Taxes

Business Tax Reform Chapter Lays Out Administration's Thinking

The Council of Economic Advisers released its 2015 Economic Report of the President last week, discussing several recent economic developments and how the President's policies fit into them. One chapter of particular interest given its possibility of being on the policy agenda in this Congress is on business tax reform. The chapter discusses the problems with the current system—notably, its high marginal tax rate, relatively narrow tax base, and economically distorting incentives—and how the President's approach would help the economy, productivity, and living standards.

For background, the Administration's policy on business tax reform can be summarized between the specific policies laid out in the budget, with additional detail in its business tax framework. The budget calls for the corporate tax rate to be reduced from 35 to 28 percent and extensions/expansions of some existing tax breaks, like a permanent extension of the R&E credit and new or extended tax breaks for clean energy. The budget also contains a number of revenue-raisers that would pay for them, including a 19 percent minimum tax for income earned abroad, the elimination of tax incentives for fossil fuel producers, and the changing of inventory accounting rules.

The revenue-raisers would pay for the tax breaks but would leave only $140 billion of revenue to pay for the rate cut, only about one-fifth that is needed. However, the framework states that additional revenue could come from addressing depreciation schedules and limiting the deductibility of interest. Finally, the budget dedicates revenue to the Highway Trust Fund from a 14 percent temporary tax on earnings held abroad by U.S. companies.

Components of President Obama's Business Tax Reform Plan
Policy Savings/Cost (-) Through 2025
Reform the international tax system $238 billion
Change inventory accounting rules $84 billion
Eliminate fossil fuel tax preferences $50 billion
Reform financial and insurance industry tax treatment $34 billion
Enact other revenue raisers $40 billion
Extend and expand R&E credit -$128 billion
Enact/extend small business tax cuts -$94 billion
Enact/extend manufacturing and clean energy incentives -$58 billion
Enact infrastructure and regional growth tax cuts -$26 billion
Total, Business Tax Reform Reserve $141 billion
Make unspecified changes to depreciation and interest deductions ~ $560 billion*
Cut corporate rate from 35% to 28% ~ -$700 billion
   
Implement 14% transition tax on earnings held abroad $268 billion
Dedicate revenue to Highway Trust Fund -$238 billion

Source: OMB, CBO, CRFB calculations
*Numbers represents roughly the additional revenue needed to finance the rate cut. Actual revenue may be larger since depreciation changes raise less in the long term than the short term

The chapter includes four interesting discussions of elements of business tax reform:

House Considers $320 Billion of Tax Cuts

The House of Representatives is considering this week whether to revive several tax breaks known as the "tax extenders" and add their cost to the deficit. The bills under consideration, which include extensions of previously renewed tax breaks in addition to new and expanded tax breaks, would cost almost $320 billion, or almost $385 billion with interest.

The tax extenders are a set of temporary tax breaks that have typically been continued for a year or two at a time. Most recently, about 55 extenders expired at the beginning of 2014 and were renewed retroactively for one year last December, before expiring a few weeks later at the end of 2014.

The House Ways & Means Committee today approved renewing and permanently extending two of these provisions, including a drastically expanded research tax credit and a deduction for sales taxes paid, as well as new modest expansions to 529 education savings accounts. The three approved bills being would cost about $225 billion, or $265 billion with interest.

The House is also voting today and tomorrow on permanent extensions of six more provisions, as well as a policy from last year's Tax Reform Act that would reduce taxes paid by private foundations on their investment income.

MY VIEW: Judd Gregg

Judd Gregg, a former Republican senator from New Hampshire, served as chairman of the Senate Budget Committee from 2005 to 2007 and ranking member from 2007 to 2011. He recently wrote an op-ed featured in The Hill. It is reposted here.

There is a growing consensus that one of the more fertile fields for possible bipartisan action between President Obama and this new Congress is tax reform.

This is logical.  

Nunes Offers a Way Forward for Business Tax Reform

With tax reform heating up, House Ways and Means member Rep. Devin Nunes (R-CA) has gotten the ball rolling with a business tax reform plan called the American Business Competitiveness Act. The draft would dramatically overhaul and simplify the corporate tax code, broadening the tax base in many areas while lowering tax rates on businesses.

