The President’s Advisory Panel on Federal Tax Reform

The effect on 'double take.'

July 31, 2007
by Lester Snyder, JD/LLM

This article has been excerpted from Lester Snyder’s book, Double Take: Unequal Taxation of Equals, (Vandeplas Publishing, 2007). Reprinted with permission.

In November 2005, the Advisory Panel created by President George W. Bush submitted its tax reform recommendations (See Report of the President's Advisory Panel on Federal Tax Reform, Simple, Fair, and Pro-Growth: Proposals to Fix America's Tax System (2005), 70 FR 2323). The report endorses two options: The “Simplified Income Tax” (SIT) and the “Growth and Investment Tax” (GIT).

A Few Major Features of Both the SIT and GIT Plans

  1. Reducing the tax rates a few points;
  2. Reducing the marriage penalty (where both spouses work and pay higher taxes than two unmarried cohabitants with similar incomes), offset, however, by higher tax rates for single persons under both plans; but there would be a flat-rate of 15 percent on dividends, interest, and capital gains, with “progressive” rates (15 percent to 30 percent) on services income under the GIT plan;
  3. Repealing the Alternative Minimum Tax;
  4. Replacing the personal exemption, the standard deduction, and the child tax credit with one family credit;
  5. Reducing the home mortgage interest deduction (replaced by a Home Credit of 15 percent of interest paid on housing loans up to $412,000);
  6. Limiting the charitable deduction to gifts of more than 1 percent of income;
  7. Eliminating many fringe benefits, except for “work-related” employer provided benefits (but allowing a new deduction for health insurance, and placing a limit on the present exclusion);
  8. Repealing deductions for state and local taxes and the exclusion for life insurance; [The recommendation to repeal the Alternative Minimum Tax, which disallows the state and local taxes in computing that tax, interestingly transfers the disallowance of state taxes to the regular income tax. The stated rationale for taking this deduction away is that state and local taxes are payments to the state for personal services. Taxing life insurance proceeds at death is likely to stir up a huge protest from the life insurance industry; these proceeds often represent returns on investment in the case of permanent or cash-value insurance, and arguably are not very different from the stepped-up basis for other financial assets passed to heirs at death.]
  9. Consolidating some pension and retirement plans with limited “Save at Work” or “Save for Retirement” family savings plans;
  10. Either a full 100 percent exclusion for dividends (under SIT plan) or making permanent the present 15 percent maximum rate on dividends and capital gains (GIT plan), with other investment income (interest, for example) taxed at regular rates up to 33 percent (under SIT plan) or 15 percent under (GIT plan);
  11. A special 75 percent exclusion for capital gains on sale of stock in U.S. corporations (under SIT plan), with all other capital gains taxed at regular rates up to 33 percent. Increasing the exclusion on gain on sale of residences from $500,000 ($250,000 for single persons) to $600,000 ($300,000 for singles), but gain on excess of the exclusions taxed at regular rates (not capital gain rates, as under current law);
  12. Purportedly taxing businesses more uniformly than under present law, with “small” ones (under $1 million of receipts) allowed to write-off all purchases (except real estate) in year of acquisition, with mid-size ones (over $1 million) allowed to use a simplified depreciation system, and with large businesses (over $10 million in receipts) — including limited liability companies and other “pass-through” entities under current law — taxed at a lower rate of 31.5 percent at the business rather than at the owner or shareholder levels (under the SIT plan);
  13. Under the GIT plan taxing all businesses alike, at a single flat rate, under a vaguely defined hybrid consumption-type tax (including a Value-Added Tax) in combination with current taxation of business income; and
  14. A “Growth and Investment Tax” plan which levies a graduated tax on services income, but a flat-rate tax on interest, dividends, and capital gains.

Effect of Advisory Panel Report on “Double Take”

The Report does simplify some of the family-related deductions, changing some of the deductions (which provide higher tax savings to those in the upper income tax brackets) to credits (which are offset directly against taxes, irrespective of tax brackets). There are some other positive aspects, such as taxing all businesses alike at the business level (perhaps eliminating the perplexing pass-through regimes such as “S” Corporations, Limited Liability Companies, and Partnerships). But on the whole, the Report exacerbates the unequal taxation of equals described in the first six chapters of this book.

Fringe Benefits (Chapter 1)

In the area of employer-provided tax-free benefits for some employees, the Report does address the health insurance issue by suggesting a new deduction for those taxpayers not covered by the present exclusion. But the present exclusion would be decreased to help pay for the new deduction (also limited). Tax policy and health care policy are difficult to reconcile to the extent that some analysts have opined that the tax break causes higher medical costs. However, this is, perhaps, the only area of the Report which does at least recognize the inequality of allowing employee tax benefits to some workers and not others (The Panel agrees that many fringe benefits go to “high income taxpayers, even though they are paid for with higher tax rates for everyone.” See Report of the President’s Advisory Panel on Federal Tax Reform).

Other fringe benefits would supposedly be repealed. That is, other than so-called “work related” benefits. The Report, however, does not tell us how we make the distinction between benefits that are in-kind subsidies in lieu of cash compensation and those that are more directly connected to the employee’s work. Are gyms and athletic facilities, meals and lodging, at the employer’s place of business, “work related”? What about tuition assistance, day care facilities, and housing allowances to church ministers? Is commuting to work and free parking “work-related”? Earlier attempts by the Treasury Department and the IRS to resolve this problem included a proposal to exclude from income only those items which were required as a condition of a particular job. But the proposal failed because of the practical difficulty in finding a rational line between job-related benefits and those that were in reality nothing more than additional wages which should be taxed. There is no mention in the Advisory Panel Report of loss of social security tax revenue, which contributes to the predicted social security fund shortfalls. Because these benefits are normally in the form of an “exclusion” from income (meaning they do not appear on the employee’s tax returns or in the IRS Statistics of Income Bulletins), the IRS has difficulty regulating what appear to be tens of billions of dollars of tax subsidies that are unevenly distributed among the workers of this country. It would be more equitable and efficient to tax most of these benefits, and lower the tax rates for all taxpayers. Some consumption tax advocates argue that a repeal of these fringe benefits would more often than not be replaced by higher cash wages, thus avoiding any valuation problems. In any event, the Advisory Panel’s recommendations do not resolve the “unequal taxation of equals” for most of our examples.

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Lester B. Snyder, JD/LLM, is a professor at the University of San Diego School of Law. For 20 years, he was editor-in-chief of the Journal of Real Estate Taxation. He was the first professor-in-residence in the Tax Division of the U.S. Department of Justice. His new book, Double Take: Unequal Taxation of Equals, (Vandeplas Publishing, 2007) was published in June of this year. His book is available at Amazon as well as Vandeplas Publishing.