talk about enough, frankly, and I think tax reform gives us
another chance to not only talk about it, but to actually do
something about it.
On both ends of the aid scale among young people, whether
it is young children on one end or college students on the
other, we have all seen the horrors of higher education costs
going up. Senator Toomey and I represent a State where we have
a great system of higher education and great institutions whose
tuition has gone way up with regards to public 4-year colleges.
But here is the reality on the other end of the scale. As
much as we are concerned about higher education costs, in fact,
in 33 States and the District of Columbia, here is what we are
facing: infant care costs exceed the average cost of in-State
college tuition at public 4-year institutions. I will say it
again: infant care costs.
Senator Murray and I and a number of Democrats have a bill
to focus on that. And you all know the numbers. I was not here
for Ms. Batchelder's testimony, but you know the costs.
Sometimes families can be paying as much as a fifth of their
income on child care. So we wanted to focus on that in our
legislation.
Here is the question for Ms. Batchelder. Can you discuss
what the President's past proposals on child care have looked
like and why a credit for child care costs is preferable to a
deduction? If you can, walk through that again.
Ms. Batchelder. Thank you for the question.
The President last fall came out with some proposals
regarding child care, and I do applaud him for focusing on the
issue. The problem once again was that his proposals did not
actually address the challenge.
They provided larger benefits to higher-income families and
very small benefits to lower-income families, even though
lower-income families tend to spend a much larger share of
their budget on child care costs. And as you just explained,
particularly for infants and young children, those costs can be
astronomical.
So his plan was both not targeted on the people who need
help the most, it was also very complex, going to Senator
McCaskill's point.
Right now we have two tax benefits for child care, which is
already less than ideal, and it would expand that to five.
There is evidence that once you give people lots of different
tax benefits that they have to choose between, they often do
not choose the best one for themselves. So that complexity
hurts the taxpayer.
I think a much better approach--and I really applaud you
for working on this issue--is to have a refundable tax credit
for child care that is targeted on people whose costs impose
the biggest budgetary strain for them. That would require that
the tax credit be refundable.
Right now about 35 percent of households are in the zero
bracket, meaning that their income is less than the standard
deduction and personal exemptions. So that means they do not
owe Federal income tax, even though they pay vast amounts of
Federal payroll tax and other State and local taxes. So if you
give them anything other than a refundable credit, it is
worthless to them. The refundable credit is very important.
The one other thing I would mention which is not strictly
individual tax reform is, it would be very helpful to fully
fund the direct spending programs for child care. Right now
only 15 percent of people eligible are able to actually claims
those subsidies. And particularly for lower-income families,
the direct spending program may be more efficient even than a
tax credit, because they are paid out as your child care bills
are due rather than at the very end of the year.
Senator Casey. Great. Thanks very much. Thanks, Mr.
Chairman.
The Chairman. Thank you.
Senator Stabenow?
Senator Stabenow. Thank you, Mr. Chairman and Ranking
Member, for a very important hearing. And thank you to all of
you for being here.
Ms. Harrison, I just want to indicate I am with you on the
mortgage interest deduction. So we certainly want to see, in my
judgment--I am certainly supportive of making sure we have that
for middle-class families.
I also want to underscore what Senator Casey said in terms
of where we start. When I look at this through the lens of
Michigan, which, of course, I do, Michigan families, working
families, small businesses and so on, I start from a very basic
premise of saying we do not want to explode the deficit on
whatever we do, we want it to be bipartisan, and we do not want
the benefits going to the top 1 percent in our country who have
received a majority of benefits of recovery and of other past
proposals.
I am hopeful that we are going to reject clearly the House
Blueprint, which would give over 99 percent of the benefits to
the wealthiest Americans. And by the way, in looking at how
Michigan ranks, Mr. Chairman, we are at the bottom, totally at
the bottom on that one. So as far as I am concerned, throw that
one out.
President Trump's plan at this point gives the top 1
percent a tax cut, each person, of over $270,000 a year. So
that does not work for me, for Michigan middle-class families
either, and it would increase the deficit by $3.5 trillion.
So I am hopeful what we are going to do is work together on
a bipartisan basis to actually focus this on middle-class
families, on small businesses where, frankly, the majority of
jobs are being created, and that we are going to learn from
what happened in the past, what did not work and what did work,
and that we will build on what has grown the economy and jobs
in the past.
I wanted to ask, Ms. Batchelder, when we look at tax
reform, what lessons can we take from other efforts, early
2000s with the Bush tax cuts and before that with President
Bill Clinton and those efforts as well? When we look at
differences in approaches, what can we learn in terms of making
sure that the benefits of tax reform go to working families and
small businesses?
Ms. Batchelder. Thank you for the question, Senator.
I guess one thing that I would say one could learn, if you
go back especially to the 1986 act, is the importance of
working on a bipartisan basis. Tax reform is more likely to
endure if it is passed on a bipartisan basis and done in a very
transparent way.
Back when I was working for the committee, I spent a lot of
time working on tax reform. We put out lots of option papers.
We put out discussion drafts. Tax reform is really complicated
and there can be lots of pitfalls if you do not put out
legislative language well in advance and let the public comment
on it, point out problems with it, point out unintentional
loopholes.
So I think the first thing would be to have a bipartisan
and transparent process.
The second would be to look very carefully at the revenue
and distributional effects. Thankfully, with the advent of
computing and all sorts of things, we have a much better sense
of that than we did back in 1986. The Joint Committee on
Taxation does excellent work on estimating the effects of tax
bills, but I think it is really important, before any votes are
taken, to know the budget consequences, both within and outside
the budget window, and to know the distributional consequences
within and possibly outside the budget window.
Really, the way you can tell whether the middle class is
benefitting is when you look at those tables that they do that
say what is their percentage change in after-tax income.
Senator Stabenow. I agree with that. Also, I agree with the
openness and transparency and bipartisanship of the 1986
reforms.
One of the successes was that it helped to ensure that the
wealthiest were paying their fair share and gave a tax break to
middle-class folks and folks working hard to get into the
middle class.
I am hopeful that that will be the path and that we will
focus on those things and not trickle-down economics that just
has not worked, has not put money in the pockets of the
majority of people in Michigan, that is for sure.
One other quick thing, and that is tax reform as it relates
to closing loopholes. I am concerned about not creating new
ones that individuals can abuse.
I know my time is about out. So I will just ask, Ms.
Batchelder, how can we help ensure that we are closing
loopholes rather than seeing new ones?
Ms. Batchelder. The most important thing I would flag in
the brief time I have is the proposal to create a rate cap on
pass-through business income, which would be a giant new
loophole in the tax code and would really go in the opposite
direction of what I would hope happens in tax reform.
The estimates are that it would cost a huge amount, about
$2 trillion, and 30 percent to 50 percent of that would be
people avoiding taxes, because it would create huge incentives
for people to characterize their labor income as pass-through
business income. And really it would be the sophisticated
taxpayers who can access fancy tax advice that would figure out
how to do that.
Furthermore, it would not benefit at all anybody who was in
the 25-percent bracket or below or the 15-percent bracket and
below under the President's plan and the House Republican
Blueprint, in that 95 percent of taxpayers are in the 25-
percent bracket or below.
So it would not benefit small businesses. It would really
benefit the wealthy who are able to game the system.
Senator Stabenow. Thank you, Mr. Chairman.
The Chairman. Senator Toomey?
Senator Toomey. Thanks, Mr. Chairman.
I just want to touch on an area that I think we have
established there is universal agreement on and then make a
point where I think, evidently, there is a lot of disagreement.
I think we have all agreed that we would like for tax
reform to provide tax relief for working-class and middle-
income families, and I certainly agree with that.
I do not agree that we have to systematically exclude the
people who are very productive, successful, and pay a
disproportionate amount of the taxes in this country.
I will just give a couple of statistics that it is
politically incorrect to mention, but I will mention them
anyway. The fact is, the top 10 percent of income earners earn
47 percent of the income in America and pay 71 percent of all
the taxes. The top 1 percent make about 20 percent of the
income and pay 40 percent of all the income taxes that are
paid.
In my view, we ought to have a very pro-growth tax code
that is going to encourage an economic expansion, and if, along
the way, a relatively wealthy person manages to benefit from
that, I, for one, am not going to lose any sleep at all.
We have an extremely progressive tax code, and it is going
to remain a very progressive tax code. I hope we focus on
creating more wealth for everybody rather than who must we
insist on not being able to benefit from this.
I want to ask Mr. Brill a question about itemized
deductions. If I understand your testimony, you have made a
point that itemized deductions generally, and the State and
local tax deductions in particular, have some perhaps
unintended features.
They tend to be regressive in the sense that they
disproportionately benefit higher-income people; is that true?
Mr. Brill. Correct, yes.
Senator Toomey. Would it be fair to characterize your view
on these deductions as an indirect way in which States with
higher State and local taxes are subsidized by States with
lower State and local taxes indirectly through the Federal tax
code. Is that true?
Mr. Brill. That is true. It is certainly a subsidy to the
States that utilize those provisions.
Senator Toomey. And the effect of this, of course, all else
being equal, is it keeps Federal marginal rates higher than
they would otherwise be if we had a different treatment, a
lesser treatment on State and local tax deductibility. We would
be able, if we chose to, to use that to lower marginal rates.
Mr. Brill. Statutory rates could certainly be reduced if
the base was broadened.
Senator Toomey. Let us talk a little bit about the
different ways that we could go about lowering the tax burden.
I was interested in Mr. Ponnuru's testimony, and he makes a
persuasive case on a number of grounds for a Child Tax Credit,
and I am sympathetic to many of his arguments.
To his credit, I think, he did not argue that a consequence
of increasing the Child Tax Credit is an immediate expansion or
acceleration of economic growth. However, if you lower marginal
rates, you change incentives. You increase the incentives to
work, to save, to invest.
Is it your view that lowering marginal rates does have a
nearly immediate positive effect on changing incentives and,
therefore, encouraging economic growth?
Mr. Brill. I have a somewhat nuanced view, Senator.
Lowering effective tax rates, yes, will increase the incentives
to work and can increase the incentives to save and invest, for
sure.
It becomes a little bit trickier, just to be honest, when
you are simultaneously broadening the base and lowering the
statutory rates, how that affects these true effective marginal
tax rates.
My colleague, Alan Viard, and I wrote about this a few
years ago, that base broadening can sometimes neutralize some
of the positive effects of lower rates. That is not to say that
we should not do that. We can get efficiency gains that are
very important and powerful.
Senator Toomey. Would it be fair to say that some base
broadening could have a tendency to diminish economic growth,
while other base broadening would actually encourage it by
eliminating distortions?
Mr. Brill. Correct.
Senator Toomey. In the absence of base broadening--just
putting that aside for a moment, since that can have either
effect--lowering marginal rates by itself does tend to
accelerate economic growth by enhancing the incentive to
produce more goods and services.
Mr. Brill. Correct.
Senator Toomey. So as we weigh the various alternatives
available to us, one of the ways that we can be very confident
we would be encouraging a pickup in economic activity and, by
the way, all the related benefits, right--a higher standard of
living, higher wages working their way through the economy--we
can be very confident that lowering marginal rates has that
effect.
Mr. Brill. In isolation, lowering marginal rates will
encourage work, entrepreneurship, savings, and investments, for
sure.
Senator Toomey. Thank you. Thank you very much, Mr.
Chairman.
The Chairman. Senator Cantwell?
Senator Cantwell. Thank you, Mr. Chairman. Thank you and
the ranking member for holding this important hearing.
So many of your comments and, obviously, the comments of
many colleagues--there are lots of interesting things floating
around here today.
There is one thing I wanted to make sure that I was clear
on in the President's proposal about getting rid of State and
local tax deductions. We have fought for nearly 10 years and
finally got restored our ability to deduct our sales tax from
our Federal obligation, because we do not have an income tax.
So I hope the Senators from Florida and Nevada and Texas
will join me in saying that this idea of trying to get rid of
our State flexibility is dead, dead on arrival. I hope those
Senators from Florida and Nevada and Texas will help us say
that--obviously, our colleagues from other States too, but I am
talking about people who are members of this committee. That
would be so helpful.
Now, the ranking member and I come from a part of the
country that has probably two of the most unique tax codes in
the country, very different ways of raising revenue, and yet
our economies have grown faster than the national average, I
think every year since World War II.
So the notion that Oregon and Washington have very
different tax codes than the rest of the Nation, we are more
efficient in a lot of ways, and we deliver better growth is
something that people should look at.
So the notion that somebody wants to knock out, that the
President's proposal is primarily trying to get $1 trillion out
of getting rid of local deductions, I just think is
wrongheaded, and I hope our colleagues will join me in saying
so.
Secondly, we sent a letter to Democrats from this committee
and others about how we wanted to focus on better wages for the
middle class. I guess, Ms. Batchelder, I have question for you
on that.
I do want to point out and enter into the record, Mr.
Chairman, this article from The New York Times by Patricia
Cohen and Nelson Schwartz that basically economists see very
little magic in tax cuts to promote growth.
[The article appears in the appendix on p. 80.]
Senator Cantwell. Their point is, do not deficit-finance
tax cuts because you are not going to see the growth from that,
which is also the second point of our letter, which is, let us
not have issues of deficit just to give corporate rate cuts.
Now, from the State of Washington, I guarantee you I care
about corporate competitiveness from the perspective of an
Amazon, a Microsoft, a Boeing, an agricultural economy where 90
percent of our products are shipped overseas. I guarantee you I
care about that competitiveness. But I care in a transformative
economy where more change is happening, more dislocation is
happening, more skills need to be upgraded constantly. I care
about what we are going to do to raise the wages of the middle
class and grow the economy from the middle out.
Ms. Batchelder, I do not know if you can tell me, but one
of the things we are very interested in is making sure, because
corporations are investing one-half of what they did 20 years
ago in worker training, if you think that incentives to help us
retrain and reskill workers should be a priority?
Second, so many people have fallen off of the housing
affordability wrung. So the consequence is they have fewer--we
have a burgeoning level of unaffordability in America. So if we
want these people to be reskilled and retrained, we have to
have a house over their head.
So how much do we need to focus, if we want to grow the
economy from the middle out, on the kind of investment
structures that we need to put in for middle-class wages to
increase?
Ms. Batchelder. Thank you for that question. I think one of
the most important things that one can do to boost middle-class
wages and for lower-income families, as well, is expand the
Earned Income Tax Credit and the Child Tax Credit.
Those are both programs that have demonstrated effects not
just immediately on the incomes of such families, but also on
their kids for generations to come. There are strong outcomes
in terms of education, health, long-term earning.
There have been proposals to significantly expand the
Earned Income Tax Credit also for childless adults, as they are
so called, people who do not have dependents, who often have
relatively low labor force participation rates. And by
expanding that credit, you could encourage people to enter the
labor force or be able to work more.
This is actually a group--it is the only group that is
currently taxed into poverty. And you could also more
ambitiously consider expanding the EITC for families with
children as well, and that would be a way to offset the fact
that the take-home pay of middle-class families and lower-
income families has been growing much, much slower than the top
1 percent.
Senator Cantwell. What about job training and housing?
Ms. Batchelder. Job training, I think, could be worth
considering as part of education benefits as a whole. In
general, I tend to think that delivering tax benefits directly
to the people you want to benefit, i.e., the middle-class
family, more of that will accrue to them than if you do it
indirectly.
But I think that that is--education, including job training
and including certificate programs, is something that one could
look at as part of reforming education tax benefits.
Senator Cantwell. What about the unaffordability issue that
we are facing in America?
Ms. Batchelder. On housing?
Senator Cantwell. Yes. About increasing the Low-Income
Housing Tax Credit----
Ms. Batchelder. Absolutely, I think that is worth
considering.
Senator Cantwell. Thank you. Thank you, Mr. Chairman.
The Chairman. Thank you.
Senator Bennet?
Senator Bennet. Thank you, Mr. Chairman. I am very grateful
for your holding this hearing and the manner in which it has
been held.
Mr. Ponnuru, thank you for your work. The United States is
unusual among advanced economies in that we have millions of
children living in poverty in our country, some in families
that make only $2 a day in cash.
I wonder, in that context, what your view might be of
phasing the Child Tax Credit at a faster rate and from the
first dollar rather than where we do it today.
Mr. Ponnuru. I support that idea. As I note in my
testimony, the existing Child Tax Credit already lifts around 3
million people out of poverty, and an expanded Child Tax Credit
would have even more of such an effect, particularly if the
Child Tax Credit were made refundable against payroll taxes as
well as income taxes, and I would say both employer-side and
employee-side payroll taxes.
Such estimates as have been made of similar proposals
suggest that it would be a significant increase in after-tax
income for the bottom quintile of income earners and, for that
matter, for the
second-lowest quintile.
Senator Bennet. Let me ask you what your thoughts would be
about a universal Child Tax Credit of some sort that might
provide a monthly benefit to families in our country.
Part of the problem here we are trying to figure out is how
you deal with the fact that what you want people to be able to
do is work--everybody wants people to work--but when people are
living in poverty, it makes it that much harder.
Things like the cost of housing, as Ms. Batchelder
mentioned, the cost of transportation, the cost of child care,
the cost of health care, all of these things, when you have a
diminished income, are making it harder and harder for people
to get into the position we want them to be, which is
contributing to the economy.
I take it--and then I will stop--that the reason why you
support some of these ideas is that they are an efficient way
to distribute these benefits rather than building more
bureaucracies that might not get the eighth of the people that
you are trying to get it to. Your thoughts on that.
Mr. Ponnuru. I am sorry. Were you asking me about a
universal basic income or a universal child allowance?
Senator Bennet. A child allowance.
Mr. Ponnuru. Great. Thanks. I think that the expanded Child
Tax Credit is maybe a slightly more moderate version of the
same idea, but it does have the advantages that you are talking
about.
So many of the concerns that Senators have raised during
this hearing, from the affordability of housing to the
affordability of child care, the affordability of higher
education, these are things that families could use an expanded
Child Tax Credit to help finance, among many other reasons they
could use that money.
They could use that money to finance paid leave from
employment when a child is very young. But families have very
different needs, and I think it is a good idea to create this
flexibility where it is up to them to make the decisions as to
how to allocate that additional money.
Senator Bennet. Is there anybody else who would like to
comment on this?
Ms. Batchelder. Yes. If I could just chime in on the Child
Tax Credit. I do think it is very important to consider
increasing the refundability rates. Currently, one has to earn
$3,000 in order to get any Child Tax Credit, and then you sort
of get $0.15 on the dollar above that.
Senator Bennet. Right.
Ms. Batchelder. The result is that about 11 million
children are excluded who live in households with working
parents, and millions more whose parents in the current year
are not working.
So I applaud your proposal to expand that refundability and
reduce that threshold. There have been discussions of making
the Child Tax Credit refundable against payroll tax, and one
concern I have is that that would not actually benefit low-
income families much at all, because payroll tax is 15.3
percent and the current rate is 15 percent. So you would just
be giving a 0.3-percent bump.
I think it is important to really increase that rate at
which low-income families can earn the Child Tax Credit beyond
making it refundable against payroll taxes.
Mr. Brill. I would just note one unintended consequence in
making changes to this policy. If the Child Tax Credit is
limited, it phases out as an income exceeds a certain
threshold, I think $110,000 for married couples.
If the Child Tax Credit were to get larger, that phase-out,
which is an implicit tax, would affect more and more taxpayers.
It would be another matter that the committee would need to
wrestle with.
Senator Bennet. Thank you. I appreciate the testimony, Mr.
Chairman. I am sure other people's States are like mine. Even
in our State, where we see an economy that is really second-to-
none in the country, middle-class families and families living
in poverty are struggling with the costs of higher education,
as you pointed out, the costs of early childhood education--
which in our State actually costs more, on average, than higher
ed--housing, and health care.
Those four things are conspiring to make it impossible for
people to save or feel like they are putting their family in a
better position for the future. That is why I hope we can get
to bipartisan tax reform.
Thank you, Mr. Chairman.
The Chairman. Thank you.
Senator Portman?
Senator Portman. Thank you, Mr. Chairman. I want to thank
you and Senator Wyden for holding the hearing and for some
great testimony today from our former colleagues.
Alex was on the Ways and Means Committee with me, Lily here
on this committee, and we need your expertise. So thank you.
I guess following on to what Senator Bennet said, I think
that is what is so exciting about tax reform, and I think it
goes to, in my view, more the economic growth and the wage
improvement that is going to come from good tax reform, and it
is across the board.
If you look at Kevin Hassett's work--he is now the new
Chairman of the Council of Economic Advisers as of a couple of
days ago--and other studies that have been done, including by
AEI, corporate rates, if they are lowered and we have a more
competitive international system, will result primarily in wage
growth, wage and benefits.
CBO has a famous study on this from a while ago showing it
is 70 percent. Others have different numbers. But the point is,
that is about wages.
On the individual side, I think the same is true. If you
do, in fact, broaden the base, get rid of some of the
complexity of the code, and lower rates, I think it will have
the same benefit.
So to the extent we are concerned about what Senator Bennet
said, which I agree on, which is kind of the middle-class
squeeze, higher expenses on everything, especially health care
for most
middle-class families, and then flat wages, which is generally
true over the last couple of decades, this is, I think, the
single best thing to do.
In 2006, there was a study done by the Joint Committee that
found that a proposal that would expand the tax base while
lowering individual rates across the board by about 25 percent
would increase GDP up to 3.5 percent in the long run. That
increase in the second half of the budget window is about a
$2,500 to $5,000 increase in income for a family of four. That
is on the individual side.
So I think both on the individual side and the business
side, we have a great opportunity here.
I would just ask, Alex, because you talked about this some
in your testimony, in recent tax reform efforts, base
broadening and rate reduction have been coupled with, in
general, this doubling of the standard deduction. We talked a
lot about that today.
You talked about who benefits from itemizing and who does
not. But do you see any benefit in reducing the number of
taxpayers who have to itemize, just from a compliance point of
view, as well?
Mr. Brill. I do, Senator. Thank you for your question.
There are a number of benefits from reducing the number of
itemizers, including, in particular, the compliance costs
associated with itemizing, as well as this horizontal equity
issue that I described in my testimony, that taxpayers earning
similar incomes should ideally, I think, pay roughly similar
amounts of taxes.
Senator Portman. Two hundred and seventy three dollars is
the estimate that we have for people who itemize, who have to
have someone else prepare their tax return. So that is saving
some money right there just in compliance costs.
On Rothification, we talked about that earlier--Senator
Cardin talked about it, Senator Isakson; Lily, you answered it;
Alex, you answered it.
I think what we are missing, though, in terms of the back-
and-forth here is the effect on behavior. I understand the
timing issue. That has always frustrated me, and Ben Cardin and
I have struggled with this over the years. How do you help to
expand 401(k)s and IRAs and not pay the penalty for it?
Ultimately, that tax is paid--it is deferred--but not within
the 10-year window.
But with regard to Rothification, I just wanted to ask
you--and certainly you can tell I am concerned--do you think
that would create a disincentive to save? Because part of the
issue that I look at is, you do have the choice now of
Rothification and that is good, I am glad we have that choice,
which means that you do not get the tax benefit up front. You
do not get a deduction, and you take a risk what the tax rate
will be later when you have to pay it, whereas with the
traditional IRA or 401(k), you get a tax deduction.
I talked with some businesses this week that said the take-
up on the Roth is very low. We are talking less than 5 percent
of people taking it up.
So if we go to Rothification in order to make our numbers
look better, what is going to be the incentive to save? We have
a serious issue in our country right now of people not saving
enough. As the baby boomers begin to retire and are living
longer, would we not want to encourage savings, and are you
concerned about Rothification in that context?
Mr. Brill. I am. As Lily described earlier in her
testimony, there are circumstances where, in theory, it is a
wash. There are circumstances where it is not a wash, depending
on what your current tax rate is versus your future tax rate.
So you can write down--an accountant can write down why
these are either two neutral or equivalent policies, but what
matters is the real-world evidence. As you suggested, the take-
up rates for Roths are significantly lower, and I think there
is a fair amount of uncertainty about how a change--instead of
the choice that we have today, if that policy was mandated, in
some sense, as your savings operative vehicle--how that might
affect investment.
I, frankly, do not know what the effect is, and I think
that policymakers should be cautious.
Senator Portman. I think there are some studies being done
right now.
Lily, do you have a comment on that?
Ms. Batchelder. I think as a matter of theory, one could
argue it either way. It is possible it could increase savings.
There are also strong arguments, and I think you are raising
one, that it could decrease savings.
But I think this gets to the broader point that, if one
were to have such a dramatic change in retirement savings
policy, you would want to have a group like the Joint Committee
on Taxation estimate what the effects would be on take-up and
savings.
I think it also goes to the broader point that the single
biggest thing that influences people's likelihood to save is
whether they have access to an easy way to save through their
employer.
Personally, I would prioritize something like an auto-IRA
over this as a way to give people access to an easy way to save
at work.
Senator Portman. Thank you all. Thank you, Ramesh and Ms.
Harrington, for your testimony as well.
The Chairman. Thank you, Senator.
Let me just end this. I would like to ask a question of
Professor Batchelder. You express concerns about the potential
repeal of the, quote, ``head of household'' filing status as
part of tax reform.
I think you have raised some valid points. That said, I
have some concerns that the current ``head of household''
status may be causing significant taxpayer confusion and is
potentially prone to abuse.
An audit conducted by the IRS's National Research Program
for the 2009 to 2012 tax years indicates that 45 percent of the
individual tax returns claiming the ``head of household''
status erroneously claimed such status. That is, 45 percent of
returns filing as ``head of household'' were not entitled to
the tax benefit it affords.
Now, that is an alarmingly high error rate. Do you have any
suggestions on how this error could be addressed, and would it
be possible to make up for a lack of ``head of household''
status in other ways, such as through an increased Child Tax
Credit, for instance?
Ms. Batchelder. I am not familiar with that study. I find
it very surprising. So I would like to look at it and would be
happy to comment for the record on it. I think it is hard to
replicate the benefits of the ``head of household'' filing
status in general, because it is specifically for people who
are unmarried and who may be divorced, may have never married,
and have dependents.
So if you just increase, for example, the Child Tax Credit,
you would not be getting at the issue that sometimes there are
greater costs and difficulties associated with raising a child
on one's own rather than with one's partner.
But again, I am not familiar with that study. So I would
like to look at it before commenting.
The Chairman. Thank you. Senator?
Senator Wyden. Thank you very much, Mr. Chairman.
I just want to give a quick summation of where I think we
are and what's coming in the days ahead. First, Mr. Chairman, I
think you know how strongly I feel about working closely with
you. We have done that consistently and done it most recently
on CHIP. So I look forward to working with you.
Second, we have had a lot of constructive discussion here
today; obviously, some differences of opinion, but constructive
discussion. And I surely hope that they are listening to this
discussion up at the White House, because right now one of the
critical challenges is, up at the White House, there has been a
big gap between words and deeds.
Just yesterday the President said, ``Look, I am not going
to give big tax breaks to the wealthy.'' But as I have pointed
out today, Ms. Batchelder has pointed out today, the outline as
of today creates a new enormous loophole for the fortunate few
with respect to the pass-through issue, a real abuse of the
pass-through issue, which is supposed to benefit small
businesses.
We have gone through today, also, how as of now working
families would be hurt. They have been saying they would
correct that for months and months. I have asked them about it,
Mr. Mnuchin at these hearings--still not corrected. Big gap
between words and deeds.
Now, Democrats have laid out principles that I think are
very important. We have called for fiscal responsibility and a
process that is fair to all members, where they can offer their
ideas. It would be progressive, and we would not be sending
more relief to the 1 percent.
I want to, again, say this does not go as far as what the
late President Reagan did when he treated income from wages and
wealth the same in 1986.
Now obviously, times change, and 1986 and 2017 are very
different kinds of times. But traditional principles of
fairness and bipartisanship really do not change. Those are
principles for the ages. And this matter of being bipartisan is
especially important, and I think a couple of you may have
touched on it--I think we had Ms. Batchelder, several of you.
So it spans the ideological spectrum.
The reason you are bipartisan is really twofold. You need
both sides to stand together in terms of fighting off special
interests and making sure that both sides are committed to
getting rid of some of the junk that has gotten into the tax
code. An awful lot has, in almost 32 years.
In fact, in 1986, they were working on a tax climate that
was really 32 years before that. So it is almost like 32 years
is a magical number with respect to tax reform.
If it is not bipartisan, you will not have the certainty
and predictability that the country needs, because people will
just say, ``Hey, it was partisan. We will go back and just
change it when we take power.''
So, Mr. Chairman, I surely share that view.
I have written what are really the only two comprehensive,
bipartisan tax reform bills since that original one, most
recently with a member of the President's cabinet. Nothing
would be more satisfying and enjoyable, enjoyable
professionally, Mr. Chairman, than to work with you and all of
our colleagues, as we have said, toward building an updated tax
system that works for the days ahead rather than being a relic
of yesteryear.
We have laid out principles that we think help to do that
in a bipartisan way. Thank you for this hearing, and we will
look forward to working with you in the days ahead.
The Chairman. Thank you, Senator.
Let me just say this. Ms. Batchelder, you had proposed that
the tax code be made more progressive than it currently is. The
question that naturally arises for me is, at what point would
it be too progressive?
Once that point is crossed, what harms might come from
that? If we could just tax Bill Gates and all the rest of us
have nothing, then why not?
Do you care to take a crack at that?
Ms. Batchelder. Well, I certainly think there is a point
where the tax code could either be too progressive or too
targeted on just one or a handful of individuals, but I think
that we are very far from that point.
We have very vastly rising inequality in this country, and
the tax code could do a lot more to help mitigate that. So I do
not think anything that is on the potential drawing room table
right now is at risk of making the tax code too progressive.
I am sure if you proposed replacing the entire income tax
system with only taxing Bill Gates, I would think that was both
unfair and inefficient.
The Chairman. Mr. Brill, I would like you to weigh in on
that question, too, if you would.
Mr. Brill. Thank you, Senator. My personal view is, I think
it is appropriate and good that the tax system today is
progressive. However, I would caution against an approach that
says that every change to the tax code should itself be
progressive.
There are certain inefficiencies that rise as the
progressivity of the tax code increases. In particular, there
is evidence looking at entrepreneurship and that a progressive
rate structure where success is taxed at a higher rate than the
failures that are often associated with entrepreneurship, that
that convexity of the tax rate structure can discourage
entrepreneurship and economic growth.
In other words, I think it is appropriate and good that the
system is progressive, but we have to be careful at the limit.
The Chairman. Thank you.
Mr. Ponnuru, we will let you sum up here.
Mr. Ponnuru. I do think that there are concerns about
excessive progressivity, partly because it can sometimes lead
to a more volatile tax base. I think that that is something
that, for example, the State and local deduction tends to
reward on the part of the States, that encourages them to have
more progressive systems of taxation that are more volatile.
The Chairman. Thank you. I want to thank all four of you
for being here today. It has been an interesting hearing. I
think all of our people had a fairly reasonable chance to ask
the questions that are really bothering them.
Now, we just barely scratched the surface, I know, but to
the extent that you have contributed, as you have, it has been
a wonderful thing for us. So I appreciate all of you.
With that, we will recess until further notice.
[Whereupon, at 12:30 p.m., the hearing was concluded.]
A P P E N D I X
Additional Material Submitted for the Record
----------
Prepared Statement of Lily L. Batchelder,\1\ Professor of Law and
Public Policy, New York University School of Law
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\1\ I am grateful to Seth Hanlon, Chye-Ching Huang, David Kamin,
and Greg Leiserson for helpful comments, and Cameron Williamson for
excellent research assistance. All errors are my own.
---------------------------------------------------------------------------
Good morning, Mr. Chairman, Ranking Member Wyden, and members of
the committee. My name is Lily Batchelder, and I am a professor at NYU
School of Law. Thank you for the opportunity to testify before you
today on individual tax reform. It is a pleasure and honor to be back
with the committee.
There are three traditional goals of tax reform: greater equity,
efficiency, and simplicity. Sometimes these goals are in tension; at
other points, they can be furthered at the same time. In my view,
individual tax reform should focus on areas where we are farthest from
these goals, and where we can advance more than one simultaneously. My
testimony makes five main points:
The current tax reform effort is occurring at a time when low-
and middle-
income families are facing deep financial challenges. Economic
disparities in the United States are vast and have been widening for
decades. The United States also has one of the lowest levels of
economic mobility among our competitors. Our debt as a share of GDP is
projected to grow to unprecedented levels in coming decades, largely
because of the retirement of the Baby Boom generation and increasing
life expectancy. This growth in national debt will be a drag on
economic growth. For all these reasons, tax reform should increase
revenues and enhance progressivity. Doing so would boost economic
growth and make the tax code fairer at the same time. At a bare
minimum, tax reform should maintain the current level of revenues and
progressivity, which should be measured consistently and without resort
to budget gimmicks like a ``current policy'' baseline.
Individual tax reform should focus on leveling the playing field
for the next generation and supporting work. Doing so would blunt
economic inequality, broaden economic opportunity, and increase
efficiency and productivity by ensuring that jobs are awarded more
often based on effort and talent, and less often based on connections
and the luck of one's birth. Some worthwhile proposals that would
advance these goals are expanding the EITC, especially for workers
without dependents; increasing refundability of the child tax credit,
especially for young children in the poorest families; and
restructuring child care benefits so they provide the largest benefits
to families for whom child care costs impose the greatest budgetary
strain. These proposals could make significant headway in offsetting
the much lower earnings growth experienced by low- and
moderate-income families over the past few decades relative to those
who are more affluent. They should be paid for by raising taxes on the
most fortunate, including by strengthening, not repealing, wealth
transfer taxes.
Individual tax reform should also focus on reducing
transactional complexity, which arises from taxpayers reorganizing
their affairs to minimize taxes. Reducing transactional complexity
essentially involves eliminating opportunities for savvy taxpayers to
game the tax system and accomplishes the trifecta of tax reform: it
makes the tax code fairer, more efficient, and simpler. To further this
goal, Congress should consider proposals like rationalizing the NIIT
and SECA taxes so all labor and capital income are subject to the
Medicare tax on high incomes in some form, repealing stepped-up basis,
narrowing the gap between the tax rates on ordinary income and capital
gains, and taxing carried interest as ordinary income.
Individual tax reform should further seek to make tax incentives
more efficient and fair, generally by restructuring them into
refundable tax credits and leveraging empirical insights from
behavioral economics. Doing so could generate more social benefits at a
lower cost. One particularly fruitful area for reform is tax incentives
for retirement savings. By reducing tax benefits for the wealthy,
increasing them for low- and middle-income workers, and ensuring that
all workers have access to an easy way to save at their workplace
through automatic IRAs, Congress could increase retirement security for
millions of Americans while raising revenue at the same time.
Unfortunately the tax plans offered to date by President Trump
and the House GOP leadership move precisely in the opposite direction.
Both lose massive amounts of revenue. The corresponding increase in
debt would depress economic growth over time. They are also sharply
regressive, providing vast tax cuts to the wealthy and a pittance to
everyone else. They create a giant new loophole for the wealthy in the
form of a special rate cap on pass-through business income, which tax
experts on the left and right agree is a terrible idea. To the extent
that they include proposals intended to support low- and middle-income
households, they do so in relatively ineffective ways. Moreover, sooner
or later, these plans' massive tax cuts for the wealthy will have to be
paid for, and low- and middle-income families are likely to be left
footing the bill. I urge you to consider a fundamentally different
approach.
i. individual tax reform should enhance progressivity
and increase revenues
A. The Context of Tax Reform
The current tax reform effort is occurring at time when low- and
middle-income families are facing deep financial challenges. Economic
disparities in the United States are vast and have been widening for
decades. As illustrated in Figure 1, the top 1% earns more than 17% of
all market income.
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
Tax cuts and especially changes to direct spending programs have
played an important role in boosting the incomes for low- and middle-
income households over the past several decades. But the after-tax,
after-transfer income of the top 1% has still grown about four times
faster than it has for low- and middle-income households, as shown in
Figure 2. The situation is even worse for working-class households,
defined as those in which no one has a bachelor's degree. Real median
after-tax, after-transfer income for a working-class household of three
has only grown 3% since 1997.\2\
---------------------------------------------------------------------------
\2\ Chuck Marr, Brandon DeBot, and Emily Horton, ``How Tax Reform
Can Raise Working-Class Incomes,'' Center on Budget and Policy
Priorities (September 13, 2017).
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
These disparities might be justified if they purely reflected
people's efforts and choices. But the United States actually has one of
the lowest levels of intergenerational economic mobility among our
competitors. In the United States, a father on average passes on
roughly half of his economic advantage or disadvantage to his son.
Among our competitors, the comparable figure is less than one-third,
and for several it is one-fifth.\3\ This implies that, to an especially
large extent in the United States, economic disparities reflect the
luck of one's birth, not hard work.
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\3\ Miles Corak, ``Income Inequality, Equality of Opportunity, and
Intergenerational Mobility,'' 27 Journal of Economic Perspectives 3, 79
(2013).
Compounding these challenges, our national debt as a share of GDP
is projected to grow to unprecedented levels in the coming decades, as
shown in Figure 3. This is largely due to the retirement of the Baby
Boom generation and increasing life expectancy--not policy choices.
These demographic trends increase Medicare, Medicaid, and Social
Security costs, contribute to health-care costs rising more rapidly
than inflation, and reduce the proportion of the population that
---------------------------------------------------------------------------
contributes to the trust funds for these programs.
The solution will need to involve more revenues. As groups ranging
from the National Academy of Sciences \4\ to the Bipartisan Policy
Center \5\ to the American Enterprise Institute \6\ have concluded,
revenues will need to rise as a share of GDP and increase relative to
current law. The later we act to stabilize our long-term fiscal
outlook, the larger the costs will be, and the more likely it is that
we will partially renege on fundamental commitments to low- and middle-
income workers in their retirement through cuts to Social Security,
Medicare, or Medicaid law.\7\
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\4\ National Research Council and National Academy of Public
Administration, Choosing the Nation's Fiscal Future (2010); ``Setting
and Meeting an Appropriate Target for Fiscal Sustainability: Hearing
Before the Senate Committee on the Budget,'' 111th Congress (February
11, 2010) (statement of Rudolph G. Penner, Institute Fellow, Urban
Institute).
\5\ Bipartisan Policy Center, ``A Bipartisan Approach to America's
Fiscal Future'' (2015), http://www.pgpf.org/sites/default/files/
05122015_solutionsinitiative3_bpc.pdf.
\6\ Joseph Antos, Andrew Biggs, Alex Brill, and Alan Viard, ``A
Balanced Plan for Fiscal Stability and Economic Growth,'' American
Enterprise Institute (2015), http://www.pgpf.org/sites/default/files/
05122015_solutionsinitiative3_aei.pdf.
\7\ For further discussion of these issues, see Paul N. Van de
Water, ``Federal Spending and Revenues Will Need to Grow in Coming
Years, Not Shrink,'' Center on Budget and Policy Priorities (September
6, 2017).
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
For all these reasons, I believe tax reform should enhance
progressivity and increase revenues. Doing so would make the tax code
fairer and boost economic growth at the same time. JCT and CBO have
estimated that deficit-financed individual income tax cuts, including
those disproportionately benefiting the wealthy, reduce growth by
driving up private borrowing costs in the long-term.\8\ This implies
that progressive, revenue-enhancing reforms would increase economic
growth. In addition, such reforms would strengthen the tax code's
ability to automatically stabilize the economy in recessions,
potentially shortening downturns and mitigating their negative long-
term effects on the economy.\9\
---------------------------------------------------------------------------
\8\ Congressional Budget Office, ``The Economic Outlook and Fiscal
Policy Choices,'' Hearing before the Senate Committee on the Budget,
111th Congress 8 (2010) (statement of Douglas W. Elmendorf, Director,
Congressional Budget Office); Joint Committee on Taxation,
``Macroeconomic Analysis of Various Proposals to Provide $500 Billion
in Tax Relief'' (March 1, 2005), http://www.jct.gov/x-4-05.pdf.
\9\ For discussions of the macroeconomic benefits of progressive
taxes as automatic stabilizers, see Lily L. Batchelder, Fred T.
Goldberg, Jr., and Peter R. Orszag, ``Efficiency and Tax Incentives:
The Case for Refundable Tax Credits,'' 59 Stan. L. Rev. 23 (2006); Yair
Listokin, ``Stabilizing the Economy Through the Income Tax Code,'' Tax
Notes (June 29, 2009); Douglas W. Elmendorf and Jason Furman, ``If,
When, How: A Primer on Fiscal Stimulus'' (The Hamilton Project, January
2008).
At a bare minimum, individual tax reform should do no harm: it
should at least maintain the level of revenues and progressivity under
current law. Revenue and distributional neutrality were the shared,
bipartisan premises of the last major tax reform in 1986, and they are
all the more critical basic standards today for the reasons laid out
above.
B. The Importance of Accurately Measuring Revenues and Progressivity
In determining whether tax reform maintains or increases revenues,
it is critical that revenues are measured consistently and without
resorting to budget gimmicks. This means first and foremost that
revenues should be measured relative to current law, not so-called
``current policy.''
At the end of 2015, Congress deliberately allowed many of the ``tax
extender'' provisions to expire while making others permanent. The
largest provision set to expire--bonus depreciation--was expressly
intended as a temporary, stimulative policy when originally enacted.
Some have suggested adopting a current policy baseline for tax
reform. Such a baseline would assume that all of these tax cuts
currently set to expire--and potentially a host or provisions that have
already expired--are actually permanent law, even though making them
permanent would cost as much as $450 billion over the next decade, as
illustrated in Figure 4.\10\ As a result, a bill that cuts taxes by
$450 billion could be treated as not cutting taxes at all. Adopting a
current policy baseline for budget scoring purposes would be set a
terrible precedent and would fundamentally undermine our system of
budget enforcement.
---------------------------------------------------------------------------
\10\ Congressional Budget Office, ``Detailed Revenue Projections''
(June 2017), https://www.cbo.
gov/about/products/budget-economic-data#7.
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
The problem with a current policy baseline is not strictly with
treating temporary changes as permanent, but with doing so
inconsistently.\11\ To be sure, when some expiring spending programs
are extended, their extension is treated as having no budgetary effect.
But this is done consistently. Such a program is only treated as
permanent in the baseline, and therefore having no budgetary effect
when extended, if it was treated as permanent for budget scoring
purposes when first enacted.
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\11\ For further discussion, see David Kamin and Rebecca Kysar,
``All About That Base(line)'' (September 1, 2017) (working paper).
In contrast, Congress has traditionally applied a ``current law
baseline'' when determining the budgetary effects of tax changes. When
the tax extenders in place today were first enacted (or were extended),
they were not treated as permanent tax cuts for budget scoring
purposes. As a result, it would be fundamentally inconsistent to assume
that making them permanent now has no budgetary cost. In fact, there is
now some talk of both using a current policy baseline, which assumes
that existing temporary provisions are permanent, and then scoring new
temporary tax cuts as temporary all in the same bill--the ultimate
fiscal shell game. By this logic, Congress could repeal all Federal
taxes for 2018 only and estimate the cost at the roughly $3.6 trillion
the Federal Government is expected to raise in 2018, using the current
law baseline it has traditionally used for tax legislation. Then, in
2018, Congress could permanently repeal all Federal taxes and, if the
Budget Committee chair declared that Congress was shifting to a current
policy baseline for tax purposes, the permanent elimination of all
Federal taxes would be treated as having no budgetary effects
---------------------------------------------------------------------------
whatsoever.