Nunes's draft would change business taxation to be a cash-flow tax, making it more closely related to businesses' actual inflows and outflows. Nunes has said that the plan would be deficit-neutral over ten years using conventional scoring, although he has not made the estimate publicly available. The main elements of the plan include:

  • Reducing the top tax rate to 25 percent for both corporate and non-corporate businesses, phased in over ten years
  • Allowing businesses to write off the full cost of investments immediately (known as expensing) rather than writing them off over the life of the investment (see here for background on depreciation rules)
  • Repealing deductions for interest expenses while reducing taxes on interest income to the dividend rate (20 percent)
  • Eliminating other business deductions and credits
  • Changing the international tax system to a territorial system, where U.S. companies' income earned outside the country is not taxed by the federal government
  • Repealing the corporate Alternative Minimum Tax (AMT)

One of the most unique aspects of the proposal is the move to full expensing and the repeal of interest deductions.

Van Hollen Proposes Middle Class Tax Cuts

At an event at the Center for American Progress, House Budget Committee Ranking Member Chris Van Hollen (D-MD) unveiled an "Action Plan" to broadly cut taxes for the middle class. The reported $1.2 trillion cost of the plan would be offset with revenue from high earners and the financial sector. The details of the plan have not been completely spelled out yet, but it is encouraging that Van Hollen is committed to paying for the full costs. However, using increased revenues to pay for a middle class tax cut will make future deficit reduction more difficult.

Here are the major elements of Van Hollen's plan, including four parts that would cost money and three proposals to raise money.

Paycheck Bonus Tax Credit

The plan's centerpiece is a Paycheck Bonus Tax Credit, which would provide a $1,000 credit for single earners and $2,000 for couples. The credit would phase out at incomes of $100,000 and $200,000 indexed for inflation. Van Hollen indicated that the credit was not refundable, meaning that people with no income tax liability would not benefit, but that he intends to consider changes to make it at least partially refundable, which would be more expensive and provide more benefit to lower-income households. This credit is the plan's most expensive, potentially making up four-fifths of the plan's cost, depending on the exact details.

If taxpayers put at least half of their tax credit into a tax-preferred savings plan, they would qualify for an additional $250 Savers' Bonus credit.

A Medical Device Tax Repeal Should Be Fiscally Responsible

The brand new 114th Congress is at it again. Only weeks into the term, a second fiscally irresponsible change to the Affordable Care Act (ACA) has been introduced -- a repeal of the law's 2.3 percent tax on medical devices sold in the U.S. that is expected to add roughly $25 billion to the debt over ten years.

The medical device tax was included in the ACA in order to help pay for the law's new health coverage subsidies and in part to compensate for the financial gains device companies could expect as a result of increased coverage.

Repeal of the tax, though, is one of the few ACA-related changes with bipartisan support -- an amendment to the FY 2014 Senate budget creating a deficit-neutral reserve fund for repeal passed by a 79-20 vote, with more than 30 Democrats joining every Republican in favor. Notably, this vote was different than outright repeal since the action was both non-binding and stipulated deficit-neutrality, but it indicated the support that repeal has in both parties. Yesterday, a bipartisan group of Senators introduced a repeal bill. If repeal is to happen, though, lawmakers need to make up the lost revenue.

Criticism of the tax generally focuses on the potential negative effects on the medical device industry, but there are also concerns about the economic inefficiency of selectively taxing one type of product and the Treasury's difficulty in administering the tax.

Hatch Calls for Tax Reform in the 114th Congress

If tax reform is going to happen in the 114th Congress, Sen. Orrin Hatch (R-UT) will be a central figure as the incoming Chairman of the Finance Committee. In a National Review op-ed yesterday, he reiterated seven principles for tax reform that he first outlined in a report last month. Many of these principles are frequently discussed as important goals of tax reform, but lawmakers may disagree about the best course to achieve them.

Hatch first notes the serious need for reform:

Everyone agrees that the American tax system is broken and in need of reform. It stifles job creation, innovation, and competitiveness. It’s counterproductive, confusing, and a serious drag on the economy. Simply put: Tax reform is no longer an option but an obligation.

We certainly agree that after nearly 30 years without a major reform and the tax code getting more and more complex since then, the time is now for tax reform. Even setting aside fiscal concerns, it should be done to improve the code for taxpayers and the economy alike.

Hatch's seven principles involve promoting:

    1. Economic growth
    2. Fairness
    3. Simplicity
    4. Permanence
    5. Competitiveness
    6. Savings and investment
    7. Revenue-neutrality

Senator Cardin Proposes Reform With a Consumption Tax

Senator Ben Cardin (D-MD) introduced the Progressive Consumption Tax Act last week that would reform the tax code and change the way that tax revenue is collected, introducing a nationwide consumption tax. The additional revenue generated would be used to cut the corporate rate in half and eliminate the income tax for three-quarters of households.

