Annette Nellen

Tough Tax Questions for Presidential Candidates

What questions should we be asking candidates to gain a sense of how they would resolve challenging taxation issues?

February 14, 2008
by Annette Nellen, CPA/Esq.

The current crop of Presidential candidates sound a lot like they did in prior years with promises of new targeted tax breaks, loophole closures, increased taxes on the rich and new spending programs. Have the candidates not read the doom and gloom budget reports from the Government Accountability Office (GAO), Congressional Budget Office (CBO) and others?

The fiscal agenda for the next President and Congress must include some very difficult decisions that go beyond just tweaking the tax system. Below, we’ll look closer at some key fiscal issues that have tax implications. Questions are posed that could help gauge how well candidates understand the fiscal quagmire the country is heading into and the remedies they would pursue.

What’s in Store

David M. Walker, head of the GAO, describes the current federal budget as being “on an imprudent and unsustainable path” (January 2008 testimony, GAO-08-411T (PDF)). CBO Director Peter L. Orszag observes that economic growth will not solve the impending budget problems. “A substantial reduction in the growth of spending, a significant increase in tax revenues relative to the size of the economy or some combination of the two will be necessary to maintain the nation’s long-term fiscal stability” (January 2008 testimony (PDF)).

The dire outlook stems from imploding healthcare costs and a population bulge of retiring baby boomers (born between 1946 and 1964). The likelihood of extending tax cuts that expire after 2010 and alleviating the alternative minimum tax (AMT) hit that millions will face, further aggravates the problems. The nagging tax gap dampens the outlook even more.

Healthcare Spending

Healthcare costs are a significant cause of impending budget problems.

  • In 2006, total healthcare spending represented 16 percent of GDP, almost double what it represented in 1976. and it is expected to represent almost 20 percent of GDP by 2016 (GAO testimony (PDF)).
  • Medicare and Medicaid costs represented one percent of GDP in 1970, four percent in 2007 and will continue to grow. Cost increases are not due solely to our aging population, but to increasing costs per beneficiary due to improved diagnosis and treatment techniques (CBO, The Long-Term Budget Outlook (PDF), December 2007).

Per Walker (GAO testimony (PDF) January 2008), increasing healthcare spending is “eroding the ability of employers to provide coverage to their workers and undercutting their ability to compete internationally.” Growing healthcare costs also impact the national debt, savings rates and economic growth adversely (for more information, see CBO, Growth in Health Care Costs (PDF)).

There are various tax implications of healthcare spending. The Hospital Insurance (HI) tax of 2.9 percent helps fund Medicare. One of the largest federal income tax expenditures is the exclusion for employer-provided health insurance that the Joint Committee on Taxation estimates as $628.5 billion from 2007 — 2011 (JCS-3-07 (PDF)), not counting payroll taxes. This tax break can increase healthcare spending by reducing the relevance of cost in making healthcare decisions, which also leads to higher insurance costs for employers and others.

Question — What are your plans for controlling rising healthcare costs and how will the HI tax and the income and payroll tax exclusions for employer-provided health insurance factor into solutions?

Baby Boomers Retiring

Retirement of baby boomers starting in 2008 as well as increasing longevity of the U.S. population will strain our Social Security system. Without changes, Social Security will grow from 4.3 percent of GDP in 2007 to 6.1 percent in 2030. Today there are 3.2 workers per Social Security beneficiary, but that ratio is expected drop to 2.1 per beneficiary by 2030. (CBO, The Long-Term Budget Outlook, (PDF) December 2007)

Question – What changes do you propose for Social Security taxes, retirement age, benefits and/or structure of the system to address the problems stemming from the decline in the ratio of workers to beneficiaries?

The Tax Gap

The annual federal tax gap is estimated at $345 billion. Congress and the IRS have increased their attention to this problem and possible solutions. Yet, little change has occurred. Numerous reports from the GAO (PDF), IRS and others offer specific suggestions for reducing the tax gap.

Questions — What is your timeframe for implementing techniques to reduce the tax gap and will new information reporting be part of your plan? How do you think existing enforcement tools can address the problem?

AMT, Expiring Tax Cuts and Related Matters

Adjusting the alternative minimum tax for inflation and extending the 2001 and 2003 tax cuts would lead to a $617 billion deficit in 2018 rather than a $223 billion surplus (CBO, The Budget and Economic Outlook: Fiscal Years 2008 to 2018 (PDF), January 2008). The deficit scenario also increases the national debt and interest expense.

If the tax cuts are allowed to expire after 2010, AMT liabilities would drop by about two-thirds in 2011 (due to higher regular tax liabilities), but would continue to increase due to the lack of inflation adjustments in the AMT brackets. Over 31 million individuals would be subject to AMT in 2018 compared to less than seven million who were subject to it in 1987. Individuals subject to AMT are predominately in the $75,000 to $1 million adjusted gross income range (Joint Committee on Taxation, JCX-38-07 (PDF), June 2007).

In February 2007, the Center on Budget and Policy Priorities (CBPP) estimated that factoring in increased borrowing, extension of the tax cuts and indexing AMT for inflation would cost $4.3 trillion over 10 years (2009 through 2018).

A 2007 report of The Brookings Institute (Achieving Progressive Tax Reform in an Increasingly Global Economy (PDF)) notes that to alleviate budget problems including those arising from extension of tax cuts and adjusting AMT for inflation, would necessitate a 34 percent reduction of all government spending in order to attain “long-run fiscal balance.”

The GAO uses the following graph to emphasize the need to address fiscal issues earlier rather than later. The revenue line is based on extending the tax cuts, maintaining the 2006 AMT exemption amounts and keeping revenues at a historic level of 18.3 percent of GDP after 2017 (GAO-07-1261R (PDF)).

Dealing with expiring tax cuts and growing AMT will also involve consideration of the distribution of taxes, tax breaks and benefits. While Treasury (PDF) reminds us that expiration of the tax cuts will result in tax increases for millions of individuals, the distribution of the benefits varies among different income categories and filing units. For example, repeal of the estate tax skews the benefits to individuals in higher income groups. The CBPP and others note that the tax cuts made the tax law more regressive. These topics will surface in discussions on extending the tax cuts. For more information on distribution of the tax cuts, see reports by the Tax Policy Center (PDF), Congressional Research Service (PDF), and others.

Questions – What are your plans for addressing the AMT and expiring tax cuts? Why? How will extension of the tax cuts, AMT relief or any new tax breaks be paid for? How progressive should the tax system be and how would you achieve that level?

There’s More

The next President and Congress also have various structural issues, such as complexity, as well as reform issues, such as ensuring that the tax system does not impede international competitiveness for U.S. businesses, to deal with. These tax reform matters cannot be addressed in isolation from the budget and distribution issues. These are all challenging issues that call for asking tough questions of candidates.

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Annette Nellen, CPA/Esq., is a tax professor and Director of the MST Program at San Josť State University. Nellen is a contributing writer for AICPA Tax Insider. Her views as expressed in this article do not necessarily reflect the views of the AICPA or AICPA Tax Insider. She is a fellow with the New America Foundation. Nellen is an active member of the tax sections of the AICPA and ABA. She has several reports on federal and state tax reform and a blog.