In determining the revenue effects of tax reform legislation, it is
also critical for Congress to avoid timing gimmicks. To be sure, there
are reasonable policy changes that have bigger or smaller budgetary
effects within the budget window than they do outside it. But such
changes should be enacted because they are substantive policy
improvements, not as pretext to hide the cost of tax cuts. Congress
should therefore be careful to consider the revenue effects both inside
and outside the budget window.
In this respect, the Byrd rule serves as an important backstop. It
provides that any tax legislation enacted through the reconciliation
process (thereby avoiding a filibuster) cannot increase deficits in any
year outside the budget window. But it is also important that any tax
bill increases, or at a bare minimum maintains, the current law level
of revenues within the budget window. The Byrd rule does not cover
deficit increases within the budget window, but the Senate's ``pay-go''
rule does, and that rule should not be discarded to allow for deficit-
increasing tax cuts.\12\
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\12\ See, e.g., Alan Cohen, ``The Potential Impact of PAYGO Rules
on Tax Legislation,'' Center for American Progress (August 28, 2017),
https://www.americanprogress.org/issues/economy/reports/2017/08/28/
437873/potential-impact-paygo-rules-tax-legislation/.
In addition, tax reform legislation should respect the underlying
intent of the Byrd rule (and the reconciliation process itself), which
was to reduce deficits, not increase them. This is yet another argument
for continuing to use a current law baseline for tax purposes. It also
means that if any bill includes provisions that raise more revenue
within the budget window than outside it (such as the mandatory
``Rothification'' of all future contributions to retirement plans), the
Senate should be absolutely sure to secure estimates of the revenue
effects of the bill outside the budget window before voting. Such out-
year estimates are necessary to ensure that any such bill complies with
---------------------------------------------------------------------------
both the letter and spirit of the Byrd rule.
Turning to progressivity, there is broad agreement among tax
experts that changes in progressivity should be measured by looking at
the percent change in after-tax income for different income groups.\13\
The progressivity measure should also incorporate all Federal taxes,
including the corporate income tax and wealth transfer taxes, and
should distribute those taxes in line with the methodology adopted by
the nonpartisan career staff at JCT, CBO and the Treasury Department.
In this regard, recent suggestions that corporate income tax cuts
should be distributed in a dramatically different manner from the
consensus approach of these nonpartisan professionals are deeply
disturbing.\14\
---------------------------------------------------------------------------
\13\ See, e.g., Scott Greenberg, ``Distributional Effects Should Be
Measured in Percentages, Not Dollars,'' Tax Foundation (November 5,
2015), https://taxfoundation.org/distributional-effects-should-be-
measured-percentages-not-dollars/. For a detailed explanation of why
this is the best measure of tax progressivity, see David Kamin, ``What
is a Progressive Tax Change?: Unmasking Hidden Values in Distributional
Debates,'' 83 NYU L. Rev. 241 (2008).
\14\ Richard Rubin, ``Who Ultimately Pays for Corporate Taxes? The
Answer May Color the Republican Overhaul,'' Wall Street Journal (August
8, 2017).
One alternative measure of progressivity that is particularly
misleading is the percent change in tax liabilities. This measure makes
regressive tax cuts look like progressive cuts. For example, it implies
that if a minimum wage worker sees her income tax liability fall from
$100 to $49, she is receiving a larger tax cut than a millionaire whose
tax liability is cut from $200,000 to $100,000. Conversely, it is also
misleading to look only at dollar changes in tax liability because this
measure can make a progressive tax cut look like a regressive one. For
example, it implies that if a family earning $25,000 receives a $1,000
tax cut and a family earning $1 million receives a $1,001 tax cut, this
---------------------------------------------------------------------------
is a regressive tax change.
Continuing to use a current law baseline is also critical for
measuring whether tax legislation maintains or increases progressivity.
The tax cuts that have recently expired or are slated to expire
disproportionately benefit the wealthy. They are mostly corporate tax
cuts, and on average, they provide three times as large a tax cut for
the top 1% as they do for the bottom four quintiles, when the tax cut
is measured as a share of after-tax income.\15\ Thus, assuming that
these expired and expiring provisions are already permanent would
involve assuming that the tax code is currently less progressive than
it actually is.
---------------------------------------------------------------------------
\15\ Chye-Ching Huang and Brandon DeBot, `` `Current Policy'
Baseline Would Hide $439 Billion in Tax Cuts Worth at Least $40,000 a
Year for the Top 0.1 Percent,'' Center on Budget and Policy Priorities
(August 16, 2017).
If Congress increases or, at a bare minimum, maintains the current
level of revenues and progressivity as defined here, any tax reform
legislation will abide by the so-called Mnuchin principle, which I
fully support. Treasury Secretary Steve Mnuchin has stated several
times that ``there will be no absolute tax cut for the upper class . .
. any tax cuts we have for the upper class will be offset by less
deductions that pay for it.''\16\ In light of mounting inequality and
deficits, tax reform should not provide a net tax cut to the wealthy.
Instead, it should increase taxes on the wealthy and use some of the
revenues raised for deficit reduction and some to boost the take-home
pay of those who are less fortunate.
---------------------------------------------------------------------------
\16\ Squawk Box (CNBC television broadcast, November 30, 2016),
http://www.cnbc.com/2016/11/30/cnbc-transcript-steven-mnuchin-and-
wilbur-ross-speak-with-cnbcs-squawk-box-today.html. See also Tucker
Carlson Tonight (Fox News television broadcast, April 26, 2017), http:/
/www.foxnews.com/politics/2017/04/26/mnuchin-trumps-tax-plan-is-middle-
income-tax-cut.ht
ml.
---------------------------------------------------------------------------
C. Proposals to Date by the President and House Republicans Go in the
Wrong
Direction
Unfortunately the proposals offered to date by President Trump and
the House Republican Blueprint \17\ move exactly in the wrong direction
on revenues and progressivity. Both lose vast amounts of revenue. The
Tax Policy Center has estimated that the President's most recent plan
would lose at least $3.5 trillion over 10 years,\18\ and that earlier,
more detailed versions of his plan would lose $6.2 trillion.\19\ Just
last month, the President said that he plans to enact the ``biggest tax
cut in the history of our country.'' \20\ The House GOP Blueprint would
lose $3.1 trillion over 10 years.\21\
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\17\ ``A Better Way: Tax Reform Task Force Report'' 25-26 (June 24,
2016), http://abetterway.
speaker.gov/_assets/pdf/ABetterWay-Tax-PolicyPaper.pdf.
\18\ TPC Staff, ``The Implications of What We Know and Don't Know
About President Trump's Tax Plan,'' Tax Policy Center (July 12, 2017).
\19\ Jim Nunns et al., ``An Analysis of Donald Trump's Revised Tax
Plan,'' Tax Policy Center (October 18, 2016).
\20\ Blair Guild, ``Trump Lashes out During Combative Speech at
Campaign-Style Rally in Phoenix,'' CBS News (August 22, 2017), https://
www.cbsnews.com/news/trump-holds-make-america-great-again-rally-in-
phoenix/.
\21\ Benjamin R. Page, ``Dynamic Analysis of the House GOP Tax
Plan: An Update'' (June 30, 2017).
Because of these massive revenue losses and the corresponding
increase in deficits, the Tax Policy Center estimates that both plans
would depress economic growth over time.\22\ While JCT and CBO have not
released estimates of either plan, their prior estimates imply that
they would also find that both plans would reduce long-term economic
growth.\23\
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\22\ Id. (estimating that the House GOP Blueprint would reduce GDP
by 1% to 2.6% by 2036); TPC Staff, ``The Implications of What We Know
and Don't Know about President Trump's Tax Plan,'' Tax Policy Center
(July 12, 2017).
\23\ See Congressional Budget Office, ``The Economic Outlook and
Fiscal Policy Choices,'' Hearing before the Senate Committee on the
Budget, 111th Congress 8 (2010) (statement of Douglas W. Elmendorf,
Director, Congressional Budget Office); Joint Committee on Taxation,
``Macroeconomic Analysis of Various Proposals to Provide $500 Billion
in Tax Relief'' (March 1, 2005).
In addition, both plans are sharply regressive. Directly
contradicting the Mnuchin principle, on average they provide massive
tax cuts to the wealthiest Americans, including those who inherit vast
sums of money, while providing a relative pittance to everyone else, as
shown in Figure 5. The top 1% receives an average tax cut of 12-13% of
their income under both plans, while the bottom four quintiles only
receive average tax cuts of 0-2% of their after-tax income. Overall,
the top 1% receives about half of the value of the tax cuts under the
most recent Trump plan, and about three-quarters of the tax cuts under
the House GOP Blueprint.\24\
---------------------------------------------------------------------------
\24\ Tax Policy Center, ``T17-0192: Distributional Effects of
Proposals Related to the Trump Administration's 2017 Tax Plan; Tax Cut
and Possible Revenue Raising Provisions, by Expanded Cash Income
Percentile, 2018,'' Tax Policy Center (July 12, 2017), http://www.
taxpolicycenter.org/model-estimates/proposals-related-trump-
administrations-2017-tax-plan-july-2017/t17-0192; Burman et al., ``An
Analysis of the House GOP Tax Plan,'' Columbia Journal of Tax Law
(2017).
Sooner or later, these massive tax cuts for the wealthy will have
to be paid for, and low- and middle-income families are likely going to
be left paying the tab. As illustrated in Figure 6, if the President's
plan were eventually paid for by tax increases or spending cuts that
were proportionate to income, 82% of households would be worse off--but
not the most affluent.\25\ And this outcome is probably less regressive
than it would be if the tax cuts were paid for, either now or in the
future, with the types of budget cuts called for in President Trump's
and the House Budget Committee's budgets.
---------------------------------------------------------------------------
\25\ William Gale et al., ``Cutting Taxes and Making Future
Americans Pay for It: How Trump's Tax Cuts Could Hurt Many
Households,'' Tax Policy Center (August 15, 2017).
[GRAPHICS NOT AVAILABLE IN TIFF FORMAT]
Another possibility is that low- and middle income families will
actually see their taxes immediately go up as part of tax reform,
paying for tax cuts for the wealthy right away. Indeed, the Tax Policy
Center estimates that an astonishing 45% of families with children--and
70% of single parents--would see their taxes go up in 2018 under the
President's most recent tax plan, as summarized in Figure 7.\26\ This
is all the more stunning when one considers that his plan reduces
revenues by about $3.5 trillion, and that he has had numerous
opportunities to address these tax increases as his tax plan has
evolved but has not even bothered.
---------------------------------------------------------------------------
\26\ Tax Policy Center, ``T17-0192: Distributional Effects of
Proposals Related to the Trump Administration's 2017 Tax Plan; Tax Cut
and Possible Revenue Raising Provisions, by Expanded Cash Income
Percentile, 2018,'' Tax Policy Center (July 12, 2017). This is largely
due to his proposals to repeal personal exemptions and head of
household filing status, and also because of the ways in which he
proposes to consolidate the tax brackets. Using a slightly different
methodology and focusing on his 2016 tax plan, I previously estimated
that 21-28% of families with children and 51-61% of single parents
would face a tax increase under the President's plan. Lily L.
Batchelder, ``Families Facing Tax Increases Under Trump's Tax Plan,''
Tax Policy Center (October 28, 2016).
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
The President and House GOP leadership have said that they intend
for their tax plans to focus their benefits on middle-class families
and, at times, that their tax plans will be revenue-neutral.\27\ I very
much hope this is the case. But it is deeply concerning that thus far
they have proposed very specific and massive tax cuts for the wealthy,
while being quite non-specific about how they would pay for these tax
cuts or meaningfully invest in the middle class.
---------------------------------------------------------------------------
\27\ See, e.g., Donald Trump, ``The Inaugural Address,'' The White
House, January 20, 2017, https://www.whitehouse.gov/inaugural-address
(``Every decision on . . . taxes . . . will be made to benefit American
workers and American families.''); Luca Gattoni-Celli, ``Mnuchin
Reaffirms Support for Revenue-Neutral Tax Reform,'' Tax Notes (June 14,
2017); Naomi Jagoda, ``Brady Makes the Case for Revenue-Neutral Tax
Reform,'' The Hill (January 25, 2017).
---------------------------------------------------------------------------
D. Better Approaches
In contrast to the plans offered to date by President Trump and the
House GOP Blueprint, I urge the committee to consider raising more
revenue through individual tax reform by increasing effective tax rates
on the wealthy, including by adopting the revenue raising proposals
discussed below.
Any tax cuts that are part of individual tax reform should be
focused on low- and middle income households, and should therefore
generally be structured as refundable tax credits. Cutting tax rates or
increasing deductions and exemptions tends to disproportionately
benefit the wealthy. This is because the value of a deduction or
exemption is the amount deducted times the taxpayer's marginal tax
rate, which tends to rise with income. This is also true of proposals
to raise the income thresholds for the tax brackets--the value is the
amount of the increase in the threshold times the taxpayer's marginal
tax rate. Only a refundable tax credit de-links tax benefits from a
household's marginal tax rate.
As an example of the problem with deductions and raising the
thresholds for tax brackets, consider the proposal to substantially
increase the standard deduction by President Trump and the House GOP
leadership. Both have promoted this proposal as a core element of their
plan for low- and moderate-income households.\28\ But it is much less
valuable for such households than a refundable credit of equivalent
cost. Increasing the standard deduction is worth nothing to the 35% of
households who already fall in the zero bracket (i.e., their income is
less than the standard deduction and personal exemptions).\29\ Among
non-itemizers with income above the zero bracket, it is worth more to
those in higher brackets, who tend to be higher income. To be sure,
increasing the standard deduction also provides no benefit to
households whose itemized deductions exceed the new, larger standard
deduction, and these families tend to be wealthier. But the point
remains that increasing the standard deduction is a poorly designed way
to support low- and middle-income households, and provides little or no
benefit to those who are financially struggling the most.
---------------------------------------------------------------------------
\28\ See, e.g., Office of the Press Secretary, Remarks by President
Trump on Tax Reform (September 6, 2017), https://www.whitehouse.gov/
the-press-office/2017/09/06/remarks-president-trump-tax-reform (``[W]e
will provide tax relief to middle-income families through a combination
of benefits, such as raising their standard deduction . . .'').
\29\ Tax Policy Center, ``T16-0085: Number of Tax Units by Tax
Bracket and Filing Status,'' Tax Policy Center (July 6, 2016), http://
www.taxpolicycenter.org/model-estimates/baseline-distribution-tax-
units-tax-bracket-july-2016/t16-0085-number-tax-units-tax.
---------------------------------------------------------------------------
ii. individual tax reform should seek to level the
playing field and support work
In addition to increasing revenues and progressivity, individual
tax reform should focus on leveling the playing field for future
generations and supporting work. Doing so would blunt economic
inequality, broaden economic opportunity, and increase productivity by
ensuring that jobs are awarded more often based on effort and talent,
and less often based connections and the luck of one's birth. Reforms
advancing these goals would make the tax code fairer and more efficient
simultaneously. They could also be structured in ways that are
relatively simple.
A. The First Goal: Do No Harm
The first goal in this area should be to do no harm. Unfortunately,
once again the proposals offered by President Trump and the House GOP
Blueprint to date move in precisely the wrong direction. As discussed,
their plans are sharply regressive. This means that they not only will
exacerbate growing economic disparities, but also will probably reduce
intergenerational economic mobility over time. Lower levels of income
inequality are generally correlated with higher levels of
intergenerational economic mobility.\30\ Put differently, if tax reform
raises taxes on the wealthy and uses part of the revenues raised to
boost the living standards of low- and middle-income families, this
doesn't just benefit such families now. It also means that their
children are likely to do better because their economic success will be
less heavily impacted by the economic status of their parents.
---------------------------------------------------------------------------
\30\ Corak, supra note 3; Raj Chetty, et al., ``Is the United
States Still a Land of Opportunity? Recent Trends in Intergenerational
Mobility'' 11 (National Bureau of Economic Research, Working Paper No.
19844, 2014).
In addition to substantially reducing tax progressivity, both plans
counterproductively repeal wealth transfer taxes, including the estate
tax, when such taxes are actually one of the most important features of
the tax system for making the economic playing field somewhat more
level.\31\ As discussed, the United States has one of the highest
levels of opportunity inequality among our competitors. The enormous
inequality of financial inheritances worsens this inequality of life
chances dramatically. Indeed, 30% of the correlation between parent and
child incomes--and more than 50% of the correlation between the wealth
of parents and their children--is attributable to financial
inheritances.\32\ This is far more than the impact of IQ, personality,
and schooling combined. In short, when researchers have tried to boil
down inequality of opportunity to one factor, it is about financial
inheritances.
---------------------------------------------------------------------------
\31\ This discussion of wealth transfer taxes draws on Lily L.
Batchelder, ``What Should Society Expect From Heirs? The Case for a
Comprehensive Inheritance Tax,'' 63 Tax Law Review 1 (2009); Lily L.
Batchelder, ``The `Silver Spoon' Tax: How to Strengthen Wealth Transfer
Taxation,'' in Delivering Equitable Growth: Strategies for the Next
Administration (Washington Center for Equitable Growth, 2016); and Lily
L. Batchelder, ``Fixing the Estate Tax,'' 43 Democracy (Winter, 2017).
\32\ Samuel Bowles, Herbert Gintis, and Melissa Osborne Groves,
Introduction to Unequal Chances: Family Background and Economic Success
18-19 (2005) (finding that financial inheritances account for 30% of
the parent-child income correlation, while parent and child IQ,
schooling, and personality combined account for only 18%); Adrian
Adermon, Mikael Lindahl, and Daniel Waldenstrom, ``Intergenerational
Wealth Mobility and the Role of Inheritance: Evidence From Multiple
Generations'' (July 26, 2016) (working paper) (finding that bequests
and gifts account for at least 50% of the parent-child wealth
correlation, while earnings and education account for only 25%).
If financial inheritances drive economic opportunity this much, one
would think the tax code would try to soften their effects. Instead, on
average, we actually tax inheritances at only about one-quarter of the
rate at which we tax income from work and savings, as summarized in
Figure 8. If a wealthy individual bequeaths assets with $100 million
unrealized gains, neither that individual nor his heirs ever have to
pay income or payroll tax on that $100 million gain due to stepped-up
basis. In addition, the recipients of such large inheritances never
have to pay income or payroll tax on the total amount they inherit,
whether attributable to unrealized gains or not. The only taxes that
such lucky heirs may bear are wealth transfer taxes, which experts on
the both sides of the aisle agree are largely borne by the heirs of
large estates, not the decedent.\33\
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\33\ See, e.g., N. Gregory Mankiw, Remarks at the National Bureau
of Economic Research Tax Policy and the Economy Meeting from Council of
Economic Advisers (November 4, 2003) (``As a first approximation, it
would make more sense to distribute the burden of the tax to the
estate's beneficiaries rather than to the decedent''). For an
explanation of why this is the case, see Lily L. Batchelder and
Surachai Khitatrakun, ``Dead or Alive: An Investigation of the
Incidence of Estate Taxes and Inheritance Taxes'' (2008) (working
paper).
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
Wealth transfer taxes are not only essential to leveling the
playing field, but they are also the most progressive component of the
Federal tax system. Currently they only apply to the top 0.2% of
estates \34\ because the exemption is extremely high: $11 million per
couple in 2017, and probably more than $16 million if a couple takes
full advantage of the annual gift exclusion,\35\ not to mention other
planning opportunities. Contrary to the talking points of estate tax
opponents, neither the American Farm Bureau nor The New York Times have
been able to identify a single case of a farm actually being sold to
pay the estate tax, even when the exemption was one-sixteenth of the
current level and the rate was 55%.\36\ The estate tax also has strong
positive effects on charitable giving. When the estate tax was repealed
for 1 year in 2010, charitable bequests fell by 37%.\37\ Moreover,
repeal would cost $270 billion over 10 years, further jeopardizing our
long-term fiscal outlook.\38\
---------------------------------------------------------------------------
\34\ Joint Committee on Taxation, ``History, Present Law, and
Analysis of the Federal Wealth Transfer Tax System'' (March 16, 2015),
https://www.jct.gov/publications.html?func=
startdown&id=4744.
\35\ This assumes that a couple makes annual gifts equal to the
annual exclusion for 50 years, the annual exclusion is constant
(although it is actually inflation-adjusted), and the interest rate is
5%.
\36\ David Cay Johnston, ``Talk of Lost Farms Reflects Muddle of
Estate Tax Debate,'' The New York Times (April 8, 2001).
\37\ Sahil Kapur, ``GOP Plan to Kill Estate Tax Sets Up Charitable
Giving Conflict,'' Bloomberg (August 25, 2017). This is consistent with
estimates that permanent estate tax repeal would reduce charitable
bequests (which represent 8% of all charitable giving) by 22-37%. Jon
M. Bakija and William G. Gale, ``Effects of Estate Tax Reform on
Charitable Giving,'' Tax Policy Center (July 2003).
\38\ Joint Committee on Taxation, ``Description of an Amendment in
the Nature of a Substitute to the Provisions of H.R. 1105, The Death
Tax Repeal Act of 2015'' (March 24, 2015), https://www.jct.gov/
publications.html?func=startdown&id=4761.
By dramatically cutting taxes for the most affluent and repealing
wealth transfer taxes, the plans advanced by President Trump and the
House GOP Blueprint therefore fail to level the playing field at the
top, instead magnifying the advantages of the most fortunate. At the
same time, to the extent that these plans include proposals intended
support low- and middle-income households, they do so in relatively
---------------------------------------------------------------------------
ineffective ways.
For example, President Trump's proposals in 2016 to expand tax
benefits for child care disproportionately benefit higher-income
families.\39\ They increase tax complexity by increasing the number of
child-care-related tax benefits from two to five. And they provide
benefits to higher-income working families with a stay-at-home parent,
while arbitrarily excluding similar families who are lower-income.\40\
---------------------------------------------------------------------------
\39\ Lily L. Batchelder, Elaine Maag, Chye-Ching Huang, and Emily
Horton, ``Who Benefits From President Trump's Child Care Proposals,''
Tax Policy Center Research Report (February 28, 2017) (estimating that
the average tax cut for families with income under $40,000 would be
less than $20, about 3% of all benefits, while about 70% of the
benefits would go to families with income over $100,000, and about 25%
to families with income over $200,000).
\40\ Id.
As discussed, the President's and House GOP's proposals to increase
the standard deduction benefits higher-income non-itemizers more than
lower-income non-itemizers, and doesn't benefit the lowest-income
workers at all. This is despite the fact that low-income workers face
some of the highest implicit marginal tax rates, meaning that after
taxes, transfers, and work-related costs like child care, it may not
pay for them to work at all.\41\
---------------------------------------------------------------------------
\41\ See, e.g., Congressional Budget Office, ``Effective Marginal
Tax Rates for Low- and
Moderate-Income Workers in 2016'' (November 2015) (finding that some
households earning 100-149% of the poverty line face implicit marginal
tax rates of more than 65% when accounting for taxes and some
transfers, but not other transfers and work-related costs).
Others have proposed eliminating personal exemptions and/or the
head of household filing status in order to pay for a larger child tax
credit. But as explained by my fellow witness Ramesh Ponnuru, this may
well hurt many low- and middle-
income families, rather than helping them.\42\ This is especially true
if the refundability of the child tax credit were not increased
substantially so that more families could claim the full credit.
---------------------------------------------------------------------------
\42\ Ramesh Ponnuru, ``GOP's Pro-Family Tax Reform Might Have a
Catch,'' Bloomberg View (August 28, 2017).
Finally, recent proposals to double the child tax credit and make
it fully refundable against payroll taxes would provide much smaller
benefits to lower-income families than higher-income families because
they would leave the rate at which low earnings count toward earning
the credit virtually unchanged.
B. Reforms Worth Considering
Instead of pursuing the counterproductive or relatively ineffective
proposals described above, Congress should instead consider reforms
that would meaningfully level the playing field and support work. While
there are a host of possibilities, I would like to highlight four
options that are especially promising.
The first is expanding the Earned Income Tax Credit (EITC),
especially for workers without dependents (sometimes called childless
workers). The EITC and child tax credit (CTC) are some of our most
effective policies for reducing poverty and increasing employment. In
2013, they kept 8.8 million people out of poverty, including 4.7
million children.\43\ The EITC results in about 1 in 10 parents
entering the labor force who otherwise would not do so.\44\ In
addition, mounting evidence suggests that the EITC and CTC improve
health outcomes, school performance, educational attainment, and long-
term earnings, including for the next generation.\45\
---------------------------------------------------------------------------
\43\ Executive Office of the President and U.S. Treasury
Department, ``The President's Plan to Help Middle-Class and Working
Families Get Ahead'' 2 (April 2015).
\44\ Id., citing Bruce D. Meyer and Dan T. Rosenbaum, ``Welfare,
the Earned Income Tax Credit, and the Labor Supply of Single Mothers,''
116 Quarterly Journal of Economics 1063 (2014).
\45\ Chuck Marr, Chye-Ching Huang, Arloc Sherman, and Brandon
DeBot, ``EITC and Child Tax Credit Promote Work, Reduce Poverty, and
Support Children's Development, Research Finds,'' Center on Budget and
Policy Priorities (October 1, 2015).
Tax reform should build on the success of these programs. To start,
it should address the fact that, as illustrated in Figure 9, childless
workers are the only group that is currently taxed into poverty.\46\
---------------------------------------------------------------------------
\46\ Each year, about 7.5 million working-age adults in the group
are taxed into or deeper into poverty. Chuck Marr, Chye-Ching Huang,
Cecile Murray, and Arloc Sherman, ``Strengthening the EITC for
Childless Workers Would Promote Work and Reduce Poverty,'' Center on
Budget and Policy Priorities (April 11, 2016).
Senator Brown and Representative Neal have proposed increasing the
maximum EITC for childless workers to $1,400, phasing it in and out
more rapidly, and making it available to younger workers.\47\ A similar
proposal was advanced by former President Obama and endorsed by Speaker
Ryan, though it was not included in the House GOP Blueprint.\48\ This
proposal would subsidize the wages of groups with low or declining
labor force participation rates, including men without a college
education, young adults not enrolled in school, workers with
disabilities, and older workers.\49\ As a result, it could meaningfully
boost labor force participation. It would lift 600,000 workers out of
poverty and lessen the severity of poverty for another 8.7 million.\50\
Moreover, the Brown-Neal proposal would essentially ensure that the
Federal tax code no longer taxes childless workers into poverty.\51\
---------------------------------------------------------------------------
\47\ S. 1012, 114th Congress (2015); H.R. 902, 114th Congress
(2015). Senators Baldwin and Booker have proposed a similar expansion
of the EITC for childless workers in S. 3231, 114th Congress (2016).
\48\ NBC News, ``Meet the Press'' transcript, February 1, 2015.
http://www.nbcnews.com/meet-the-press/meet-press-transcript-february-1-
2015-n302111.
\49\ Executive Office of the President and U.S. Treasury
Department, ``The President's Proposal to Expand the Earned Income Tax
Credit'' (March, 2014).
\50\ Chuck Marr, Brandon DeBot, and Emily Horton, ``How Tax Reform
Can Raise Working-Class Incomes,'' Center on Budget and Policy
Priorities (September 13, 2017).
\51\ Chuck Marr, Chye-Ching Huang, Cecile Murray, and Arloc
Sherman, ``Strengthening the EITC for Childless Workers Would Promote
Work and Reduce Poverty,'' Center on Budget and Policy Priorities
(April 11, 2016).
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
A much more ambitious approach would be to expand the EITC for
workers with children as well. For example, Senator Brown and
Representative Khanna are proposing a major expansion to the EITC that
would roughly double the maximum credit for all groups.\52\ Such an
expansion would make significant headway toward offsetting the much
lower earnings growth that working-class households have experienced
over the past few decades relative to comparable families with a
bachelor's degrees.\53\ While this proposal would cost over $1
trillion,\54\ it could be more than paid for by tax increases on the
wealthy discussed here and elsewhere. And its cost pales in comparison
to the tax cuts for the wealthy contained in President Trump's plan and
the House GOP Blueprint.
---------------------------------------------------------------------------
\52\ Casey Tolan, ``Progressive Democrats' Counter-Argument to
Trump Tax Plan: a $1.4 Trillion Tax Credit for the Working Class,''
Mercury News (September 12, 2017).
\53\ Chuck Marr, Brandon DeBot, and Emily Horton, ``How Tax Reform
Can Raise Working-Class Incomes,'' Center on Budget and Policy
Priorities (September 13, 2017). A working-class household is defined
here as one in which no one has a bachelor's degree. See also Neil
Irwin, ``What Would it Take to Replace the Pay Working-Class Americans
Have Lost?'', The New York Times (December 9, 2016).
\54\ Tolan, supra note 52.
A second proposal worth considering is strengthening the child tax
credit (CTC), especially for low-income families with young children.
Currently, the CTC excludes almost 11 million children with working
parents because their earnings are too low.\55\ One way to build on the
benefits of the CTC for future generations is to eliminate the
threshold that currently excludes the first $3,000 of earnings from
being counted towards earning the credit and to increase the rate at
which the credit can be earned, especially for families with young
children, similar to proposals by Senators Baldwin, Bennet, Brown, and
Booker.\56\ These reforms would target benefits on young children in
the poorest households. Children under age 6 are much more likely to
live in poverty than other children or adults. Moreover, the evidence
that the CTC and similar programs boost children's health, educational,
and lifetime earning outcomes is especially strong for the poorest
children.\57\ For them, more income makes a much bigger difference.
---------------------------------------------------------------------------
\55\ Elaine Maag and Julia B. Isaacs, ``Analysis of a Young Child
Tax Credit,'' Urban Institute (September 2017).
\56\ See S. 2264, 114th Congress (2015); S. 3231, 114th Congress
(2016). For further discussion of these proposals and similar ones, see
Chuck Marr, Chloe Cho, and Arloc Sherman, ``A Top Priority to Address
Poverty: Strengthening the Child Tax Credit for Very Poor Young
Children'' (August 10, 2016); Maag and Isaacs, supra.
\57\ See, e.g., Gordon B. Dahl and Lance Lochner, ``The Impact of
Family Income on Child Achievement: Evidence from the Earned Income Tax
Credit,'' 102 American Economic Review 5, 1927-56 (May 2012): Kerris
Cooper and Kitty Stewart, ``Does Money Affect Children's Outcomes? A
Systematic Review,'' Joseph Rowntree Foundation (October 22, 2013),
https://www.
jrf.org.uk/report/does-money-affect-children%E2%80%99s-outcomes.
An even more ambitious approach would be to make the CTC fully
refundable so that the poorest children could fully benefit even if
their parents' have no income, similar to a proposal by Representative
DeLauro.\58\
---------------------------------------------------------------------------
\58\ H.R. 4693, 114th Congress (2016).
A third reform worth considering is replacing the current law child
and dependent care tax benefits with a single refundable tax credit
that is larger for families for whom such expenses represent the
largest budgetary strain.\59\ Child and dependent care costs are a
significant financial burden on working families, especially those with
low and moderate incomes. On average, the median single mother with
children under 5 spends 15% of her earnings on child care, and the
median analogous married couple spends 6%.\60\ Child care costs have
grown dramatically over time, rising 70% in inflation-adjusted terms
from 1985 to 2001.\61\ Reducing child care costs increases labor force
participation by ensuring that caretakers who prefer to engage in
market work actually benefit financially from doing so.\62\
---------------------------------------------------------------------------
\59\ For further discussion of this idea, see Lily L. Batchelder,
Elaine Maag, Chye-Ching Huang, and Emily Horton, ``Who Benefits From
President Trump's Child Care Proposals,'' Tax Policy Center Research
Report (February 28, 2017); Katie Hamm and Carmel Martin, ``A New
Vision for Child Care in the United States,'' Center for American
Progress (September 2015), https://cdn.americanprogress.org/wp-content/
uploads/2015/08/31111043/Hamm-Childcare-report.pdf; James P. Ziliak,
``Supporting Low-Income Workers Through Refundable Child-Care
Credits,'' Hamilton Project: Improving Safety Net and Work Support
(2014), http://www.hamilton
project.org/assets/legacy/files/downloads_and_links/
child_care_credit_ziliak.pdf; Elaine Maag, ``Simplifying Child Care Tax
Benefits,'' Tax Policy Center (2013), http://www.
taxpolicycenter.org/taxvox/simplifying-child-care-tax-benefits.
\60\ Ziliak, supra.
\61\ Drew DeSilver, ``Rising Cost of Child Care May Help Explain
Recent Increase in Stay-At-Home Moms,'' FactTank Blog (April 18, 2014),
http://www.pewresearch.org/fact-tank/2014/04/08/rising-cost-of-child-
care-may-help-explain-increase-in-stay-at-home-moms/.
\62\ Council of Economic Advisers, ``The Economics of Early
Childhood Investments'' (2014), https://obamawhitehouse.archives.gov/
sites/default/files/docs/the_economics_of_early_child
hood_investments.pdf (reviewing the literature and concluding that a
10% reduction in child care costs increases maternal employment by 0.5%
to 4%).
One drawback of this proposal is that it would not provide
financial support to such families when they need it most: when their
child care bills are due. Therefore, while not strictly a tax proposal,
an even better reform would be to fully fund child care assistance
programs, which provide direct subsidies for child care for low-wage
working families.\63\ Currently only 15% of families eligible for these
subsidies actually receive them because of under-funding; the remaining
85% of families are put on waiting lists.\64\ Fully funding this
program could be combined with a tax credit for families above the
eligibility threshold, as proposed by former President Obama and other
researchers.\65\
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\63\ Currently, the Federal Government provides States funding for
child care assistance programs through the Child Care and Development
Fund and the Temporary Assistance for Needy Families block grant.
\64\ Matthews and Walker, 2016.
\65\ Office of Management and Budget, Budget of the U.S.
Government: Fiscal Year 2017 (2016), https://www.gpo.gov/fdsys/pkg/
BUDGET-2017-BUD/pdf/BUDGET-2017-BUD.pdf; Ajay Chaudry, Taryn Morrissey,
Christina Weil, and Hirokazu Yoshikawa, ``Cradle to Kindergarten: A New
Plan to Combat Inequality'' (2017).
Finally, these proposals could be paid for by raising taxes on the
most fortunate, including by strengthening, not repealing, wealth
transfer taxes. There are at least three ways to strengthen the
taxation of financial inheritances that are worth considering. The
first is to raise the wealth transfer tax rate above 40%. A second,
more fundamental reform would be to replace our current wealth transfer
taxes with a direct tax on the recipients of large inheritances.
Effectively, the exemption from wealth transfer taxes would then be
based on how much an individual inherited, not how much a donor
bequeathed. If individuals who inherit more than $2.1 million over
their lifetime had to pay income tax plus a 15% surcharge (roughly
equivalent to the payroll tax rate) on their inheritances above this
threshold, this proposal would raise roughly $200 billion more over 10
years than our current wealth transfer taxes.\66\ Lastly, either of
these reforms could be coupled with repealing stepped-up basis, which
is discussed in more detail in the next section.
---------------------------------------------------------------------------
\66\ Lily L. Batchelder, ``The `Silver Spoon' Tax: How to
Strengthen Wealth Transfer Taxation,'' in Delivering Equitable Growth:
Strategies for the Next Administration (Washington Center for Equitable
Growth, 2016).
---------------------------------------------------------------------------
iii. simplifying the tax code by reducing opportunities for gaming
The third traditional goal of tax reform is simplification.
Simplification should certainly be part of individual tax reform, but
the policies that meaningfully simplify the tax system are often
misunderstood.
David Bradford, the intellectual father of the 1986 Tax Reform Act,
distinguished three types of tax complexity: compliance complexity,
rule complexity, and transactional complexity.\67\ Compliance
complexity includes things like is how long it takes to prepare one's
tax return and how many records taxpayers have to keep. Rule complexity
is how difficult it is to understand what the law is, and can be the
result of the tax code being unclear, or unclear administrative
guidance and case law. Transactional complexity arises from taxpayers
organizing their affairs to minimize their tax liability.
---------------------------------------------------------------------------
\67\ David Bradford, ``Untangling the Income Tax,'' 266-67 (1986).
Often transactional complexity is actually the most costly type of
tax complexity. But many proposals to simplify the tax code focus on
compliance complexity in ways that provide little or no practical
benefits for taxpayers. For example, tax plans (including the
President's and the House GOP Blueprint) often promise to reduce the
number of tax brackets or the number of taxpayers who itemize
deductions, heralding these changes as major simplifications. But
virtually no taxpayer would notice if there were fewer tax brackets
because 90% prepare their returns with computer software or the help of
a third party (who generally uses such software).\68\ The 10% who still
complete their tax returns by hand are instructed by Form 1040 to look
up their taxable income on a tax table in order to apply the tax rates,
so they are not supposed to do the arithmetic to apply the tax brackets
in the first place. Similarly, taxpayers who do not itemize still need
to keep records of their State and local taxes, charitable
contributions, mortgage interest payments, medical expenses, and the
like in order to determine whether they are better off itemizing or
claiming the standard deduction. The only way to eliminate these record
keeping burdens is to eliminate itemized deductions altogether, which
these tax plans do not propose.
---------------------------------------------------------------------------
\68\ Susan Jones, ``IRS: 90% of Taxpayers Seek Help in Preparing
Their Returns,'' cnsnews.com (April 9, 2014), https://www.cnsnews.com/
news/article/susan-jones/irs-90-taxpayers-seek-help-preparing-their-
returns.
Instead, simplification efforts in individual tax reform should
focus on reducing transactional complexity, which essentially arises
from opportunities for savvy taxpayers to game the tax system. Some tax
provisions are meant to change behavior, like the charitable deduction.
But other tax provisions sometimes create large, unintended
opportunities to reduce or avoid taxes by structuring a transaction or
activity in one way, rather than in another, economically identical
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form. These are what the press frequently refers to as ``loopholes.''
Reducing such transactional complexity accomplishes the trifecta of
tax reform: it makes the tax code fairer, more efficient, and simpler
at the same time. It is fairer because generally only taxpayers who can
afford high-priced tax advice learn about opportunities to structure
their affairs in ways that are economically identical but reduce their
taxes. It is more efficient and simpler because taxpayers spend less
time trying to figure out how to arrange their affairs to reduce their
tax liability, and change their behavior less in response to the tax
system.
A. The First Goal (Again): Do No Harm
Unfortunately several current proposals would dramatically increase
transactional complexity. The most alarming is the proposal to apply a
new, special cap on the tax rate for pass-through business income.\69\
Pass-through business income has always been taxed on individual income
tax returns at the same rates as other income. But President Trump has
proposed cutting the top rate on pass-through income (and only pass-
through income) from 39.6% to 15%, while cutting the top rate on all
other ordinary income to 35%. The House GOP Blueprint cuts the top rate
on pass-through income to 25%, while cutting the top rate on other
ordinary income to 33%.
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\69\ This discussion draws on Lily Batchelder, ``Trump's Giant
Loophole,'' The New York Times (May 30, 2017).
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
Proponents of this rate cap argue that it would benefit small
businesses and rectify the over-taxation of pass-through businesses
compared to C corporations. But nothing could be further from the
truth. The Tax Policy Center estimates that a full 77% of the benefits
of the President's proposal would go to the top 1%,\70\ who currently
earn more than half of all pass-through income.\71\ As illustrated in
Figure 10, the average tax cut for the top 1% would amount to 5% of
their after-tax income, while the average tax cut for the bottom four
quintiles would be zero.
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\70\ Urban-Brookings Tax Policy Center Microsimulation Model,
``T17-0164--Distributional Effect of a 15-Percent Top Rate on a Broad
Definition of Pass-Through Income, Baseline: Current Law With AMT
Repealed and 12/25/33 Rate Structure, by Expanded Cash Income
Percentile, 2018'' (May 15, 2017), http://www.taxpolicycenter.org/
model-estimates/options-taxing-pass-through-income-prefential-rates-
may-2017/t17-0164-distributional.
\71\ Urban-Brookings Tax Policy Center Microsimulation Model,
``T17-0080--Sources of Flow-Through Business Income by Expanded Cash
Income Percentile; Current Law, 2017'' (March 20, 2017), http://
www.taxpolicycenter.org/model-estimates/distribution-business-income-
march-2017/t17-0080-sources-flow-through-business.
Moreover, the effective marginal tax rate on pass-through
businesses is currently about 5 percentage points lower than that on C
corporations after accounting for
investor-level taxes. This is part of the reason why the share of all
business income earned by pass-throughs has risen precipitously, from
less than one-quarter in 1980 to 60% today.\72\
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\72\ The White House and the U.S. Treasury Department, ``The
President's Framework for Business Tax Reform: An Update'' (April
2016), https://www.treasury.gov/resource-center/tax-policy/Documents/
The-Presidents-Framework-for-Business-Tax-Reform-An-Update-04-04-
2016.pdf.
A pass-through rate cap would dramatically increase the incentive
to characterize income, including compensation for services, as pass-
through business income. This is already a significant problem under
the current tax code because certain types of pass-through business
income are not subject to either payroll or self-employment tax. But it
would become much worse. For example, under the President's plan, if a
wealthy executive sets up an LLC to receive his $10 million salary, he
could save $2 million in taxes. Few middle-class workers have the
resources to set up such vehicles--and the vast majority would not
benefit if they did because they are already in the 15% rate bracket or
below.\73\ Indeed, the Tax Policy Center and Goldman Sachs estimate
that the tax avoidance response would be staggering, accounting for 30-
50% of the sizeable cost of the proposal.\74\
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\73\ Tax Policy Center, ``T16-0085--Number of Tax Units by Tax
Bracket and Filing Status,'' Tax Policy Center (July 6, 2016), http://
www.taxpolicycenter.org/model-estimates/baseline-distribution-tax-
units-tax-bracket-july-2016/t16-0085-number-tax-units-tax (estimating
that 79% of taxpayers are in the 15% bracket or below, and 95% are in
the 25% bracket or below).
\74\ Urban-Brookings Tax Policy Center Microsimulation Model,
``T17-0162--Revenue Effect of Options for Taxing Pass-Through Income at
Preferential Rates, Baseline: Current Law with Individual AMT Repealed
and 12/25/33 Percent Individual Income Tax Rate Structure, 2018-27,''
Tax Policy Center (May 15, 2017), http://www.taxpolicycenter.org/model-
estimates/options-taxing-pass-through-income-prefential-rates-may-2017/
t17-0162-revenue-effect; Robert Schroeder, ``Trump Proposal to Lower
Pass-through Tax Rate Could Cost $2 Trillion, Goldman Finds,''
MarketWatch (May 3, 2017), http://www.marketwatch.com/story/trump-
proposal-to-lower-pass-through-tax-rate-could-cost-2-trillion-goldman-
finds-2017-05-03.
For these reasons, tax experts on the left and right agree that it
is a terrible idea. For example, experts at the Tax Foundation, which
traditionally supports business tax cuts, argue that ``the pass-through
carve-out primarily incentivizes tax avoidance, not job creation.''
\75\
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\75\ Kyle Pomerleau, Scott Drenkard, and John Buhl, ``What Trump
Can Learn from Kansas' Tax Troubles,'' Politico (May 4, 2017), http://
www.politico.com/magazine/story/2017/05/04/what-trump-can-learn-from-
kansas-tax-troubles-215103.
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B. Reforms Worth Considering
Instead of dramatically increasing transactional complexity,
Congress should consider several proposals that would substantially
reduce it. The first is reforming the self-employment tax (SECA) and
net investment income tax (NIIT) to ensure that all labor and capital
income are subject to the Medicare tax on high incomes in some form.