Cardin describes his the bill as a "comprehensive, progressive, pro-growth" proposal. As he explains:

Credible tax reform is critical to America’s economic competitiveness. Every other developed country in the world, including all other Organisation for Economic Cooperation and Development (OECD) countries, have a consumption tax. The Progressive Consumption Tax Act puts this country on a level playing field with other nations by providing for a broad-based progressive consumption tax, or PCT, at a rate of 10 percent.  The PCT would generate revenue by taxing goods and services, rather than income.

Cardin's plan would adopt a 10 percent tax on most goods and services. However, both businesses and individuals would pay far less in income taxes, and most individuals would not owe any income tax. 

For the individual income tax, a single person earning less than $50,000 or a couple earning less than $100,000 would not owe any taxes. According to the Tax Policy Center, approximately 75 percent of taxpayers had cash income below this threshold in 2013. Above that level, there would be three brackets – 15, 25, and 28 percent – instead of the current seven brackets that max out at 39.6 percent. Taxpayers in the top bracket would see only a small reduction in taxes on income they spend, since the new income tax rate would be 28 percent plus 10 percent on consumption spending. However, any income that goes into savings and investment would not be subject to this additional 10 percent tax.

Many of the deductions and credits currently available to individual taxpayers would be repealed, including the lower rate on capital gains and the alternative minimum tax. Those that the plan would keep – the state & local tax deduction, the mortgage interest deduction, the charitable deduction, and health & retirement benefits – would only be relevant to taxpayers with high enough income to owe tax. The refundable credits, like the Earned Income Tax Credit and Child Tax Credit, would be replaced by larger rebates based on income and family size, which would "practically eliminate the consumption tax burden for lower- and moderate-income families," according to Cardin's office.

Delaney Combines Tax Reform and Infrastructure...With a Twist

Tax reform has been an increasingly common way to pay for infrastructure spending in recent years. Both President Obama and outgoing House Ways and Means Chairman Dave Camp (R-MI) proposed using revenue from business tax reform to fund the Highway Trust Fund (HTF) for a number of years.

Last week, Representative John Delaney (D-MD) proposed a version of this idea as well, but with a twist: he would also set up a deadline for tax reform and a backstop in case it wasn't passed.

Like Chairman Camp's proposal, Delaney's bill would use an 8.75 percent deemed repatriation tax to fund the Highway Trust Fund, in this case for six years. The tax would apply to the approximately $2 trillion of foreign earnings by U.S. companies held outside the country. He would also use the revenue to fund a $50 billion infrastructure bank. Camp's proposal raised $170 billion, $127 billion of which was dedicated to the HTF. It appears that Delaney would dedicate the same amount to infrastructure and use the remainder for the $50 billion bank.

Senator Coburn Publishes the Tax Decoder

Senator Coburn's office yesterday published the "Tax Decoder", a 300+ page guide describing more than 165 tax expenditures. The report highlights inefficiencies in many of the current tax breaks, drawing attention to areas where these breaks have been abused or provide an over-sized benefit to one specific industry, "allow[ing] Uncle Sam to put a thumb on the scale, placing politicians instead of markets at the center of capital allocation." See the full document here.

The report covers nearly every tax break. It describes attention-grabbing breaks like a tax break for a tuna company, breaks for NASCAR tracks, tax-free financing of stadiums built for private sports teams, and private foundations used by celebrities. It also tackles the largest tax expenditures, providing a serious treatment of large provisions like accelerated depreciation, the child tax credit, and the mortgage interest deduction. As the report says:

This report is meant to help decode the tax code for the public and policymakers alike, exposing special giveaways and surprising tax preferences unknown to many Americans who cannot afford tax lawyers or accountants.

The report "is designed to provide the building blocks of comprehensive tax reform for lawmakers wishing to enact a meaningful overhaul of the tax code in the coming years." It gives plain language summaries of many of the breaks that will come under discussion in tax reform. Many members, including outgoing Ways & Means Chairman Dave Camp (R-MI) and former Senate Finance Chairman Max Baucus (D-MT), started the work of reforming the tax code over the last several years. Hopefully, this report will inform the public and the lawmakers who will continue those discussions in the next Congress.

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