Search This Blog


Thursday, November 19, 2015

Sales Tax as a Penalty?

A proposed California initiative may surprise you.  It calls for a 1000% sales tax on "political advertisements."  This certainly sounds like a penalty. It raises constitutional issues (free speech, for example).  For more, please see my tax policy post in - here.

Monday, November 16, 2015

“Abolish the IRS” Distracts from Needed Reforms

Republican presidential candidates Senators Ted Cruz and Mike Huckabee would like to abolish the IRS. They are not saying they want to abolish taxes, just the agency that collects them. Even if either is able to simplify taxes to the point that no taxpayers have questions or need guidance, we still need a tax collector, as well as an auditor to ensure compliance.

A call to abolish the IRS is a distraction. That’s too bad because there are significant improvements needed to our federal tax system – a system that includes not only the income tax, but also employment, excise and estate and gift taxes.  Tax reform must be the focal point, not termination of the entity that collects revenues to fund schools and roads, provide national defense, and much more.
The IRS is an easy scapegoat for complaints about our tax laws. But those laws come from Congress. Yes, the bills must be signed by the President to become law. But if no tax bill arrives at the President’s desk, no statutory change is possible. For reform, let’s first look to where Senator Cruz resides – Congress.

Reforms are needed. Here are just three examples to illustrate problems in our federal tax system. Resolving these types of problems can enable our tax system to be simpler, more equitable and better promote economic growth.

First, our federal tax system is too complex resulting in excessive compliance costs and errors. According to the IRS National Taxpayer Advocate, businesses and individuals devote over 6 billion hours annually to tax compliance – the equivalent of over 3 million full-time jobs. Examples of this complexity include a 43-page instruction book for Form 1040-EZ and over eight rules for tax benefits for college costs, explained in a 96-page publication from the IRS (Pub. 970).

Second, our tax system is inequitable. For example, for decades, employees have been allowed to exclude the value of employer-paid health insurance from their income, thereby lowering their income and employment taxes.  Employees get this exclusion regardless of income level (and employers deduct what they pay for the health coverage). Starting in 2014, the Affordable Care Act (“Obamacare”) provides a refundable tax credit to individuals without employer-provided health coverage who buy insurance on the exchange (such as Covered California). However, these individuals losethat subsidy if their income exceeds 400% of the federal poverty line ($45,960 for a single person for 2014). 

Take for example, Jane and Sara, each 50 years old, single and having $100,000 of taxable income for 2014. Jane obtains health coverage from work with her employer covering the entire cost of $6,000. Jane is allowed to omit this $6,000 benefit from her taxable income. Sara obtained her insurance from Covered California at a cost of $6,000, paid out of her own pocket. Because Sara’s income exceeds $45,960, she obtains no tax subsidy. Meanwhile, Jane gets a tax subsidy of $1,680 (based on a marginal tax rate of 28%). Sara is out-of-pocket $6,000 while Jane gets a $1,680 subsidy (and has no out-of-pocket costs for health insurance). Why does this inequity exist? This is just one of many tax system inequities where some individuals receive tax reductions while others at similar, or even lower income levels, do not.

Finally, our tax system has not kept up with technology and new business models. Today, most countries only tax businesses on income earned within their borders rather than the U.S. approach of taxing worldwide income. Corporate tax rates in other countries are lower while also supporting R&D on a permanent basis rather than the temporary approach used in the U.S. since 1981. Also, today, any size business likely has international operations yet tax rules can be as complex for small ventures as they are for large companies. And, technology should be used to make tax compliance for most people as easy as ordering goods online.

We need to improve our tax system, focusing on all federal taxes, not just the income tax. Our tax system can be simpler, more equitable and better support today’s ways of living and doing business.  Let’s focus on these important issues and not be distracted by absurd rhetoric about abolishing the tax collector.

More to come - "abolish the IRS" is not the only odd tax reform coming from candidates.

What do you think?

Sunday, November 8, 2015

10th Anniversary of Bush Tax Reform Report

In January 2005, President Bush created his Advisory Panel on Federal Tax Reform. It was tasked to examine the tax system and propose simplified options that were revenue neutral, pro-growth and internationally competitive. One option was to be a consumption tax. The report was due and was issued on November 1, 2005.

The panel held public hearings, reviewed lots of data and studies and suggested reforms. One of their initial findings was the high cost of tax system complexity which they estimated to be $140 billion per year. Per the panel:

"To put this amount in perspective, it is roughly the same as giving $1,000 to every family in America or the amount of money needed to fund all of the following: the Department of Homeland Security, the State Department, NASA, HUD, the EPA, the Department of Transportation, the United States Congress, our Federal courts, and all foreign aid."

I think this type of information needs to be better publicized.  Most individuals will tolerate complexity if it gets them a deduction. But, they are not usually considering the cost to them and the aggregate cost to all taxpayers and the IRS of the provision. They are often not thinking that perhaps the deduction can be replaced with a higher standard deduction amount at no additional complexity cost.