Currently the NIIT and SECA apply a 3.8% to income above $200,000
for single filers and $250,000 for married filers in some cases but not
others. They do apply the tax to all employees, owners of sole
proprietorships, and ``passive'' owners of businesses. However, they
only apply it in part to ``active'' owners of S corporations, and often
do not apply it at all to ``active'' owners of LLCs and limited
partners.\76\ Many high earners (including Newt Gingrich and John
Edwards historically) avoid this 3.8% Medicare tax--and sometimes
Social Security tax as well--by claiming that their labor income is
instead pass-through business income that falls into one of these tax-
exempt or tax-preferred buckets.
---------------------------------------------------------------------------
\76\ Department of the Treasury, ``General Explanations of the
Administration's Fiscal Year 2017 Revenue Proposals,'' 169 (February
2016).
The different treatment of some pass-through business income from
other economically identical types of such income is a classic example
of transactional complexity. It creates traps for the unwary, enabling
savvy taxpayers to avoid the tax by changing the legal form of their
ownership or the payments they receive. Less savvy taxpayers, all wage
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earners, and all sole proprietors are left footing the bill.
Former President Obama's final budget proposed rationalizing these
taxes so that all income above these thresholds was subject to the 3.8%
tax either through the NIIT or SECA.\77\ It also proposed treating
eliminating differences in how professional services income is taxed
depending on whether it is paid by an S corporation or partnership.
Together, these proposals would raise $272 billion over 10 years. In
addition, all NIIT revenue would be redirected from the General Fund to
the Medicare trust fund, extending its solvency by more than 15
years.\78\
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\77\ Id.
\78\ Office of Management and Budget, ``Meeting Our Greatest
Challenges: Opportunity for All'' (2016), https://
obamawhitehouse.archives.gov/sites/default/files/omb/budget/fy2017/
assets/opportunity.pdf.
A second reform worth serious consideration is repealing stepped-up
basis. Sometimes called the single biggest loophole in the individual
income tax,\79\ stepped-up basis refers to the fact that capital gains
on assets held until death are never taxed--instead the tax on such
gains is forgiven forever. Stepped-up basis creates a large incentive
for investors to hold on to underperforming assets purely for tax
reasons (the so-called lock-in effect), resulting in resources being
misallocated throughout the economy. It also creates traps for the
unwary who do not realize how much tax they can save by holding on to
their assets even if they are underperforming.
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\79\ See, e.g., Len Burman, ``President Obama Targets The `Angel of
Death' Capital Gains Tax Loophole,'' Forbes (January 18, 2015).
Former President Obama proposed repealing stepped-up basis subject
to several exclusions, including an exemption for the first $100,000 in
accrued gains ($200,000 per couple).\80\ Together with raising the
capital gains rate to 28 percent (an idea discussed next), this
proposal would raise $210 billion over 10 years and significantly more
over time as it fully phased in.\81\ The proposal would also be
extraordinarily progressive because inheritances are distributed so
unequally and accrued gains are even more concentrated among the
rich.\82\ It would further help ensure that those who inherit large
sums are taxed at a rate closer to those who earn their income from
working. A full 99% of the revenue raised would come from the top 1%,
and 80% would come from the top 0.1%.\83\
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\80\ Department of the Treasury, ``General Explanations of the
Administration's Fiscal Year 2017 Revenue Proposals,'' 156, (February
2016). The proposal would also exempt all gains on the sale of tangible
personal property, and would effectively establish a $500,000 per-
couple exemption for gains on residences.
\81\ Id.
\82\ James Poterba and Scott Weisbenner, ``The Distributional
Burden of Taxing Estates and Unrealized Capital Gains at Death,'' in
Rethinking Estate and Gift Taxation, 439-40 (William G. Gale et al.
eds., 2001). Untaxed accrued gains compose 36 percent of the value of
all bequests, but 56 percent of bequests over $10 million.
\83\ Executive Office of the President and U.S. Treasury
Department, ``The President's Plan to Help Middle-Class and Working
Families Get Ahead,'' 35 (April 2015).
A third, related reform is narrowing the gap between the tax rates
on ordinary income and capital gains. This gap creates a large
incentive for taxpayers to try to recharacterize ordinary income as
capital gain, with carried interest a prime example. In addition to
treating carried interest as ordinary income to the extent that it
represents compensation for services,\84\ Congress should consider
raising the capital gains rates to reduce this incentive in the first
place.
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\84\ Senator Baldwin and Representative Levin have introduced bills
to address this issue. See S. 1020, 115th Congress (2017); H.R. 2889,
114th Congress (2015).
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
Capital gains are highly concentrated among the wealthy. As a
result, the preferential rates for capital gains and dividends very
disproportionately benefit them. As illustrated in Figure 11, these
preferential rates provide the top 1% with a tax cut that is 29 times
larger than that for the middle quintile, even when measured as a share
of after-tax income.\85\ Indeed the top 0.1% of taxpayers, earning over
$3 million per year, receive more than 55% of the benefits.\86\ Raising
these preferential rates could help curb rising economic inequality,
making the tax code fairer. But it would also reduce transaction
complexity by reducing one of the biggest incentives for tax planning
in the income tax.
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\85\ Tax Policy Center, ``Table T17-0137'' (April 18, 2017), http:/
/www.taxpolicycenter.org/model-estimates/individual-income-tax-
expenditures-april-2017/t17-0137-tax-benefit-preferential.
\86\ Id.
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iv. individual tax reform should make tax incentives fairer
and more efficient
A final area on which individual tax reform should focus is
reforming tax incentives to make them more efficient and fair. As just
discussed, some tax provisions create opportunities for gaming that
Congress did not intend. But many other tax provisions, which I will
call tax incentives, are explicitly intended to change behavior, for
example by encouraging people to attend college or purchase health
insurance. In such cases, it is not a problem if people respond to the
tax incentive; in fact, that is the whole purpose. But many such tax
incentives are poorly designed to achieve their own goals.
Restructuring them to get more bang-for-the-buck could simultaneously
improve social outcomes and raise revenue, which could be used to
reduce our mounting debt, address rising inequality, and broaden
opportunity. One could spend a whole hearing on each individual tax
incentive, so I will instead highlight a few general principles and
case studies here.
First, the most efficient type of tax incentive is generally a
refundable tax credit. As Fred Goldberg, Peter Orszag, and I have
explained, deductions can be efficient if they are designed to measure
income or ability to pay.\87\ Deductions for business expenses are one
such example. But where, as with tax incentives, the goal is to promote
socially valued activities or investments, the most efficient default
structure is a uniform incentive--unless there is evidence that certain
households are more responsive to the incentive or generate larger
social benefits from engaging in the activity. Such uniform benefits
can only be accomplished through a refundable tax credit.
---------------------------------------------------------------------------
\87\ Lily L. Batchelder, Fred T. Goldberg, Jr., and Peter R.
Orszag, ``Efficiency and Tax Incentives: The Case for Refundable Tax
Credits,'' 59 Stanford Law Review 23 (2006).
Even when there is evidence that responsiveness or social benefits
vary by household income or other characteristics, the most efficient
incentive is almost certainly still some type of refundable credit. It
is extremely unlikely that there is a sharp break in social benefits or
responsiveness to a tax incentive exactly at the point of no income tax
liability or the rate bracket thresholds. But these types of
discontinuities are inherent in all other types of tax incentives. For
example, preferential rates and non-refundable credits do not benefit
taxpayers in the zero bracket, while the value of above-the-line
deductions and exclusions intrinsically rises with the taxpayer's
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marginal tax rate.
Congress should therefore consider restructuring all tax
expenditures that are intended to change behavior into refundable tax
credits, designing them based on evidence of how to get the most bang
for the buck. In all likelihood, this will also make the tax code more
progressive. Even if, for example, higher-income households are more
responsive to a tax incentive, it is unlikely that the optimal tax
incentive will be as regressive as many of the deductions, exclusions,
and preferential rates that we have today. Restructuring tax incentives
into refundable tax credits will, however, be a major undertaking.
Currently, only about 12% of tax expenditures are structured as
refundable credits, as illustrated in Figure 12.
Second, wherever possible, Congress should leverage the insights of
behavioral economics when redesigning tax incentives. Doing so can also
generate more social benefits at a lower cost.
To provide one example, tax incentives for retirement savings are a
particularly fruitful area for reform. Though we currently spend more
than $80 billion per year on retirement savings incentives, the median
household nearing retirement has only $14,500 in retirement
savings.\88\ About one-third of workers do not have access to an
employer-sponsored retirement plan, even though middle-class workers
are 15 times more likely to save for retirement if they are covered by
an employer plan.\89\
---------------------------------------------------------------------------
\88\ Keith Miller et al., ``The Reality of the Retirement Savings
Crisis,'' Center for American Progress (January 26, 2015) (figure is
for households age 55 to 64, and excludes Social Security).
\89\ ``Retirement Savings 2.0: Updating Savings Policy for the
Modern Economy,'' hearing before the Sentate Committee on Finance,
113th Congress 9-10 (2014) (statement of Scott Betts, senior vice
president of national benefits services, LLC).
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
Low- and middle-income families are generally the least prepared
for retirement,\90\ but the lion's share of tax incentives for
retirement savings go to the wealthy. Households in the top income
quintile receive two-third of the benefit of retirement savings
incentives and those in the top 5% receive more than one-third of the
benefits.\91\ In contrast, the bottom two quintiles only receive 7% of
the benefits.
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\90\ Alicia Munnell et al., ``NRRI Update Shows Half Still Falling
Short'' (Center for Retirement Research Brief No. 14-20, December
2014).
\91\ Congressional Budget Office, ``The Distribution of Major Tax
Expenditures in the Individual Income Tax System,'' table 2 (May,
2013).
In addition, there is extensive empirical evidence that retirement
savings choices are heavily influenced by how easy it is to save
principally as a result of defaults. For example, new hires are about
50 percentage points more likely to participate in their employer's
retirement plan if they are automatically enrolled.\92\ There have been
several positive reforms in response to this research. For example, the
Pension Protection Act of 2006 and Treasury Department guidance issued
before and after it contributed to a large rise in automatic
enrollment.\93\ But the default retirement savings rate is still zero
for roughly 62% of workers, as illustrated in Figure 13.
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\92\ Brigitte C. Madrian and Dennis F. Shea, ``The Power of
Suggestion: Inertia in 401(k) Participation and Savings Behavior,'' 116
Quarterly Journal of Economics 1149 (2001). While many of these workers
would eventually join the plan if enrollment were voluntary,
accelerating participation through auto-enrollment substantially boosts
the overall retirement savings of most workers.
\93\ In 2014, 57% of 401(k) plans auto-enrolled their workers
compared to less than 10% in 2000. Plan Sponsor Council of America,
58th Annual Survey (2016).
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
As part of individual tax reform, Congress should therefore
consider a number of ways to improve retirement savings incentives.
These include restructuring the tax incentives so that a larger share
of the benefits go to low- and middle-income workers,\94\ directly
depositing the incentive into the taxpayer's account,\95\ requiring
employers offering retirement plans to automatically enroll their
workers, and enacting automatic IRAs at a Federal level so that every
worker has access to an easy way to save for retirement.\96\ Such
reforms could substantially boost retirement security while saving
revenue. Automatic IRAs alone would give 30 million more workers access
to a workplace savings opportunity.\97\
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\94\ See, e.g., William G. Gale et al., ``Improving Opportunities
and Incentives for Saving by Middle- and Low-Income Households'' (The
Hamilton Project, Discussion Paper 2006-02, 2006), https://
www.brookings.edu/wp-content/uploads/2016/06/200604hamilton_2.pdf;
Christian E. Weller and Sam Ungar, ``The Universal Savings Credit''
(Center for American Progress, July 2012), https://
cdn.americanprogress.org/wp-content/uploads/2013/07/
UniversalSavingsCredit-report.pdf.
\95\ Emmanuel Saez, ``Details Matter: The Impact of Presentation
and Information on the Take-up of Financial Incentives for Retirement
Saving,'' 1 American Economic Journal: Economic Policy 204 (2009).
\96\ Senator Whitehouse and Representative Neal have introduced
Federal automatic IRA legislation, S. 245, 114th Congress (2015); H.R.
2499, 115th Congress (2017). For more details on auto-IRA proposals,
see, e.g., Mark Iwry and David C. John, ``Pursuing Universal Retirement
Security Through Automatic IRAs,'' The Retirement Security Project
(2009), http://www.brookings.edu/research/papers/2009/07/automatic-ira-
iwry; Department of the Treasury, ``General Explanations of the
Administration's Fiscal Year 2016 Revenue Proposals,'' 134, (February
2015).
\97\ Executive Office of the President and U.S. Treasury
Department, ``The President's Plan to Help Middle-Class and Working
Families Get Ahead,'' 5 (April 2015).
To provide another example, many would argue that the purpose of
the tax exemption for State and local bonds is to support investments
by State and local governments, effectively devolving Federal revenue
to them. But about 20% of the value of the exemption goes to high-
bracket investors in the form of above-market after-tax interest rates,
rather than to State and local governments in the form of lower
interest costs.\98\ If Congress replaced the exemption with a
refundable tax credit, as was the case with Build America Bonds, we
could deliver the same amount of aid to State and local governments at
a much lower budgetary cost.
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\98\ Congressional Budget Office and Joint Committee on Taxation,
``Subsidizing Infrastructure Investment With Tax-Preferred Bonds,'' 34
(October 2009). CBO and JCT estimate that State and local governments
are able to pay interest at a rate that is 21% below that of comparable
taxable bonds because of the exemption. This implies that investors in
tax brackets above 21% benefit from the exemption by an amount equal to
their marginal tax rate minus 21% multiplied by the amount of tax-
exempt interest they receive. Id. at 31-33.
______
Questions Submitted for the Record to Lily L. Batchelder
Questions Submitted by Hon. Orrin G. Hatch
increasing the standard deduction
Question. Ms. Batchelder, in your written testimony, you are
critical of Republican proposals to nearly double the standard
deduction.
But for the sake of fairness and transparency, can you please
acknowledge that the ranking member has repeatedly proposed nearly
tripling the standard deduction?
Answer. Yes, the ranking member has proposed nearly tripling the
standard deduction. However, he did so in the context of tax plans that
were roughly revenue-neutral and somewhat more progressive compared to
current policy at the time, unlike the plans put forth by President
Trump or the TCJA as enacted.\1\ Moreover, my criticism of increasing
the standard deduction was in the context of arguing that tax reform
should increase taxes on the wealthy and use some of the revenues
raised for deficit reduction and some to boost the take-home pay of
those who are less fortunate. To the extent that increasing the
standard deduction was coupled with other reforms that together achieve
these overall objectives, I would be less concerned.
---------------------------------------------------------------------------
\1\ Jim Nunns and Jeffrey Rohaly, ``Preliminary Revenue Estimates
and Distributional Analysis of the Tax Provisions in the Bipartisan Tax
Fairness and Simplification Act of 2010,'' Tax Policy Center, 2010,
http://www.taxpolicycenter.org/sites/default/files/alfresco/
publication-pdfs/412098-Preliminary-Revenue-Estimates-and-
Distributional-Analysis-of-the-Tax-Provisions-in-the-Bipartisan-Tax-
Fairness-and-Simplification-Act-of--.PDF.
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assumptions associated with the president's and the house's tax plans
Question. Ms. Batchelder, your testimony provides a detailed, and
negative, assessment of tax ``plans'' offered by President Trump and
the House GOP leadership. Given the level of generality of what has
been put forward for each of those so-called plans, it is impossible to
provide the level of details about the implications of the plans
unless, as you have done, you fill in details with your own
assumptions.
My question is, are the negative implications that you have often
discussed of the so-called plans put forward by the President and the
House GOP actually an analysis of detailed specified plans, or are they
implications of assumptions that you made that aren't specified in any
detailed plan?
That is, are they results from a detailed plan, or the results of
your individual interpretation of what a plan is going to look like
once details are finished?
Answer. Any analysis of tax reform proposals prior to enactment
(and even, to some degree, after enactment) requires assumptions about
how details will be filled in. Unless we are going to avoid discussing
the potential impact of tax reform plans altogether, some assumptions
are necessary.
In my view, tax experts both inside and outside government should
try to educate the public about the potential impact of tax reform
proposals, and, when they do so, they should make reasonable
assumptions about how the details will be filled in and clearly state
those assumptions. The portions of my written testimony that are
critical of the President's and House GOP's proposals rely upon
estimates by independent, nonpartisan organizations that I think easily
meet these standards.
progressivity v. efficiency
Question. Ms. Batchelder, in the hearing you stated:
Well, I certainly think there is a point where the tax code can
be too progressive or too targeted on just one, or a handful of
individuals. But I think we are very far from that point. We
have very vastly rising inequality in this country and the tax
code could do a lot more to help mitigate that. So I don't
think that anything that is on the potential drawing room table
right now is at risk of making the tax code too progressive.
But I'm sure that if you purposed replacing the entire income
tax system with only taxing Bill Gates, I would think that is
both unfair and inefficient.
That's a reasonable enough statement, but could you flesh that out
more please?
At what point would the tax code be too progressive? Would the code
be too progressive if it taxed only the wealthiest 1 percent?
Were the individual income tax rates at the time of the Truman
Presidency too progressive?
At what point would you think a tax was so progressive that it
constituted a takings, within the meaning of the Fifth Amendment to the
Constitution?
Are the goals of efficiency and progressivity in tension with each
other? If Congress could significantly increase GDP, but that would
make the code slightly less progressive, would you say that is an
unacceptable bargain? Should we be willing to take a hit to growth, if
it significantly increased progressivity?
Do you think it an important check on the voting public's appetite
for larger government expenditures that all of the voting public
somewhat directly pays for some of those expenditures?
I realize that these are not easy questions, but since you have
emphasized the important issue of progressivity in the tax code, it
seems fair to ask them of you.
Answer. At the beginning of the Truman Presidency, the top
individual statutory income tax rate was 94%. I do think that is too
high. However, what really matters are average tax rates and effective
marginal tax rates, not the statutory tax rate. For example, if the top
statutory tax rate were 94% but every taxpayer automatically could
deduct 75% of their income, the top effective marginal tax rate would
only be 23.5% and the top average tax rate is even lower (assuming a
progressive rate schedule). I am not an expert on the tax code during
the Truman Presidency so I do not know what the top average tax rate
and top effective marginal tax rate were at the time.
I am also not a constitutional law expert so I cannot advise on the
point at which a tax is so progressive that it constitutes a taking
under the Fifth Amendment. To my knowledge, the Federal income tax
under the Truman Presidency was not successfully challenged as a
taking, so that seems to indicate that tax rates could be substantially
higher than they are now without violating the Takings Clause.
The goals of efficiency and progressivity are sometimes in tension
with each other and sometimes are not. It depends in part on whether
the policy in question is addressing what economists would call a
market failure, such as negative externalities or market power.
In my view, GDP is a relatively poor measure of how well-off
Americans are, and policymakers should adopt more refined objectives
for fiscal policy than simply maximizing GDP. Personally, I would be
more interested in measures that place relatively more weight on $1 in
additional income earned by the middle class and those who are less
fortunate than $1 in additional income for a billionaire. In certain
circumstances, I would view policies that slightly reduce GDP but make
the Code substantially more progressive as worth serious consideration.
For example, if a tax proposal would reduce GDP by $0.1 billion but
that was the product of a $1 billion increase in the collective income
of middle-class workers and a $1.1 billion decrease in the income of
the single wealthiest American, I would consider that a reasonable
approach.
I am not sure I follow your question about whether it is an
important check on the voting public's appetite for larger government
expenditures that all of the voting public somewhat directly pays for
some of those expenditures. However, I do not think it is necessary or
important for every American to pay some tax in order for them to
exercise their right to vote responsibly. Many voters--rich, poor, and
middle class--vote against their economic self-interest when they think
a different approach is better for the country. We all contribute to
and benefit from our government in myriad ways. But even if one did
think it was important for all voters to pay some tax, I would note
that all income groups on average pay positive federal taxes in a given
year,\2\ a relatively small share of households (many of whom are
elderly or disabled) do not pay positive federal taxes in any given
year, and that share becomes even smaller if one looks over multiple
years and/or includes state and local taxes.
---------------------------------------------------------------------------
\2\ See, e.g., Congressional Budget Office, ``The Distribution of
Household Income and Federal Taxes, 2013,'' June, 2016, https://
www.cbo.gov/publication/51361.
capital gains versus ordinary income
Question. Ms. Batchelder, you mention how the gap between the
capital gains tax rate and the higher ordinary income tax rate creates
a large incentive for taxpayers to try to re-characterize ordinary
income as capital gains. She proposes addressing this problem by
``raising the capital gains rates to reduce this incentive.''
But, to be clear, one equally effective way to address this problem
is to reduce the ordinary income tax rates, right?
Answer. Yes, reducing ordinary income tax rates while holding
constant capital gains rates would reduce the incentive for taxpayers
to re-characterize ordinary income as capital gains. I have other
concerns with this approach; namely, that it would worsen budget
deficits and make the tax code less progressive.
high implicit marginal tax rates
Question. Ms. Batchelder, you wrote something I really appreciated.
You wrote: ``Low-income workers face some of the highest implicit
marginal tax rates.''
I think you're right, and it's a serious problem. But later in your
testimony, you talk positively about a proposal from a member of this
Committee to increase the Earned Income Tax Credit and you note that
the proposal would phase the EITC out more rapidly.
But wouldn't a more rapid phase-out of the EITC increase the
highest implicit marginal tax rate of those low income workers in the
phase-out range?
Answer. Any increase in the EITC that holds constant the current
phase-in and phase-out income thresholds will result in lower implicit
marginal tax rates in the phase-in range and higher implicit marginal
tax rates in the phase-out range, compared to current law. An extensive
body of research finds that EITC expansions on net increase labor force
participation despite these somewhat offsetting incentives.\3\ These
effects appear to be due in part to many individuals making decisions
about working more at the ``extensive margin'' rather than the
``intensive margin.'' In other words, many individuals look more at
what their after-tax return is to working overall, rather than their
after-tax return to an additional hour of work. Because any EITC
expansion necessarily increases the after-tax return to working
overall, it will increase incentives to engage in market work at the
extensive margin. To the extent that individuals do make incentives
about working at the intensive margin, they appear to respond more to
the EITC's phase-in incentives than its phase-out incentives. For
example, a recent study found that responsiveness to the EITC's phase-
in incentives is two to six times stronger than responsiveness to its
phase-out incentives.\4\
---------------------------------------------------------------------------
\3\ See e.g., Jeffrey Grogger, ``The Effects of Time Limits, the
EITC, and Other Policy Changes on Welfare Use, Work, and Income Among
Female-Headed Families,'' Review of Economics and Statistics, 2003; and
Jeffrey Liebman and Nadda Eissa, ``Labor Supply Responses to the Earned
Income Tax Credit,'' Quarterly Journal of Economics, 1996.
\4\ Raj Chetty, John N. Friedman, and Emmanuel Saez, ``Using
Differences in Knowledge Across Neighborhoods to Uncover the Impacts of
the EITC on Earnings,'' American Economic Review, 2013, http://
www.nber.org/papers/w18232.pdf.
The research to date therefore strongly suggests that EITC
expansion proposals like those discussed in my written testimony will
increase labor force participation overall, even though they result in
---------------------------------------------------------------------------
higher implicit marginal tax rates over some income ranges.
______
Question Submitted by Hon. Mike Crapo
Question. Ms. Batchelder, I would like to explore what I see as a
potentially under-reported challenge we may face in developing
comprehensive tax reform. This came to mind after reviewing a recent
hearing this committee held regarding the nationwide shortage of
affordable housing. The hearing discussed important matters like the
Low-Income Housing Tax Credit or LIHTC. I am a longtime supporter of
LIHTC, as are a number of my colleagues, and the hearing explored
bipartisan proposals to expand the credit. What hasn't received much
attention, though, is how LIHTC actually works. It is not a tax credit,
as some may think, that goes to the seniors and low-income families
that live in these affordable-housing units. Is it not correct that the
actual tax credits flow to banks and typically wealthy investors,
allowing them to offset about $9 billion of their annual income that
would otherwise be taxable?
In exchange, these banks and investors put their own capital toward
these affordable housing units, which, without these investments, would
not be able to be rented out at rates low enough to be affordable for
low income families.
This brings me to some of the public lines in the sand being drawn
by some, including some of my colleagues, stating that tax reform must
not in any way reduce taxes for those above certain income thresholds.
If that is the standard, would it not be accurate to say that this
would mean that proposals such as the Cantwell-Hatch bill to expand the
Low-Income Housing Tax Credit, would be considered off the table for
tax reform, because, regardless of what other important economic and
policy benefits the credit provides to low income renters, it most
certainly also provides a significant reduction in taxes for banks and
upper income investors?
Wouldn't a similar standard also apply to a theoretical proposal to
make permanent the New Markets Tax Credit, which is otherwise set to
expire in a couple years? While New Markets has strong bipartisan
support, and certainly provides important economic and public policy
benefits to rural and low income communities, is it not also the case
that the actual tax credits are typically claimed by banks and upper-
income investors, which would mean an extension of the New Markets Tax
Credit would also violate standards we have heard about, like the
Mnuchin Rule, or the ``Not One Penny'' standard?
And really, aren't there many other broadly supported tax
provisions that provide important public policy and economic benefits,
which might also be candidates for attention in tax reform, that would
have to be taken off the table if we are subject to strict standards on
who can and cannot receive any benefits through the tax code from tax
reform, like municipal bonds or conservation easements or many other
provisions?
Based on these facts, would you agree that it would not be
appropriate or productive to set up a standard for evaluating tax
reform that cherry picks data to try to support one's position? For
example, it would not be appropriate, in the context of a full
comprehensive reform package, to evaluate some provisions solely by how
they change particular tax rates for particular taxpayers, or how they
change after-tax income for particular taxpayers, but then do not fully
account for the broader secondary economic effects and effects on
meeting important public policy goals (which are not always easily
quantifiable). Conversely, it would then also not be appropriate to
cherry pick and evaluate other provisions in that same comprehensive
bill only by their broader economic and public policy effects, but not
take into account how those policies effect tax rates or after tax
income, correct?
In order to best serve the American people and get the best tax
policy for everyone, would it not be best to set evaluation standards
that are comprehensive, and take into account not only the changes in
rates and tax effects on taxpayers, but also a full evaluation of the
broader secondary effects on the economy and on meeting public policy
goals?
Answer. In light of mounting inequality and deficits, I agree with
statements that tax reform should not provide a net tax cut to the
wealthy. However, your question raises several important issues about
what this means.
First, by ``net'' I mean that we should look at whether tax reform
proposals provide a tax cut to the wealthy after accounting for all of
the provisions in any bill. Any major tax reform will entail many
moving pieces. I do not find it objectionable if some provisions cut
taxes for the wealthy so long as they are more than counterbalanced by
other provisions that ask them to contribute more.
Second, a fundamental tenet of economic analysis of taxes is that
the person who nominally remits a tax (or nominally claims a tax
benefit) is not necessarily the person who bears the burden or
``incidence'' of the tax (or reaps the benefit of a tax expenditure).
For example, there is broad consensus that the employer share of the
payroll tax is borne by employees even though it is nominally paid by
the employer. This is relevant to your question about the LIHTC. I am
not sure how JCT distributes the benefit, but it would make sense to me
if they partially distributed it to tenants in LIHTC developments and
partially to the developers and investors. Regardless, when considering
whether a tax reform plan cuts taxes for the wealthy on net, I believe
we should look at the economic incidence of the plan, not at how it
changes who nominally remits taxes or claims tax expenditures.
This raises a third question: what authority should policymakers
rely upon when considering the economic incidence of a tax reform
proposal? My answer is, where at all possible, the Joint Committee on
Taxation. They are the official nonpartisan estimators for Congress and
have an exceptional staff and track record. While many have quibbles
with certain aspects of their estimates, myself included, they are the
independent referee and should be respected as such. Moreover, JCT
meets the standards I outlined above: they do distribute taxes and tax
expenditures (like LIHTC and the NMTC) according to who they believe
bears the economic incidence, not to the person who nominally remits
the tax or claims the tax expenditure.
JCT of course has incredible demands upon its time and a small
staff. It is therefore not able to provide as many estimates of the
revenue, distributional and other impacts of tax proposals as members
of Congress and the public might like. When their estimates are not yet
available, I think it is reasonable to rely upon estimates by
independent, nonpartisan organizations like the Tax Policy Center that
attempt to replicate the JCT's methodological approach, adopt
reasonable assumptions where policy details are unspecified, and are
transparent about what assumptions they adopt.
______
Questions Submitted by Hon. Bill Nelson
Question. In your opinion, did the 1986 Tax Reform Act solve the
problems it was intended to fix? If so, please provide some examples of
how. If not, why?
Answer. One could write a book in response to this question (and
some have!). To answer briefly, though the 1986 Tax Reform Act
certainly was not perfect, I do think it made substantial headway in
addressing some problems it was intended to fix.
One example is the passive loss rules. Individual tax shelters were
a huge problem prior to the 1986 Act. They typically involved
relatively well-off taxpayers purchasing overpriced assets financed
with seller-issued non-recourse debt in order to defer paying tax on
their labor income and convert it into capital income eligible for
preferential rates. The passive loss rules dramatically reduced the
incentives for individuals to engage in such tax shelters and, as a
result, they largely disappeared.
Question. If you can, please provide some suggestions on how the
President could achieve some of his stated objectives for tax reform,
including (1) reducing complexity in the tax code and hours spent on
tax-related paperwork, (2) making the tax code fairer, (3) raising
wages, (4) sustaining 3 percent economic growth or higher, and (5)
imposing a ``price to pay'' for companies that offshore jobs.
Answer. As discussed in my written testimony, some proposals that I
think would achieve several of these objectives at once include:
Expanding the Earned Income Tax Credit (EITC) for all workers,
but especially for those without dependents.
Increasing refundability of the child tax credit (CTC),
especially for families with young children.
Replacing the current law child and dependent care tax benefits
with a single refundable tax credit that is larger for families for
whom such expenses represent the largest budgetary strain.
Strengthening wealth transfer taxes.
Question. How would you suggest Congress address the problem of
wealthy taxpayers using secret, private letter rulings from the IRS to
gain tax advantages not explicitly intended by Congress?
Answer. As far as I know, private letter rulings have been publicly
available since the D.C. Circuit ruled in 1974 that they had to be
disclosed (in redacted form) under FOIA.\5\ But if you are referring to
a different kind of agreement between the IRS and taxpayers, I am happy
to respond.
---------------------------------------------------------------------------
\5\ Tax Analysts and Advocates vs. IRS, 362 F. Supp. 1289
(D.C.D.Ct. 1973), modified 505 F.2d 350 494 (D.C. Cir.1974).
Question. How would you suggest Congress address the skyrocketing
---------------------------------------------------------------------------
cost of rental housing? Please provide some ideas to consider.
Answer. Generally, I think the best way to increase housing
affordability is to boost the take-home pay of workers, rather than
provide subsidies that are limited to housing and therefore place a
thumb on the scale in favor of some kinds of consumption over others.
The proposals I outlined in my written testimony--such as expanding the
EITC and increasing refundability of the CTC--would indirectly make
rental housing more affordable for those who are struggling the most.
Some other ideas Congress should consider are fully funding housing
choice vouchers (section 8) and expanding LIHTC.
______
Prepared Statement of Alex M. Brill, Resident Fellow,
American Enterprise Institute
Chairman Hatch, Ranking Member Wyden, and other members of the
committee, thank you for the opportunity to testify this morning. My
name is Alex Brill, and I am a resident fellow at the American
Enterprise Institute, a public policy think tank here in Washington,
DC. I commend the committee for holding this important and timely
hearing. The views and opinions I offer today are mine alone and do not
represent those of my employer or necessarily those of my colleagues at
AEI.
The opportunity for fundamental and comprehensive tax reform is
before this committee for the first time in many decades. As every
member of this committee well knows, the tax code has frequently and
sometimes significantly changed over the last 30 years, but not since
1986 has it been truly reformed in a manner that sought to broaden the
base--that is, eliminate special deductions, credits, and exclusions--
while lowering statutory tax rates. As Senators Hatch, Wyden, Roberts,
and Grassley know firsthand, that legislative process was arduous and
sometimes controversial, but the 1986 Tax Reform Act did result in a
simpler income tax code with a broader tax base and significantly lower
statutory tax rates.
The last 30 years have seen tax complexity increase dramatically
with the introduction of more and more tax expenditures. In many
regards, the tax code today imposes undue and unnecessary burdens on
taxpayers. Complexity and compliance costs are significant. High
effective marginal tax rates impede investment,\1\ discourage
savings,\2\ and encourage taxpayers to reduce their reported taxable
income.\3\ Moreover, the myriad of tax expenditures in the tax code
today yields wide disparities in tax burdens among taxpayers with
similar amounts of income.
---------------------------------------------------------------------------
\1\ See, for example, Kevin A. Hassett and R. Glenn Hubbard, ``Tax
Policy and Business Investment,'' in Handbook of Public Economics,
Volume 3, ed. Alan J. Auerbach and Martin Feldstein (Amsterdam: North
Holland Publishing Co., 2002), 1,293-1,343.
\2\ See, for example, Alan D. Viard, ``Capital Income Taxation:
Reframing the Debate,'' AEI Economic Perspectives, July 2013, available
at www.aei.org/wp-content/uploads/2013/07/-capital-income-taxation-
reframing-the-debate_172019152543.pdf.
\3\ See, for example, Emmanuel Saez, Joel Slemrod, and Seth H.
Giertz, ``The Elasticity of Taxable Income With Respect to Marginal Tax
Rates: A Critical Review,'' Journal of Economic Literature 50, no. 1
(2012): 3-50, available at http://darp.lse.ac.uk/papersdb/
Saez_etal_(JEL12).
pdf; and Sarah Burns and James Ziliak, ``Identifying the Elasticity of
Taxable Income,'' The Economic Journal 127, no. 600 (March 2017): 297-
329.
Reversing the trend of the last three decades and pursuing an
individual income tax reform that relies on a broader and fairer tax
base will facilitate a move toward lower statutory rates and a more
efficient and simpler tax code. A more neutral tax code will facilitate
a more productive allocation of resources and can contribute to a pro-
---------------------------------------------------------------------------
growth economic environment.
In my testimony today, I would like to discuss 5 points:
1. The current individual income tax system is complex,
burdensome, and riddled with deductions, exclusions, and credits.
Broadening the tax base can be a meaningful tax simplification.
2. The current individual income tax system treats taxpayers with
similar amounts of income very differently. Broadening the tax base is
an effective means for correcting this disparity and reducing
horizontal inequity in the tax code.
3. In addition to contributing to complexity and horizontal
inequity, itemized deductions are generally regressive tax policies.
The deduction for State and local taxes is an excellent example of this
and is a policy that, ironically, incentivizes States to pursue more
progressive (but inefficient) tax policies.
4. Broadening the tax base, particularly with regard to limiting
itemized deductions, is an opportunity to move toward a more neutral
tax code and a more level playing field economically.
5. The transitionary path from the tax code we have today to a
fairer, simpler, and more pro-growth tax system is itself a complex
challenge that will require lawmakers to strike a careful balance.
Inadequate or insufficient transition relief may cause some taxpayers
to face steep, unanticipated tax burdens judged unfair by policymakers.
Conversely, overly extended transition relief (for example, repeal of
an ineffective tax credit beginning 10 years hence) may severely limit
the potential economic gains from tax reform.
1. complexity in the tax code abounds
Members of this committee know well the complexity of the current
tax code. The IRS Taxpayer Advocate estimates that nearly 2 billion
hours are spent preparing Form 1040 every year. Various Form 1098s,
1099s, and 5498s, which relate to reporting mortgage interest expense,
dividends and interest income, and distribution of pensions, among
other activities, total over 700 million additional hours annually.
Collectively, this 2.7 billion hours is equivalent to over 1.3 million
full-time workers.\4\ Taxpayers employ a variety of strategies to
comply with tax-filing obligations. Based on data from IRS Compliance
Data Warehouse, about 40 percent of individual taxpayers use software
to help them prepare their returns. These services can offer valuable
convenience and save time but may cost taxpayers $3 billion
annually.\5\
---------------------------------------------------------------------------
\4\ See Figure 2.1.2 from the National Taxpayer Advocate's 2016
Annual Report to Congress, available at www.taxpayeradvocate.irs.gov/
reports/2016-annual-report-to-congress/full-report. Total estimated
preparation time for all forms is 6 billion hours annually. Because
this hearing focuses on individual income tax, compliance costs related
to business tax (corporate, partnership, and S corportions), estate and
gift tax, excise tax, and taxation of foreign persons' U.S. source
income are excluded.
\5\ According to the National Taxpayer Advocate's 2016 Annual
Report to Congress, the average cost of tax prep software is about $50.
With 40 percent of the approximately 150 million individual returns
completed using software (or 60 million tax returns), the estimated
cost is $3 billion.
This complexity is not related to the statutory rate (or number of
rates) at which the government taxes incomes but rather is primarily
related to the elements of the tax code that alter taxpayer's tax
liabilities, whether by permitting a deduction, an exclusion, or a
credit. The Joint Committee on Taxation (JCT) identifies more than 250
such tax expenditures in the Internal Revenue Code,\6\ though there is
no definitive methodology for constructing this list and many of these
provisions do not relate directly to individuals. Moreover, surtaxes
such as the Alternative Minimum Tax are another clear source of
complexity.
---------------------------------------------------------------------------
\6\ Joint Committee on Taxation (JCT), ``Estimates of Federal Tax
Expenditures for Fiscal Years 2016-2020,'' JCX-3-17, January 30, 2017.
One indicator of the complexity of the tax code can be observed by
analyzing the number of taxpayers who itemize their deductions as
opposed to claiming the standard deduction. According to recently
released statistics from the IRS Statistics of Income (SOI), 150.6
million individual income tax returns were filed in tax year 2015, the
most recent year for which these statistics are available. Of these,
44.5 million returns claimed a total of $1.2 trillion in itemized
deductions. Mortgage interest deductions were claimed by 32.7 million
taxpayers and totaled $279 billion. Charitable deductions were claimed
on 36.6 million returns and totaled $201 billion. State and local
income tax deductions (including the general sales tax deduction) were
---------------------------------------------------------------------------
claimed on 42.6 million returns and totaled $338 billion.
More than one-fourth of all itemized deductions are claimed by
fewer than 3 percent of taxpayers--those with adjusted gross incomes
(AGIs) greater than $250,000. However, because these higher-income
taxpayers face higher marginal tax rates, the tax savings they receive
from these deductions is far greater than half of the total tax savings
associated with these policies. Table 1 summarizes the distribution of
itemized deductions as reported by the IRS for tax year 2015, while
Figure 1 illustrates this distribution visually using data and modeling
made available by the Open Source Policy Center (OSPC) Tax-
Calculator.\7\ In brief, one-fifth of taxpayers earning near the median
income are burdened with the complexity of itemized deductions. Over
three-fourths of taxpayers with AGIs between $100,000 and $200,000 are
itemizers, and nearly all taxpayers with AGIs greater than $200,000
itemize their deductions.
---------------------------------------------------------------------------
\7\ The Tax-Calculator is part of the Open Source Policy Center's
(OSPC) TaxBrain modeling suite. More information about TaxBrain and the
OSPC generally can be found at www.ospc.org. The entire suite of
models, including source code, is publicly available.
Table 1. Itemized Deductions by Adjusted Gross Income in Tax Year 2015
----------------------------------------------------------------------------------------------------------------
Under $15,000 to $30,000 to $50,000 to $100,000 to $200,000 or
Total $15,000 $29,999 $49,999 $99,999 $199,999 more
----------------------------------------------------------------------------------------------------------------
Number of 150,565,918 35,584,745 30,103,270 26,564,740 32,892,457 18,634,133 6,786,573
returns
----------------------------------------------------------------------------------------------------------------
Itemized 44,477,185 1,323,310 2,785,803 5,485,481 14,438,234 14,101,283 6,343,076
deductions
----------------------------------------------------------------------------------------------------------------
Share 29.5% 3.7% 9.3% 20.6% 43.9% 75.7% 93.5%
itemizing
----------------------------------------------------------------------------------------------------------------
Source: IRS SOI Bulletin.
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
Source: Open Source Policy Center (OSPC).
Figure 2 narrows in on those taxpayers with AGIs between $20,000
and $200,000 and looks across this income spectrum in a more granular
manner, making evident a clear and dramatic trend: as incomes rise, so
does the tax code's complexity.
Other factors in addition to itemized deductions also contribute to
the complexity of the tax code for individuals. In tax year 2015, 49.4
million taxpayers claimed one or more tax credits, including 22.6
million who claimed the child tax credit, 9.7 million who claimed an
education tax credit, 2.7 million who claimed a residential energy
credit, and 28.4 million who claimed the earned income tax credit
(EITC).
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
These credits and deductions reduce tax liabilities for targeted
populations and can incentivize or reward particular behaviors or offer
tax relief for taxpayers in certain circumstances. The merits and
efficiency of various credits and deductions can be debated, but they
generally add to the complexity of the tax code. Further complicating
the tax code and leading to higher effective marginal tax rates is the
phase out of various credits. For example, the JCT reports that 3.5
million households are subject to the phase out of the child tax
credit. As a result, these taxpayers face marginal tax rates 5
percentage points higher.\8\
---------------------------------------------------------------------------
\8\ JCT, ``The Taxation of Individuals and Families,'' JCX-41-17,
September 12, 2017.
---------------------------------------------------------------------------
2. the individual income tax breeds horizontal inequity
In addition to adding to the complexity of the tax code, a second
consequence of the myriad of tax expenditures available to individual
taxpayers is an increase in horizontal inequity--that is, similarly
situated taxpayers paying dissimilar amounts of Federal income tax. In
the most general terms, similar taxpayers may be considered two
taxpayers with similar amounts of income. An alternative approach would
be to consider both income and household size, recognizing the
established principle in the U.S. tax code that, all else equal, larger
households should pay less tax.
Consider, for example, two neighbors. Neighbor A owns her home, and
Neighbor B rents. Neighbor A donates a significant amount of her income
to charity. Neighbor B donates a significant amount of his time to a
local charity. Neighbor A lives in Bristol, VA, and Neighbor B lives
down the street in Bristol, TN. Even if these two taxpayers had
identical incomes of $100,000, their Federal tax liabilities would
differ considerably. Neighbor B would likely claim the standard
deduction, but Neighbor A would likely deduct her mortgage interest
costs, her charitable giving, and the income taxes she paid to the
Commonwealth of Virginia. Moreover, if Neighbor A has a 17 year child,
and Neighbor B has an 18 year old child, their income tax liabilities
would be even more disparate.
To better understand this variance in tax liability among taxpayers
with similar incomes, Figure 3 illustrates the disparity in tax
liabilities among taxpayers within the same AGI percentile. For
example, at the 70th AGI percentile, the median taxpayer within that
group faces an average tax rate of 8 percent, while a quarter of those
taxpayers pay 4 percent of their AGI or less and another quarter pay 13
percent or more. Figure 4 repeats this analysis but only for taxpayers
with a constant household size, single filers with no children. The
disparity within percentiles is much less but still present.
[GRAPHICS NOT AVAILABLE IN TIFF FORMAT]
A final perspective on the variance in tax liabilities is
illustrated in Table 2, which breaks down the range of tax bills for
all taxpayers, single taxpayers with no children, and married taxpayers
with two children, with AGIs at both the 50th percentile and the 75th
percentile. For example, roughly 40 percent of all median taxpayers
have zero or negative tax liabilities, while 15.1 percent owe $2,500 or
more in Federal income tax.
Table 2. Variance in Tax Liability by Household Size
----------------------------------------------------------------------------------------------------------------
Median AGI 75 Percentile of AGI
----------------------------------------------------------------------------------------------------------------
All Tax Single, No Married, 2 All Tax Single, No Married, 2
Tax Liability Units Children Children Units Children Children
----------------------------------------------------------------------------------------------------------------
<$0 37.6% 3.1% 100.0% 1.8% 0.0% 6.4%
----------------------------------------------------------------------------------------------------------------
$0 2.5 1.5 0.0 0.6 0.7 0.7
----------------------------------------------------------------------------------------------------------------
$1-$1,500 19.9 12.5 0.0 4.2 0.9 15.1
----------------------------------------------------------------------------------------------------------------
$1,501-$2,500 24.9 51.7 0.0 6.3 0.8 20.3
----------------------------------------------------------------------------------------------------------------
$2,501-$5,000 14.8 30.7 0.0 17.9 3.3 54.6
----------------------------------------------------------------------------------------------------------------
$5,001+ 0.3 0.5 0.0 69.2 94.3 2.9
----------------------------------------------------------------------------------------------------------------
Source: OSPC.
The disparities in Federal tax liabilities for similarly situated
taxpayers contributes, in my view, to a lack of confidence in the
system by many taxpayers. After all, while the overall Federal income
tax is progressive, nearly 20 percent of taxpayers who report $36,000
in AGI pay a higher average tax rate than 60 percent of taxpayers who
earn $50,000. In short, many taxpayers are correct in their suspicion
that higher-income earners are paying a lower tax rate, but importantly
this is true across the entire income spectrum.
3. itemized deductions are distortionary and regressive:
the state and local tax deduction example
Among the many provisions of the individual income tax code that
narrow the tax base, itemized deductions are, as a group, the largest.
As mentioned above, according to the IRS SOI, itemized deductions
totaled $1.2 trillion in tax year 2015. Within this category, the
largest itemized deduction was for State and local taxes (SALT). In
2015, $338 billion in SALT deductions were claimed. (Mortgage interest
deductions totaled $279 billion and charitable giving deductions $201
billion.)
The revenue loss (calculated as the deduction amount multiplied by
the weighted average marginal tax rate for taxpayers claiming the
deduction) from reducing the tax base by $338 billion in a single year
is quite large. According to my estimation, full repeal of the SALT
deduction would raise $1.4 trillion over a decade. Of this, 89
percent--$1.26 trillion--would come from taxpayers with AGIs above
$100,000. In other words, the policy itself is highly regressive. It is
available only to the minority of taxpayers who itemize their taxes
(generally higher-income taxpayers) and is more valuable to taxpayers
in higher tax brackets (though for truly high-income earners and
taxpayers on the AMT, the benefits are limited).
What is the purpose or rationale for a Federal tax deduction for
State and local taxes? As the Congressional Budget Office (CBO)
explains:
The deduction for State and local taxes is effectively a
Federal subsidy to State and local governments; that means the
Federal Government essentially pays a share of people's State
and local taxes. Therefore, the deduction indirectly finances
spending by those governments when Federal revenues could be
used to fund the activities of the Federal Government.\9\
---------------------------------------------------------------------------
\9\ Congressional Budget Office (CBO), ``Limit the Deduction for
State and Local Taxes,'' Options for Reducing the Deficit: 2017 to
2026, December 8, 2016, available at www.cbo.gov/budget-options/2016/
52253.
Moreover, this Federal subsidy reduces the ``tax price'' for
deductible State and local taxes for those taxpayers who itemize. For
example, a $1 State income tax increase paid by a taxpayer in the 33
percent marginal tax bracket would reduce her Federal tax liability by
$0.33, yielding a net additional cost to the taxpayer of $0.67. This
reduced tax price can encourage States to rely on deductible taxes more
and to impose more of those taxes on high-income taxpayers. In short,
the SALT is, in isolation, a regressive tax policy at the Federal level
and one that encourages a progressive income tax at the State and local
level. As Kirk Stark observed in Virginia Tax Review, ``All else equal,
State and local governments will have an incentive to design their tax
systems to take maximum advantage of the SALT subsidy, which suggests a
strong price effect in favor of a more progressive tax system.
Empirical studies have shown that the Federal deduction for State and
local taxes exerts a substantial influence on subnational
progressivity.'' \10\ In fact, the most recent evidence of this
empirical response, David Coyne finds that local governments are very
sensitive to changes in the tax price with respect to their willingness
to rely on deductible taxes.\11\ He estimates that a 1 percent increase
in the tax price will lead to a 3.5 percent reduction in the use of
deductible taxes.
---------------------------------------------------------------------------
\10\ Kirk J. Stark, ``The Federal Role in State Tax Reform,''
Virginia Tax Review 30 (2010): 407.
\11\ David Coyne, ``Unmasking Local Fiscal Responses to Federal Tax
Deductibility,'' National Tax Journal 70, no. 2 (2017): 223-256.
---------------------------------------------------------------------------
CBO continues:
An argument in favor of capping the deduction is that the
Federal Government should not provide a tax deduction that
subsidizes the spending of State and local governments because
revenues from State and local taxes are largely paid in return
for services provided to the public. When used to pay for
public services, such taxes are analogous to spending on other
types of consumption that are nondeductible. . . .
Additionally, the unlimited deductibility of taxes could deter
States and localities from financing some services with
nondeductible fees, which could be more efficient.\12\
---------------------------------------------------------------------------
\12\ CBO, ``Limit the Deduction for State and Local Taxes.''
Overall, the combination of high marginal tax rates on income
earned by taxpayers claiming the largest share of itemized deductions
yields a set of regressive and costly tax expenditures. The list is led
by a policy that unfairly distorts State tax policy.
4. a broader tax base can promote greater tax neutrality
If lawmakers pursue a tax reform agenda with a commitment to
broaden the tax base, the benefits can be categorized in two types:
First, there are the direct benefits discussed above: the potential for
a less complex tax code with lower compliance costs, a fairer tax
system with less inequality among similarly situated taxpayers, and a
less distortionary system that is also less regressive. (Such a result
is not, however, to be assumed for all base-broadening policies, of
course. For example, eliminating an exclusion of income, while perhaps
desirable, could increase complexity or compliance.)
Second, there is an important indirect benefit: leveling the
playing field and promoting economic efficiency by reducing tax-induced
distortions in the allocation of resources. As my colleague Alan Viard
and I wrote in an AEI Tax Policy Outlook in 2011:
The economy is generally most efficient when the free market
determines the allocation of resources between goods, based on
production costs and consumer preferences. When different goods
are taxed at different rates, efficiency is impeded because the
allocation of resources is based partly on tax considerations,
rather than costs and preferences. For example, if apples, but
not oranges, are tax-deductible, the economy produces too many
apples and too few oranges. Switching to a [single] tax on both
goods corrects this misallocation, increasing the production of
oranges and reducing the production of apples and yielding a
set of goods consumers find more attractive. . . . Base
broadening is likely to be most useful when it addresses the
major distortions of the current tax system.\13\
---------------------------------------------------------------------------
\13\ Alex M. Brill and Alan D. Viard, ``The Benefits and
Limitations of Income Tax Reform,'' AEI Tax Policy Outlook, September
2011, available at www.aei.org/wp-content/uploads/2011/10/TPO-Sept-
2011.pdf.
However, some base broadening should certainly be avoided. The
income tax, by its very nature, discourages savings and investment by
taxing future consumption more heavily than current consumption. The
current tax code includes a host of policies intended to mitigate or
eliminate this distortion. While lower tax rates on dividends and
capital gains, tax preferences for defined contribution plans, and
other similar policies may appear on lists of tax expenditures, they in
fact promote economic efficiency and should be preserved in even
expanded.
5. tax reform and transition policy: finding the balance
The final point I would like to address relates to the transition
policies necessary to consider in a fundamental tax reform effort that
transforms the tax code from the one we have today to one consisting of
a broader base (that is, with fewer expenditures) and lower statutory
rates. In many respects, the transition rules--the tax policies that
will feature prominently in the tax code in the intervening years--may
be as important as the final tax policies. As lawmakers ponder the most
appropriate strategies for crafting these rules, I would like to offer
three observations.
First, if pursuing fundamental and broad-based reform, providing
little or no transition relief risks imposing large and unanticipated
tax hikes on unsuspecting taxpayers. Beyond the political challenges
this may pose, it could yield painful adverse short-term economic
effects. Second, the corollary is true, too. Overly generous and slow
transition policies that delay needed reforms many years into the
future will also delay the potential economic gains associated with tax
reform.
And finally, when considering the budgetary impact associated with
tax reform, the costs associated with transition policy--for example,
that the ``payfors'' may phase in more slowly than a rate cut--are far
less important than the budgetary impact of tax reform beyond the
budget window. As I discussed in a recent article, lawmakers in pursuit
of revenue-neutral tax reform should focus on the likely revenue impact
of tax reform beyond the 10-year budget window rather than the impact
within the budget window.\14\
---------------------------------------------------------------------------
\14\ Alex Brill, ``Investing in Tax Reform Today Will Yield a
Strong Economy Tomorrow,'' The Hill, April 11, 2017, available at
www.aei.org/publication/investing-in-tax-reform-today-will-yield-a-
strong-economy-tomorrow.
In conclusion, the opportunity for fundamental reform of the
individual income tax system is an opportunity to simplify the tax
code, improve the equity of the system, and reduce distortions. Tax
reform that wisely broadens the tax base can achieve these goals. To
pursue the additional core objective of a tax reform that promotes
economic growth, tax reform should also be careful not to increase the
tax penalty on savings and should instead pursue opportunities to
---------------------------------------------------------------------------
reduce the current savings penalty.
______
Questions Submitted for the Record to Alex M. Brill
Questions Submitted by Hon. Orrin G. Hatch
capital gains versus ordinary income
Question. Mr. Brill, Ms. Batchelder mentions how the gap between
the capital gains tax rate and the higher ordinary income tax rate
creates a large incentive for taxpayers to try to re-characterize
ordinary income as capital gains. She proposes addressing this problem
by ``raising the capital gains rates to reduce this incentive.''
But, to be clear, one equally effective way to address this problem
is to reduce the ordinary income tax rates, right?
Answer. The differential in tax rates between wage income and
capital income can encourage taxpayers to try to recharacterize their
income to take advantage of the lower tax rate. The degree to which
this behavior is incentivized is determined by the spread between tax
rates. That spread can be reduced by either lowering the higher rate or
raising the lower rate or a combination of the two. But it is important
to recognize that raising the rate on capital income can discourage
savings and investment, which are essential to encouraging investment
and for promoting gains in productivity.
high implicit marginal tax rates
Question. Mr. Brill, Ms. Batchelder wrote something I really
appreciated: ``Low-income workers face some of the highest implicit
marginal tax rates.''
I think she's right, and it's a serious problem. But later in her
testimony, she talked positively about a proposal from a member of this
committee to increase the Earned Income Tax Credit and she notes that
the proposal would phase the EITC out more rapidly.
But wouldn't a more rapid phase-out of the EITC increase the
highest implicit marginal tax rate of those low-income workers in the
phase-out range?
Answer. The EITC is an effective tax policy for encouraging work
and reducing poverty, especially among taxpayers with children.
Providing a tax incentive for low-income individuals to work, as the
EITC does, without providing a subsidy to all taxpayers necessitates
that the credit be phased out as incomes rise. There is, however, an
unavoidable tradeoff in design if the policy were to be expanded. If
enlarged, the credit must be phased out at a faster pace over the same
range (thus creating a higher effective marginal tax rate) or it must
be phased out over a broader range of income (thus extending the
existing marginal tax rate bump to more middle-income taxpayers).
salt deduction: regressive or progressive?
Question. Mr. Brill, you write on how the State And Local Tax
(SALT) deduction is highly regressive, but that it encourages
progressive State/local taxes. So, please explain more. Perhaps those
two effects net out? If one thinks the tax laws needs to be more
progressive, perhaps it's a good thing that the Federal SALT deduction
encourages progressive State and local taxes? What do you think? A good
thing or a bad thing?
Answer. The progressivity of State income tax systems is encouraged
by the Federal deduction for State and local taxes. To some extent, the
States are responding to the incentive to capture the Federal subsidy
the deduction offers. By providing a subsidy generally only to high-
income taxpayers--those who itemize--the code rewards States who rely
on these taxpayers for their revenues. The degree of progressivity is a
policy design by each State, and Federal tax policy should not attempt
to steer that design choice. States should not be encouraged (or
discouraged) from pursuing a progressive State tax system by the
Internal Revenue Code.
transition policy
Question. Mr. Brill, I agreed with Ms. Harrison's point that: ``If
one were designing a tax system for the first time, one would likely
devise something that is different from what we have already.''
She then went on to state that some provisions in the tax code have
been around for over a century, and thus many asset prices have the
expectation of those tax provisions continuing.
So, Mr. Brill, please connect Ms. Harrison's good points with your
thoughts on transition policy. Namely, it's certainly true we don't
want, through tax law changes, to create tremendous upheaval, even if
the new law will be more efficient in the long run. Your thoughts?
Answer. I would encourage the committee not to keep any existing
policy in the tax code simply because it has been there for a long
time. One objective of tax reform should be to establish a neutral tax
code that minimizes interference with the market, absent clear evidence
of a market failure. While asset values can certainly be affected by
tax policy changes, I believe the idea that the U.S. residential
housing market is inflated by the mortgage interest deduction is likely
exaggerated. While my research on the topic is incomplete at this time,
I would simply note that given the average price of homes in the U.S.,
current interest rates, and the effects of the standard deduction and
personal exemption, a large number of homebuyers do not claim the
mortgage interest deduction.
______
Questions Submitted by Hon. Bill Nelson
Question. In your opinion, did the 1986 Tax Reform Act solve the
problems it was intended to fix? If so, please provide some examples of
how. If not, why?
Answer. The Tax Reform Act of 1986 was a major legislative
accomplishment. The tax base was broadened and statutory tax rates were
reduced significantly. It was also a political accomplishment, as
Democrats worked cooperatively with President Reagan to achieve these
reforms. As Martin Feldstein has documented, TRA86 demonstrated that
lower marginal tax rates yield increases in the amount of reported
taxable income. As the 2006 Economic Report of the President notes,
TRA86 also greatly narrowed the disparity in tax rates across asset
classes, thereby reducing distortions in the types of investments made
domestically.
Question. What metric or considerations should Congress use to
determine appropriate trade-offs in tax reform?
Answer. I would encourage lawmakers to pursue a tax reform agenda
with two main priorities: first, a simplification of the individual
income tax system that reduces itemized deductions and moves more
taxpayers to the standard deduction. This creates both a simpler system
and a fairer tax code. Second, to the extent possible, I would
encourage Congress to reduce the tax burden on savings and new
investment, particularly in the corporate sector. A narrowing of the
disparity in tax liabilities among similarly situated taxpayers and an
increase in the domestic capital stock arising from a reduction in the
tax on new investment will yield a tax code that is both fairer and
more pro-growth.
A challenge to this task will be balancing the long-run budget
consequence of tax reform with these goals. While deficit financing the
transition cost of tax reform may be reasonable, the long-run fiscal
outlook must be carefully evaluated.
Question. How would you suggest Congress address the skyrocketing
cost of rental housing? Please provide some specific ideas to consider.
Answer. The cost of rental housing is often measured relative to
the cost of purchasing a home, a metric referred to as the price-to-
rent ratio. Nationally, that ratio is near its historical average, but
trends vary across markets. To the extent that limited housing supply
is pushing up rents, local policy reforms to permit more construction
would be most appropriate. I would not support any tax policy geared to
relieving the cost burden on renters.
______
Submitted by Hon. Maria Cantwell, a U.S. Senator From Washington
From The New York Times
Economists See Little Magic in Tax Cuts to Promote Growth
By Patricia Cohen and Nelson D. Schwartz
May 23, 2017
If one assumption has undergirded Republican economic policy for
decades--and is the foundation of the Trump administration's first
budget proposal--it is that tax cuts will unleash fantastic growth.
The basic idea is that shrinking the government's share increases what
people take home, encouraging workers to work more and investors to
invest more. But while taxes can create incentives that can promote
growth, liberal and conservative economists alike said there was no
evidence that the White House budget announced on Tuesday would do so.
``The assumed effects on growth are just huge and unwarranted,'' said
William G. Gale, a co-director of the nonpartisan Urban-Brookings Tax
Policy Center and a former economic adviser to the first President
George Bush.
The Trump administration promises to cut taxes, keep revenues steady
and crank out average annual economic growth of 3 percent, but neither
the budget nor the tax reforms previously outlined in sketchy form
provide enough detail to figure out if that will happen.
While the United States cruised along with 3 percent growth--and
higher--in the late 1990s and mid-2000s, growth has not reached
anywhere near that level since well before the recession. The best
showing in the past decade was in 2015, when the annual rate of
expansion hit 2.6 percent.
In 2016, the economy expanded at an annual rate of 1.6 percent, the
weakest performance in 5 years. Even as economies in Europe and Asia
show signs of life after years of stagnation or outright recession,
expectations for faster growth soon in the United States have ebbed.
Both the Federal Reserve and the Congressional Budget Office have
projected a pace of less than 2 percent in the long run.
Since mid-March, yields on the benchmark 10-year Treasury bond have
fallen from 2.62 percent to 2.28 percent on Tuesday, a sign that
traders are discounting the likelihood of a sudden pickup in growth.
How Trump's Budget Would Affect Every Part of Government
Government spending would be cut substantially. See how every budget
item would be changed.
10-year percent
Budget Item 10-year budget 10-year change change
Health $5.11 trillion -$2.02 trillion -28.3%
------------------------------------------------------------------------
Health care $4.78 trillion -$1.91 trillion -28.5%
services
Grants to $4.7 trillion -$627 billion -11.8%
States for
Medicaid
Refundable $559.6 billion -$5.3 billion -0.9%
premium
assistance
tax credit
and cost
sharing
reduction
Federal $220.4 billion -$2.6 billion -1.2%
employees'
and retired
employees'
health
benefits
Children's 77.2 billion +$13.9 billion +21.9%
Health
Insurance
Programs
(CHIP)
DOD Medicare- $143.8 billion -$3.8 billion -2.6%
eligible
retiree
health care
fund
Health $66.2 billion +$474 million +0.7%
Resources and
Services
Administratio
n
Reinsurance $71.7 billion - -
and risk
adjustment
program
payments
Centers for $49 billion -$18 billion -26.9%
Disease
Control and
Prevention
Indian Health $47.5 billion -$5.8 billion -10.9%
Service
An analysis of Mr. Trump's tax plan by the bipartisan, nonprofit
Committee for a Responsible Federal Budget estimated that the Federal
debt would rise by $5.5 trillion over the first decade. Even if lower
taxes encouraged people to save and invest more, the huge government
deficits created by the budget would crowd out private investors and
offset some of those direct effects, several economists said.
Alan D. Viard, a tax expert at the American Enterprise Institute, a
conservative research organization in Washington, said he and other
researchers had repeatedly found that ``deficit-financed tax cuts were
usually harmful to growth.''
Cutting the tax on investment income, for example, delivers the most
bang for the buck, Mr. Viard said, but unless the lost revenue is made
up through increases in other taxes or spending cuts, the deficit will
balloon and economic growth will suffer.
Previous Presidents have not had a lot of success using tax cuts to
spur growth. ``The historical record is pretty clear that large tax
cuts don't pay for themselves through economic growth,'' said Michael
J. Graetz, a professor of tax law at Columbia University.
The 1981 tax cut that President Ronald Reagan pushed through did
provide a short jolt to the economy, Mr. Graetz said, but he pointed
out that the administration was compelled to raise taxes in 1982 and
1984 to keep the deficit under control.
Tax cuts championed by President George W. Bush in 2001 and 2003
performed even worse. While the cuts temporarily stimulated spending by
putting more money in people's pockets, they did not have much impact
in enhancing the economy's ability to produce goods and services.
Both President Trump and the House Republicans' proposals reserve the
biggest tax cuts for the wealthiest. Slashing rates at the top is
probably the least effective way of spurring spending, however, because
high-income households have the luxury of socking away a financial
windfall, said Nariman Behravesh, chief economist at the research firm
IHS Markit. The Trump plan, he said, ``could well end up hurting a lot
of poor people without boosting growth.''
``If you tilt the tax cuts toward lower-income households, they will
spend more of it,'' Mr. Behravesh said. ``There is virtually no debate
among economists about that.''
And the deep cuts in the budget to programs that benefit primarily
those at the bottom of the economic ladder will, if anything, reduce
their spending.
The left-leaning Economic Policy Institute estimated that the budget
cuts would decrease growth by more than 1 percent by 2020.
Many economists on the left and the right agree that the current code
as it applies to businesses is misguided: It puts the United States at
a competitive disadvantage and encourages corporations to keep income
abroad. But fixing that problem isn't merely a matter of slashing
rates.
``With the economy back to near full employment, conventional tax cuts
or stimulus spending won't have that much of an effect,'' said Douglas
Holtz-Eakin, a conservative economist who served in the George W. Bush
administration and advised John McCain's 2008 presidential campaign.
``What is needed are policies that genuinely augment the supply side of
the economy.''
What might that look like? Instead of simply cutting rates, Mr. Holtz-
Eakin would opt for incentives for business to invest in new equipment
or software, infrastructure investments that speed transportation and
ease other frictional costs, and retraining that improves workers'
skills and increases the proportion of prime-age Americans who are
employed.
Mr. Viard of the American Enterprise Institute added tax relief for
child-care expenses to the list of reforms that could bolster growth.
There are lots of reasons to tinker with the tax code, many experts
say, but the notion that there is a simple cause-and-effect
relationship between cuts and growth is faulty. ``Tax policy is clearly
not some overwhelmingly powerful tool that affects growth,'' Mr. Viard
said. There are simply too many other things--like technology, worker
productivity and aging--that can either muffle or overwhelm their
impact.
In the months after Mr. Trump's unexpected victory in November, many
business leaders and investors thought that the Washington logjam might
finally break and that corporate tax reform, more infrastructure
spending and other growth-friendly policies would be passed by Congress
and signed into law.
But with Washington and the White House now distracted by the
investigation into possible ties between former Trump aides and Russia,
momentum for major tax cuts or a big infrastructure bill has stalled.
On Friday, the government will announce revised figures for growth in
the first quarter of 2017, but not much improvement from the initial
0.7 percent estimate last month is expected.
______
Prepared Statement of Iona C. Harrison, Senior Vice President,
Pioneer Realty
introduction
Chairman Hatch, Ranking Member Wyden, and members of the Finance
Committee, my name is Iona Harrison. I am a real estate professional
working in Upper Marlboro, MD, and have been in the business my entire
adult life. Currently, I serve as the chair of the Federal Taxation
Committee of the National Association of Realtors (NAR), and I have
served the real estate industry at the local, State, and national
levels for many years in a variety of capacities.
I am here today to testify on behalf of the more than 1.2 million
members of the National Association of Realtors. NAR's members are real
estate professionals engaged in activities including real estate sales
and brokerage, property management, residential and commercial leasing,
and appraisal. The business approach of Realtors is a highly personal,
hands-on, face-to-face model, focused on helping fulfill a family's
fundamental need for shelter. NAR has long prided itself as a voice for
not only its members, but for America's 76 million homeowners, as well
as the millions more Americans who aspire to own their home one day.
Thank you for the opportunity to present NAR's views on how tax
reform could affect individual taxpayers and residential real estate.
Purchasing a home is one of the most significant events that most
Americans undertake in their lives, and this activity interacts with
our tax system in a fundamental way. Since its inception, the Internal
Revenue Code has offered important incentives for purchasing and owning
a home. As it pursues tax reform, Congress must have a full
understanding of the impact that changing these provisions could have
on American taxpayers, as well as on residential real estate markets
and the economy as a whole.
NAR Principles for Tax Reform
NAR's recommendations are centered on three guiding tax policy
principles:
Our income tax system, despite its many flaws, has supported a
home ownership system that is unequaled in the world. Tax reform must
build on the positive aspects of our current system so that it
continues to encourage and support home ownership.
While some aspects of our current tax system are mind-numbingly
complex, the housing and real estate tax rules create no undue or
significant complexity burdens for the great majority of individuals. A
quest for simplicity must not be allowed to override common sense.
Income-producing real estate is vital for strong economic growth
and job creation, and great care must be taken in tax reform to ensure
that current provisions that encourage those results not be weakened or
repealed. Further, we agree that the tax system should be improved to
better incentivize the construction of low-income housing (such as
through an enhanced Low-Income Housing Tax Credit), encourage more
investment in income-producing real estate by the middle class, and to
help families save for retirement security.
If one were designing a tax system for the first time, one would
likely devise something that is different from what we have today. But
we're not starting from scratch, particularly in the context of
housing. Some provisions in the tax code, such as the deductions for
mortgage interest and State and local taxes paid, have been part of the
Federal tax code since our current income tax was instituted more than
a century ago. Thus, the values of such tax benefits are both directly
and indirectly embedded in the price of a home. While economists
disagree about the best estimates of the value of those embedded tax
benefits, they all generally agree that the value of a particular home
includes tax benefits.
Real estate is the most widely held category of assets that
American families own, and for many Americans, the largest portion of
their family's net worth, despite the price declines of the Great
Recession. Therefore, while NAR agrees that reform and revision to
different portions of the individual tax code are warranted, and that
the law should be simplified, we remain committed to preserving the
current law's incentives for home ownership and real estate investment.
NAR believes that individual tax rates should be as low as possible
while still providing for a balanced fiscal policy. NAR further
believes that there should be a meaningful differential between the
rates paid on ordinary income and capital gains on investments.
However, NAR does not endorse a particular rate, nor does it believe
that long established provisions in the code should be changed or
eliminated solely to lower marginal tax rates. When Congress last
undertook major tax reform in 1986, it eliminated or significantly
changed a large swath of tax provisions, including major real estate
provisions, in order to lower rates, only to increase those rates just
5 years later in 1991. Most of the eliminated tax provisions never
returned and in the case of real estate, a major recession followed.
Congress must be mindful that eliminating widely used and simple tax
provisions can have harsh and dangerous unintended consequences,
particularly if the sole purpose of eliminating non-abusive provisions
is to obtain a particular marginal tax rate. NAR also notes that it is
estimated that American homeowners already pay well over 80 percent of
all Federal income taxes.\1\ Congress should avoid further raising
taxes on homeowners.
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\1\ National Association of Realtors estimates.
Many concepts of tax reform are based on the idea of lowering tax
rates and broadening the tax base. This paradigm often leads to the
conclusion that tax reform needs to ``close abusive or unwarranted
loopholes.'' However, very few ``loopholes'' have been identified. NAR
firmly believes that the tax provisions that support home ownership are
not loopholes. As 64 percent of American households are owner-
occupied,\2\ we believe that home ownership is not a ``special
interest,'' but is rather a ``common interest.''
---------------------------------------------------------------------------
\2\ U.S. Census Bureau, January 2017.
NAR believes that tax reform must first do no harm to real estate.
Home Ownership and Tax Simplification
NAR supports the goals of simplification and structural
improvements for the tax system. Nonetheless, we are unwavering in our
support for the mortgage interest and property tax deductions and
believe that other favorable housing provisions should be retained.
These rules are among the most easily understood and widely supported
in the entire tax system, so compliance is easily achieved.
The mortgage interest and property tax deductions sometimes come
under fire because, in any particular year, only about one-third of
taxpayers itemize their deductions. This criticism overlooks two
essential points. First, even though the percentage of taxpayers who
itemize has remained relatively constant over the past 25 years, the
individuals who comprise the universe of itemizers changes from year to
year. Younger taxpayers purchase their first home, older mortgages get
paid off, a family's charitable contributions fluctuate, State and
local tax burdens vary from State to State, and in some years, families
face deductions for large medical expenses or casualty losses. In
short, circumstances change.
Second, the standard deduction serves as a very generous proxy for
itemizing. It provides, in relative terms, a greater tax benefit for
the taxpayers who use it than itemizing would give them. For example,
today's standard deduction on a joint return is $12,700. Suppose that
if a family's total of mortgage interest expense, State and local
taxes, charitable contributions and medical expenses were $8,700, they
would receive the equivalent of a ``free'' extra exemption or deduction
of $4,000 ($12,700-$8,700). The standard deduction thus generally has
the effect of sheltering some income from taxation. This is because
taxpayers itemize only when allowable deductions exceed the standard
deduction (please see The Enigma of the Standard Deduction, below).
NAR supports the current standard deduction. For most taxpayers, it
is a substantial and significant simplification device that also, by
sheltering some income from tax, adds progressivity to the system.
Those who itemize receive no such benefit. As with standard deduction
taxpayers, itemizers are found in all tax brackets. If they are in
higher tax brackets, they do receive more tax benefit per dollar spent
than itemizers in lower brackets. What critics often overlook, however,
is that higher bracket taxpayers also pay more tax on each dollar of
income than those in lower tax brackets.
Some recent tax reform plans feature a much higher standard
deduction than is offered under the current system. Proponents of this
change justify it by touting the additional simplification that could
result from far fewer taxpayers itemizing. However, this simplification
would come at a high price. Doubling or tripling the standard
deduction, as some reformers suggest, destroys the incentive value of
itemized deductions for most, as the great majority of taxpayers would
receive the same tax benefit whether or not they engaged in the
behavior the deduction is designed to encourage, whether it is to
purchase a home or to donate to a charitable cause. Past increases in
the standard deduction were justified on the grounds that the
underlying itemized deductions had grown in value compared with an
unindexed standard deduction. But under the current law, the standard
deduction is adjusted each year for inflation, leaving little or no
policy reason to increase it.
Moreover, one prominent recent tax reform plan purports to almost
double the standard deduction, but in reality, a large portion of the
increase is accomplished by shifting the current-law personal and
dependency exemptions to the increased standard deduction. As a result,
this change could greatly mitigate promised tax reductions for many
present itemizers, and also lessen or eliminate the incentive effect of
those itemized deductions. This is especially true for larger families.
For example, a family with four children with itemized deductions
totaling $23,700 would have a total amount of combined deduction and
exemptions under the current law of $48,000. This is from the itemized
deductions plus six personal and dependency exemptions worth $4,050
each. However, under the proposed tax reform plan that the House Ways
and Means Committee is reportedly considering, the total deduction and
exemptions would be halved to just the $24,000 ``higher'' standard
deduction. It is true that the Ways and Means plan includes a higher
child tax credit, but this would not even come close to making up for
the loss of the exemptions. Moreover, if one or more of the children
were age 17 or older, there would be no offsetting increase in the
child credit. Thus, larger families could pay a very high price indeed
for the marginal amount of simplification that may be gained from the
higher standard deduction under tax reform.
For these reasons, NAR opposes tax reform plans that significantly
increase the standard deduction.
home ownership and american culture
Policymakers should not dismiss or underestimate Americans' passion
for home ownership, notwithstanding the most recent economic crisis.
Calling home ownership the ``American Dream'' is not a mere slogan, but
rather a bedrock value. Owning a piece of property has been central to
American values since Plymouth and Jamestown. Homes are the foundation
of our culture, the place where families eat, learn and play together,
and the basis for community life. The cottage with a picket fence is an
iconic and irreplaceable part of our heritage.
The Nation's commitment to home ownership as a foundation of our
society is not misplaced. Now, more than ever, home ownership does and
should remain in the forefront of our cultural value system.
The fundamental assumptions about the social benefits of housing
and home ownership remain essentially unchanged. NAR polling and focus
group research confirm that the public continues to share those
assumptions, including those who currently do not own their own home.
An overwhelming majority (94 percent) of renters aged 34 and younger
aspire to own a home. And among renters of all ages, 83 percent have a
desire to own. Seventy-seven percent of them believe that home
ownership is part of the American Dream.\3\ Remarkably, even after the
problems stemming from the 2003-2007 housing run-up, this faith in home
ownership persists.
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\3\ ``2015 Homeownership Opportunities and Market Experience (HOME)
Survey,'' conducted by the National Association of Realtors.
Research has consistently shown the importance of the housing
sector to the economy and the long-term social and financial benefits
to individual homeowners and communities. The economic benefits of the
---------------------------------------------------------------------------
housing market and home ownership are immense and well documented.
The housing sector directly accounted for approximately 16 percent
of total economic activity in 2016. Net of mortgage liabilities, real
estate household equity totaled $13.7 trillion in the first quarter of
2017.\4\
---------------------------------------------------------------------------
\4\ ``Housing's Contribution to Gross Domestic Product (GDP),''
National Association of Home Builders, https://www.nahb.org/.
In addition to tangible financial benefits, home ownership brings
substantial social benefits for families, neighborhoods, and the Nation
as a whole. These benefits include increased education achievement and
civic participation, better physical and mental health, and lower crime
rates. These economic and societal benefits do not change and will not
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change, despite the ups and downs and challenges of the housing market.
Our tax system does not ``cause'' home ownership. People buy homes
to satisfy many social, family, and personal goals. Rather, the tax
system facilitates ownership. The tax system supports home ownership by
making it more affordable. While it is true that only about one-third
of taxpayers itemize deductions in any particular year, it is also true
that, over the home ownership cycle, a much higher percentage of
taxpayers receive the direct benefit of the mortgage interest
deduction. Over time, mortgages get paid off, other new homeowners
enter the market and family tax circumstances change. Individuals who
utilize the mortgage interest deduction (MID) in the years right after
a home purchase are, over time, likely to switch to the standard
deduction.
When academics talk about the MID and refer to it as an
expenditure, they are speaking in the language of macroeconomics. In
reality, the billions of tax dollars they see as an expenditure are the
individual savings of millions of families. Every time homeowners make
a mortgage payment, they are generally creating non-cash wealth for
their families. Many seasoned Realtors describe their satisfaction in
helping a family secure its first house and then a larger home(s) for
raising families. The most satisfying of a long-term series of
transactions is helping a couple buy its last house without a mortgage.
Those couples are able to make this ``last'' purchase because ownership
over a long term of years has resulted in savings sufficient to meet
their needs.
The Federal policy choice to support home ownership has been in the
Internal Revenue Code since its inception. We see no valid reason to
reverse or undermine that basic decision. Indeed, we believe that the
only viable tax system for America is one that would continue to
nurture home ownership.
residential real estate tax provisions
There are a number of provisions in the Internal Revenue Code that
affect residential real estate in one form or another. These range from
relatively minor temporary tax incentives to major provisions utilized
by millions of taxpayers. While NAR generally supports tax provisions
that encourage sustainable home ownership and that incentivize
investment and improvement of real estate, we will focus here on the
most prominent and widely used provisions for individual homeowners.
The Real Property Tax Deduction
The income tax system of the United States has provided a deduction
for State and local taxes, including property taxes, since its
inception in 1913. To do otherwise would violate two fundamental and
widely accepted principles of good tax policy--the avoidance of double
taxation and the need to recognize the taxpayer's ability to pay.
Taxes paid at the State and local levels to benefit the general
public are in nature and purpose similar to the Federal income tax in
that they both fund essential government services. Therefore, allowing
a deduction for these State and local taxes for Federal income tax
purposes is essential to avoiding double taxation on the same income
(or a tax on a tax). Our Federal tax law follows this same principle in
connection with the payment of taxes to other nations. In the case of
foreign taxes, however, the law goes even further and provides
taxpayers with a choice of claiming a deduction for foreign taxes paid,
or taking a credit, which is a dollar-for-dollar reduction in tax owed.
Some recent tax reform proposals would repeal the deduction for
State and local taxes paid, ostensibly because the Federal deduction
has been viewed by some as subsidizing State and local government
activities, and even perhaps encouraging them to increase spending.
Interestingly, very few, if any, critics suggest that the even more
generous credit for taxes paid to a foreign government subsidizes
spending by those nations, or encourages profligacy by them.
While State and local taxes vary greatly, two aspects of them that
do not change are that they are ubiquitous throughout the Nation, in
one form or another, and they are largely involuntary. Some would argue
that we can exercise some degree of choice over how much we pay in
State and local taxes by deciding where we live and what we buy. Others
would point out that the degree to which this is possible is greatly
limited by family circumstances and ties. However, avoiding these
levies altogether is not a practical option. Obviously, paying taxes to
State and local governments leaves taxpayers without the income used to
pay the taxes. The extraction of State and local taxes is tantamount to
the money never being earned by the taxpayer in the first place. Our
tax system has always recognized this fact by providing a deduction for
the payment of these taxes.
Eliminating the deduction for State and local taxes would fly in
the face of these fundamental tax policy principles that have been
ingrained in our income tax law from its beginnings.
For homeowners, real property taxes represent an unending
obligation, at least as long as they own their homes. The other major
deduction for most homeowners, the mortgage interest deduction, does
not continue after the mortgage is paid off, and it usually diminishes
as the mortgage is being paid. Property taxes, on the other hand, often
increase over the years, as assessments on property increase and as
local governments increase their levy rates. For these reasons, the
deduction for real estate property taxes is often the one most-claimed
by homeowners. In fact, significantly more taxpayers claim the real
property tax deduction than claim the deduction for mortgage interest
(in 2015, 44.1 million wrote off real property taxes while 32.7 million
deducted mortgage interest).\5\
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\5\ ``SOI Tax Stats--Individual Income Tax Returns,'' Publication
1304 (Complete Report), updated 8/31/2016, https://www.irs.gov/.
As with the mortgage interest deduction, critics sometimes claim
that the deduction for property taxes is misguided because it gives the
lion's share of its benefit to the wealthy and little to the rest of
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us. However, this is just not the case.
Much of this criticism is centered on the fact that taxpayers must
itemize in order to take the deduction. As discussed below (please see
The Enigma of the Standard Deduction), taxpayers who claim the standard
deduction also benefit from the property tax deduction.
Further, because real property taxes are assessed based on property
values, one would expect the deduction to be much more utilized at
higher incomes. Moreover, most local governments grant real property
tax relief to lower-income taxpayers.
Surprisingly, however, 70 percent of the value of real property tax
deductions in 2014 went to taxpayers with incomes of less than
$200,000, and 53 percent of those claiming the itemized deduction for
real estate taxes that year earned less than $100,000.\6\
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\6\ ``SOI Tax Stats--Individual Statistical Tables by Size of
Adjusted Gross Income,'' Table 2.1, Tax Year 2014, https://
www.irs.gov/.
In addition, the tax law already includes a provision designed to
limit the tax benefit of the real property tax deduction to the
``wealthy.'' Specifically, the deduction is disallowed for purposes of
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the alternative minimum tax.
Percentage of Tax Units That Use the SALT Deduction and the Average Deduction by State
----------------------------------------------------------------------------------------------------------------
Percent With SALT Average SALT Percent With SALT Average SALT
State Deductions Deduction State Deductions Deduction
----------------------------------------------------------------------------------------------------------------
MD 45% $5,604 NE 28% $2,992
CT 41% $7,774 ME 28% $2,997
NJ 41% $7,045 VT 27% $3,246
DC 39% $6,056 SC 27% $2,224
VA 37% $3,998 MI 26% $2,434
MA 37% $5,421 OH 26% $2,650
OR 36% $4,211 MO 26% $2,436
UT 35% $2,753 KY 26% $2,438
MN 35% $4,273 AL 26% $1,457
NY 34% $7,182 KS 26% $2,338
CA 34% $5,807 NV 24% $1,422
RI 33% $3,985 OK 24% $1,878
GA 33% $2,830 IN 23% $1,916
CO 33% $2,796 MS 23% $1,418
IL 32% $4,164 LA 23% $1,519
DE 32% $2,787 NM 23% $1,557
WI 32% $3,551 AR 23% $1,993
NH 31% $3,003 TX 22% $1,694
WA 30% $2,125 FL 22% $1,548
IA 29% $2,812 WY 22% $1,244
HI 29% $2,624 AK 21% $1,023
NC 29% $2,629 TN 20% $1,043
PA 29% $3,083 ND 18% $1,211
AZ 28% $1,977 SD 17% $982
MT 28% $2,483 WV 17% $1,535
ID 28% $2,312
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Source: The Impact of Eliminating the State and Local Tax Deduction, (based on 2014 IRS data), Government
Finance Officers Association.
The Mortgage Interest Deduction
The deduction for mortgage interest paid has been part of the
Federal income tax code since its inception in 1913. Despite more than
a century of additions, modifications, deletions, and overhauls of the
tax code, Congress has left the mortgage interest deduction in place.
Current law allows a homeowner to deduct the interest on up to $1
million in total acquisition debt for a principal residence and a
second, non-rental, home. Homeowners are also allowed to deduct the
interest on up to $100,000 in home equity debt.
Prior to 1986 there was no limit on the amount of home mortgage
interest that could be deducted. The Tax Reform Act of 1986 imposed the
first limitation on the MID, allowing it for allocable debt used to
purchase, construct or improve a designated primary residence and one
additional residence (second home).
The Omnibus Budget Reconciliation Act of 1987 further limited the
deduction to interest allocable to up to $1 million in acquisition
debt. This limit is not adjusted for inflation. Factoring in the impact
of inflation, the value of the cap has eroded by half since 1987; in
2014 dollars, the original cap would be equal to over $2 million today
had it been indexed.
Who Benefits From the Mortgage Interest Deduction?
The mortgage interest deduction (MID) is often criticized on two
fronts--that it benefits only those relatively few taxpayers who are
eligible to itemize their deductions, and that it favors wealthier
taxpayers at the expense of those with more modest incomes. Since
taxpayers who itemize are often those with higher incomes, these
criticisms are related.
In 2015, the most recent tax year for which IRS data are available,
32.7 million tax filers claimed a deduction for mortgage interest.\7\
While tax filers claiming the MID account for less than a quarter of
the total number of tax returns filed, returns claiming the MID
represent closer to half of owner-occupied households and roughly two-
thirds of homeowners whose homes are mortgaged.
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\7\ Individual Income Tax Returns, Preliminary Data, Tax Year 2015,
Internal Revenue Service, Statistics of Income Bulletin, Spring 2017,
https://www.irs.gov/.
Furthermore, the percentage of homeowners claiming the benefits of
the MID at some stage of the home ownership cycle is much higher. Over
the course of an owner's tenure in a home, an individual may itemize in
the early years of home ownership, when the interest expense is high
relative to the principal paid, but then not itemize in later years.
Mortgages get paid off, other non-MID deductions rise and fall,
individuals down-size, divorces occur, a spouse dies or needs to
simplify living arrangements. These and other life events may convert
itemizers into standard deduction taxpayers. Thus, in any given year,
we will not see the full contingent of homeowners who use the MID at
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some stage over the time they own their homes.
As to the charge that the deduction predominately favors the
wealthy, statistics show that this is simply not the case. Rather, the
MID is valuable and utilized by households across the income spectrum.
Fifty-three percent of those claiming the MID in 2015 earned less than
$100,000 and 85 percent had Adjusted Gross Incomes of less than
$200,000. Further, 76 percent of the value of the MID in that year went
to those earning under $250,000 per year.\8\
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\8\ Ibid.
Facts on the Mortgage Interest Deduction in the U.S.