I like the report because I think the panel did a great job getting at the problems with our federal tax system in terms of complexity, inequity, inefficiencies and lack of accountability and transparency. Unfortunately, the report really died upon issuance in November 2005 most likely because they proposed improving the mortgage interest deduction contrary to what "conventional wisdom" says it should be. The panel proposed that the home mortgage interest deduction be replaced with a credit equal to 15% of the interest paid with the debt limited to the average regional home price (about $227,000 to $412,000).

If that is what killed the report before it could get its hearing, I hope things have changed, but I suspect they have not. The panel's proposal would make the credit available to all homeowners with debt rather than only to the 1/3 of individuals who itemize deductions.  Also, as a credit, it is worth the same to everyone (although higher income individuals tend to have bigger mortgages). It likely would also reduce one of the largest tax expenditures in the tax code (about $80 billion per year) and distribute this amount more equitably among taxpayers.

Here is an excerpt of the panel's chart showing some of the changes and how incorporated into their two key proposals:

Source: Executive Summary, page xvii.

I also like Figure 5.5 below showing the effective tax rate on different types of investments. The many tax preferences for housing produces a zero effective tax rate. This highlights another problem with our tax system - it distorts investments leading to over investment in some areas and under investment in other areas. What would the economy look like if we did not over invest in housing (perhaps had fewer expensive homes and more investment in businesses)?

Source: Panel Report, Chapter 5, page 71.
I hope the report is not completely forgotten and will be considered in ongoing discussions on tax reform. It raises some good issues and observations necessary for reform to happen.  We can't keep talking about lowering the rates in a revenue neutral manner without talking about reducing or eliminating the largest tax expenditures, the costs of complexity and the distortions caused by a tax system that causes investment inefficiencies. Reform also needs to recognize the tremendous income gaps we have (relevant in determining just how low the rate can go), and the reality that much of our tax system does not reflect today's ways of living and doing business (the subject of my 21st century taxation website and blog).

What do you think?

Thursday, October 29, 2015

Poor recordkeeping - complexity or too busy

Every year there are several tax cases where taxpayers think they'll get a better result in court despite poor records. They almost always lose. I've got a short article in today's AICPA Tax Insider on some of these cases, including a few involving marijuana businesses.  I hope you'll take a look - Poor Recordkeeping Hurts Taxpayers: Problems and Preventions.  I don't think these are really problems due to tax law complexity because businesses should maintain records for both tax and non-tax reasons. Of course, where a tax rule requires records beyond what is required for bookkeeping or financial reporting purposes, that should be examined as part of tax reform.  You'll see that in a few cases mentioned in the article that people were claiming deductions they were not entitled to, such as expenses of a car you don't own (including depreciation!).

What do you think?  Do you know of any new apps or other tools to help busy business owners maintain proper records?

Sunday, October 18, 2015

Responsible Governance - Tax break bills vetoed!

Why are our tax systems so complex?  One key reason is that lawmakers keep adding to them and rarely delete anything.  Also, items added for temporary purposes are often renewed (rather than dropped or made permanent). Also, we often have numerous rules serving similar purposes (such as for higher education spending or savings).

Well, on October 10, 2015, California Governor Brown, said "NO" to nine tax bills presented to him.

His reason was that they might bust the budget given other budget issues.  Each of the nine would have either added or expanded an existing or expired provision or added something new.

One additional benefit beyond curtailing complexity is that perhaps his action will remind lawmakers and taxpayers that another type of tax legislation are bills that reduce or eliminate tax deductions, exclusions, or credits and lower tax rates.  Such proposals also help a tax system to be more equitable, simple, efficient and neutral!

What happened - On 10/10/15, Governor Brown vetoed nine bills that either created or expanded a tax credit or exclusion or exemption. He stated that the budget is only “precariously balanced” and that “without the extension of the managed care organization tax” that he “called for in special session, next year’s budget faces the prospect of over $1 billion in cuts.” Thus, he vetoed the nine bills which he noted would make it more difficult to balance the budget. Per Governor Brown: “Tax credits, like new spending on programs, need to be considered comprehensively as part of the budget deliberations.” [That's also something we don't hear lawmakers say often enough!]

The nine bills:
1)      AB 35 – low-income housing credit expansion
2)      AB 88 – sales tax exemption for energy or water efficient home appliances
3)      AB 99 – CODI exclusion for 2014 for principal residence debt
4)      AB 428 –  30% credit for certain seismic retrofit work
5)      AB 437 – research credit for qualified small businesses
6)      AB 515 – expand credit for certain food donations
7)      AB 931 – modify new employment credit to include certain Veterans
8)      SB 251 – credit for eligible access expenditures
9)      SB 377 – allow sale of certain housing credits

How Often Do California Governors Say No? The California Senate Office of Research updated an earlier report summarizing how often in the past California governors have vetoed legislation. Per this report dated 10/12/15, as of that date, Governor Brown has vetoed 14.13% of bills. This doesn’t surpass his 2011 record of 14.37% though. In the past five years, the governor has vetoed almost 13% of the 4,777 bills presented to him. The record of vetoes is held by Governor Deukmejian who vetoed 2,298 bills during his eight years in office. The report has data back to 1967.

What do you think?