Share of Number of Average amount Total tax
homeowners with taxpayers subtracted from Average taxpayer savings from the
mortgage claimed the MID taxable income savings in taxes MID
United States 63.8% 32,111,500 $8,700 $2,170 $69,768,843,000
Mortgage Interest Deduction for Each State
Share of Number of Average amount Total tax
State homeowner with taxpayers subtracted from Average taxpayer savings from the
mortgage claimed the MID taxable income savings in taxes MID
Alabama 57.4% 390,500 $7,300 $1,820 $712,165,000
Alaska 66.1% 66,700 $9,600 $2,400 $160,041,750
Arizona 64.4% 625,300 $8,950 $2,230 $1,395,437,250
Arkansas 55.6% 199,000 $6,550 $1,640 $326,849,750
California 71.9% 4,207,200 $12,400 $3,100 $13,040,866,250
Colorado 72.8% 683,200 $9,550 $2,390 $1,634,558,750
Connecticut 69.9% 536,200 $8,750 $2,190 $1,174,603,000
Delaware 69.4% 115,700 $8,900 $2,220 $257,068,250
District of Columbia 76.0% 77,900 $12,350 $3,090 $240,670,750
Florida 58.1% 1,465,400 $9,100 $2,280 $3,335,480,000
Georgia 66.9% 1,066,400 $7,700 $1,930 $2,056,481,750
Hawaii 66.3% 140,300 $12,800 $3,200 $448,732,750
Idaho 65.8% 154,100 $7,600 $1,910 $293,572,250
Illinois 65.0% 1,488,600 $7,700 $1,930 $2,868,501,000
Indiana 66.7% 557,900 $6,400 $1,610 $895,719,000
Iowa 60.7% 302,400 $5,900 $1,470 $445,098,500
Kansas 60.3% 250,800 $6,600 $1,660 $415,260,500
Kentucky 59.4% 381,100 $6,250 $1,560 $595,903,500
Louisiana 53.2% 315,300 $7,500 $1,880 $592,514,250
Maine 62.3% 137,000 $6,950 $1,740 $237,742,000
Maryland 73.5% 951,300 $10,000 $2,490 $2,372,916,500
Massachusetts 69.5% 934,900 $9,200 $2,300 $2,153,170,500
Michigan 61.6% 958,600 $6,700 $1,670 $1,600,460,500
Minnesota 66.8% 735,600 $7,850 $1,960 $1,444,535,000
Mississippi 51.2% 189,200 $6,500 $1,620 $306,364,250
Missouri 62.7% 547,700 $6,800 $1,700 $933,184,000
Montana 55.1% 100,100 $7,600 $1,900 $189,737,000
Nebraska 61.1% 179,000 $6,050 $1,520 $271,533,250
Nevada 68.4% 240,900 $9,500 $2,380 $572,154,500
New Hampshire 67.0% 173,800 $8,300 $2,070 $360,497,000
New Jersey 68.4% 1,252,700 $9,150 $2,290 $2,864,940,250
New Mexico 56.3% 157,500 $8,150 $2,040 $321,520,500
New York 62.4% 1,961,500 $8,800 $2,200 $4,322,713,500
North Carolina 64.4% 991,000 $7,650 $1,910 $1,897,594,750
North Dakota 51.9% 43,800 $7,650 $1,910 $83,533,250
Ohio 64.0% 1,137,400 $6,150 $1,540 $1,749,842,250
Oklahoma 56.0% 275,200 $6,650 $1,670 $458,660,250
Oregon 66.1% 497,400 $8,450 $2,120 $1,052,620,500
Pennsylvania 60.6% 1,354,200 $7,300 $1,820 $2,465,775,250
Rhode Island 69.9% 135,900 $7,700 $1,930 $261,863,750
South Carolina 58.6% 444,600 $7,500 $1,870 $830,953,000
South Dakota 54.7% 49,400 $7,350 $1,840 $90,823,000
Tennessee 59.9% 443,600 $8,050 $2,010 $890,610,000
Texas 58.3% 1,975,500 $7,800 $1,950 $3,851,842,000
Utah 71.0% 342,900 $8,300 $2,070 $711,404,250
Vermont 62.9% 68,100 $7,100 $1,770 $120,821,250
Virginia 69.9% 1,127,300 $10,250 $2,570 $2,894,670,250
Washington 69.0% 826,200 $10,350 $2,580 $2,134,631,500
West Virginia 46.3% 100,600 $6,800 $1,710 $171,573,750
Wisconsin 65.1% 678,600 $6,300 $1,580 $1,069,723,750
Wyoming 58.1% 46,300 $9,000 $2,250 $104,392,500
Sources: 2014 Internal Revenue Service, 2014 American Community Survey.
NAR Calculations
the enigma of the standard deduction
While it is true that a taxpayer must itemize in order to claim the
mortgage interest deduction, it is not true that those who do not
itemize get no value from the MID. To appreciate this conundrum, one
must look at the history of our modern tax system. In 1913, Congress
and the President enacted the income tax. The original tax law provided
for both a deduction for interest paid and for State and local taxes
paid (including for property taxes). These two deductions, plus the
deduction for charitable contributions, which was added to the tax law
in 1917, together comprise the majority of itemized deductions that are
claimed each year.
For many years, the tax law provided that taxpayers who paid
interest, State and local taxes, and/or made charitable contributions,
could take a deduction for them. A few other deductions, such as for
casualty and theft losses or for medical expenses, were also allowed.
However, to qualify for these deductions, taxpayers actually had to
incur these expenses and keep track of them.
This changed in 1944, when Congress decided to simplify the tax law
by enacting the standard deduction. Legislative history (both original
and subsequent) shows that the standard deduction was based on a
composite basket of typical deductions that taxpayers claimed,
including the MID, taxes paid, charitable contributions made, and so
forth. The simplification came about by Congress deeming that all
individuals were to receive a certain amount of generic deductions,
represented by the standard deduction. Taxpayers claiming the standard
deduction did not need to prove that any amounts were actually paid in
order to take the standard deduction. Congress simply designated that
all taxpayers could claim the standard deduction whether they made the
deductible expenditures or not.
In enacting the standard deduction, Congress did not modify the
deductions themselves. Rather, taxpayers who paid deductible
expenditures exceeding the standard deduction were allowed to claim the
actual amounts as what was (from then on) called itemized deductions.
Taxpayers with deductions totaling an amount below the standard
deduction threshold could simply claim the standard amount and not
worry about even keeping track of what was actually paid. This was a
huge step toward simplifying the lives of millions of American
taxpayers.
What is often not recognized today is that the standard deduction
represents a tax giveaway for virtually all taxpayers who claim it.
This is because if a taxpayer has deductions in excess of the standard
deduction, he or she may claim the higher amount. But those who have
actual deductions less than the standard are given the benefit of the
standard deduction amount whether or not they actually incurred the
expenses. Thus, the giveaway equals a range of as much as the standard
deduction for taxpayers who have absolutely no deductions, on the high
end, to as little as $1 for taxpayers whose actual deductions come just
$1 short of the standard deduction amount, on the low end.
For example, assume a married couple's actual amounts for State and
local tax, mortgage interest, and charitable contributions for 2017
total $12,000. With the standard deduction for a couple currently at
$12,700, this family would be receiving an extra tax deduction for $700
in expenditures they never made. If they were in the 28 percent
bracket, this would amount to a $196 tax ``freebie'' ($700 excess
28%). Suppose another couple had just $2,000 of State and local taxes,
but no mortgage interest and no charitable contributions. This family
would also get to claim the standard deduction of $12,700, for a
subsidy of $10,700 ($12,700-$2,000), which would be worth $2,996,
assuming they were also in the 28 percent tax bracket ($10,700 28%).
The point is that whether a taxpayer is being subsidized a little
bit (as with the first couple), or a lot (as with the second couple),
or not at all (as with the case of a couple who has enough deductions
to itemize), each couple is benefitting from the mortgage interest and
property tax deductions. Just because the standard deduction does not
specifically indicate which portion of it is attributable to the MID or
property tax (or any other deductions), does not mean that these
deductions for home ownership are not part of the benefit being given.
When Congress first established the standard deduction in 1944,
more than 82 percent of taxpayers were able to utilize this
simplification tool, meaning that just 18 percent itemized. According
to the Joint Committee on Taxation (JCT), by 1969 this proportion of
non-itemizers had dropped to 58 percent. In explaining the reason for
Congress increasing the standard deduction in the Tax Reform Act of
1969, JCT stated that since 1944, ``higher medical costs, higher
interest rates, higher State and local taxes, increased home ownership,
and more expensive homes have made it advantageous for more and more
taxpayers to shift over to itemized deductions.'' \9\
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\9\ ``Summary of H.R. 13270, the Tax Reform Act of 1969,'' Joint
Committee on Internal Revenue Taxation and the Committee on Finance,
August 18, 1969.
Thus, it is clear that even though no specific portion of the
standard deduction is tied to the MID and property tax deduction,
Congress crafted the standard deduction to be a proxy for allowable
deductions (i.e., itemized deductions), including the MID and State and
local tax deductions, and when the underlying amount of these
deductions increase, Congress has believed that it is appropriate for
the standard deduction to also increase. It is also clear that Congress
intended that most taxpayers would claim the standard deduction (82
percent in 1944) and when this proportion was eroded by inflation and
other factors, Congress increased the standard deduction to keep it
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closer to its original percentage.
Arguments that the mortgage interest and real property tax
deductions benefit only those who itemize simply do not hold water.
tax reform proposals to limit the tax benefits of home ownership
In recent years, a variety of tax reform ideas have been proposed
that would limit the ability of certain taxpayers to claim the mortgage
interest and/or the property tax deductions, or in other ways reduce
the incentive effect of these provisions. Each of these proposals would
limit the value of the deductions and have a negative impact on the
value of housing. In many cases, the largest impact would be felt by
middle-class families, not necessarily by the individuals or families
categorized by the media as ``the rich.'' The following is an
examination of each of these proposals.
Capping Itemized Deductions
Two proposals have repeatedly been floated to cap the value of all
itemized deductions. The first is a proposal that was included in
several of President Obama's budgets to cap itemized deductions for
upper-income taxpayers at 28 percent. As itemized deductions follow
taxpayers' top marginal rate, this would have the effect of lessening
the value of all itemized deductions for individuals in the 33 percent,
35 percent and 39.6 percent brackets. It is important to note that many
of these taxpayers have already had the value of their deductions
limited by the reinstatement of the complex and burdensome ``Pease''
limitation that applies to individuals with adjusted gross income above
$250,000 for singles and $300,000 for couples (adjusted for inflation)
as part of the American Taxpayer Relief Act of 2012.
The 28-percent cap focuses on the tax filer's income, rather than
the total dollar amount of itemized deductions. This proposal adds,
rather than removes, complexity from the tax code and would be
difficult to plan for. An individual, particularly one who owns a
business or who is self-employed, may be in different tax brackets from
year to year. These individuals have a particularly difficult time
estimating their incomes and tax liability, especially in today's
uncertain economic and legislative climate. They do not need added
burdens of complexity or unanticipated tax increases. A reduction in
the mortgage interest and State and local tax deductions would further
complicate their family finances.
Some will say that putting a limitation on the deductions of upper-
income taxpayers would cause no harm for those in lower brackets.
However, when reduced tax benefits reduce the value of a home, the
value of all homes decreases. A collapse or reduction in home values at
the top end of the market causes downward pressure on all other homes.
That is, when the value of my neighbor's house declines, then the value
of my house declines, as well.
The second proposal to cap itemized deductions comes in the form of
a hard dollar cap on all itemized deductions. Most prominently proposed
by Republican nominee Mitt Romney during the 2012 Presidential
election, a dollar cap would disallow deductions above a certain dollar
figure regardless of income.
As the cap is not based on income, but rather the amount of
deductions claimed, this proposal would potentially raise taxes on
Americans of all income levels regardless of where the dollar amount of
the cap was set. For example, if the cap on total deductions were set
at $25,000, households with cash incomes as low as $30,000 could be
impacted, according to the Tax Policy Center (TPC). TPC further
estimated that 35 percent of households with cash incomes between
$100,000 and $200,000 would see a tax increase averaging almost $2,500
if itemized deductions were capped at $25,000.\10\
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\10\ ``On the Distributional Effects of Base-Broadening Income Tax
Reform,'' Urban-Brookings Tax Policy Center, August 1, 2012.
Not only does a dollar cap affect taxpayers of all income levels,
it penalizes those who live in areas with higher housing costs or
higher State and local taxes. Taxpayers living in these areas have
somewhat ``fixed'' deduction costs when it comes to their mortgage and
tax levels. Their property tax levels are directly tied to the value of
their property and the local tax rate. While, in theory, they can pay
down their mortgage amount and reduce their interest paid if they have
the financial ability to do so, neither the mortgage nor the tax amount
paid are discretionary, as is a charitable donation. Therefore, while
it is widely viewed that charities would take the biggest hit from a
dollar cap on total itemized deductions, one could argue the biggest
losers would be younger families living in high cost housing markets
who have both larger mortgage interest payments and high State and
local tax bills. Their tax increase would be the most pronounced and
painful, despite the idea that a dollar deduction cap is designed to
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simply make ``the rich'' pay their fair share.
If a dollar cap were implemented on itemized deductions, no matter
the dollar amount, more and more taxpayers would be subject to it if
Congress failed to index that amount for inflation. This would create
the same kind of tax nightmare that came about as a result of the
Alternative Minimum Tax, as more and more middle-class taxpayers became
subject to the cap as home values and taxes paid rose, simply because
of inflation. After spending years struggling to exempt most middle-
class taxpayers from the AMT, it would seem odd Congress might consider
falling into a similar quagmire again. Further, a dollar cap would add
one more layer of complexity to the tax code and would be a rather
blunt instrument to raise revenue.
Converting the Mortgage Interest Deduction to a Tax Credit
Many economists have traditionally favored tax credits over tax
deductions because tax credits provide more benefit to those in lower
tax brackets. This reflects the reality that, in a progressive tax
system like ours, an individual in the 15 percent bracket receives only
15 cents of tax reduction for each dollar of interest deducted, while
an individual in the 35 percent bracket receives a benefit of 35 cents
on the dollar. The mathematics of this assertion is correct, but
asymmetrical--the tax benefit analysis of a deduction ignores the
balance between tax rates and individual income taxation. An individual
in the 15 percent bracket pays only 15 cents of tax on a dollar of
income, while an individual in the 35 percent bracket pays tax of 35
cents on the dollar. Thus, tax rates balance, rather than distort, the
value of deductions.
In 2005, President Bush's tax reform advisory council proposed
converting the deduction to a 15-percent non-refundable tax credit. The
Simpson-Bowles Commission subsequently proposed a 12 percent non-
refundable tax credit along with its proposals to eliminate the
deduction for second homes and capping the total deduction at $500,000.
Others have proposed credits of different amounts and with different
limitations on the total amount of mortgage debt that could be claimed
or on the number of homes. In order to more carefully weigh the pros
and cons of converting the deduction to a credit, NAR commissioned
outside research in 2005 to study the effects of such a conversion.
While the conclusions are now somewhat dated, they present a
striking contrast with the 12-percent or even 15-percent credit
proposals. In 2005, NAR asked its consultants to design a revenue-
neutral tax credit based on data then currently available. (Revenue
neutrality was intended as a design under which the total amount of the
tax expenditure associated with mortgage interest was neither increased
nor decreased.) That analysis showed that in 2005, a revenue-neutral
rate for a credit would have been 22 percent--markedly more beneficial
to taxpayers than a 12 percent or 15 percent credit.
The amount of the credit percentage would greatly affect the number
of winners and losers in any conversion. However, different studies
have consistently shown that the tax increases for the losers would be
far greater than the tax savings experienced by the winners. Also, the
loss of the tax benefit would almost certainly result in the drop of
value of all homes, as discussed above in the analysis regarding the
proposal to cap itemized deductions. Furthermore, a conversion to a
credit would upend over 100 years of established tax law. The effects
this drastic of a change would have on consumers and the real estate
markets is unknowable. In this case we think Congress would be well
advised to adopt the mantra of ``do no harm.''
Eliminating the Deduction for Second Homes
Several proposals for tax reform, including Simpson-Bowles, have
included a proposal to eliminate the deduction for second homes.
Critics of the second home deduction argue that it primarily benefits
rich owners of expensive vacation homes in resort areas like Aspen or
Cape Cod. In reality, those taxpayers are seldom the beneficiaries of
the deduction, as such homes are often purchased with cash.
When a Second Home is not a ``Second Home''
One often overlooked reason for the code allowing a deduction for
mortgage interest paid on a second home in a tax year is the most
fundamental part of residential real estate: buying and selling. If a
family has a mortgage on their primary residence, and then purchases
another home with another mortgage before they can sell the first
residence, such as in connection with a move for a job change, they
will have owned two homes in that year. Removing the deduction for
second homes would only allow the family to deduct the interest for one
of those residences and essentially introduce a tax on moving. Families
move for many different reasons: more space for a growing family,
downsizing once the kids are gone, economic challenges, or a new job.
Second Homes Are Both Geographically Concentrated and Diverse
While the image conjured up by critics of a second home is a multi-
million-dollar property in a tony resort area, most of those homes are
bought with cash. In reality, second homes nationally have a lower
median sales price than principal residences. Over the past decade, the
median price of a second home has always trailed the median price of a
principal residence.
NAR data show that in 2016 the median income of a second homeowner
was $89,900.\11\ While that income level is above the national median,
it is certainly not the definition of ``rich'' that many consider when
debating tax changes to ``soak the wealthy.''
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\11\ ``2017 NAR Investment and Vacation Home Buyers Survey,''
https://www.nar.realtor.
Finally, NAR has compiled data identifying all U.S. counties in
which more than 10 percent of the housing stock is second homes.
Currently, about 900 of the Nation's 3,068 counties (roughly 30
percent) fall into this group. In some counties with very small
populations, second homes can represent about 40 percent of the housing
stock. In Meagher County, Montana, for example, the population is only
1,891 people, but second homes represent 42 percent of the housing
stock. That area is doubtlessly dependent on the jobs and property
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taxes generated by those second homes.
Thus, about 30 percent of U.S. counties have a stake in retention
of the mortgage interest deduction for second homes. Those properties
generate valuable jobs and property and sales taxes for the
communities. To eliminate the MID for second homes would have at least
as dramatic an impact on those communities as it would the taxpayer/
owners themselves. Congress needs to carefully consider the economic
impact on these communities, often located in rural areas with little
other economic resources vs. the amount of revenue that could be raised
from eliminating the deduction for second homes. The decline in home
values and economic activity in those areas where the economy is driven
by second homeowners could very well eclipse the small amount of
revenue that could be gained by increasing taxes on these homeowners.
Reducing the Amount of Qualified Mortgage Debt
Another proposal to ``raise revenue'' is to lower the cap on the
amount of acquisition debt eligible for the mortgage interest deduction
from $1 million to $500,000. As previously discussed, the $1 million
limitation was put in place in 1987 and is not indexed for inflation.
Consequently, the value of the MID has eroded by more than half in 30
years.
Critics of the MID argue that lowering the limitation to $500,000
would affect a relatively small number of wealthy taxpayers. In fact,
research conducted on behalf of NAR shows that individuals in every
adjusted gross income (AGI) class, even as low as $10,000, have
mortgage debt in excess of $500,000. Those in the lower income ranges
likely include those who are self-employed with minimal income after
expenses, those who are business owners with significant losses or
retired individuals with other tax-exempt income. No matter what the
income category, however, reducing the cap would make their economic
positions worse, particularly where there have been losses.
Further findings from research conducted for NAR shows almost half
of taxpayers with mortgages over $500,000 have AGI below $200,000.
Among those who itemize and claim MID, the AGI classes below
$100,000 comprise 53 percent of all tax returns.\12\ Moreover, the AGI
classes below $200,000 represent almost 90 percent of all itemized
returns.\13\ Thus, the overwhelming majority of tax returns with MID
are certainly NOT in so-called ``Warren Buffett'' territory.
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\12\ ``Individual Income Tax Returns, Preliminary Data, Tax Year
2015,'' Internal Revenue Service, Statistics of Income Bulletin, Spring
2017, https://www.irs.gov/.
\13\ Ibid.
A $500,000 cap has wildly divergent geographic implications. The
burden of the cap would be disproportionately borne by taxpayers in
high costs areas, even though they might not be categorized as ``rich''
and even though they may have fairly modest homes. Those living in high
cost areas pay a disproportionately larger amount of their after-tax
income toward housing than do taxpayers in other parts of the country.
Eliminating part of the MID for them would exacerbate that disparity
and in fact make home ownership even less affordable for many families.
Some have proposed addressing this geographic issue by tying the limits
of the MID to area housing prices in a way similar to formulas used to
calculate loan limits for the Federal Housing Administration (FHA). NAR
would resist any effort to make the cap on the MID contingent on the
taxpayer's place of residence. Such a change would impose significant
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complexity on what is currently a very simple provision.
There is another factor Congress should take into consideration if
contemplating a lower limit on the amount of home mortgage debt
eligible for the interest deduction. This is the fact that unless such
a cap is indexed for inflation, it may soon become a de facto
limitation on the deduction for taxpayers Congress did not intend to
hit. Again, the experience with the Alternative Minimum Tax should be
instructive. Based on internal NAR calculations, by 2043 the value of
more than half the homes in a majority of the 50 States will be greater
than $500,000. And those projections show that 49 States will have at
least 30 percent of their homes with a value exceeding this amount.
Thus, in a relatively short time, the majority of American homes could
be affected by a limit now intended to strike only the ``wealthy.''
Increasing the Standard Deduction and Repealing Most Itemized
Deductions
More recently, Republicans in the House of Representatives have put
forward a tax reform plan called ``A Better Way,'' which is informally
known simply as ``The Blueprint.''
While we laud the goals of this tax reform plan, and marvel at its
boldness, we have great concern with the way one aspect of the
Blueprint could affect residential real estate. This concern is that
the interaction of two features of the plan, which are designed to
simplify the tax system, would have the unintended consequence of
nullifying the long-standing tax incentives of owning a home for the
great majority of Americans who now are, or who aspire to become,
homeowners.
Specifically, the Blueprint calls for the standard deduction to be
almost doubled from its current levels. The plan also includes the
repeal of the deduction for State and local taxes paid, as well as the
elimination of most other itemized deductions. Either of these
monumental changes alone would marginalize the value of the
current-law tax incentives for owning a home. Unfortunately, the
combination of these two revisions would cripple the incentive effect
of the Federal tax law for all but the most affluent of taxpayers.
We anticipate two potentially devastating problems in the aftermath
of these modifications. First, the impact on the first-time homebuyer
could be enormous, despite them likely facing lower prices. For many,
the current-law tax incentives make the crucial difference in being
able to afford to enter the ranks of homeowners. At a time when the
rate of first-time home-buying is well below the average of the past
few decades, this could be particularly debilitating for the housing
industry and the entire economy.
Furthermore, a tax reform approach like this would discriminate
against current and aspiring homeowners in favor of renters. Research
conducted for NAR on a Blueprint-like tax reform plan shows that home-
owning families with incomes between $50,000 and $200,000 would face
average tax hikes of $815 in the year after enactment while non-
homeowners in the same income range would enjoy average annual tax cuts
of $516.\14\
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\14\ Available on NAR's website: http://narfocus.com/billdatabase/
clientfiles/172/21/2888.pdf.
Also, these estimates show that under a Blueprint-like plan, nearly
46 million households would see their taxes go up. But 70 percent of
them would be homeowners. Among the 25 million middle-income households
($50,000 to $200,000) with a tax increase, 85 percent would be
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homeowners.
Homeowners already pay 83 percent of all Federal income taxes, and
this share would go even higher under similar reform proposals.
Homeowners should not have to pay a higher share of taxes because of
tax reform.
Second, the decimation of the mortgage interest and real property
tax deductions would very likely cause a significant plunge in the
value of all houses. At a time when the housing sector has not fully
recovered from the thrashing it took during the Great Recession, this
drop, even if temporary, could be calamitous. Millions of homeowners
could again wake up to learn that the value of their largest financial
asset has dived below the amount of debt that is owed on it.
Estimates provided for NAR show that values could fall in the short
run by more than 10 percent if a Blueprint-like tax reform plan were
enacted.\15\ The drop could be even larger in high-cost areas. It may
take years for home values to rebound from such a significant decrease.
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\15\ Ibid.
The combination of these two problems could have further
ramifications that could produce a vicious spiral. Should home values
drop due to the decrease in value of home ownership incentives,
revenues to State and local governments would surely follow suit
because of lower assessed property values. Further, public pressure on
these same governments to lower tax rates because these tax payments
would no longer be deductible could greatly exacerbate the situation.
The overall result could be a disastrous downturn in the quality of
many neighborhoods and communities, and especially our most vulnerable
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ones.
In sum, it is estimated that a Blueprint-like tax reform approach
could reduce the amount of Federal tax expenditures for home ownership
by 82 percent over 10 years, from $1.3 trillion to just $232
billion.\16\ This is certainly not the expected result from a tax
reform plan that purports to preserve the mortgage interest deduction.
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\16\ Ibid.
Even if the hoped-for economic growth from the Blueprint
materializes, it will take years for the full effects of these changes
to permeate through the economy and for the effects to offset the
deleterious short- to mid-range effects mentioned above. And many
homeowners, particularly those who are middle-aged or older and are
planning to use the equity in their home for retirement or to pay for
the education of their children, simply will not have time to wait for
the recovery.
additional residential real estate provisions
In addition to the deductions for mortgage interest and property
taxes paid, there are two other tax provisions that have a large impact
on a family's ability to sell their home. One of these provisions is
permanent and should be preserved while the other is temporary and
should be made permanent.
Capital Gains Exclusion for Sale of a Principal Residence
Prior to 1997, the tax rules that governed the sale of a principal
residence were complex and largely ignored (section 1034 of the
Internal Revenue Code). The general rule was that there was no
recognition of gain, so long as the seller purchased a home of the same
or greater value within a specified time. This was a particular
disadvantage to individuals who relocated from a high cost area to a
lower cost area. The deferred gain from the sale reduced the basis of
the new home. Other elaborate rules required taxpayers to track the
adjusted basis of the homes they owned so that, in the event that they
did not purchase a replacement home (or purchased a replacement home of
lesser value), the gain on that sale became taxable, as measured from
the adjusted basis. Few taxpayers had adequate understanding of the law
or sufficient records to enable them to comply with these rules.
In 1997, the Clinton administration, without input from NAR or
others in the housing industry, proposed a complete overhaul and
simplification of these rules. Rather than require elaborate basis
computations on multiple residences over a term of many years, the new
rule simply permitted the seller to exclude up to $250,000 ($500,000 on
a joint return) of the gain on the sale. Any excess above these amounts
would be currently taxable at the capital gains rate for the year of
sale. The reinvestment rules were eliminated, so taxpayers gained
mobility and flexibility. The exclusion gives them the ability to
downsize, buy more than one property, purchase a non-real estate asset
or do anything they choose with the proceeds of the sale. The exclusion
is restricted to the sale of only a principal residence, and certain
qualifications must be satisfied in order to receive the benefit of the
exclusion. As with the MID, the $250,000 and $500,000 amounts are not
indexed for inflation.
No data is publicly available that allows either NAR or its
consultants to evaluate the impact of possible changes to these rules.
No public IRS records present information about Forms 1099 that are
filed for home sale transactions, and only limited information on
capital gains data are published to show the amount of taxable gain
reported on homes sales in certain years. In addition, there is no way
to ascertain the value of unrecognized gain that has accumulated in
homes that are not currently on the market. Finally, long-term holders
are far more likely to have larger appreciation amounts and so should
not be penalized for that long tenure.
We note that this provision is among the most taxpayer-friendly
sections in the entire code. When enacted, it was a substantial
simplification from prior law. Further, it allows a great deal of
flexibility in the financial planning for families. Notably, the gain
on the sale of a principal residence is a significant factor in the
retirement savings plan of many older Americans. They anticipate
downsizing and then using the remaining proceeds to supplement any
retirement income they have. Prior law penalized individuals over age
55 by limiting an exclusion to just once in a lifetime and with a
relatively small amount. Today's rules reflect far more accurately the
home ownership patterns over a lifetime. The exclusion functions as a
sort of ``Housing Roth IRA'' in that the gains made over long periods
(in many cases with improvements made from after-tax dollars) are free
of tax at the time of sale. At a time when policymakers are
contemplating changes to entitlement programs and Americans are
struggling to save more for retirement, Congress should continue to
recognize the important role the principal residence exclusion plays in
supplementing retirement savings. NAR urges Congress to retain the
exclusion at current levels or secure its importance for future
generations of homeowners by indexing it for inflation.
Cancellation of Mortgage Indebtedness for Principal Residence
Under general tax principles, when a lender cancels a portion or
all of a debt, including mortgage debt, the borrower is required to
recognize the forgiven amount as income and pay tax on it at ordinary
income rates. An exception is provided for some mortgage debt that was
forgiven between January 1, 2007 and December 31, 2016. When this
relief was initially considered in 2007, the Ways and Means Committee
reported it as a permanent provision. The final version, however, was
temporary and in place only through December 31, 2009. That date was
extended through December 2012 as part of the flurry of legislation
enacted at the height of the 2008 financial crisis. The American
Taxpayer Relief Act of 2012 subsequently extended the expiration date
to December 31, 2013, and The Tax Increase Prevention Act of 2014
extended the expiration date to December 31, 2014. The Preventing
Americans From Tax Hikes (PATH) Act of December 2015 extended the
provision through the end of 2016. However, the provision has not been
extended this year.
While the volume of short sales and foreclosures has receded from
record highs, there are still a significant number of families
struggling to keep up with their mortgage payments and banks are still
working to conduct loan modifications as a result. Moreover, the
vicious hurricanes that have wreaked such damage on so many U.S.
counties this month and last have greatly exacerbated the problem.
NAR believes the tax code should not discourage homeowners from
trying to take proactive steps to avoid foreclosure by taxing them on
phantom income, especially when the Federal Government has devoted
considerable resources to help modify mortgages and lessen the impacts
of foreclosure.
We urge the Finance Committee to make mortgage cancellation relief
a permanent provision.
section 1031 like-kind exchanges
Finally, NAR strongly believes that the like-kind exchange
provision in current law is vital to a well-functioning real estate
sector and a strong economy and must be preserved in tax reform. The
like-kind exchange is a basic tool that helps to prevent a ``lockup''
of the real estate market. Allowing capital to flow more freely among
investments facilitates commerce and supports economic growth and job
creation. Real estate owners use the provision to efficiently allocate
capital to its most productive uses. Additionally, like-kind exchange
rules have allowed significant acreage of environmentally sensitive
land to be preserved.
Section 1031 is used by all sizes and types of real estate owners,
including individuals, partnerships, LLCs, and corporations. The
committee might be surprised to learn that a large number of like-kind
exchange transactions involve single-family housing. To illustrate, a
recent survey of our members indicated that 63 percent of Realtors have
participated in a 1031 like-kind exchange over the past 4 years.\17\
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\17\ ``Like-Kind Exchanges: Real Estate Market Perspective 2015,''
National Association of Realtors, https://www.nar.realtor.
A 2015 study \18\ found that in contrast to the common view that
replacement properties in a like-kind exchange are frequently disposed
of in a subsequent exchange to potentially avoid capital gain
indefinitely, 88 percent of properties acquired in such an exchange
were disposed of through a taxable sale. Moreover, the study found that
the estimated amount of taxes paid when an exchange is followed by a
taxable sale are on average 19 percent higher than taxes paid when an
ordinary sale is followed by an ordinary sale.
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\18\ ``The Economic Impact of Repealing or Limiting Section 1031
Like-Kind Exchanges in Real Estate,'' David C. Ling and Milena Petrova,
March 2015, revised June 22, 2015.
If one of the goals of tax reform is to boost economic growth and
job creation, any repeal or limitation of the current-law like-kind
exchange provision is a step in the wrong direction.
conclusion
NAR thanks the Committee on Finance for inviting our input into
this important hearing. Improving our tax system is an important and
worthy goal, and we commend you for taking on this gargantuan and often
thankless task.
The residential real estate market is a significant driver of the
American economy. When housing does well, America does well. Our Nation
has been led out of four of the last six recessions by a recovery in
the housing market and housing gains over the past several years are an
important part of the sustained recovery.
Despite the price declines, foreclosures, and economic hardship
that haunted the housing market during the Great Recession, Americans
remain committed to the ideals and vision of home ownership. They
continue to hold the vast majority of their personal wealth in their
homes. They continue to believe that ownership of real property is a
vital part of the American Dream that was envisioned from the very
beginning by our Founders. This is why even high numbers of those who
now rent their home consistently support tax incentives for home
ownership and aspire to own themselves someday. Congress should not
turn its back on these same ideals as it seeks to reform our tax
system.
______
Questions Submitted for the Record to Iona C. Harrison
Questions Submitted by Hon. Orrin G. Hatch
status quo?
Question. Ms. Harrison, reading over your testimony, I was struck
by the numerous defenses of the status quo. Does the National
Association of Realtors support tax reform? If so, do you have any
specific suggestions on what could be reformed about our Nation's tax
laws?
If the tax laws are exactly the way they should be, that would be
helpful to know.
Answer. The National Association of Realtors does believe that our
current tax system contains many flaws and is badly in need of
thoughtful and careful reform. The Internal Revenue Code is too complex
and includes many provisions that can work at cross-purposes with each
other. And even some provisions that have greatly simplified the tax
lives of millions of taxpayers and assist millions more in saving for
retirement, such as the exclusion of gain on the sale of a principal
residence, need to be improved by indexing their limits to inflation.
Otherwise, they will continue to grow less beneficial every year. If it
does nothing else, a good tax reform act should protect the benefits it
provides from the ravages of inflation.
Also, our economy could doubtless benefit from lowering tax rates
in a fiscally responsible way. Economic growth is important, and our
tax laws should promote and not hinder growth and job creation. This is
a principal reason NAR is sensitive to careless tax reform that can
damage, rather than propel, economic growth. The Tax Reform Act of 1986
included some harsh and, in our view, unwarranted provisions that sent
the commercial real estate sector reeling for more than a decade and
caused untold economic harm to many in the Nation. Our position on tax
reform is very clear--responsible reform is important but a paramount
goal is that it should first, do no harm.
percent of itemizers
Question. Ms. Harrison, in your written testimony you state
Congress set the standard deduction in 1944, and again in 1969, so that
82% of taxpayers claimed the standard deduction, and only 18% of
taxpayers itemized.
According to your testimony, currently approximately 33% of
taxpayers itemize, and 67% of taxpayers claim the standard deduction.
Given the precedent of targeting 82%, should Congress again target
having only 18% of taxpayers itemize their deductions? What do you
believe the ideal percentage of taxpayers claiming the standard
deduction to be?
Answer. The standard deduction has been an important tool in
simplifying the tax lives of millions of people. However, it must be
recognized that the goal of simplification must be balanced with the
incentive effect of the present-law itemized deductions as well as the
economic effect of making sudden and large changes to long-standing tax
policy. Also, there are tax equity implications to large changes in the
standard deduction.
In terms of simplification, greatly increasing the standard
deduction would significantly decrease the number of itemizing tax
filers. The authors of the House Republican tax reform Blueprint
estimate that only about 5 percent of filers would still be itemizing
after the increase outlined in that plan. However, this does not mean
that 95 percent of filers could simply forget about the complexities
and time-
consuming problems of dealing with Schedule A of Form 1040. Tens of
millions of information returns would still need to be prepared, sent
to, and dealt with by taxpayers with a mortgage or those who made
charitable contributions, and these filers would still need to consider
whether to itemize, even if most of them did not.
More importantly, the huge increase in the standard deduction would
sap the incentive value of the mortgage interest deduction for the vast
majority who now claim it, as it would no longer make a difference on
their tax return whether they owned a home or were renting one. Along
with this (and also due to the proposed repeal of the property tax
deduction), home values would most likely drop significantly, causing
untold harm to homeowners everywhere, and especially to first-time
buyers, who very often have small amounts of equity in their home. This
would almost certainly have serious and negative macroeconomic effects.
Also, as I indicated in my written testimony, the standard
deduction represents a tax giveaway to everyone who claims it, and the
higher the amount of the standard deduction, the greater the giveaway.
While this effect is a not a regressive one, it is important that
policymakers are aware of its effect. Deductions such as that for
mortgage interest offer a strong incentive to take the specific action
of taking out a mortgage by purchasing a home. Giveaways through a
higher standard deduction dis-incentivize taxpayers by rewarding all
whether the desired action is taken or not.
As to an ideal percentage of taxpayers claiming the standard
deduction, I will simply note that a major stated reason that Congress
has increased the standard deduction in the past has been because
inflation eroded the standard deduction. Since the standard deduction
has been indexed for inflation, this has become much less, if any, of a
problem. Thus, a major driver of standard deduction increases in the
past is no longer present.
Finally, I will note that if Congress wanted to install into the
tax code many of the benefits of a higher standard deduction without
the disadvantages of diluting the incentive value of itemized
deductions, it could do so by once again creating a true zero bracket
amount in the tax law.
fluctuation of taxpayers in the wealthy category
Question. Ms. Harrison, your testimony includes the following
observation: ``Even though the percentage of taxpayers who itemize has
remained relatively constant over the past 25 years, the individuals
who comprise the universe of itemizers changes from year to year.'' And
you also observe that: ``In short, circumstances change.''
I think that those are accurate observations. A person who takes
one or more itemized deductions today is in a different situation
tomorrow or years from now and years earlier. It is also true, when we
look at things like capital gains or someone's place in the income
distribution, that the person who receives a capital gain today or
resides in a certain income category today may not be in the same
position yesterday or tomorrow. That is, circumstances change, which I
think is important to consider, and something that analysts often don't
consider as much as they should.
Stated another way, it is important to keep in mind that some
people who look like they are part of the so-called ``rich'' today may
only be so temporarily, and not in a perpetual state of ``richness.''
I wonder if you agree.
Answer. Yes, I do agree. One of the most important benefits of the
mortgage interest deduction is that it is there to assist those first-
time home buyers who are facing the early years of mortgage payments
when interest makes up a much higher proportion of the monthly payment.
As the mortgage is amortized, families often become more financially
stable, and the extra assistance of the mortgage interest deduction is
not as needed. This is why many millions of homeowners do not claim the
MID in any particular year. They have either paid off, or significantly
paid down, their mortgages. The number of homeowners who, at some point
over their ownership of the home, have utilized the deduction is a much
more accurate measure of the importance of the deduction in encouraging
home ownership.
transition policy
Question. Ms. Harrison, I agreed with your point that: ``If one
were designing a tax system for the first time, one would likely devise
something that is different from what we have already.''
You then went on to state that some provisions in the tax code have
been around for over a century, and thus many asset prices have the
expectation of those tax provisions continuing.
So, what are your thoughts on transition policy. Namely, it's
certainly true we don't want, through tax law changes, to create
tremendous upheaval, even if the new law will be more efficient in the
long run. Your thoughts?
Answer. As mentioned above, Realtors believe that tax reform is
important and needed, but should first, do no harm. This may sound like
little more than a slogan, but your question brings to light the
reality of the harm that careless tax reform can do to those who
reasonably relied on the tax law when making decisions.
When homeowners (or any taxpayers) enter into a major transaction,
such as purchasing a home, they rely on the current law staying in
place over the life of that transaction. Having the tax law
subsequently change in an adverse way can greatly affect the ongoing
investment in a very negative and unfair manner.
Please let me mention just three examples in the home ownership
arena that could have serious or severe consequences on those who, in
good faith, purchased a home in reliance of the current tax law
continuing to provide the benefits available at the time of the
transaction.
First, consider the first-time home purchaser who, like the
majority of those entering the ranks of home ownership, has only a
minimal amount for the down payment, say less that 10 percent. If the
tax law is suddenly changed to where the expected tax benefits are no
longer available, the value of the investment (the home) will drop, and
the taxpayer's relatively small amount of equity in the home could
completely disappear, leaving the mortgage under water, meaning the
home is no longer worth as much as is owned on the loan. We have only
to look at the experiences of many homeowners during and following
periods of economic downturn to find examples of the disruption and
pain that can be inflicted.
Second, take the case of a family with college-bound children. Many
parents of college students turn to the equity in their homes to help
cover the high costs of higher education for their children. Negative
changes in the tax rules that provide tax benefits of owning a home
could adversely affect the ability of these families to provide for
that higher education.
Finally, please consider the case of the tens of millions of the
Baby Boom generation who purchased a home some time ago and have been
building equity in that home. As these homeowners approach retirement
age, they are planning and relying on the equity of that home to be
there to assist in financing those retirement years. For many, their
home will be their largest retirement asset. Changes in the tax law
that reduce that equity can have serious consequences to retirement
plans when there is little time to recover from the reduction in
savings.
In short, major adverse changes in tax policy that occur after
important transactions have been entered into, can and will adversely
affect families who have responsibly relied on those tax benefits being
there for the duration of their investment. Taking them away is unfair
and will cause harm.
______
Questions Submitted by Hon. Robert Menendez
Question. Ms. Harrison, in your testimony you argue that the value
of the mortgage interest and property tax deductions is already baked
in to the price of a home, and that if these deductions were repealed
or reduced, the price of homes would diminish.
Could you point to any empirical evidence that guides your views?
Answer. Economists have long acknowledged that the mortgage
interest and property tax deductions are included in the value of
homes. Most recently, the National Association of Realtors commissioned
a study of the estimated impact of a
Blueprint-type tax reform plan from a prominent national firm. The
study estimates that home prices in the short run would fall by 10.2
percent as a result of this kind of tax reform. The effects would
likely be higher in higher cost areas. Please see the study at http://
narfocus.com/billdatabase/clientfiles/172/21/2888.pdf.
Question. Ms. Harrison, you have a wealth of experience in the real
estate business and have seen the real world implications of tax
policy.
Can you tell us how your experience has influenced your views on
the mortgage interest deduction? Has the MID and property tax
deductions really made a difference for the clients you have worked
with?
Do you really think diminishing these deductions would harm the
rate of home ownership?
Answer. For many Americans, the purchase of a home is the single
most expensive purchase they will ever make. The decision to purchase a
home is influenced by a variety of factors, which differ from family to
family and is rarely just based on financial factors. Nevertheless, the
ability to purchase is a financial decision. For many of the customers
and clients with whom I have worked, the deductibility of SALT and the
MID have made the difference that allowed them to purchase a home. For
this reason, I believe that home ownership rates would drop in my
market area, Prince George's County, MD, if these deductions were
diminished or eliminated.
Question. Ms. Harrison, critics of the MID and SALT argue that
doubling the standard deduction will eliminate any additional burden
caused by repealing these itemized deductions.
What is wrong with this line of thinking? Wouldn't everyone still
be able to claim as much of a deduction as they can now?
Answer. There are at least two problems resulting from the actual
repeal of the SALT deduction and the almost de-facto repeal of the MID
under the kind of tax reform being discussed. The first, as I mentioned
above in my answer to the chairman in his question about the percentage
of itemizers, is that these changes would greatly diminish the
incentive value of these two deductions for homeowners. This will make
it much harder for many first-time homebuyers to make the move from
renting to owning and also sap the equity of tens of millions of
homeowners.
The second problem is that the increase in the standard deduction
is not a true increase, but a substitution of the personal and
dependency exemptions, which would be repealed under the tax reform
plans we have seen promoted this year. This means that the purported
increase in the standard deduction is not a true increase in the
exemption amount. For some taxpayers, particularly single ones, there
would still be an increase in the amount of income that is exempted
from tax. And many or most of these would indeed receive a tax cut from
tax reform. For other filers, and particularly those with children, the
amount of income exempted from tax as a result of the increase in the
standard deduction combined with the repeal of the exemptions would go
down, not up. Some of these filers would get relief from this effect by
the higher tax credit for children that is promised as part of the
reform plan. However, among those taxpayers with larger families, and
especially those with children over the age of 16 or with incomes too
high to qualify for the child tax credit, there will be many millions
who pay more taxes because the amount of the repealed exemptions is
higher than the increase in the standard deduction.
Question. Ms. Harrison, beyond the economics, what about the impact
home ownership has on society?
Why should the tax system encourage home ownership?
In your experience as a Realtor, does our society benefit through
greater home ownership? If so, does this benefit justify the value of
tax incentives for home ownership?
Answer. Home ownership remains a goal for most American families,
and with good reason. It creates communities that are stable and
vibrant and is one of the chief sources of wealth building for middle-
class families. The provisions in the tax code that have favored home
ownership are an acknowledgement of the high value our society places
on home ownership and the communities it creates.
______
Questions Submitted by Hon. Bill Nelson
Question. What metrics or considerations should Congress use to
determine appropriate trade-offs in tax reform?
Answer. Tax reform can mean many different things to different
people. For example, a tax reform plan that has as its goals to provide
a tax cut for the middle-class should actually deliver those results.
Likewise, a tax reform that promises increased prosperity through
higher economic growth should not result in many billions of lost
equity in the first years after its passage. One of the main messages
NAR has tried to communicate with Congress about tax reform is that it
is important to accomplish thoughtful tax reform, but first, it should
do no harm.
Question. How would you suggest Congress address the skyrocketing
cost of rental housing? Please provide some specific ideas to consider.
Answer. Realtors have long supported the current-law Low-Income
Housing Tax Credit, which has been remarkably effective in
incentivizing the construction and rehabilitation of low-income housing
units since its inception in the 1986 Tax Reform Act. The National
Association of Realtors is part of the ``A Call To Invest in Our
Neighborhoods (ACTION) Campaign,'' a national coalition representing
over 2,000 national, State, and local organizations and businesses
advocating to preserve, strengthen and expand the Low-Income Housing
Tax Credit (Housing Credit).
The Coalition is urging Congress in tax reform to ensure that the
value of the Low-Income Housing Tax Credit is not diminished through
the reduction in the corporate income tax rate and that the Credit is
improved in various other ways. More information about specific
recommendations can be found here: http://rentalhousingaction.org.
______
Prepared Statement of Hon. Orrin G. Hatch,
a U.S. Senator From Utah
WASHINGTON--Senate Finance Committee Chairman Orrin Hatch (R-Utah)
today delivered the following opening statement at a hearing on ways to
streamline the individual tax system to make it work better for
American individuals and families.
Welcome everyone to this morning's hearing, where we will discuss a
major piece of the tax reform puzzle. Today we'll be talking about
ideas, proposals, and considerations for reforming the individual tax
system.
While we have had countless hearings on tax reform in recent years,
today's hearing is the first in what I hope will be a series of
hearings leading up to an intensive effort on this committee to draft
and report comprehensive tax reform legislation.
We've talked about these issues a great deal. In fact, since I
became the lead Republican on this committee in 2011, we've had more
than 60 hearings where tax reform was a main focus of the discussion. I
think we're capable and ready to get to work on producing a bill, and I
look forward to working with my colleagues on this next, all-important
stage of the process.
I'd like to make a couple points about that process for a moment,
because there seems to be some confusion as to what the Finance
Committee's role will be in tax reform.
I've heard a lot of talk about a secret tax reform bill or a
comprehensive plan being written behind closed doors. Most of you have
probably also heard about tax reform details that are set to be
released later this month.
True enough, leaders in the House and Senate, including myself, as
well as officials from the executive branch have been discussing
various proposals. But, as we stated in our joint statement before the
recess--and as I have stated on numerous occasions--the tax-writing
committees will be tasked with writing the bill. The group--some have
deemed us ``The Big Six''--will not dictate the direction we take in
this committee.
Any forthcoming documents may be viewed as guidance or potential
signposts for drafting legislation. But, at the end of the day, my goal
is to produce a bill that can get through this committee. That takes at
least 14 votes, and hopefully we'll get more. Anyone with any
experience with the Senate Finance Committee knows that we are not
anyone's rubber stamp. If a bill--particularly on something as
consequential as tax reform--is going to pass in this committee, the
members of the committee will have to be involved in putting it
together.
Therefore, I intend to work closely with my colleagues and let them
express their preferences and concerns so that, when we are ready to
mark up a tax reform bill, the mark will reflect the consensus views of
the committee. That work, in many respects, has already begun.
I'll note that I have not limited these commitments to my
Republican colleagues on the committee, which brings me to my second
point.
From the outset, I have made clear that my preference is to move
tax reform through this committee with bipartisan support. I have no
desire to exclude my Democratic colleagues from this discussion, and
I'm not determined to report anything by a party-line vote.
I'll note that the President and his team have publicly said the
same thing this week.
If any of my Democratic colleagues are willing to come to the
negotiating table in good faith and without any unreasonable
preconditions, I welcome their advice and input.
So far, my colleagues have insisted that the majority agree to a
series of process demands before any substantive bipartisan talks can
take place. Effectively, they want to ensure that we make it easier for
them to block the bill entirely before they'll talk about what they
want to put in the bill.
That seems counterintuitive to me. And, in my view, it is
unreasonable. Furthermore, I don't recall the other side ever offering
such a concession when they were in the majority.
We should not let process concerns keep us from talking about the
substance of a tax reform bill. My hope is that my colleagues on the
other side will put these demands aside and let us begin searching for
common ground on these important issues.
Those threshold matters aside, let me talk about today's hearing.
One argument that rears its ugly head in every tax reform debate is
the claim that proponents of reform want to cut to taxes for the uber-
rich and give additional tax breaks to greedy corporations.
We've heard that argument repeated in the current debate. While
these claims are about as predictable as the sunrise, they are simply
not true.
While I can't see into the hearts of every member of Congress, I
truly don't know of a single Republican who, when thinking about tax
reform, asks themselves what they can do to help rich people. That has
never been our focus, and it is not our focus now.
Instead, we are focused squarely on helping the middle class, and
recent proposals to reform the individual tax system reflect that.
For nearly a decade now, middle-class families and individuals have
had to deal with a sluggish economy, sub-standard wage growth, and a
growing detachment from labor markets.
Tax reform, if it's done right, can help address these problems and
provide much-needed relief and opportunity for millions of middle-class
families. That, once again, is our goal in tax reform--it is, in fact,
a driving force behind our efforts.
Let's talk about a few specific proposals.
Under our tax code, individual taxpayers or married couples can opt
to either take the standard deduction or itemize deductions to lower
their tax burden. Currently, about two-thirds of all U.S. taxpayers opt
to take the standard deduction. These are often low-to-middle income
taxpayers.
One idea that has been central to a number of tax frameworks is a
significant expansion of the standard deduction, which would reduce the
tax burden for tens of millions of middle-class families and eliminate
Federal income tax liability for many low- to middle-income Americans.
I'll note that this is not only a Republican idea. In fact, a few
years back, our ranking member introduced legislation that would have
nearly tripled the standard deduction.
This is the very definition of middle-class tax relief, and it goes
beyond direct tax and fiscal benefits.
With a significantly expanded standard deduction, the tax code
would immediately become much simpler for the vast majority of middle
class taxpayers. And that is no small matter.
Currently, American taxpayers--both individuals and businesses--
spend about 6 billion hours and nearly a quarter of a trillion dollars
a year complying with tax filing requirements. This, of course, is not
surprising given that our tax code has grown exponentially into a
three-million-word behemoth that is basically indecipherable for the
average American.
That one change--expanding the standard deduction--would let
millions of
middle-class taxpayers avoid having to navigate the treacherous
landscape of credits and deductions. Combined with other ideas,
including a significant reduction in the number credits and deductions
in the tax code and a radically simplified rate structure, this
approach will save middle-class families both time and money.
I expect there to be some disagreements about what credits and
deductions to keep and which to repeal in the name of tax simplicity,
efficiency, and fairness. I expect we'll air some of those differences
of opinion here today.
There are other tax reform proposals under discussion that will
help the middle class.
For example, an increase and enhancement of the Child Tax Credit
would benefit middle- and lower-income families almost exclusively.
And, by reducing barriers and disincentives for savings and
investment, we can expand long-term wealth and improve the quality of
life for those in the middle class.
These are some of the central ideas being discussed to reform the
individual tax system. And, in virtually every case, the primary
beneficiaries of these proposals would be middle-class taxpayers.
I know that there are Democrats who support these types of reforms.
As I mentioned earlier, I hope we can recognize this common ground and
find ways to collaborate in the broader tax reform effort.
I'll also note that the middle class has a significant stake in our
efforts to reform the business tax system. But, that is a matter for
another hearing.
Once again, this committee has a lot of work to do. There is not
going to be a top-down directive that makes the hard decisions for us.
I know we're up to the task and that most of us are game to participate
in the process to help us reach a successful conclusion.
Before I turn to Senator Wyden, I want to say that I hope we can
have a productive discussion of options to reform taxes for
individuals, and not a debate on so-called ``plans'' based on outside
analysts' conjectures and assumptions. It is all too common for
ideological think tanks and partisan analysts to take short statements
outlining broad principles on tax reform and then fill in the gaps with
their own subjective assumptions about details just to parade out a
list of horribles that they then use to tarnish the entire reform
effort.
Let us discuss real ideas and proposals, keeping in mind that the
Finance Committee will not be bound by any previous tax reform proposal
or framework when we start putting out bill together.
______
Prepared Statement of Ramesh Ponnuru, Visiting Fellow,
American Enterprise Institute
Chairman Hatch, Ranking Member Wyden, and distinguished members of
the Finance Committee, thank you for convening this hearing on
``Individual Tax Reform.'' I am a visiting fellow at the American
Enterprise Institute, a senior editor at National Review, and a
columnist for Bloomberg View. This testimony reflects my own views and
not those of any organization with which I am affiliated. It is an
honor to be testifying before you.
While tax policy has been a politically contentious issue, over the
last 20 years a broad political consensus has supported tax relief for
parents of dependent children. The major reforms of the tax code
undertaken over this period have consistently included such tax relief.
The Taxpayer Relief Act of 1997 instituted a tax credit of $500 per
eligible child. The Economic Growth and Tax Relief Reconciliation Act
of 2001 raised the amount of the tax credit to $1,000. The Jobs and
Growth Tax Relief Reconciliation Act of 2003 accelerated the phase-in
of that expansion. And the American Tax Relief Act of 2012 made that
expansion permanent.
People on different parts of the political spectrum have had
varying reasons for supporting the child credit, including an
appreciation of the costs of raising children and the belief that
raising children is, in no merely metaphorical sense, an investment in
the Nation's future. The fact that the child credit lifts nearly 3
million people out of poverty each year has also brought it support.\1\
---------------------------------------------------------------------------
\1\ ``Policy Basics: The Child Tax Credit,'' Center for Budget and
Policy Priorities, October 21, 2016.
Yet the child credit has had critics, who believe that it
represents a form of governmental favoritism or even ``social
engineering,'' and that changes to the tax code should consist of
---------------------------------------------------------------------------
measures more directly related to increasing economic growth.
In this testimony I will lay out a case for expanding the child
credit--specifically, for increasing the maximum level of the credit
and for applying it to reduce payroll-tax as well as income-tax
liability--as a crucial component of tax reform.
reducing the ``parent tax''
The main goal of tax reform is generally taken to be to move closer
to a tax code that raises the desired amount of revenue while
minimizing the distortions that government policy can create. One
example of a distortion caused by government policy is an unjustified
tax break for a particular kind of investment. This departure from
neutrality between different types of economic activity has two
negative effects. It unfairly transfers resources from one group of
people to another, and it reduces the efficiency with which markets
direct capital to its most productive uses. In that way the tax break
reduces national welfare and eliminating the break would increase it.
Another example of a distortion: in theory, high tax rates on income
can so discourage work that reducing them raises the same amount of
revenue while allowing for a larger economy.
One rationale for an expanded tax credit for children is that it
reduces a distortion caused by government policy: the large, though
implicit, tax on parenting that the structure of our entitlement
programs has inadvertently created. Social Security and Medicare, our
principal government programs to take care of senior citizens, rely for
their financing, in large part, on parents. All taxpayers, whether or
not they have children, contribute to the program. Parents, however,
contribute to the program both through the Federal taxes they pay and
through the financial sacrifices they make to raise children
(including, in many cases, forgone income). The Federal Government does
not recognize the extent of this contribution, which has the effect of
causing parents to shoulder a larger share of the burden of government
than they should.
Consider two couples with similar earnings histories, one with two
children and one with none. The first couple contributes more to the
future of the entitlement programs but gets no more benefits from those
programs as a result. In the world before the entitlement State, many
of the financial sacrifices the first couple made in raising children
would redound to their direct benefit in old age, as their children
took care of them. Entitlements socialize much of the financial return
from child-rearing for the betterment of senior citizens as a group,
regardless of whether or how many children those senior citizens have.
Society has made this choice for weighty and very widely supported
reasons. But if it does not recognize parental investment in children
as a contribution to the entitlement programs, it is, whether it
consciously aims to do so or not, transferring resources from parents
to the childless and from larger families to smaller ones. We can call
this transfer the ``parent tax.'' \2\
---------------------------------------------------------------------------
\2\ Large transfers of this kind can also be expected, all else
equal, to reduce by some amount the number of children that people
raise. For evidence that this effect has occurred in developed
countries, see Michele Boldrin, Mariacristina De Nardi, and Larry E.
Jones, ``Fertility and Social Security,'' NBER Working Paper no. 11146,
February 2005; and Isaac Ehrlich and Jinyoung Kim, ``Social Security,
Demographic Trends, and Economic Growth: Theory and Evidence from the
International Experience,'' NBER Working Paper no. 11121, February
2005.
Two mistaken objections to this analysis may suggest themselves.
The first is that it is a kind of single-entry bookkeeping, since most
of those children will grow to be senior citizens one day and then
benefit from Social Security and Medicare themselves. In the past, I
have suggested a thought experiment to illustrate why that's a mistaken
view.\3\ Imagine a society with old-age programs similar to ours in
which for generations each woman has had two children. Imagine next
that for one generation each woman has three children, and then the
pattern of two children re-asserts itself. That increase in the number
of children would work an improvement in the finances of the programs
that would never be undone. For one generation, the same tax rate would
yield a higher level of benefits. Afterward that society could revert
to the previous benefit level, but it would never have to go below that
level. (Alternatively, that society could react to its baby boom by
keeping benefits flat and for one generation reducing tax rates.) \4\
---------------------------------------------------------------------------
\3\ Ramesh Ponnuru, ``The Empty Playground and the Welfare State,''
National Review, May 28, 2012.
\4\ The thought is developed in Hans-Werner Sinn, ``The Value of
Children in a Pay-As-You-Go Pension System: A Proposal for a Partial
Transition to a Funded System,'' National Bureau of Economic Research
Working Paper 6229, October 1997.
The second mistaken objection is that this analysis omits the many
government benefits that accrue to families with children. Childless
adults pay for schools through their taxes, after all. The difference
is that all of these childless adults benefited themselves from an
education financed by someone else. A system of general taxation to pay
for schooling does not create free riders in the way Social Security
and Medicare do, and does not represent a transfer from smaller
---------------------------------------------------------------------------
families to larger ones.
Other government policies, however, represent genuine but very
partial offsets to the parent tax: notably the tax exemption for
dependents and the existing tax credit for children. The problem is the
scale: these policies reduce the parent tax but leave it still quite
high. One conservative estimate suggests that the child credit would
need to increase to roughly $4,800 per child to eliminate it
completely.\5\
---------------------------------------------------------------------------
\5\ Robert Stein, ``Taxes and the Family,'' National Affairs,
Winter 2010. I have updated his estimate using the Consumer Price
Index.
While a large child credit is not the only way to reduce the parent
tax, it has significant advantages over other methods. An alternative
that has been proposed is to reduce payroll taxes based on the number
of children a taxpayer is raising.\6\ Benefit levels in retirement
could also be set to vary based on the number of children a senior
citizen had raised. A larger child credit would, however, be
administratively simpler than either policy, since it would only change
an existing provision of the tax code. Compared to a higher-benefits
policy, it would also direct resources to households at the time they
are most likely to be needed: that is, when they are raising
children.\7\
---------------------------------------------------------------------------
\6\ Charles Blahous and Jason J. Fichtner, ``Limiting Social
Security's Drag on Economic Growth: Removing Disincentives to Personal
Savings and Labor Force Participation,'' Mercatus Research, 2012.
\7\ Shrinking the entitlement programs would also reduce the parent
penalty, although that proposal would of course involve important
trade-offs beyond the scope of this testimony. The programs would have
to be very drastically reduced, however, to eliminate the parent tax
entirely. See Hans-Werner Sinn, ``The Pay-As-You-Go Pension System as a
Fertility Insurance and Enforcement Device,'' National Bureau of
Economic Research Working Paper 6610, June 1998.
A larger deduction for the cost of commercial day care, meanwhile,
would reduce the parent tax for some families but exclude the many
---------------------------------------------------------------------------
families who make different arrangements for their children.
An increased standard deduction has also been proposed as a way to
deliver tax relief to middle-class Americans. Whether or not this
increase would be desirable on other grounds, it would not reduce the
parent tax. It appears that more of the benefits of a child-credit
expansion would also accrue to relatively low-income households.\8\
---------------------------------------------------------------------------
\8\ The Tax Foundation estimates that a doubling of the standard
deduction would reduce revenue by $1.3 trillion over 10 years while
raising incomes in the second-lowest-earning quintile of taxpayers by
0.15 and 1.4 percent; doubling the child credit would on the other hand
reduce revenue by $640 billion over 10 years while raising income in
the lowest quintile by 0.5 percent and the second-lowest quintile by
2.1 percent. ``Options for Reforming America's Tax Code,'' Tax
Foundation, 2016.
---------------------------------------------------------------------------
applying the child credit against payroll taxes
The logic of this case for a large child credit does not just
militate in favor of raising its maximum value from $1,000 per child to
some bigger number. It also militates in favor of applying it against
payroll taxes as well as income taxes: in favor, that is, of making it
partially ``refundable.''
The parent tax arises, again, because parents are contributing to
Social Security and Medicare both through their taxes--including
especially their payroll taxes--and through the financial sacrifices
they make to raise children. If we wish to reduce their contributions
to put it on par with those of non-parents, we need to take account of
the payroll taxes as well as the income taxes. Consider once more our
two couples, one with children and one without, and assume both of them
are paying the same amount of payroll taxes but do not make enough
money to have income-tax liability. The former couple should have a
lower payroll-tax liability.
Not only that: The credit should in principle be applied not just
against
``employee-side'' payroll taxes but against ``employer-side'' payroll
taxes as well. It is widely recognized among economists that the taxes
an employer pays toward Social Security and Medicare for employees
represent forgone wages.\9\ Their true economic incidence, that is,
falls almost entirely on the worker. They, too, are thus part of the
contribution that the taxpaying employee makes to these programs.
---------------------------------------------------------------------------
\9\ See, for example, Jonathan Gruber, ``The Incidence of Payroll
Taxation: Evidence from Chile,'' National Bureau of Economic Research
Working Paper 5053, March 1995.
Some observers have expressed concern about taking people off the
income tax rolls. The child credit has already kept some families from
having a positive income-tax liability and an expanded child credit
would have that effect for even more families--and, as we have seen,
reduce their payroll-tax liability too. These observers worry that
voters who do not pay taxes will have an unhealthful relationship to
government, seeing its benefits as free. The empirical grounding for
this fear is weak, however, and in any case a household's removal from
the tax rolls will be temporary: Adults will lose the credit when their
children grow up. And if any large group of citizens can be expected to
look to the future, it should be parents.
paying for an enlarged child credit
As with any form of tax relief, a larger child credit would require
the government either to tolerate larger deficits, to reduce spending,
or to raise other taxes. It is possible to agree on the case for a
larger child credit while disagreeing on many of these questions of
fiscal and tax policy. My own top preference would be to reform Social
Security and Medicare in ways that would reduce the Federal
Government's long-term spending compared to their projected levels
while also maintaining and perhaps even augmenting our current
commitments to the neediest.\10\ My second preference would be to scale
back or eliminate tax breaks such as the deductions for mortgage
interest and State and local taxes, especially for the highest earners.
A third solution would be to lower the thresholds at which people move
into the highest tax brackets, so that the top marginal tax rates in a
reformed tax code apply to a larger number of people.
---------------------------------------------------------------------------
\10\ See Andrew Biggs, ``A New Vision for Social Security,''
National Affairs, Summer 2017, for an example of a proposal that seeks
these goals.
My main point in this testimony, however, is to argue that reducing
the parent tax ought to be a priority for tax reform. If tax reform
aims to keep revenues flat, then it should expand the child credit
somewhat and make revenue-raising tax policy changes to compensate. But
the increase in the credit cannot be wholly paid for by eliminating the
dependent exemption, since that would leave the parent tax
unaffected.\11\ If tax reform instead aims for lower revenues than
currently projected, then a larger child credit should account for some
of that reduction. An expanded tax credit for children should be part
of any larger tax reform that Congress enacts, so that the reform is
both pro-growth and pro-family.
---------------------------------------------------------------------------
\11\ Eliminating the dependent exemption and raising the child
credit by $600 per child, for example, may be a good idea for reasons
unrelated to the parent tax. But it would do nothing to provide tax
relief for the many parents in the 15-percent tax bracket--since the
lost value of the exemption would cancel out the expansion of the
credit--and would therefore not reduce the parent tax they pay.
______
Questions Submitted for the Record to Ramesh Ponnuru
Question Submitted by Hon. Orrin G. Hatch
funding the child tax credit
Question. Mr. Ponnuru, you suggest a much higher Child Tax Credit.
As you acknowledge, this will cost a lot in the 10-year-window. And so,
in the 10 years, this would be difficult to pay for.
But, I suppose one of your points is that it will significantly pay
for itself in the long run? That is, today's children will be
tomorrow's Social Security taxpayers? If, rather than using a 10-year
budget window, Congress used a budget window with an infinite horizon,
do you have thoughts on how your proposal might score?
Answer. The rationale for an expanded child credit is rooted in
fairness: the current system overtaxes parents relative to non-parents,
and large families relative to small ones. An enlarged tax credit might
also change behavior in some cases, however, by making a larger family
more affordable. To the extent the policy enables larger families, it
will, over a long enough time horizon, partially recoup its costs.
______
Questions Submitted by Hon. Bill Nelson
Question. In your opinion, did the 1986 Tax Reform Act solve the
problems it was intended to fix? If so, please provide some examples of
how. If not, why?
Answer. The Tax Reform Act of 1986 had both positive and negative
features. On the positive side of the ledger, I would place the
reduction of marginal tax rates for individuals; the expansion of the
Earned Income Tax Credit and personal exemption; the elimination of
real estate tax shelters; and the simplification of the tax code. On
the negative side, I would place the lengthening of depreciation
schedules, the restrictions on IRAs, and the increase in capital gains
tax rates. Overall I would say the reform was better at simplifying the
code, albeit temporarily, than at promoting economic growth.
Question. President Trump has said he wants to lower the top
business tax to 15 percent. Do you believe this can be done without
significantly adding to the deficit? If so, please provide a potential
scenario for deficit-neutral tax reform in detail (with budget
estimates).
Answer. I do not believe the corporate tax rate can be brought to
15 percent without reducing revenues significantly. Unless spending
were cut or other taxes raised, the deficit would therefore rise
significantly.
Question. What metrics or considerations should Congress use to
determine appropriate trade-offs in tax reform?
Answer. I believe the tax code should be designed so as to raise
whatever level of revenue Congress deems appropriate in the least
damaging manner possible. Among the types of harm Congress should
strive to avoid are reductions in the incentives to work, save, and
invest; favoritism toward some kinds of economic activity over others;
tax bills that are too high, especially on low earners; and tax burdens
on parents that are unfairly high.
As you suggest, there are unavoidable trade-offs: raising revenues
inevitably reduces incentives to work, save, and invest. For a given
level of revenue, leveling the playing field for families (through an
expanded child credit) means accepting slightly worse incentives to
work, save, and invest (through lower marginal tax rates). There is no
formula for making these trade-offs. I believe tax reform should make
improvements on multiple fronts rather than focusing on only one of
them single-mindedly.
Tax reform should, that is, reduce the tax code's favoritism toward
some economic activities over others; improve incentives to work, save,
and invest; and offer tax relief to families; all while raising needed
revenues.
Question. Do you believe Congress should consider cutting
entitlement and safety net programs--like Social Security, Medicare,
TANF, and food stamps--to pay for tax reform? If so, why? If not, why
not?
Answer. I favor reforms that restrain the growth of Social Security
and Medicare. It might be worth considering using some of the budgetary
savings to provide additional tax relief. But most reforms would have
to be phased in slowly so as to enable people to adjust their
retirement plans in advance. Such reforms would accumulate savings too
slowly to finance immediate tax relief.
Question. In a recent speech, the President stated: ``Our tax plan
represents a sharp reversal from the failed policy of the past.
America's high tax rates punish companies for doing business in America
and encourages them to move to other countries. . . . There has to be a
price to pay when that happens; when they let our people go and that
happens, and they think they can sell the product right back into the
USA. There is going to be a big price to pay, and there has been, and
that's why you're seeing a big change.'' Please provide some
suggestions on how the President's tax reform plan could provide a
``price to pay'' for companies that offshore jobs.
Answer. When a company moves production for the American market
outside the United States, it pays various costs, including the cost of
transporting those goods and a reduced ability to reap the benefits of
productive American labor. I do not believe that government policy
should seek to increase those costs. Rather we should make sure that
our policies do not impose unnecessary costs on producing goods in
America. Lower and fairer taxes on business activity in the United
States would make it more attractive to produce here. The ``framework''
endorsed by President Trump takes many positive steps in this
direction.
Question. In your opinion, does a lower tax rate or tax exemption
for the foreign earnings of companies that offshore U.S. jobs amount to
a ``price to pay?''
Answer. No.
Question. One of the President's stated objectives for tax reform
is to make the tax code fairer. How would you suggest he achieve this
objective?
Answer. The most important way he could achieve this objective
would be to put real money behind the ``significant'' expansion of the
tax credit for children that he has already endorsed, and to make sure
that some of that money relieves families with low and moderate incomes
from their payroll tax liabilities.
______
Prepared Statement of Hon. Ron Wyden,
a U.S. Senator From Oregon
It'd be great if what I'm hearing about the goals for individual
tax reform actually lined up with the details of the plans that are
reportedly in the works, but that just isn't the case. Not even close.
The President declared to the Nation that his tax plan would not
give any breaks to the wealthy. But the fact is, his one-page tax
outline has a new, lunar crater-
sized loophole for the wealthy allowing them to abuse pass-through
status. Pass-through status is supposed to be about helping small
businesses, but the Trump plan turns it into a scheme for the wealthy
to dodge paying their fair share. That's on top of abolishing the
estate tax, which only touches one out of every 500 wealthy estates
today. It's another outlandish giveaway to people at the top.
This morning the Finance Committee is going to spend a few hours
spinning its wheels while the actual framework of the Republican tax
plan is being written behind closed doors. That's not to say the issues
that'll be discussed today are unimportant; nobody has invested more
sweat equity in tax reform than I have.
But the proposal the committee ought to be evaluating this morning
is coming together in secret, written by special interests and it's
skipping right past any serious debate or amendment in this room.
And in the meantime, if all you did was listen to the talking
points, it'd be easy to think the Republican plan would put a big focus
on the burden of complexity the tax code heaps onto so many middle-
class families. But the actual architecture of the plan in the works
doesn't reduce complexity or focus on the middle class--the Republican
plan endows future generations of the mega-wealthy.
There is a blueprint for bipartisan, comprehensive tax reform that
works. It's Reagan-style tax reform, and it's not what Republicans are
working on today.
Reagan-style tax reform fights complexity by fighting unfairness.
Thirty-one years ago, the reform bill President Reagan fought for and
signed into law equalized the tax treatment of wages and wealth. That
meant that the worker who punched a clock going in and out of every
shift wasn't getting a raw deal compared to the fatcats and trust fund
babies.
Reagan-style tax reform is also about clearing out the deadwood--
the provisions that do a whole lot more to please special interests and
lobbyists than they do to create jobs or help families climb the
economic ladder.
Those are propositions that I believe ought to get a lot of
bipartisan interest again in 2017. That's because the tax code on the
books today amounts to a tale of two systems. There's a strict set of
rules for the cop and the nurse who are married and raising kids. Their
taxes come right out of their paychecks--no special tax dodges or
schemes for them to exploit. Then there's another set of rules for the
most fortunate. It says they can decide how much to pay and when to pay
it.
That's the brand of unfairness that Reagan-style reform would go
after. Tax reform in 2017 should be an opportunity to put money back
into those cops' and nurses' paychecks, and to help those families save
for retirement, pay for college and afford housing.
But the basic proposition that Republicans have on offer goes after
middle-class tax benefits like the State and local deduction and
incentives for home ownership and retirement savings. And it gores the
middle class to finance unprecedented tax handouts for the biggest
corporations and the most fortunate.
When it comes to State and local tax deductions, this is fake tax
reform. And it's not just a play at taking from blue States. There are
middle-class families across the country--taxpayers in deep blue areas
that went for Clinton and scarlet red areas that went for Trump--
that'll be taxed twice on the same income if State and local deduction
is eliminated. The dreaded double taxation--if you're opposed to it
when it involves corporate income, you can't line up behind a plan to
double tax middle-class families twice on their hard-earned pay.
When it comes to simplification, it's easy to hold up a proposal to
double the standard deduction as evidence that you want to make filing
easier for a lot of people. But in the recent past I've called for
tripling the standard deduction. So the Republican plan for the
standard deduction would be a whole lot less generous in that regard.
The basic framework of this plan looks like what you'd put together
if you think there are a lot of five-car garages that really need
expanding on the middle class's dime. And unfortunately, the
administration and Republicans in Congress are committed to the
partisan approach. Leader McConnell has said he wants another crack at
reconciliation to jam this tax plan through the Senate, and he doesn't
want input from Democrats.
So this morning, the committee is going to hear a lot about the
complexity of our tax code, the burden on families, and the need to
spark economic growth. I am all ears when it comes to ideas centered on
those issues--built on giving everybody a chance to get ahead the way
Reagan-style tax reform did. But the Republican plan I see coming
together right now doubles down on the rotten unfairness in our tax
code. And that would make it a failure for the middle class and people
working to get there.
During today's hearing, I hope the committee is able to take a
close look at the real causes of unfairness and complexity, and why
going after middle-class tax breaks to fund a tax cut for the wealthy
is the wrong approach to reform.
Thank you, Chairman Hatch.
______
Communications
----------
Adoption Tax Credit Working Group (ATCWG)
July 17, 2017
The Honorable Orrin Hatch
Chairman
Committee on Finance
U.S. Senate
The Honorable Ron Wyden
Ranking Member
Committee on Finance
U.S. Senate
Dear Chairman Hatch, Ranking Member Wyden, and Members of the Senate
Finance Committee:
On behalf of the Adoption Tax Credit Working Group (ATCWG), we would
like to inform the Committee on Finance of our efforts and offer
ourselves as a resource. The ATCWG is a national collaboration of 150
organizations united by our support and advocacy for the adoption tax
credit, which plays an important role in encouraging the adoption of
children who need families. The organizations that make up the ATCWG
represent children and families from every sector of adoption,
including U.S. foster care, domestic private, and international
adoptions. With our broad representation and involvement in adoption
policy and practice issues, we have a unique perspective on the role
that the tax credit plays for Americans who adopt.
The ATCWG understands that there is bipartisan interest in simplifying
the tax code and we are grateful for your outreach for stakeholder
input. As the U.S. Senate Committee on Finance (``Committee'')
considers the best means of achieving this goal, we urge you to take
into account the strong public policy rationale for the adoption tax
credit, the broader and longer term cost savings adoption ensures, and
the bipartisan history of and support for the credit since its
inception.
First enacted in 1996 as a part of the Small Business and Job
Protection Act of 1996 (Pub. L. 104-188), the adoption tax credit
advances the important goal of enabling domestic and intercountry
adoptions, especially for children with special needs who otherwise
might linger in costly foster care without the benefits and security of
permanent, loving families. Over 53,000 children were adopted from
foster care in fiscal year 2015 alone.\1\ By offsetting some of the
costs of adoption or of caring for a child with special needs, the tax
credit makes adoption a more viable option for many children and
families. Over 60 percent of adopted children are adopted by lower- and
middle-income taxpayers, and almost half of children adopted from
foster care live in families with household incomes at or below 200
percent of the federal poverty level.\2\ Congress has always worked
across the aisle to prioritize the continuation of the adoption tax
credit, and we hope that the Committee will continue to recognize the
value of the credit.
---------------------------------------------------------------------------
\1\ The AFCARS Report: Preliminary FY 2015 Estimates as of June
2016, U.S. Department of Health and Human Services: Administration for
Children and Families, Adoption and Foster Care Analysis and Reporting
System, retrieved July 13, 2017, from: https://www.acf.hhs.gov/sites/
default/files/cb/afcarsreport23.pdf.
\2\ ``The Importance of the Adoption Tax Credit,'' The Adoption Tax
Credit Working Group, 2015, retrieved February 18, 2016, from https://
adoptiontaxcreditdotorg.files.wordpress.com/2015/10/atcfactsheet.pdf.
We applaud the Committee's goal to provide much-needed tax relief to
middle-class individuals and families through reforms to the individual
tax system. We hope that it will not be forgotten that the adoption tax
credit is an existing policy that does just this. It not only provides
support directly to lower- and moderate-income families, phasing out
for those with higher incomes, but it does so in a way that creates
government savings. A study reported by the federal Children's Bureau
showed that the government saves between $65,000 and $127,000 for each
child who is adopted rather than placed in long-term foster care.\3\
These savings accrue from reductions in the need for direct child
welfare services (foster care and court oversight) and from the long-
term societal benefits of adoption (increased graduation rates, reduced
homelessness, and reduced incarceration, for example). Annually, over
22,000 youth exit foster care without ever finding a permanent family
to help them in the transition to adulthood.\4\ An extensive study by
Nicholas Zill found that 81 percent of males in long-term foster care
had been arrested compared with 17 percent of all young males
nationally. Incarceration of former foster youth is estimated to cost
society $5.1 billion annually.\5\
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\3\ R.P. Barth, C.K. Lee, J. Wildfire, and S. Guo, ``A Comparison
of the Governmental Costs of Long-Term Foster Core and Adoption,''
Social Service Review (March 2006), retrieved April 11, 2013, from:
http://www.flgov.com/wp-content/uploads/childadvocacy/
foster%20care%20and%
20adoption%20study.pdf.
\4\ The AFCARS Report: Preliminary FY 2015 Estimates as of June
2016, U.S. Department of Health and Human Services: Administration for
Children and Families, Adoption and Foster Care Analysis and Reporting
System, retrieved July 13, 2017, from: https://www.acf.hhs.gov/sites/
default/files/cb/afcarsreport23.pdf.
\5\ Zill, Nicholas (2011), ``Adoption From Foster Care: Aiding
Children While Saving Public Money.'' Brookings Institute Center on
Children and Families, retrieved from http://www.brookings.edu//media/
research/files/reports/2011/5/adoption-foster-care-zill/05_adop
tion_foster_care_zill.pdf.
Children and youth deserve a permanent family, and while adoption
certainly supports these children, it also benefits society broadly.\6\
Adoption places children on a path to becoming more productive
citizens, and research tells us that poor outcomes are common for youth
who exit foster care without stable families. In addition to higher
incarceration rates, youth who ``aged-out'' of the foster care system
face many other difficult odds. For example, only 58 percent of foster
youth graduated high school by age 19, only 50 percent were employed by
age 24, and 71 percent of young women were pregnant by age 21.\7\
Studies comparing children who remain in foster care to children who
are adopted have shown that: adopted children are 54 percent less
likely to be delinquent or arrested, 19 percent less likely to become
teen parents, and 76 percent more likely to be employed.\8\
---------------------------------------------------------------------------
\6\ Jim Casey Youth Opportunities Initiative (n.d.), retrieved
February 3, 2015, from http://www.jimcaseyyouth.org/.
\7\ Jim Casey Youth Opportunities Initiative (n.d.), retrieved
February 3, 2015, from http://www.jimcaseyyouth.org/.
\8\ Fixsen, A. (2011), ``Children in Foster Care Societal and
Financial Costs: A Family for Every Child,'' retrieved from http://
www.afamilyforeverychild.org/Adoption/AFFECreportonchildrenin
fostercare.pdf.
As a collective group of diverse organizations, representing thousands
of adoptive families across the country and hundreds of thousands of
waiting children, one of the goals of the ATCWG is to preserve the
adoption tax credit as a part of the individual tax code. As laid out
above, the adoption tax credit supports families who desire to adopt
and children who deserve a permanent family. However, we would be
remiss if we did not bring to your attention the fairness that a
---------------------------------------------------------------------------
refundable tax credit creates for American families.
Some families will never be able to adopt without the benefit of the
adoption tax credit. Others will adopt but will not benefit at all,
which means they may face challenges meeting their children's needs,
particularly children adopted from foster care with special needs.
Over time, Congress has made a series of improvements to the adoption
tax credit--the vast majority of which were aimed at addressing the
fact that many families who adopted from foster care were not able to
claim the credit. Data from 2010 and 2011, when the credit was
refundable, shows that for the first time in the credit's history,
families who adopted children with special needs from foster care were
able to benefit like other adoptive families. While we understand the
complex budget and tax issues at hand, failure to maintain this
progress will undoubtedly result in more children remaining in foster
care rather than moving into permanent families. There are currently
more than 111,000 children in foster care waiting to be adopted,\9\ and
this number has increased each of the last three years. The societal
and financial cost of eliminating the adoption tax credit at this time
would be especially harmful to waiting children, the families that
might adopt them, and the national budget. Alternatively, maintaining
or improving the credit, by returning it to refundability, would serve
a critical population and eliminate costs related to maintaining youth
in less desirable, impermanent foster care as well as costs related to
the negative outcomes youth face who age out of foster care without
permanency.
---------------------------------------------------------------------------
\9\ The AFCARS Report: Preliminary FY 2015 Estimates as of June
2016, U.S. Department of Health and Human Services: Administration for
Children and Families, Adoption and Foster Care Analysis and Reporting
System, retrieved July 13, 2017, from: https://www.acf.hhs.gov/sites/
default/files/cb/afcarsreport23.pdf.
As the Committee develops recommendations to overhaul the Internal
Revenue Code, we hope that you will consider the ATCWG Executive
Committee as a resource for information related to the adoption tax
credit. Collectively, we have many decades of adoption experience and a
comprehensive understanding of how the adoption tax credit benefits
children and is used by families, and we would be pleased to provide
any additional information to you and your staff. Thank you for your
---------------------------------------------------------------------------
consideration.
Sincerely,
Adoption Tax Credit Working Group Executive Committee:
American Academy of Adoption Attorneys
Adopt America Network
Christian Alliance for Orphans
Congressional Coalition on Adoption Institute (Secretariat)
Dave Thomas Foundation for Adoption
Donaldson Adoption Institute
National Council for Adoption
North American Council on Adoptable Children
RESOLVE: The National Infertility Association
Show Hope
Voice for Adoption
Adoption Tax Credit Working Group:
Villa Hope Birmingham AL
Alabama Foster and Adoptive Parent Cullman AL
Association
Lifeline Children's Services, Inc. Birmingham AL
Dillon Southwest Scottsdale AZ
Partners for Adoption Walnut Creek CA
AASK--Adopt A Special Kid Martinez CA
About a Child Redwood City CA
Adoption Law Group Pasadena CA
Angels' Haven Outreach Pleasant Hill CA
Bal Jagat--Children's World Inc. Long Beach CA
Independent Adoption Center Pleasant Hill CA
Pact, An Adoption Alliance Oakland CA
Across the World Adoptions Pleasant Hill CA
Sierra Forever Families Sacramento CA
Family Connections Christian Modesto CA
Adoptions
Bay Area Adoption Services Mountain View CA
AdoptFund, Inc. Los Angeles CA
Alpine Adoption, Inc. Lakewood CO
Adoption Today Windsor CO
Project 1.27 Littleton CO
Fostering Families Today Windsor CO
The Adoption Exchange Aurora CO
Fund Your Adoption CO
CT Association of Foster and Adoptive Rocky Hill CT
Parents
Lutheran Services in America Washington DC
Families for Private Adoption Washington DC
Family Equality Council Washington DC
Child Welfare League of America Washington DC
(CWLA)
Family and Youth Initiative Washington DC
Florida State Foster/Adoptive Parent Minneapolis FL
Association
Broward Foster and Adoptive Parent Plantation FL
Association
Beacon House Adoption Services, Inc. Pensacola FL
Jewish Adoption and Foster Care Sunrise FL
Options (JAFCO)
Pinellas County Foster and Adoptive Largo FL
Parent Association
The Adoption Consultancy Brandon FL
The Sylvia Thomas Center for Adoptive Brandon FL
and Foster Families
Georgia Council of Adoption Lawyers Atlanta GA
Georgia Association of Licensed Atlanta GA
Adoption Agencies
Illien Adoptions International, Inc. Atlanta GA
Georgia Center for Opportunity Norcross GA
Iowa Foster and Adoptive Parents Pleasant Hill IA
Association
Idaho Foster and Adoptive Parents Post Falls ID
Association
Family Resource Center Chicago IL
Sunny Ridge Family Center Bolingbrook IL
The Adoption Lantern Wilmette IL
Adoption Learning Partners Evanston IL
The Cradle Evanston IL
Lifesong for Orphans Gridley IL
Adoption ARK, Inc. Buffalo Grove IL
ACT (Adoption in Child Time) Indianapolis IN
Families Thru International Adoption Evansville IN
MLJ Adoptions Indianapolis IN
Christian Family Services of the Portland KS
Midwest, Inc.
Youthville KS
Resources4adoption.com Eudora KS
Adoption Beyond, Inc. Overland Park KS
American Adoptions KS
All Blessings International, Inc. Owensboro KY
Catholic Charities of the Diocese of Baton Rouge LA
Baton Rouge
RainbowKids.com Adoption Advocacy Harvey LA
A Red Thread Adoption Services, Inc. Norwood MA
Wide Horizons for Children Waltham MA
Ascentria MD
Adoptions Together Silver Spring MD
Global Adoption Services, Inc. Bel Air MD
Adoptive and Foster Families of Maine Saco ME
Bethany Christian Services Grand Rapids MI
Michigan Association for Foster, MI
Adoptive, and Kinship Parents
Adoption Associates, Inc. Jenison MI
Americans for International Aid and Troy MI
Adoption
Family Enrichment Center Battle Creek MI
European Children Adoption Services Plymouth MN
Children's Home Society and Family St. Paul MN
Services
My Adoption Advisor, LLC Minnetonka MN
National Foster Parent Association MN
Minnesota Foster Care Association Burnsville MN
Evolve Minneapolis MN
Children's Hope International St. Louis MO
Lutheran Family and Children's Independent city MO
Services of Missouri
New Beginnings International Tupelo MS
Children's and Family Services
Christian Adoption Services, Inc. Matthews NC
Carolina Adoption Services, Inc. Greensboro NC
Children at Heart Adoption Services, Wilmington NC
Inc.
Hopscotch Adoptions, Inc. High Point NC
Creating a Family Brevard NC
Nebraska Foster and Adoptive Parent Lincoln NE
Association
New Hope for Children Newmarket NH
Golden Cradle Adoption Services Cherry Hill NJ
Adoption STAR Amherst NY
Adoptive Families magazine New York NY
Ashcraft, Franklin, Young, and Rochester NY
Peters, LLP
Forever Families Through Adoption, Rye Brook NY
Inc.
Helpusadopt.org New York NY
USAdopt, LLC New York NY
Adoptive Parents Committee Inc. New York NY
Michael S. Goldstein, Esq., LCSW Rye Brook NY
Family Focus Adoption Services Little Neck NY
NYSCCC Brooklyn NY
Spence-Chapin New York NY
Baker Victory Services Lackawanna NY
Law Office of Barbara Thornell Ginn Cincinnati OH
Spirit of Faith Adoptions Sylvania OH
Caring for Kids Cuyahoga Falls OH
Tuscarawas County Job and Family New Philadelphia OH
Services
National Down Syndrome Adoption Cincinnati OH
Network
European Adoption Consultants, Inc. Strongsville OH
National Center for Adoption Law and Columbus OH
Policy
Dillon International, Inc. Tulsa OK
Foster Family-based Treatment Norman OK
Association
Journeys of the Heart Adoption Hillsboro OR
Services
All God's Children International Portland OR
Holt International Children's OR
Services
Oregon Post Adoption Resource Center Portland OR
SPOON Foundation Portland OR
The Sparrow Fund Phoenixville PA
Madision Adoption Associates Perkasie PA
Together as Adoptive Parents, Inc. Harleysville PA
La Vida International Malvern PA
Three Rivers Adoption Council Pittsburgh PA
A Chosen Child Adoption Services Summerville SC
Miriam's Promise Nashville TN
Fund Your Adoption Gallatin TN
ONE Church, One Child--OCOC Texas ................. TX
Buckner International Dallas TX
Gladney Center for Adoption Fort Worth TX
Texas Foster Family Association Pflugerville TX
Generations Adoptions Waco TX
Upbring Austin TX
Forever Bound Adoption Morgan UT
Youth Villages, Inc. Arlington VA
The Barker Foundation Falls Church VA
Friends in Adoption Middletown VT
Springs
Amara Seattle WA
Agape Adoptions Sumner WA
Children's House International Ferndale WA
WACAP (World Association for Children Seattle WA
and Parents)
Foster Parents Association of Bremerton WA
Washington State
Faith International Adoptions Tacoma WA
Families Like Ours, Inc. Seattle WA
Lutheran Social Services of Wisconsin Milwaukee WI
and Upper Michigan, Inc.
______
American Retirement Association (ARA)
The American Retirement Association (``ARA'') thanks Chairman Hatch,
Ranking Member Wyden, and the other members of the Senate Finance
Committee for holding a hearing on individual tax reform and for the
opportunity to submit this statement for the record.
The ARA is an organization of more than 20,000 members nationwide who
provide consulting and administrative services to retirement plans that
cover millions of American workers and retirees. ARA members are a
diverse group of retirement plan professionals of all disciplines,
including: financial advisers, consultants, administrators, actuaries,
accountants, and attorneys. The ARA is the coordinating entity for its
four underlying affiliate organizations, the American Society of
Pension Professionals and Actuaries (``ASPPA''), the National
Association of Plan Advisors (``NAPA''), the National Tax-deferred
Savings Association (``NTSA'') and the ASPPA College of Pension
Actuaries (``ACOPA''). ARA members are diverse but united in a common
dedication to America's private retirement system.
We wish to submit this statement for the record because we want to
highlight our concern about the testimony of one witness--Lily
Batchelder--who called for restructuring the tax incentives for
retirement savings into a refundable tax credit. She also claimed that
``the lion's share of tax incentives for retirement savings go to the
wealthy.'' Unfortunately, the assertion that the tax incentives for
retirement are upside down is a common myth that we would like to
dispel. Thanks to the balance imposed by the current law contribution
limits and stringent nondiscrimination rules, these tax incentives are
right side up--even before properly considering other components of
this incentive.
How is the tax benefit distributed?
The distribution of the tax benefit for saving in a defined
contribution retirement plan is typically analyzed by applying the
marginal tax rate to current contributions. This analysis reflects the
progressive nature of the U.S. income tax system, because the value of
the tax benefit of the deferral increases as the marginal tax rate
increases.\1\
---------------------------------------------------------------------------
\1\ In any given year, the number of contributors will outnumber
the retirees making distributions, further exaggerating this
distribution of tax benefits.
Focusing on contributions within the context of this progressive income
tax structure, would lead one to expect the tax benefit for retirement
savings would favor only higher income individuals. Yet, there are
important characteristics of retirement savings that are omitted from
---------------------------------------------------------------------------
this simplistic analysis.
First, current contributions to employer plans are subject to non-
discrimination rules and compensation limits. These rules limit not
only the deferral rates permitted by higher income participants, but
also limits the amount of compensation that may be considered for
purposes of determining contributions. Together, these rules place
limitations on the disparities in the contribution levels.
Second, retirement incentives encourage savings while the individual is
working to provide income during retirement. The focus on contributions
ignores the benefits to retirees. In retirement, lower income
individuals tend to continue to receive tax benefits, as their
retirement savings is typically subject to tax at a lower rate compared
to their working years (see chart one).\2\
---------------------------------------------------------------------------
\2\ Internal Revenue Service, Statistics of Income Table 1.4,
Sources of Income by Adjusted Gross Income and W-2 Tabulations.
Third, the analysis ignores that much, if not all, of the apparent tax
savings to a small business owner accrues to employees in the form of
employer contributions. Employer contributions represent a critical
contribution to lower-wage participants. In many cases, complying with
safe harbor rules means that the only savings many lower-wage
---------------------------------------------------------------------------
participants receive are these employer contributions.
[GRAPHIC] [TIFF OMITTED] T1417.018
Finally, analyzing the benefit for contributions in a given year
provides only a snapshot of the benefits, and fails to recognize the
disparity in tax rates applied to distributions and tax treatment of
other retirement benefits. For example, small business owners'
distributions will face a higher marginal income tax rate than for
those with a history of lower contributions. In addition, the small
business owner will be required to include more Social Security
benefits in income. As a result, failure to consider future tax
treatment tends to overstate these relative benefits offered by the
current system.
The standard methodology for measuring the benefit of the tax incentive
(multiplying marginal rate by income deferred) shows tax incentives for
employer-
sponsored retirement savings favor higher income individuals. The
analysis simply captures the inequality of income, rather than uneven
tax benefits. However, because of the unique nature of this tax
incentive, this methodology actually understates the benefits of the
current retirement incentives. A more comprehensive analysis of the
distribution of the tax incentives would show the current tax
incentives for retirement savings are distributing benefits to low- and
moderate-income workers.
Replacing the Retirement Exclusion With a Credit
Lily Batchelder's testimony also stated that ``the tax incentives for
retirement savings are a particularly fruitful area for reform''
without getting into further specifics about how to achieve her goal.
However, we believe that she is referencing a recurring proposal that
would convert the current year retirement plan contribution exclusion
from income into a uniform tax credit.
How a proposal such as this affects retirement plan sponsors and
participants depends, of course, on what the level of credit is, and
whether or not it is deposited to a retirement savings account or
directly offsets income tax liability. A past proposal \3\ from William
Gale of the Tax Policy Center offers both a 30 percent, which the paper
says would be revenue neutral, and an 18 percent credit. This proposal
purports to create additional savings by providing more incentive for
taxpayers below the 23 percent and 15 percent marginal tax brackets to
save.
---------------------------------------------------------------------------
\3\ William G. Gale, A Proposal to Restructure Retirement Savings
Incentives in a Weak Economy With Long-Term Deficits, September 2011.
Data shows the primary problem to be addressed in improving retirement
security is increasing access to workplace savings, not a lack of
incentive for take-up by moderate income participants with access. More
than 70 percent of workers earning $30,000 to $50,000 participate in a
workplace retirement plan at work, but fewer than 5 percent will save
through an IRA on their own (see chart two).\4\ These plans primarily
benefit the middle class: 68 percent of active participants in 401(k)
plans have an adjusted gross income (AGI) of less than $100,000 per
year. Thirty-five percent of participants have an AGI of less than
$50,000 (see chart three).\5\ Americans earning between $25,000 and
$75,000 save seven times more in retirement savings--largely through
participation in workplace retirement plans--than any other type of
savings.\6\
---------------------------------------------------------------------------
\4\ Employee Benefit Research Institute (2010) estimate using 2008
Panel of SIPP (Covered by an Employer Plan) and EBRI estimate (Not
Covered by an Employer Plan--IRA only).
\5\ Internal Revenue Service, Statistics of Income, IRA Studies,
2014.
\6\ Employee Benefit Research Institute estimate of the 2013 Survey
of Consumer Finance.
[GRAPHIC] [TIFF OMITTED] T1417.019
This proposal has several basic flaws. The proposal itself indicates
that the current tax incentive for many decision makers would be
reduced under the proposal. In fact, for the business owner, the
reduction in the incentive would be more than illustrated in the
proposal because contributions made on behalf of employees would become
subject to FICA. In other words, the ``problem'' being addressed by
this proposal is not the problem, and the ``solution'' will only make
---------------------------------------------------------------------------
the situation worse.
If the credit is an offset from income tax liability, the size of the
credit for a small business owner would determine if setting up or
maintaining the plan is still worthwhile. If the credit were deposited
to a retirement account, in many cases the resulting drain on cash
would necessarily result in lower contributions for the small business
owner and employees, or termination of the plan. For larger employers,
the size of the credit will in no way offset additional FICA liability.
They would have to take on the additional cost, or decrease
contributions.
[GRAPHIC] [TIFF OMITTED] T1417.020
The paper notes that a 30 percent credit is equivalent to a 23 percent
deduction. Similarly, an 18 percent credit would be equivalent to a 15
percent deduction. The equivalency is based on the theory that only the
after-tax amount of income will receive the credit. For example, if an
employee defers $1,000 under the current incentive system and is in the
15 percent bracket, under current rules, $150 of income tax liability
is deferred. Under the proposal, the after-tax deferral would be $850.
Eighteen percent of $850 is $150, so this credit is equivalent to the
exclusion for income tax purposes. This analysis makes sense in the
case of IRA contributions or elective deferrals, where FICA is already
paid on the contribution amounts. It does not hold up, however, for
employer contributions, where there is currently no FICA liability for
either employees or employers.
Consider an employee in the 15 percent bracket contributing $1,000 as
an elective deferral and receiving a $1,000 employer contribution. If
the level of employer contribution does not change, the employee will
not only offset the $1,000 elective deferral by the $150 income tax
liability on the elective deferral, but also by the $150 income tax
liability for the employer contribution and the $76 in FICA
contributions the employee owes on this employer contribution amount.
Instead of $2,000 in total contributions, there will be $1,624 ($2000 -
$150 - $150 - $76). An 18 percent credit applied to $1,624 is only
$292. So the employee has lost over $80 in this change to an
``equivalent'' 18 percent credit. For this situation, the equivalent
credit would be about 23 percent. Note, however, that the higher the
level of the employer contribution relative to the elective deferral,
the higher the credit must be for the individual to break even. If
there were a $2,000 employer contribution, an 18 percent credit would
result in a reduction of over $171, after FICA is considered, and the
equivalent credit would be over 25 percent.
Considering the FICA implications, this proposal has the effect of
penalizing both business owners (through increased FICA taxes) and
employees when the plan provides for matching or profit-sharing
contributions, with the penalty increasing as the employer contribution
increases. Regardless of the size of the credit, this is an incentive
for all employers, not just small business owners, to reduce company
contributions.
Conclusion
The current retirement savings tax incentives work well to promote good
savings behavior for tens of millions of working Americans. If
anything, these incentives--for both employers and employees--should be
enhanced. At a minimum, any modifications to the current incentives
should be evaluated based on whether or not the changes will encourage
more businesses to sponsor retirement plans for their employees.
Restructuring the tax incentives for retirement savings into a uniform
tax credit would fail this evaluation and should be rejected.
______
California Association of Realtors (CAR)
Executive Offices
525 South Virgil Avenue
Los Angeles, CA 90020
Tel (213) 739-8200
Fax (213) 480-7724
https://www.car.org/
September 20, 2017
The Honorable Orrin Hatch and The Honorable Ron Wyden
U.S. Senate
Committee on Finance
215 Dirksen Senate Office Building
Washington, DC 20510
Re: ``Individual Tax Reform'' Hearing; Testimony of the California
Association of Realtors
Dear Chairman Hatch and Ranking Member Wyden,
On behalf of the more than 190,000 members of the California
Association of Realtors (CAR), I am submitting the following statement
for the committee's hearing entitled ``Individual Tax Reform,'' that
will examine ways to improve the U.S. tax system for America's families
and individuals. I would like to thank you for taking the time to hold
this important hearing on tax reform, an issue that will impact all
Americans. As CAR and its members look at the issue of tax reform, two
important issues stand out; (1) Congress must maintain an incentive for
renters to become homeowners, and (2) Congress must not raise taxes on
homeowners.
Unlike other pieces of legislation that may impact a specific industry
or a select socio-economic class, tax reform will impact EVERY industry
and ALL Americans. For this reason, Congress must avoid rushing tax
reform through backroom deals. An issue of this magnitude needs to move
through the full congressional process. This includes transparency
through committee hearings, amendments, markups, full floor debates,
and votes. The American taxpayers deserve nothing less.
CONGRESS SHOULD INCENTIVIZE HOME OWNERSHIP
For over 100 years Congress has incentivized home ownership with the
tax code; currently through the mortgage interest deduction. Any effort
at reforming the tax code should maintain and prioritize this
incentive. Unfortunately, many of the proposals for tax reform include
the doubling of the standard deduction, would for practical purposes
eliminate the incentive effect of the mortgage interest deduction.
Under the proposals, it is estimated only 5-percent of taxpayers will
itemize their deductions, therefore the vast majority of people will no
longer receive any tax incentive to purchase a home. So, while Congress
may state the proposals are keeping the mortgage interest deduction,
the incentive effect of the deduction for Americans to become
homeowners and thereby stakeholders in their community would disappear.
Severely reducing the incentive to home ownership will lower home
ownership rates in the U.S. This will financially hurt households and
shrink the middle class. If Congress maintains or increases the
incentive for home ownership, Congress will be taking the necessary
steps to financially strengthen America's households and grow the
middle class. According to the Federal Reserve, over the last 28 years
the median net worth of households that own homes has averaged
$193,000. This is in comparison to $5,300 for households that rent over
the same time. This is because home ownership allows individuals and
families to build wealth through principal reduction, equity
appreciation, stable monthly payments, and create generational wealth.
It also allows seniors who pay off their mortgage or have a stable
mortgage payment to live securely and with stability in their
residences and community without fear of being displaced due to rent
increases.
CONGRESS SHOULD NOT INCREASE TAXES ON HOMEOWNERS
Congress needs to protect taxpayers from double-taxation and maintain
the deduction for state and local taxes including property taxes. Not
allowing the average homeowner in California to deduct their property,
state and local taxes would effectively be raising their taxes more
than $2,400 a year! The Federal Government would tax families on money
paid to the state and local governments they never used. Effectively
this is akin to double taxation of the homeowners and taxpayers of
states with state and local taxes.
Additionally, eliminating the ability to deduct state and local taxes
would further punish Californian families who already pay more to the
Federal Government than they receive. According to the 2014 IRS data
book California paid $369 billion dollars to the Federal Government, of
which according to the Pew Charitable Trusts, only $356 billion was
sent back to Californians. Eliminating the ability to deduct property,
state and local taxes will further increase this discrepancy and harm
California homeowners.
PROTECT CAPITAL GAINS EXCLUSION FOR PRIMARY RESIDENCES
Congress must keep and improve the capital gains exemption for the sale
of a primary residence. Under current law, the first $250,000 in
capital gains for single-tax filers or $500,000 in capital gains for
joint-tax filers on the sale of their primary residence is not taxed.
This has allowed for millions of households to build equity in their
homes and supplement their social security when they retire. However,
protecting this vital tax provision is not enough, and Congress should
take additional steps to help these homeowners even more.
Congress should eliminate the ``single tax filer'' and have only the
higher exemption of $500,000 apply to all primary residences regardless
of the marital status of the owner. By having the higher amount for all
primary residences, Congress will ensure widowers and divorced
individuals are not punished. Additionally, this tax provision should
be indexed for inflation. For 20 years the benefit of this tax
provision has eroded because the amount has sat stagnant. If the
exclusion is indexed for inflation, Congress should use 1997 (the year
the law was enacted) as the base year.
DON'T PAY FOR LOWER CORPORATE RATES ON THE
BACK OF HOMEOWNERS
As independent contractors, almost every Realtor is their own small
business, so CAR understands the importance and benefit of a lower
corporate tax rate. However, Congress cannot and must not pay for lower
corporate tax rates by effectively increasing the taxes of homeowners
by eliminating or reducing their deductions. Any reduction to the
corporate tax rate must be offset by corporations.
CAR looks forward to working with the Senate as it works to reform the
tax code. We would be happy to discuss any of these issues further with
you and your staff; you may contact Matt Roberts, Federal Government
Affairs Manager at 213-739-8284 or [email protected]. Thank you for
taking into consideration our comments.
Sincerely,
Geoff McIntosh
2017 President, California Association of Realtors
______
Charitable Giving Coalition (CGC)
U.S. Senate
Committee on Finance
Dirksen Senate Office Bldg.
Washington, DC 20510-6200
Chairman Hatch, Ranking Member Wyden, and Members of the Senate
Committee on Finance:
The Charitable Giving Coalition (CGC) welcomes the opportunity to
submit comments to the official record for the recent Committee Hearing
on Individual Tax Reform.
As noted in the hearing announcement, Mr. Chairman, your goal was to
``examine ways to streamline the individual tax system to make it work
better for American individuals and families.'' With this focus on
individuals and families, the CGC wants to make certain that you and
your colleagues consider the direct connection between changes to the
individual tax code and the well-being of America's charities.
The CGC heeded your call in July to submit comments on Tax Reform,
which we incorporate here by reference. In this submission, we aim to
update those comments.
The CGC is submitting our remarks to you today with an added sense of
urgency. In yesterday's release of the Unified Framework for Fixing Our
Broken Tax Code, we note that the outline, albeit brief, does not
address the consequence of the significant re-configuration of the
individual income tax code to charitable giving, the organizations it
supports and the people served. While the White House draws a
connection between a strong civil society and vibrant charitable
giving, and leaders in Congress have expressed interest in unlocking
more donor dollars for charities across the country, the Framework
seems to fall short for America's charities.
For that reason, we implore you to consider the impact of new tax
policy on vulnerable communities as you convert this Framework to
detailed legislation. Based on the Framework's general outline, the
Charitable Giving Coalition (CGC) believes the plan would generate
dramatic, negative consequences for charities and the constituents they
serve because the charitable deduction will be available to only 5% of
all taxpayers--causing a significant drop in contributions. The other
95% of taxpayers will be taxed on their gifts to charity.
Tax reform that strengthens American communities, spurs economic growth
and supports America's hard-working families, especially those in
middle- and lower-
income brackets, must incentivize charitable giving. The Framework
acknowledges that certain ``tax benefits help accomplish important
goals that strengthen civil society, as opposed to dependence on
government: home ownership and charitable giving.''
However, under the Framework, the scope and value of the current
charitable deduction would vastly diminish. If the standard deduction
nearly doubles, the percentage of taxpayers who itemize will drop from
approximately 33.3% to only 5%, effectively meaning only 5% of all
taxpayers can take the charitable deduction. In real terms, 30 million
taxpayers who itemized in 2016 will no longer have the giving incentive
and will be taxed on their gifts. The result would be a staggering loss
of up to $13 billion in contributions annually,* undermining America's
charitable organizations and our country's extraordinary tradition of
philanthropy.
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* According to a study commissioned by Independent Sector and
conducted by Indiana University Lilly Family School of Philanthropy,
``Tax Policy and Charitable Giving, Results,'' May 2017, Indiana
University Lilly Family School of Philanthropy Study commissioned by
Independent Sector, https://www.independentsector.org/wp-content/
uploads/2017/05/tax-policy-charitable-givinq-finalmay2017-1.pdf.
Americans are, undeniably, generous. This has been strikingly evident
in the wake of the unprecedented natural disasters that we've
experienced in recent weeks. The public response reinforces the
American tradition of giving. Consider just one example: The ``Hand in
Hand Benefit for Hurricane Relief'' telethon on Tuesday, September
12th, raised over $44 million in one evening. ``Hand in Hand'' is one
of thousands of fundraising efforts, small and large, collecting
donations and distributing them to a broad cross-section of relief
providers in the areas ravaged by recent hurricanes. From individual
gifts and small giving circles to the ``One America Appeal'' being led
by all five former living Presidents of the United States, the best of
our American ethos to collectively support our communities is--as
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always--in action.
Congress must assure that we retain charitable giving, and unlock more,
as it navigates the complexities of tax reform.
As you know from our comments submitted in July and subsequent outreach
to Committee Members, the CGC has proposed a fair and efficient
resolution that will continue to encourage Americans to redirect their
dollars to charities: a universal charitable deduction available to all
taxpayers. This will assure that contributions to charities are not
taxed by the federal government and that taxpayers who currently take
the deduction for their gifts will continue to be incentivized.
Furthermore, because the deduction will be available to all taxpayers,
it could foster a culture of giving much earlier, providing an
incentive to young taxpayers who are beginning to make their charitable
investments in the communities and causes they care about.
With the latest U.S. Census figures showing that middle-class
households are only now seeing their income reach 1999 levels--and with
economists concerned that recent gains may not continue--a universal
charitable deduction is easy for taxpayers to use and will provide tax
relief for families across America who give to charity but don't
itemize their taxes.
More than a dozen United States Senators, including members of the
Senate Finance Committee, recognized that tax reform must not diminish
charitable giving when they sponsored The CHARITY Act of 2017 (S.
1343.) That bill expressly states that: (1) encouraging charitable
giving should be a goal of tax reform; and (2) Congress should ensure
that the value and scope of the deduction for charitable contributions
is not diminished during a comprehensive reform of the tax code
As the Committee advances it efforts to enact tax legislation that is
good and fair for all Americans, the CGC will continue to advance the
universal deduction as a solution to the expected loss in giving from
the current tax Framework. Our collective, unifying goal should be to
ensure that America's communities thrive and her charities remain
strong, diverse and effective.
Thank you for this opportunity to submit comments to the hearing
record. We look forward to our continued efforts to educate the
Committee and advance our legislative proposal for a universal
charitable deduction.
______
Coalition to Preserve Cash Accounting
September 27, 2017
The Honorable Orrin Hatch The Honorable Ron Wyden
Chairman Ranking Member
U.S. Senate U.S. Senate
Committee on Finance Committee on Finance
219 Dirksen Senate Office Building 219 Dirksen Senate Office Building
Washington, DC 20510-6200 Washington, DC 20510-6200
Dear Chairman Hatch and Ranking Member Wyden:
On behalf of the Coalition to Preserve Cash Accounting (``the
Coalition''), we are writing to explain why it is important to continue
to allow farmers, ranchers, and service provider pass-through
businesses to continue to use the cash method of accounting as part of
any tax reform plan. We appreciate the opportunity to provide these
comments in connection with the Senate Committee on Finance's September
14, 2017 hearing on ``Individual Tax Reform.'' The Coalition applauds
your efforts to improve the nation's tax code to make it simpler,
fairer, and more efficient in order to strengthen the U.S. economy,
make American businesses more competitive, and create jobs.
The Coalition is comprised of dozens of individual businesses and
trade associations representing thousands of farmers, ranchers, and
service provider pass-through entities across the United States that
vary in line of business, size, and description, but have in common
that our members rely on the use of cash accounting to simply and
accurately report income and expenses for tax purposes. Pass-through
entities account for more than 90 percent of all business entities in
the United States. A substantial number of these businesses are service
providers, farmers, and ranchers that currently qualify to use cash
accounting. They include a variety of businesses throughout America--
farms, trucking, construction, engineers, architects, accountants,
lawyers, dentists, doctors, and other essential service providers--on
which communities rely for jobs, health, infrastructure, and improved
quality of life. These are not just a few big businesses and a few
well-to-do owners. According to IRS data, there are over 2.5 million
partnerships using the cash method of accounting, in addition to
hundreds of thousands of Subchapter S corporations eligible to use the
cash method.
About the Cash Method of Accounting
Under current law, there are two primary methods of accounting for
tax purposes--cash and accrual. Under cash basis accounting, taxes are
paid on cash actually collected and bills actually paid. Under accrual
basis accounting, taxes are owed when the right to receive payment is
fixed, even if that payment will not be received for several months or
even several years; expenses are deductible even if they have not yet
been paid.
The tax code permits farmers, ranchers, and service pass-through
entities (with individual owners paying tax at the individual level) of
all sizes--including partnerships, Subchapter S corporations, and
personal service corporations--to use the cash method of accounting.
Cash accounting is the foundation upon which we have built our
businesses, allowing us to simply and accurately report our income and
expenses, and to manage our cash flows, for decades. It is a simple and
basic method of accounting--we pay taxes on the cash coming in the
door, and we deduct expenses when the cash goes out the door. No
gimmicks, no spin, no game playing. Cash accounting is the very essence
of the fairness and simplicity that is on everyone's wish list for tax
reform.
Some recent tax reform proposals would require many of our
businesses to switch to the accrual method of accounting, not for any
policy reason or to combat abuse, but rather for the sole purpose of
raising revenues for tax reform. Forcing such a switch would be an
effective tax increase on the thousands upon thousands of individual
owners who generate local jobs and are integral to the vitality of
local economies throughout our nation. It would also increase our
recordkeeping and compliance costs due to the greater complexity of the
accrual method. Because many of our businesses would have to borrow
money to bridge the cash flow gap created by having to pay taxes on
money we have not yet collected, we may incur an additional cost with
interest expense, a cost that would be exacerbated if interest expense
is no longer deductible, as proposed under the House Republicans'
Better Way blueprint (``the blueprint''). Some businesses may not be
able to borrow the necessary funds to bridge the gap, requiring them to
terminate operations with a concomitant loss of jobs and a harmful
ripple effect on the surrounding economy.
Tax Reform Proposals and Cash Accounting
The blueprint moves toward a cash flow, destination-based
consumption tax. The cash flow nature of the proposal suggests that the
cash method of accounting would be integral and entirely consistent
with the blueprint since it taxes ``cash-in'' and allows deductions for
``cash out,'' including full expensing of capital expenditures. While
we understand that they are different proposals, the ABC Act (H.R.
4377), a cash flow plan introduced by Rep. Devin Nunes (R-CA) in the
114th Congress, required all businesses to use the cash method.
However, the blueprint does not provide details regarding the use of
the cash method, including whether all businesses would be required to
use it, whether businesses currently allowed to use the cash method
would continue to be allowed to do so, whether a hybrid method of cash
and accrual accounting would apply, or some other standard would be
imposed.
President Trump's tax reform plan is not a cash flow plan and takes
a more traditional income tax-based approach, yet the principles
articulated in the administration's plan are entirely consistent with
the continued availability of the cash method of accounting. Growing
the economy, simplification, and tax relief are exemplified by the cash
method of accounting. Requiring businesses that have operated using the
cash method since their inception to suddenly pay tax on money they
have not yet collected, and may never collect, is an effective tax
increase, and will have a contraction effect on the economy as funds
are diverted from investment in the business to pay taxes on money they
have not received or as businesses close because of insufficient cash
flow and inability to borrow. It is important to note that cash
accounting is not a ``tax break for special interests;'' it is a
simple, well-established and long-authorized way of reporting income
and expenses used by hundreds of thousands of family-owned farms,
ranches, businesses, and Main Street service providers that are the
backbone of any community.
Several recent tax reform proposals, including Senator John Thune's
(R-SD) S. 1144, the Investment in New Ventures and Economic Success
Today Act of 2017, would expand the use of cash accounting to allow all
businesses under a certain income threshold, including those businesses
with inventories, to use cash accounting. Such proposals aim to
simplify and reduce recordkeeping burdens and costs for small
businesses, while still accurately reporting income and expenses. A few
of these proposals (not S. 1144) would pay for this expansion by
forcing all other businesses currently using cash accounting to switch
to accrual accounting. We do not oppose expanding the allowable use of
cash accounting, but it is unfair and inconsistent with the goals of
tax reform to pay for good policy with bad policy that has no other
justification than raising revenues. When cash accounting makes sense
for a particular type of business, the size of the business should make
no difference. Further, there have been no allegations that the
businesses currently using cash accounting are abusing the method,
inaccurately reporting income and expenses, or otherwise taking
positions inconsistent with good tax policy.
Tax reform discussions seem to be trending toward faster cost
recovery than under current law. For example, the blueprint allows for
full expensing of capital investment, Senator Thune's bill makes bonus
depreciation permanent, and comments from administration officials
suggest that President Trump and his team prefer faster write-offs of
capital assets. Such policies benefit capital intensive businesses.
However, service businesses by their very nature are not capital
intensive, so it would be unfair to allow faster cost recovery for some
businesses while imposing an effective tax increase and substantial new
administrative burdens on pass-through service providers who will not
benefit from more generous expensing or depreciation rules by taking
away the use of cash accounting.
Other Implications of Limiting Cash Accounting
In addition to the policy implications, there are many practical
reasons why the cash method of accounting is the best method to
accurately report income and expenses for farmers, ranchers, and pass-
through service providers:
The accrual method would severely impair cash flow. Businesses
could be forced into debt to finance their taxes, including
accelerated estimated tax payments, on money we may never
receive. Many cash businesses operate on small profit margins,
so accelerating the recognition of income could be the
difference between being liquid and illiquid, and succeeding or
failing (with the resulting loss of jobs).
Loss of cash accounting will make it harder for farmers to stay
in business. For farmers and ranchers, cash accounting is
crucial due to the number and enormity of up-front costs and
the uncertainty of crop yields and market prices. A heavy
rainfall, early freeze, or sustained drought can devastate an
agricultural community. Farmers and ranchers need the
predictability, flexibility and simplicity of cash accounting
to match income with expenses in order to handle their tax
burden that otherwise could fluctuate greatly from one year to
the next. Cash accounting requires no amended returns to even
out the fluctuations in annual revenues that are inherent in
farming and ranching.
Immutable factors outside the control of businesses make it
difficult to determine income. Many cash businesses have
contracts with the government, which is known for long delays
in making payments that already stretch their working capital.
Billings to insurance companies and government agencies for
medical services may be subject to being disputed, discounted,
or denied. Service recipients, many of whom are private
individuals, may decide to pay only in part or not at all, or
force the provider into protracted collection. Structured
settlements and alternative fee arrangements can result in
substantial delays in collections, sometimes over several
years; therefore, taxes owed in the year a matter is resolved
could potentially exceed the cash actually collected.
Recordkeeping burdens, including cost, staff time, and
complexity, would escalate under accrual accounting. Cash
accounting is simple--cash in/cash out. Accrual accounting is
much more complex, requiring sophisticated analyses of when the
right to collect income or to pay expenses is fixed and
determinable, as well as the amounts involved. In order to
comply with the more complex rules, businesses currently
handling their own books and records may feel they have no
other choice than to hire outside help or incur the additional
cost of buying sophisticated software.
Accrual accounting could have a social cost. Farmers, ranchers,
and service providers routinely donate their products and
services to underserved and underprivileged individuals and
families. An effective tax increase and increased
administrative costs resulting from the use of accrual
accounting could impede the ability of these businesses to
provide such benefits to those in need in their local
communities.
Conclusions
The ability of a business to use cash accounting should not be
precluded based on the size of the business or the amount of its gross
receipts. Whether large or small, a business can have small profit
margins, rely on slow-paying government contracts, generate business
through deferred fee structures or be wiped out through the vagaries of
the weather. Cash diverted toward interest expense, taxes, and higher
recordkeeping costs is capital unavailable for use in the actual
business, including paying wages, buying capital assets, or investing
in growth.
Proposals to limit the use of cash accounting are counterproductive
to the already agreed upon principles of tax reform, which focus on
strengthening our economy, fostering job growth, enhancing U.S.
competitiveness, and promoting fairness and simplicity in the tax code.
Accrual accounting does not make the system simpler, but more complex.
Increasing the debt load of American businesses runs contrary to the
goal of moving toward equity financing instead of debt financing and
will raise the cost of capital, creating a drag on economic growth and
job creation. Putting U.S. businesses in a weaker position will further
disadvantage them in comparison to foreign competitors. It is simply
unfair to ask the individual owners of pass-through businesses to
shoulder the financial burden for tax reform by forcing them to pay
taxes on income they have not yet collected where such changes are
likely to leave them in a substantially worse position than when they
started.
As discussions on tax reform continue, the undersigned respectfully
request that you take our concerns into consideration and not limit our
ability to use cash accounting. We would be happy to discuss our
concerns in further detail. Please feel free to contact Mary Baker
([email protected]) or any of the signatories for additional
information.
Thank you for your consideration of this important matter.
Sincerely,\1\
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\1\ Although not a signatory to this letter, the American Bar
Association (ABA) is working closely with the Coalition and has
expressed similar concerns regarding proposals to limit the ability of
personal service businesses to use cash accounting. The ABA's most
recent letter to the Senate Committee on Finance sent in April 2017 is
available at http://bit.ly/2xvv6YB.
Americans for Tax Reform
American Council of Engineering Companies
American Farm Bureau Federation
American Institute of Certified Public Accountants
American Medical Association
American Society of Interior Designers
The American Institute of Architects
The National Creditors Bar Association
Akin, Gump, Strauss, Hauer, and Feld LLP
Baker Donelson
Debevoise and Plimpton LLP
Dorsey and Whitney LLP
Foley and Lardner LLP
Jackson Walker LLP
K&L Gates LLP
Kilpatrick, Townsend, and Stockton LLP
Lewis, Roca, Rothgerber, Christie LLP
Littler Mendelson P.C.
Miles and Stockbridge P.C.
Mitchell, Silberberg, and Knupp LLP
Morrison and Foerster LLP
Nelson, Mullins, Riley, and Scarborough LLP
Ogletree, Deakins, Nash, Smoak, and Stewart, P.C.
Perkins Coie LLP
Quarles and Brady LLP
Rubin and Rudman LLP
Squire Patton Boggs (U.S.) LLP
Steptoe and Johnson LLP
White and Case LLP
______
The Jewish Federations of North America (JFNA)
1720 I Street, NW, #800
Washington, DC 20006-3736
Phone 202-785-5900
Fax 202-785-4937
https://www.jewishfederations.org/washington
September 14, 2017
Chairman Orrin Hatch and Ranking Member Ron Wyden
Senate Finance Committee
219 Dirksen Senate Office Building
The Jewish Federations of North America (``JFNA'') is the national
organization that represents 148 Jewish Federations, their affiliated
Jewish community foundations, and more than 300 independent network
communities. In their individual communities, the Jewish Federation and
network volunteers (collectively the ``Federation system'') is the
umbrella fundraising organization as well as the central planning and
coordinating body for an extensive network of Jewish health, education,
and social service agencies. Thus, the Federation system raises and
allocates funds for almost 1,000 affiliated agencies that provide
needed social, medical and educational services to almost one million
individuals throughout the country, including Jews and non-Jews alike.
We applaud the Senate Finance Committee for holding a hearing on
September 14, 2017 on Individual Tax Reform as part of the committee's
continued work to enact comprehensive tax reform and submit the
following statement to the hearing record.
Background: Each Jewish Federation conducts a yearly fundraising
endeavor (``the annual campaign'') and collectively the Federation
System raises almost $950 million each year from over 400,000 donors.
In addition, the planned giving and endowment departments of
Federations and their affiliated Jewish community foundations raise
almost $2 billion each year through a variety of planned giving
vehicles including charitable gift annuities, charitable trusts, donor
advised funds, and supporting organizations, among others. Grants from
such planned gifts also flow to support annual mission-related
charitable activities. The combination of a large annual campaign and
sophisticated planned giving operations serve to make the Federation
system one of the largest philanthropic networks in North America. As
such, we are vitally concerned regarding the impact that fundamental
tax reform could have on charitable giving incentives and giving
vehicles.
The Federation system is especially proud of the important role that
certain endowed vehicles such as donor-advised funds and supporting
organizations play in maintaining active grant-making programs in
support of our mission as well as building long-term endowment assets
that assure the continued existence of the our philanthropic and social
service organizations. According to our most recent financial survey,
Jewish Federations and affiliated Jewish community foundations have
combined endowment assets of approximately $20 billion and make annual
grants that exceed $2 billion from such funds to other public
charities, with significant charitable distributions flowing to support
both Jewish and non-Jewish causes, domestically and internationally.
During the past month, as various parts of the United States, including
territories in the Caribbean have been devastated by an unprecedented
number of natural disasters, we are also reminded of the important role
that private philanthropy plays in provided needed assistance to
impacted families as well as working to rebuild community
infrastructure. We are proud of the fact that collectively the
federation system has raised over $15 million to aid communities in
Texas, Florida, and the Islands with additional funds expected to be
collected over the next weeks and months. We would urge the committee
to consider passing a package of tax incentives to further encourage
such giving, including a suspension of the current adjusted gross
income limitation on annual deductible charitable contributions.
Our Charitable Mission and the Tax Code: Perhaps the primary mission of
the Federation system is to inspire its donors as members of the Jewish
community to fulfill our religious duty to be charitable (``tzedakah'')
and to meet our collective responsibility to build community and
improve the entire world (``tikkun olam''). Although it is true that
the importance of these principles transcend the Internal Revenue Code
of 1986 (hereinafter ``the Tax Code'') or particular statutory
incentives such as the charitable contribution deduction, we have come
to recognize that such provisions permit many of our donors to extend
their levels of generosity. It is these charitable contributions that
truly are the lifeblood of the Federation system allowing it to meet
our operational mandates, achieving a variety of philanthropic goals.
Fundamental Tax Reform and the Importance of Giving Incentives: We
applaud the Senate Finance Committee and the Administration for
tackling the complexity surrounding fundamental tax reform and we
support efforts to make the tax code simpler, more efficient, and more
competitive in today's global economy. We are also appreciative of the
virtually unanimous support that charitable giving incentives continue
to receive from policy-makers.
The federal income tax has included tax incentives to promote
charitable donations for over 100 years. Although it has undergone
numerous revisions and amendments, often tightened by adding regulatory
rules and requirements for certain types of donations or restrictions
to the operations of certain giving vehicles, and sometimes broadened
by raising the contribution limits or expanding the types of
permissible charitable donees, the concept of a deduction for
contributions to charitable organizations remains fundamental to the
social contract that binds individuals, charities, and the government
to support the most vulnerable among us.
Similar to other large national charities, the Federation system has a
sophisticated fund-raising operation as well as highly-organized
procedures for allocating funds to a broad range of social service
programs and general charitable needs throughout their communities and
overseas. As such, we see both sides of the charitable deduction
equation: how donors react to tax provisions, as well as the role that
philanthropic dollars play to support programs assisting the most
vulnerable. Our perspective on the income tax code and charitable
giving incentives is grounded in over 100 years of such real-world
experience.
Although the donor base to our annual campaign is large, we also
recognize that the vast amount collected comes from a relatively small
number of gifts. As a result, a so-called ``90-10'' rule operates so
that the overwhelming percentage of dollars raised flow from a small,
but tax-sophisticated donor group, who regularly make large gifts,
either through the annual campaign contribution or more importantly,
through the use of planned giving vehicles, as discussed below. This
tax sophistication permits such individuals and their planned giving
advisers to structure gifts so that the maximum amount of funds flows
to Jewish Federations and, in turn to beneficiary agencies, today,
rather than later. This perspective convinces us that each of the
several ``proposals'' to reform the charitable contribution deduction,
such as a limitation in the value of the deduction, an overall cap on
itemized deductions, or even a ``floor'' on deductible contributions,
as contained in the 2014 Tax Reform draft proposed by former House Ways
and Means Committee Chairman Dave Camp (R-MI) (``Camp Draft'') will
lead to a significant decrease in giving to the JFNA System. As
government funding for social service and medical programs continues to
decrease, any such diminution in support of charitable contributions
will further hamstring the operations of Jewish Federations and their
affiliated agencies in their mission to help the most vulnerable among
us.
We are also concerned that the interaction of several provisions under
discussion in a variety of ``fundamental tax reform'' plans could
combine to have a detrimental impact on charitable giving. A
substantial increase in the standard deduction, combined with the
elimination or limitation on a number of other ``itemized deductions''
will have the effect of greatly reducing the number of taxpayers who
will claim itemized deductions, effectively removing the charitable
contribution tax incentive for such taxpayers. It is beyond dispute
that a dramatic decrease in the number of taxpayers who claim the
charitable contribution deduction, combined with a decrease in
individual income tax rates will have a profound negative impact on
dollars given to charity. Indeed, a recent study conducted by the
Indiana University School of Philanthropy confirms that the
contemplated changes discussed above would result in a decrease in
annual giving of over $13 billion. As such, we understand that many
organizations within the charitable sector are endorsing a proposal to
expand and enhance charitable giving incentives by providing a
``universal deduction'' to taxpayers who do not itemize. Proponents
argue that a universal (or ``above-the-line'') deduction would increase
giving, in terms of both dollars and donors, increase fairness by
incentivizing all taxpayer's contributions, and provide modest tax
relief to middle- and lower-income taxpayers. In addition, the dollars
flowing to America's charities would increase. This result is bolstered
by the results of the Indiana University study that indicates that the
inclusion of an above-the-line deduction in the Tax Code would result
in a full recoupment of potentially lost contributions plus an
additional $5 billion each year. We recognize that some tax policy
experts have raised concerns that an above-the-line deduction could
cause compliance and enforcement issues. We would look forward to
working with you and the Finance Committee on a proposal that would
have the effect of increasing charitable giving incentives as well as
address the tax policy issues noted above.
Importance of Other Charitable Vehicles: Over the past several decades,
the Federation system has fostered growth in charitable giving through
donor advised funds and supporting organizations (known as
``participatory funds''). Participatory funds, whose existence stems
from the charitable contribution deduction, offer an economical and
efficient means for those with sufficient assets and charitable intent
to benefit the community through an ongoing relationship with public
charities such as Federations or affiliated Jewish community
foundations. Such funds are an indispensable tool in encouraging
intergenerational involvement in charitable activities through family
philanthropy. In addition to providing financial resources for critical
human services in the local Jewish and general communities, and
supporting charitable causes across the globe, participatory funds also
advance the values and goals of the Federation system through nurturing
relationships between philanthropists and Federation volunteer and
professional leadership, as well as helping to build endowment assets.
In recent years, participatory funds also provide a reliable pool of
dollars to support the annual campaigns of Jewish Federations, which is
the primary financial resource for ongoing operating budgets. Grants
from these funds now comprise up to 20 percent of the annual campaign.
Additional grants to Federations are common in the case of
extraordinary needs or supplemental campaign for natural and manmade
disasters, as well as during economic downturns such as the one
experienced just a few years ago.
Permitting, indeed encouraging, participatory funds to exist for
extended periods of time provide Federations and related Jewish
community foundations the ability to grow the assets of these publicly
supported charities. Healthy endowments at Federations and related
Jewish community foundations help to assure the continued existence of
these organizations for generations to come. This is why any proposal
that would effectively require donor advised fund contributions to be
distributed within a limited period of years, such as one that was
contained in the 2014 Camp Draft, would undermine the broader
charitable purpose of such funds and could be devastating to
participatory funds in general and Jewish Federations in particular.
Our donors, especially those who support our work by establishing
participatory funds with us, ensure that we continue to fulfill our
charitable mission through grants to worthwhile charitable endeavors.
Rather than adhering to an arbitrary numerical formula, our
philanthropic spending policy is truly donor-driven and recognizes
community needs both today and into the future.
As the Committee continues to consider tax reform proposals, we urge
that participatory funds be allowed to flourish and be left with a
minimum of regulatory burdens. JFNA agrees with the bottom-line
conclusion of the Treasury Department's Report on Supporting
Organizations and Donor Advised Funds issued in December 2011, that
``the Pension Protection Act of 2006 appears to have provided a legal
structure to address abusive practices and accommodate innovations in
the sector without creating undue additional burdens or new
opportunities for abuse.'' The Treasury Report further notes that ``it
is appropriate that the contribution deduction rules applicable to
donors to supporting organizations and donor advised fund sponsoring
organizations are the same as those applicable to donors to other
public charities.''
Conclusion: The Federation system applauds the Senate Finance Committee
for undertaking such a deliberative process and analyzing the many
issues that need to be considered in contemplating fundamental tax
reform. As it pertains to the charitable contribution deduction and
charitable giving, however, we remind the Committee that any proposal
that could result in a decrease in charitable giving will have
significant negative consequences for America's charities, including
the Federation system, and most importantly, the vulnerable populations
that we serve. The charitable contribution deduction remains the only
provision in the income tax law where an individual must ``give away''
income or assets in order to receive a deduction. As has been true
since the enactment of the income tax law, this selfless act deserves
to be promoted and encouraged by the tax code.
We are proud that Federations and affiliated Jewish community
foundations employ the highest ethical standards of self-regulation in
the governance and operation of our fundraising and planned giving
practices and regularly share our expertise with policy makers and
charities outside of the Jewish community on a variety of charitable
giving issues. We continue to work closely with officials at the
Treasury Department and the Internal Revenue Service as they work to
promulgate guidance on some of the provisions added to the tax code by
the Pension Protection Act of 2006 (``PPA'') regarding donor advised
funds and supporting organizations.
The Federation system remains committed to ensuring that federal tax
policies, especially the charitable deduction, continue to incentivize
the flow of funds from individuals to public charities. We realize that
the Committee will face difficult decisions over the next several
months. We urge you, however, to continue to support policies that will
strengthen our national heritage of broad-based philanthropy.
We would be more than happy to amplify our comments or answer any
questions. Please feel free to contact either
[email protected] (202-736-5868) or Steven Woolf,
JFNA senior tax policy counsel at steven.woolf@jewish
federations.org or (202-736-5863).
______
Letter Submitted by William S. Kirk
September 21, 2017
Senate Committee on Finance: Attention Orrin Hatch, Chairman
Dear Senator Hatch;
Since tax reform is on the agenda, I am writing to ask you to consider
how Social Security and Medicare are intertwined with tax reform and
benefits.
(1) Social taxation thresholds have not been changed since 1984.
They are currently $32,000 for a married couple. They were never
indexed for inflation; and in today's dollars this threshold should be
around $75,000. I ask that you consider bring these frozen figures into
the 21st century to catch up to other government programs adjusted for
inflation.
(2) Medicare monthly premiums have risen from $104.90 in 2015 to
$121.80 in 2016 (16.1%) to $134 in 2017 (10.0%). How can this be
justified when Social Security benefit increases in 2015 were 1.7%;
2016 were 0%; 2017 were 0.3%. These minuscule Social Security increases
are eaten up by Medicare premium increases resulting in frozen Social
Security benefits for several years. In my case it will take 5 years of
Social Security benefit increases just to cover the $134 before I see a
dime increase in benefits. This math does not make sense. You can only
approve a 0.3% increase for Social Security and on the other hand say
double digit Medicare increases are justified. How do you rationalize
these two different points of view?
I look forward to your reply and hope that you will pass
legislation that will correct these two situations and bring them in
line with realistic benefits that coincide with today's cost of living
for recipients of these programs.
Best Regards,
William S. Kirk
______
League of American Orchestras
33 West 60th Street, 5th floor
New York, NY 10023
Phone: (212) 262-5161
Email: [email protected]
Thank you for the opportunity to provide comments for the record
related to the Senate Finance Committee's hearing on individual tax
reform, held on September 14, 2017. We are also grateful for this
important opportunity to provide an initial response to the September
27th release of the Unified Framework for Fixing the Broken Tax Code,
which Chairman Hatch has described as ``a critical roadmap for the tax-
writing committees.''
The League of American Orchestras leads and supports America's
orchestras and the vitality of the music they perform. Founded in 1942
and chartered by Congress in 1962, the League links a national network
of thousands of instrumentalists, conductors, managers, board members,
volunteers, and business partners. Its diverse membership of
approximately 800 nonprofit orchestras across North America ranges from
world-renowned symphonies to community groups, from summer festivals to
student and youth ensembles. Orchestras unite people through creativity
and artistry, fuel local economies and civic vitality, and educate
young people and adults--all with the support of private contributions,
volunteers, and community partners.
As the Congress prepares to take next steps in detailing a tax reform
plan, we provide comments here that reiterate key points communicated
to the Finance Committee by the League of American Orchestras in
response to Chairman Hatch's June 16, 2017 request for stakeholder
feedback on tax reform. The League of American Orchestras continues to
urge the Committee to support the vital work of nonprofit organizations
by preserving and strengthening tax incentives for charitable giving
and supporting policies that strengthen the nonprofit sector. Private
contributions are a critical source of support that enables orchestras
to broaden public access to the arts, nurture cultural diversity, and
spur the creation of new artistic works, all while supporting countless
jobs in communities nationwide. We urge the Committee to take the
following into consideration in shaping tax reform proposals:
Ensure that comprehensive tax reform results in increased giving by
more donors. While leadership on House and Senate Committees has
expressed support for preserving the charitable deduction and enacting
policies that incentivize even more giving, the proposal in the Unified
Framework for Fixing the Broken Tax Code to increase the standard
deduction would reduce the number of itemizers that make use of the
charitable deduction to just 5% of taxpayers, resulting in a loss of up
to $13 billion in contributions annually. Efforts to simplify the tax
process could ensure increased charitable giving by enacting a
charitable deduction available to all taxpayers, whether or not they
itemize. The League of American Orchestras endorses the statement
submitted to the Committee by the Charitable Giving Coalition, which
explains in detail how a universal charitable deduction would increase
charitable giving by $4.8 billion per year, while cultivating new
generations of philanthropists and encouraging a tradition of giving
among all taxpayers.
While the initial impulse to give comes from the heart, studies have
repeatedly shown that charitable giving incentives have a significant
impact on how much and when donors contribute. Should charitable giving
incentives be scaled back, the public would suffer. Orchestras, like
other nonprofit organizations, rely on contributions from donors from
across the economic spectrum. If individual donations were to decline,
the capacity of nonprofit performing arts organizations to provide
educational programs and widely accessible artistic events, and to
boost the civic health of communities and the artistic vitality of our
country, would be diminished at a time when the services of all
nonprofits are most in demand. The tax incentive for charitable
contributions uniquely encourages private, individual investment in the
public good.
Charitable giving is an essential form of support. Declines in giving
would result in the loss of vital local nonprofit programs. Orchestras,
as tax-exempt organizations, are partners in the nation's nonprofit
charitable sector working to improve the quality of life in communities
nationwide. Orchestral activity is supported by an important
combination of public volunteerism, private philanthropy, and civic
support that is made possible by tax exempt status and incentives for
charitable contributions. Ticket sales and admission fees alone do not
come close to subsidizing the artistic presentations, educational
offerings, and community-based programming of nonprofit arts
organizations. In fact, orchestras participating in the League's
Orchestra Statistical Report in 2014 indicated that total private
contributions represent 39.7% of the revenue that makes the work of
U.S. orchestras possible.
Reducing incentives for charitable giving would harm communities.
Nonprofit jobs account for 1 in 10 members of the U.S. workforce.
American orchestras employ thousands of professional musicians,
administrators, educators, and stage personnel in cities and towns
across the country. These workers are key contributors to their local
creative economy through their day-to-day work, boosting their
community's reputation for excellence and competitive edge. They are
also planting the seeds for future economic growth through the
educational, artistic, and civic programs they present to young people,
nurturing the next generation of workers who will be prepared to
contribute to the global economy--which is increasingly reliant on
creativity and the communication of ideas. The jobs and work product of
many artists and administrators working in the nation's nonprofit
performing arts community would be imperiled by declines in charitable
giving.
Maintain and strengthen the IRA Charitable Rollover Provision. Congress
wisely recognized the importance of giving incentives by reinstating
and making permanent the IRA Charitable Rollover provision in December
of 2015 through the Protecting Americans from Tax Hikes (PATH) Act,
after years of expiration and temporary reinstatement. The IRA Rollover
provision can be strengthened by lowering the age requirement to 59\1/
2\ and removing the $100,000 cap on qualifying donations.
We urge the Committee to consider carefully the impact of changes to
Unrelated Business Income Tax (UBIT) requirements. Along with others in
the nonprofit community, orchestras viewed with great concern the
treatment of sponsorship payments in Section 5008 of H.R. 1 in the
113th Congress. Under the House bill, if a sponsorship payment exceeds
$25,000 for a single event, any use or acknowledgement of the sponsor's
name or logo may only appear with, and in substantially the same manner
as, the names of a significant portion of the other donors to the
event. Contributions acknowledged in a different manner would be
treated as advertising income by the tax-exempt organization and
subject to UBIT.
Current law already provides that UBIT is incurred any time the
sponsor's product is advertised. Sponsorship recipients may not provide
qualitative information about the product, urge its purchase, or
provide any information on how or where to purchase it. The mere
acknowledgement of the size of a sponsorship is no different from
acknowledging the size of charitable gifts from individuals, which is
standard practice for charities of every kind. Subjecting the
sponsorship to tax would simply divert money from its intended
philanthropic use and leave nonprofit cultural organizations with fewer
resources to serve their communities.
Enact the Artist-Museum Partnership Act, S. 1174, which would allow
artists, writers, and composers to take an income tax deduction for the
fair market value of their work when donating it to charitable
collecting institutions. For many years, artists, writers, and
composers could take a fair market value deduction for their works
donated to a museum, library, or archive. Currently, creators may take
a deduction only for the cost of materials, such as paper and ink and,
as a result, the number of works donated by artists has dramatically
declined. Musicians, scholars, and the public rely on original
manuscripts and supporting material to reveal the artistic
underpinnings of existing compositions and inspire the creative works
of emerging artists. When collected by orchestra archives, music
schools, music libraries, or other cultural institutions, original
musical works and related materials can be preserved and made available
to the public. By allowing artists to take a fair-market value
deduction for self-created works given to a nonprofit institution,
their works are accessible to the public.
Orchestras are important contributors to American civic life, and
nonprofit status and charitable giving to orchestras substantially
improves the health, education, and artistic vitality of communities
nationwide. The United States relies upon the nonprofit community to
provide many public services in fields ranging from public health and
education to arts and culture. The various types of charitable
organizations that comprise the nonprofit sector do not exist or
operate in silos. They are tightly connected through critical local
partnerships that leverage shared resources and strengthen services to
the public. The programs and music of America's orchestras are
embraced, supported, and accessed by the public in communities large
and small throughout our country. Here are facts about the
contributions orchestras make to the public good:
More than 28,000 performances are given annually by orchestras,
many of them specifically dedicated to education or community
engagement, for a wide range of young and adult audiences. With the
support of private contributions, many of these concerts are made
available free of charge, or at reduced prices that provide access to
families and attendees from across the economic spectrum.
Orchestras partner with other community-based nonprofits every
day to serve specific community needs. In a national survey, our
members identified more than 40 types of programmatic activities that
engage community partners, including health and wellness programs,
engagement of military families, senior programs, and an extensive
array of music education partnerships with schools and in afterschool
settings.
Orchestral activity is embedded in the civic life of towns and
cities across our country. With nearly 1,600 symphony, chamber,
collegiate, and youth orchestras across the country, America is
brimming with extraordinary musicians, live concerts, and orchestras as
unique as the communities they serve. Thousands of young people embrace
the opportunity to perform side-by-side with their peers, and adult
professional and community orchestras of all sizes present
extraordinary music for their communities.
Through the power of music, orchestras unite individuals in the
unique shared event of a large ensemble performance, and are often a
focal point when a community seeks to commemorate an important civic
moment. Orchestras are a source of strength and pride, as well as a
vehicle for community unification and reflection.
Orchestras contribute to our nation's artistic vitality,
supporting the creative endeavors of thousands of today's classical
musicians, composers, and conductors, while strengthening, documenting,
and contributing to our nation's diverse cultural identity.
America's orchestras promote access to the arts, are important
participants in education for children and adults, and support jobs and
economic growth--all in partnership with other community-based
organizations. On behalf of the full range of American orchestras, we
urge the Committee to preserve and grow tax incentives for charitable
giving and enact policies that strengthen the impact of the nonprofit
sector.
______
National Association of Enrolled Agents (NAEA)
1730 Rhode Island Avenue, NW, Suite 400
Washington, DC 20036-3953
Toll free 855-880-6232
Telephone 202-822-6232
Facsimile 202-822-6270
[email protected]
https://www.naea.org/
Tax Reform Proposals
Individual Tax Simplification
Alternative Minimum Tax
Internal Revenue Code: Sections 55, 56, 57, 58, 59.
The Problem: Congress created the Alternative Minimum Tax (AMT)
to ensure that wealthy individuals taking advantage of tax
shelters pay a minimum amount of taxes. In reality, due to tax
law changes over the years, the AMT often affects taxpayers who
were not the target of the original proposal: middle-class
taxpayers making as little as $75,000.\1\ Additionally,
taxpayers from high tax states and with large families are most
vulnerable to the AMT. While not common, it is even possible to
find examples of taxpayers in the $50,000--$60,000 income range
affected by AMT.
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\1\ ``Characteristics of Alternative Minimum Tax (AMT) Payers,
2016-2018 and 2027,'' Tax Policy Center, http://
www.taxpolicycenter.org/model-estimates/baseline-alternative-minimum-
tax-amt-tables-april-2017/t17-0149-characteristics.
Recommendation: The AMT should be repealed or substantially
modified to apply only to high income taxpayers paying little
---------------------------------------------------------------------------
or no taxes.
Analysis: The AMT is a parallel tax system, requiring taxpayers
to, in effect, do their taxes twice. In conjunction with the
elimination of many tax avoidance provisions of the Internal
Revenue Code, the AMT can be eliminated or substantially
modified to target only high income taxpayers.
Personal Exemption Phase-out (PEP) and Limitation of Itemized
Deductions (Pease)
Internal Revenue Code: Sections 151 and 68.
The Problem: While the Personal Exemption Phase-out (PEP) and
Pease are presented as phase-outs for exemptions and itemized
deductions, in reality they are hidden additional tax rates.
Additionally, these phaseouts unfairly tax large families and
people from high tax states.
Recommendation: Congress should repeal PEP and Pease and
replace with an applicable tax rate on high-income taxpayers.
Analysis: Removing phaseouts that act as hidden marginal rates
will bring better transparency and efficiency to the Internal
Revenue Code. Additionally, repealing PEP and Pease will remove
the large family penalty and will provide tax relief to people
living in high tax states.
Child Tax Credit
Internal Revenue Code: Section 24.
The Problem: A taxpayer may claim a tax credit for each
qualifying child under the age of 17. In most families,
teenagers do not graduate from high school until age 18 or even
19. These years can be expensive as the child prepares to enter
college or the workforce.
Recommendation: The age limit for each child should be
increased from under the age of 17 to under the age of 19.
Analysis: Increasing the child age limit will help families
transition children from high school to work or college.
Unearned Income of a Child, ``Kiddie Tax''
Internal Revenue Code: Section 1(g).
The Problem: The additional tax revenue to the Treasury does
not outweigh the extreme complexity added to a family's tax
compliance.
Recommendation: Congress should substantially increase the
current threshold for unearned income subject to the Kiddie Tax
from $2,100 to $6,000 (subject to annual indexing) while
lowering the maximum age subject to the tax to 14.
Analysis: The intent of current law is to discourage transfers
of wealth, purely for tax avoidance purposes. Changing the
current threshold to $6,000 would better reflect the original
threshold adjusted for inflation.
Mileage Rates
Internal Revenue Code: Sections 162, 213, 217, and 170(i).
The Problem: The IRS determines annually the allowable mileage
rate as an ordinary and necessary business expense, which is
currently 53.5 cents per mile. The IRS also sets a standard
rate for the medical and moving deduction, which is currently
17 cents. Since 1984, the mileage rate for the charitable
deduction is set by statute at 14 cents per mile.
Recommendation: The standard mileage rate deduction should be
consistent for all uses.
Analysis: The proposal would treat similarly situated taxpayers
equally. When charitable or medical transportation is
necessary, reasonable rates should be allowed and adjusted
annually.
Education
Internal Revenue Code: Sections 25A, 221, 222, 529, and 530.
The Problem: The Internal Revenue code includes such a myriad
of complex tax incentives for education that it is often too
expensive and time-consuming for many taxpayers to simply sort
them all out. As a result, many families without sophisticated
advice and tax preparation from competent and highly trained
practitioners simply forego using these incentives.
Recommendation: Congress should consider consolidating the
various education benefits into three provisions:
1. An enhanced super 529 savings vehicle (including tuition
prepayment plans), with elective payroll deductions;
2. A college tax credit with a single earnings phase out that
would consolidate American Opportunity Credit/Hope Credit,
Lifetime Learning Credit, and tuition and fees expenses; and
3. An expanded deduction for student loan interest.
Any savings from this consolidation of tax expenditures should
be dedicated to making all three of these provisions available
to as wide of an income group as possible.
Analysis: The proposal would simplify the tax code, reduce
taxpayer burden, and would more fairly treat taxpayers of
similar economic situations.
Earned Income Tax Credit (EITC)
Internal Revenue Code: Section 32.
The Problem: The EITC has increased work, reduced poverty, and
lowered welfare receipts.\2\ At the same time, it is one of the
most complex parts of the Internal Revenue Code. Overpayments
often result from the complexities of families' lives. The
Department of Treasury estimates that 70 percent of improper
EITC payments stem from issues related to the EITC's residency
and relationship requirements; filing status issues; and issues
relating to who can claim a child in non-traditional family
arrangements.
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\2\ Council of Economic Advisers, ``The War on Poverty 50 Years
Later: A Progress Report,'' January 2014. Table 2 on page 27 highlights
that the EITC and its sibling, the Child Tax Credit, lift more
Americans out of poverty than any other program except Social Security.
Recommendation: Congress should simplify the EITC by making the
definition of ``qualifying child'' for EITC consistent with
current law governing a dependent child under Internal Revenue
Code Section 152(c). The minimum age should be reduced to 18
for non-dependent taxpayers and the maximum age (currently
under age 65) for EITC eligibility should be eliminated.
Additionally, Congress should create a commission made up of
Circular 230 practitioners and low-
income advocacy groups to make recommendations on simplifying
the residency rules to decrease the incidences of mispayments
---------------------------------------------------------------------------
and to better reflect complex family arrangements.
Analysis: The proposal would simplify an extremely complicated
section of the Internal Revenue Code, which should lessen the
need for practitioners and the IRS to be involved in sorting
out complex family relationships and thus lowering the incident
of mispayments due to unintentional noncompliance. Expanding
the eligible age range would create parity for similarly
situated taxpayers.
International
Internal Revenue Code and U.S. Code: 31 U.S.C. Sec. 5321(a)(5),
sections 6038, 6038B 6038D, 6039F, 6046, 6046A, 6048(b).
The Problem: The reporting rules for American citizens living
abroad are extremely complex and the penalties for
noncompliance far outweigh the offense in most instances.
Congress needs to reform these rules to make both the reporting
and the inadvertent noncompliance less draconian.
Recommendation: The Internal Revenue Code should provide relief
from the penalties in the following situations:
The taxpayer has not filed a FinCEN 114 or IRS forms 926,
5472, 8938, 8865, 8858, 5471, 3520, or 3520A, but has reported
all income from all sources.
The taxpayer has not filed a FinCEN 114 or IRS forms 926,
5472, 8938, 8865, 8858, 5471, 3520 or 3520A, but there is zero
balance due related to the various foreign entities.
If the taxpayer should have filed a FinCEN 114 or IRS forms
926, 5472, 8938, 8865, 8858, 5471, 3520 or 3520A and there is a
de minimis balance due as a result of the missing income, the
penalty should be the greater of 20 percent of the tax due or
$100.
Analysis: The proposal will mitigate the penalties associated
with inadvertent noncompliance with the requirements of the
Foreign Account Tax Compliance Act.
Self-Employed Health Insurance
Internal Revenue Code: Section 162.
The Problem: Self-Employed Health Insurance premiums are
deductible as an adjustment to income in determining AGI, and
not a business expense, absent a complex (and often expensive)
employer-provided medical expense reimbursement plan.
Recommendation: Self-employed individuals should be able to
deduct health insurance costs in determining net earnings
subject to self-employment tax (Old-Age, Survivors, and
Disability Insurance tax (OASDI) and Hospital Insurance (HI)
tax).
Analysis: Self-employed individuals (who file Schedule C or F)
cannot deduct their own health-insurance premiums as an
ordinary and necessary business expense even though premiums
paid for employees' health coverage are deductible.
Pension Simplification
Retirement and Deferred Compensation Plans
Internal Revenue Code: Sections 401(k), 403(b), 408(p), and
457.
The Problem: The proliferation of retirement plans that provide
for taxpayer elective deferrals contain different rules and
requirements. This has become a barrier for small businesses to
provide retirement benefits to their employees as the small
businesses compete with larger companies for the best employees
of small businesses.
Recommendation: The Internal Revenue Code sections governing
employee contribution plans elective deferrals should be
simplified into a uniform simplified employee contributory
deferral plan.
Analysis: The proposal would simplify the tax code and would
more fairly treat taxpayers of similar economic situations.
Determination of Basis
Internal Revenue Code: Sections 401, 403(b), 408, 408A, 457.
The Problem: Depending on the type of retirement plan, there
are separate rules for determining the basis of pension
distributions.
Recommendation: Tax reform should include a uniform rule
regarding the determination of basis in distributions from
retirement plans.
Analysis: The proposal would simplify the tax code and would
more fairly treat taxpayers of similar economic situations.
Early Withdrawal Penalties
Internal Revenue Code: Section 72(t).
The Problem: The rules governing the 10-percent penalty for
early withdrawals, such as for college costs and first-time
homebuyers, from qualified retirement plans are applied
differently for IRAs and pension plans. Additionally, some plan
types have larger penalties for early withdrawals. These rule
differences can lead to confusion and penalties could be
avoided if the exceptions to the 10 percent penalty are
consistent for all qualified plans covered under Sec. 72(t).
Recommendation: The penalty rules for early withdrawals should
be standardized for distributions from all types of deferred
accounts-qualified retirement plans.
Analysis: The proposal would simplify the tax code and will
fairly treat taxpayers of similar economic situations.
1099/K-1 Reform
Brokerage Firm Filing Deadline
Internal Revenue Code: Section 6045.
The Problem: Even with the date change made by section 403 of
the Energy Improvement and Extension Act of 2008, brokerage
firms are resending updated forms 1099 throughout the tax
filing season and occasionally, even later. These actions often
necessitate changes and amendments or result in taxpayer
requests for extensions of time to file, based on uncertainty
of forms they have received.
Recommendation: The February 15th deadline for filing all forms
1099 from investment brokerages should be changed back to
January 31st. Brokerage firms should be required to report the
most accurate income and basis known as of January 31st. If
insignificant corrections and adjustments are reported by
brokerages subsequent to the January 31st deadline, there
should be a de
minimis safe harbor amount, under which the taxpayer is not
required to file an amended or superseding return.
Analysis: The proposal would reduce burden and costs to
taxpayers and reduce the government's burden of processing
amended returns with insignificant changes.
Uniform 1099-B
Internal Revenue Code: Section 6045.
The Problem: Lack of standardization of the 1099-B in the
brokerage industry causes confusion and misapplication of the
information provided.
Recommendation: The IRS should provide a required uniform 1099-
B for the brokerage industry.
Analysis: The proposal would lead to more accurate and complete
information on the taxpayer's return. It would reduce taxpayer
burden by reducing the number of IRS CP-2000 Notices mailed to
taxpayers.
K-1 Simplification
Internal Revenue Code: Section 6031.
The Problem: Many unsophisticated taxpayers unwittingly invest
in units of partnerships in real estate, oil and gas, timber,
and such commodities and futures that generate unique
deductions and credits that must be reported but rarely if ever
affect the tax liability. These deductions and credits also add
nothing to IRS's matching abilities.
Recommendation: IRS should be directed to review and simplify
K-1 reporting for partnerships in real estate, oil and gas,
timber, and commodities and futures for limited partners with a
capital account of less than $50,000.
Analysis: The proposal would reduce complexity and taxpayer
burden.
Indexing
Internal Revenue Code: All sections of the Internal Revenue
Code.
The Problem: Many parts of the Internal Revenue Code are not
indexed for inflation, eroding the value of numerous provisions
over time.
Recommendation: The Internal Revenue Code should be amended as
necessary to provide uniform indexing requirements.
Analysis: More uniform indexing of the Internal Revenue Code
would ensure that taxpayers of similar economic situations
would be treated fairly and provide stability.
Withholding
Internal Revenue Code: Section 3402.
The Problem: Employers withhold a percentage of employees'
income from their paychecks, simplifying the remittance of
taxes to the Treasury. Self-employed taxpayers must submit
payment through estimated taxes.
Recommendation: The Internal Revenue Code should provide for
optional withholding and reporting for independent contractors,
partners and non-employee S-corporation shareholders. This
could be done through a simple check-the-box election on the W-
9 Form.
Analysis: The proposal would reduce taxpayer burden, would
assist taxpayers in compliance with the ``pay as you go''
requirement, would reduce the number of end-of-year balance due
amounts, and would more fairly treat taxpayers of similar
economic situations.
IRS Future State, Practitioner Accounts
Internal Revenue Code: Section 6061(b).
The Problem: The IRS has developed online accounts for
individuals that when fully functional, will allow taxpayers to
see their transcripts, communicate through secure portals for
webmail, and submit payments in full or by an installment
agreement. Accounts for tax professionals are being developed
at a much slower pace. Additionally, all powers of attorney and
disclosure authorizations are still being submitted through the
IRS Centralized Authorization File (CAF) using inked signatures
while requiring manual input from IRS employees. It is NAEA's
concern that the delay in modernizing online accounts for tax
practitioners will discourage taxpayers from exercising all
their rights for representation.
Recommendation: Congress should require the following:
1. The IRS should debut online accounts for tax
practitioners at the same time as individual accounts.
2. Individual online accounts should display a Publication 1
equivalent when taxpayers utilize payment options in their
accounts.
3. The IRS shall provide an electronic option for taxpayer
authorizations of Circular 230 practitioners.
4. The IRS shall provide guidance on the use of electronic
signatures for Forms 2848 and 8821 for Circular 230
practitioners.
Analysis: The proposal would ensure equal treatment for
taxpayers being represented by tax practitioners and would
ensure that taxpayers can fully exercise their rights under the
Internal Revenue Code.
Minimum Standards for Unenrolled Tax Preparers
U.S. Code: Title 31, section 330.
The Problem: Unscrupulous unenrolled preparers are harming the
integrity of the tax administration system through incompetency
and fraud. The General Accountability Office, the Treasury
Inspector General for Tax Administration and the Taxpayer
Advocate have all commented on the need to provide minimum
standards for tax preparation. Unfortunately, in Loving v.
Commissioner and subsequent cases, the courts ruled that the
Internal Revenue Service does not have authority to regulate
tax return preparers under title 31. The case overturned the
regulatory framework for registered tax return preparers and
severely limited the agency's ability to regulate all
individuals--even lawyers, certified public accountants and
enrolled agents--in the preparation of tax returns.
Recommendation: Congress should override Loving and all
subsequent cases relying on its holdings and provide specific
authority for the IRS to require all non-credentialed paid tax
preparers to meet minimum standards. Such standards should
include passing a one time competency exam administered under
the auspices of the Department of Treasury, requiring tax
compliance background checks, setting continuing education
requirements, and requiring compliance with strict ethical
standards.
Analysis: Requiring minimum standards for all paid tax return
preparers will increase compliance and the overall
professionalism of the tax preparation industry. Establishing
IRS's authority will help protect taxpayers, the tax
administration system, and the U.S. Treasury.
______
National Volunteer Fire Council (NVFC)
7852 Walker Drive, Suite 375
Greenbelt, MD 20770
(202) 887-5700
888-ASK-NVFC (275-6832)
202-887-5291 fax
[email protected]
https://www.nvfc.org/
September 13, 2017
Submitted by: Kevin D. Quinn, Chair
On behalf of the National Volunteer Fire Council (NVFC), a registered
501(c)3 organization representing the interests of the more than 1
million volunteer firefighters and EMS providers in the United States,
thank you for the opportunity to provide information regarding the
impact that federal income taxation has on recruitment and retention
incentives that many communities provide to their volunteer emergency
responders as a reward for their service.
Eighty-five percent of all fire departments in the United States are
staffed by all- and mostly-volunteer personnel. Those departments
protect 35.1 percent of the nation's population. The NVFC estimates
that the services donated by volunteer firefighters save taxpayers more
than $30 billion annually. Thousands of communities across the nation,
particularly in rural and suburban areas, would struggle to provide
emergency services without their volunteers.
Between 1983 and 2015, the number of volunteer firefighters in the
United States declined from 884,600 to 814,850, an 8 percent reduction.
Perhaps more alarmingly, since 1987, the number of firefighters under
the age of 40 serving communities of 2,500 or fewer residents dropped
from 282,821 to 192,161 while the number of over-50 firefighters
serving these same communities rose from 71,153 to 124,601. Whereas
three decades ago the percentage of young firefighters used to be
highest in small-town America, today nearly a third of all firefighters
serving our smallest communities are over the age of 50.
The reason for this shift is largely due to demographics, what is
happening in rural America, and the jobs market. People are less likely
today to have the same job in the same community for their entire
lives. This is especially true in rural America, because so many jobs
have moved to more densely populated areas, or they've disappeared
completely due to automation or offshoring. Additionally, there are
more households today in which all adults present work outside of the
home.
As a consequence of these changes, people are more likely to have to
move at some point in their lives--and possibly several times--for
employment. Additionally, young people from rural areas are more likely
to have to move or commute in order to find work. This is very
destabilizing for volunteer emergency services staffing, which
historically was modeled on generational recruitment--children
following their parents into the fire department.
With young people today more mobile than in the past, emergency
services agencies are increasingly implementing formal recruitment and
retention (R&R) programs in order to ensure adequate volunteer
staffing. This is necessary to keep up with rising turnover, as people
relocate out of communities, as well as to attract personnel who may
not have ever considered volunteering as an emergency responder, or
even be aware that the local fire/EMS agency is staffed by volunteers.
As part of a formal R&R program, many departments have begun to provide
modest incentives to their volunteers as a reward for their service.
The NVFC estimates that more than half of all volunteer emergency
responders receive some type of incentive, including per-call payments,
annual or monthly stipends, or non-monetary benefits such as clothing
or goods and services. Volunteer incentives are typically modest--the
NVFC estimates that for volunteers receiving incentives the average
annual benefit is worth approximately $350--and most volunteers view
benefits as a form of reimbursement for responding to emergencies in
personal vehicles, replacing clothing to wear under protective gear and
at training, along with other minor expenses.
Taxation of volunteer benefits can be confusing, in part because the
very definition of ``volunteer'' isn't clear. The U.S. Department of
Labor has ruled that personnel compensated at a rate of less than 20
percent of what a full-time paid employee performing the same functions
would be compensated in the same jurisdiction should be considered
``volunteers'' rather than ``employees.'' The Internal Revenue Service
(IRS), however, does not recognize this distinction and has made it
clear that even minor benefits provided to volunteers should be taxed
as income.
The notion that volunteer benefits ought to be subject to federal
income and payroll taxes has generally been slow to take hold in the
volunteer emergency services community. Even today, the NVFC continues
to hear from volunteer fire departments that are unaware that the
benefits they provide are technically subject to taxation for a number
of reasons, including:
- Interpreting the Labor Department's ruling to mean that because
someone is considered a ``volunteer'' rather than an ``employee'' that
benefits provided to that individual are not subject to income
taxation.
- Viewing volunteer benefits as reimbursement and hence not
subject to income taxation.
- Believing that if benefit amounts are small enough that there is
no requirement that they be treated as taxable income or reported as
such.
- Not viewing themselves as employers or the benefits they provide
as income.
- Never having been audited or even contacted by the IRS and
informed otherwise.
The federal tax code should be modified to allow local fire and EMS
agencies to provide modest incentives to their volunteer personnel
without incurring tax liability. Considering that the value of services
rendered by volunteer emergency responders--on average, more than
$37,000 per year per volunteer based on NFPA estimates--are worth far
more than the benefits they receive, the notion that the federal
government is owed tax on those benefits is counterintuitive.
In an attempt to simplify the application of federal tax law on
volunteer benefits, legislation exempting property tax abatements and
up to $360 per year of other types of benefits to volunteer
firefighters and EMS personnel was enacted in 2007. In 2008, Congress
passed legislation clarifying that exempted benefits are not subject to
payroll taxes or withholding. Both of these provisions, commonly
referred to as the Volunteer Responder Incentive Protection Act
(VRIPA), expired at the end of 2010.
VRIPA increased the incentive value of volunteer benefits while easing
administrative burdens associated with reporting and calculating
withholding on volunteer benefits. Since VRIPA expired, volunteer fire
departments in Florida and Virginia have been audited and fined by the
IRS for improper reporting of benefits. This has had a chilling effect
on departments providing benefits, which has in turn hampered R&R
efforts at the local level.
S. 1238, the version of VRIPA introduced in this Congress by Senators
Susan Collins and Ben Cardin, would make VRIPA permanent and increase
the exempt amount from $360 per year ($30 per month of active service)
to $600 per year ($50 per month of active service). A cost estimate
developed by the Joint Committee on Taxation for identical legislation
in the House of Representative (H.R. 1550) estimated that the cost to
the federal government of enacting VRIPA would be $465 million total
over the next 10 years (see enclosed cost estimate).
Volunteering has been part of American life since before our nation was
founded. The volunteer spirit remains strong, but as society changes
barriers to volunteering as an emergency responder have emerged that
are making it increasingly difficult to recruit and retain personnel.
On behalf of the NVFC, I urge the committee to include the language
from S. 1238 in any legislation impacting the portion of the U.S. Code
dealing with individual income tax. Enactment of VRIPA would give
agencies that provide modest benefits a reprieve from having to report
these payments as in come. It would also ensure that volunteers don't
have to pay tax on what amounts to reimbursement for expenses incurred
on behalf of the department.
Thank you for the opportunity to provide input to the committee on this
important matter. If you have any questions, please do not hesitate to
contact me directly, or you can follow up with Dave Finger, NVFC Chief
of Legislative and Regulatory Affairs, at (240) 297-3566 or
[email protected].
Sincerely,
Kevin D. Quinn
Chair
______
Enclosure
Congress of the United States
Joint Committee on Taxation
502 Ford House Office Building
Washington, DC 20515-6453
(202) 225-3621
http://www.jct.gov/
Honorable David G. Reichert
U.S. House of Representatives
1127 Longworth
Washington, DC 20515
Honorable John B. Larson
U.S. House of Representatives
1501 Longworth
Washington, DC 20515
Dear Mr. Reichert and Mr. Larson:
This is a response to your request dated April 12, 2017, for an
estimate of H.R. 1550, the ``Volunteer Responder Incentive Protection
Act of 2017,'' which reinstates, increases, and makes permanent the
exclusion for benefits provided to volunteer firefighters and emergency
medical responders.
Present law requires all payments, stipends, property tax
reductions, and other fee or tax reductions for volunteer firefighters
and emergency medical responders to be treated as taxable income. H.R.
1550 will allow qualified payments, tax reductions, or fee reductions
up to $50 per month of service to be excluded from taxable income.
Qualified payments are any payment, reimbursement or otherwise,
provided by a State or political division thereof, on account of
performance of services as a member of a qualified volunteer emergency
response organization.
H.R. 1550 is effective for taxable years beginning after December 31,
2017. We estimate that the bill would have the following effects on
Federal fiscal year budget receipts:
Fiscal Years
(Millions of Dollars)
--------------------------------------------------------------------------------------------------------------------------------------------------------
2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2018-22 2018-27
--------------------------------------------------------------------------------------------------------------------------------------------------------
-31 -43 -46 -47 -48 -49 -49 -50 -50 -51 -215 -465
--------------------------------------------------------------------------------------------------------------------------------------------------------
NOTE: Details do not add to totals due to rounding.
I hope this information is helpful to you. If we can be of further
assistance in this matter, please let me know.
Sincerely,
Thomas A. Barthold
______
Precious Metals Association of North America
Written Testimony of Scott Smith, President
Chairman Hatch and Members of the Committee,
My name is Scott Smith, and I am the CEO of Pyromet, which is a
privately owned precious metals manufacturer and refiner of silver,
gold, and platinum group metals. Since 1969, Pyromet is a reputable
name in precious metals and precious metals management. I also serve as
President of the of the Precious Metals Association of North America
(PMANA), and I am submitting this written testimony on behalf of our
members. Our association's members are made up of refiners,
manufacturers, traders, and distributors of products that are
essentially comprised of precious metals such as gold, silver,
platinum, and palladium. All of our members have a vested interest in
tax reform--in particular, changes to the capital gains rate for
investments in precious metal coins and bars.
Background
Right now, it is impossible to turn on the television without seeing an
advertisement for investing in precious metals bullion coins and bars.
These are great opportunities for people to include tangible assets
into their portfolios. Since 1982, gains made on precious metals
bullion have been taxed at the ordinary income rate due to language
defining such bullion as a collectible. Congress has made numerous
attempts to mitigate the effects of this capital gains treatment on
precious metals. The Tax Reform Act of 1986 granted the American Eagle
family of coins an exemption from the ``collectible'' definition and
allowed them to be included as equity investments in Individual
Retirement Accounts. Over a decade later, the Taxpayer Relief Act of
1997 created purity and custody standards that, if met, would exempt
bullion coins and bars from the definition while also allowing them in
IRAs. Furthermore, precious metals investment grade bullion products
are purposely designed and produced in a way that excludes any
assumption that they are rare or unique collectibles. Instead,
investment grade bullion products are mass produced to be offered as
investments strictly for their precious metal content.
Regulatory Inconsistencies
Since 1986, Congress and the U.S. Treasury have recognized the value of
investing in precious metal bullion, thus making some exemptions from
the ``collectible'' definition. However, the ``collectible'' definition
remains for non-IRA investments in precious metals, and these
investments are taxed at the ordinary income rate for collectibles with
a maximum rate of 28%--a rate 40% greater than the capital gains rate
for equity investments. To better understand this inconsistency, I want
to briefly explain the different types of coins and the distinctions
between them.
Coins--Function Versus Form
Coins belong to one of three basic categories that consider the coin's
function and form. All coins are round in form. However, there is a
critical difference in the concept of form and that of function. For
example, while all airplanes have wings and tails and are designed to
fly, different types of airplanes fulfill different functions. One
wouldn't employ a Boeing 747 airliner to perform a fighter mission.
Similarly, there are different categories of coins that have different
roles, and each type is distinguished from the others by its function
or purpose.
There are three basic categories of coins in the world today; each one
serves a specific role.
1. Monetary Coins--These coins are part of a country's circulating
currency that its citizens routinely use as money. Coins in circulation
today contain no precious metal. The value of these coins (commonly
referred to as their ``legal tender'' or ``face'' value) is set in law
by government decree. In the United Sates, of course, these would
include pennies, nickels, dimes, quarters, half-dollars, and now, the
new ``Sacagawea'' dollar coin. They are used as a medium of exchange by
which the general public effects everyday transactions, such as when
they pay for candy bars, newspapers, parking meters, bridge tolls, etc.
The purpose of these coins is to circulate in the general economy. They
are not hoarded for their uniqueness or rarity, or because they have
any premium value over their legal tender amount.
2. Rare Coins--These coins are commonly referred to as ``numismatic''
coins, that is, they are held by, valued and traded among hobbyists and
coin collectors on the basis of their rarity and the quality of their
physical condition. Typically, numismatic coins are old (sometimes
ancient), and they may, or may not contain a precious metal. The market
value of numismatic coins usually far exceeds either their face value
or their precious metal content (if any). Their market values are
determined by supply and demand factors that exist in the rare coin
market for particular coins based largely on subjective judgments made
about their scarcity and condition. Such coins may be held for
enjoyment (e.g., as in a hobby), or for investment purposes, or both,
just as an antique rug or a rare painting may be purchased simply for
the enjoyment of its owner, or specifically for its price appreciation
potential. Thus, profits through capital gains may be realized when
rare coins are sold, but because they are unique, their value
determinations can vary and can be quite subjective.
3. Bullion Coins--Bullion coins are fungible, highly refined precious
metals products, round in shape, and produced to exacting
specifications in large numbers by numerous countries throughout the
world specifically as precious metal investment vehicles. They are
widely traded, highly liquid and their market values are globally
publicized. Although they typically are ascribed legal tender status by
the governments that mint them, bullion coins trade in the marketplace
at or near the market price of the commodity they contain, which
typically has no relationship whatsoever to the coin's legal tender, or
``face'' value. For example, earlier this year, a one-ounce American
Eagle gold bullion coin having a U.S. legal tender value of $50, traded
in the market place at $1,277.35, while gold itself was trading at a
``spot price'' of $1,239.85 per ounce. Thus, the price of the gold
Eagle was at a $37.50 premium (3%) to the prevailing gold bullion
price.
It is important to note that the premium charged for a bullion coin
over and above the current ``spot price'' of the corresponding
commodity it contains merely reflects the cost of insurance,
transportation, handling, and storage, as well as the manufacturer's
and dealer's profit, associated with the processing and sale of the
coin. This premium is not a value ascribed to the coin as the result of
any rarity or uniqueness considerations. In fact, bullion coins are
purposely manufactured in sufficient quantities by their governments to
ensure they are not ``rare'' or ``scarce,'' but are as common as the
many types of bullion bars available also produced by commercial
refiners specifically for investment purposes. Therefore, bullion coins
should be recognized and treated in the tax code as any other
investment.
Recognizing precious metals coins and bars as investment products, The
Wall Street Journal publishes each business day in its investment
section, the market prices of gold, silver, platinum and palladium
bullion as well as the prices the most widely traded bullion coins.
Additional substantiation of the investment status of bullion coins and
bars is evident in the fact that 21 states have removed their sales tax
on bullion coins and bars.
Policy Proposal
Unlike rare coins--which include those most pursued by hobbyists and
collectors--bullion coins are precious metal investment vehicles that
are traded at the value of the commodity they contain. Since they are
not rare, but rather mass produced specifically for investing, their
status as a ``collectible'' for non-IRA investments is misaligned with
their function and form. That is why I am requesting on behalf of the
PMANA that Congress amend the Internal Revenue Code to treat gold,
silver, platinum, and palladium in either bullion or coin form, in the
same manner as stocks, bonds, and mutual funds for purposes of the
capital gains rate for individuals.
Thank you, and I look forward to working with the Committee to ensure a
reformed tax code that is fair to investors and promotes more
investments in precious metal bullion coins and bars. If you have any
questions, I am happy to meet with you and/or your staff to discuss
this issue in greater detail. Thank you for the time and I hope the
Committee will look closely at this issue and the impacts it has on
American investors.