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Tuesday, December 28, 2010

Employment Trends and the Income Tax

Part of the rationale behind "21st Century Taxation" as the title for this blog is that I think any degree of tax reform should consider how the world is changing - how we live, do business and view the environment. So, one approach to tax reform is to consider trends and what they mean for tax law design (tax policy). (The other key rationale for the blog title is the hope that tax reform can consider principles of good tax policy!)

Here are three recent headlines that indicate some important trends for which our existing US income tax rules mostly run contrary to.
  1. "Weighing Costs, Companies Favor Temporary Help," by Motoko Rich, New York Times, 12/19/10

  2. "Does part-time work pay?" by Anne Saint-Martin and Danielle Venn, OECD Observer, July 2010 (July! - I must be a bit behind in my reading.)

  3. "AXA Equitable Study Shows New Retirement Reality - People Will Work Longer" by AXA Equitable (12/16/10)

Our tax system tends to favor full-time, long-term work. Here are some reasons why I say this:

  • For decades, the income tax has encouraged employer-provided health insurance via the employee exclusion for it. This is viewed as increasing health care coverage but also costs and inefficiencies (see, among various reports, (1) CRS report on the exclusion (Nov.2008) and (2) President Bush Tax Reform Advisory Board final report, Chapter 5, pages 78 - 82 (2005). High costs for employers tends to lead them to only make health care insurance to full-time workers and not part-time workers. The system, increases health care coverage which particularly hurts individuals buying insurance on their own.
  • Greater use of defined contribution benefit plans over defined benefit plans. With workers uncertain as to how much retirement savings they need, this trend creates challenges. (Nellen, 401(k) Concerns and Ideas, AICPA Tax Insider, 11/13/08)
  • Worker classification rules that make it difficult or impossible to hire most temporary workers as independent contractors which would be simpler for tax purposes. The classification scheme is premised partially on the notion that employee status is preferable to better ensure tax compliance. A tax system that allows for greater classification flexibility along with rules that provide greater assurance that appropriate taxes are paid would better reflect workforce realities. Basically, if we want to be sure income and payroll taxes are paid and some minimal "safety net" is available, why not rewrite the rules to reach this result?
  • Rules for the exclusion for employer-provided health care, 401(k) and other retirement plan contributions, tend to benefit high income taxpayers more due to their higher tax bracket. Modifications to these rules, such as converting them to tax credits, would enable this "cost" to be spread out over more individuals.
  • Unreimbursed work-related expenses are only deductible as miscellaneous itemized deductions to the extent they exceed 2% of AGI. This is a high threshold and most workers can't deduct work-related costs. Temporary workers are likely to have more expenses due to the nature of their work.

If tax reform factors in economic, societal and environmental trends, the tax system should then be able to work in support of such trends and not contrary to them which arguably should increase economic efficiency.

1 comment:

Anonymous said...

Another factor is "offshoring", large corporations moving jobs and manufacturing facilities offshore, out of the USA in order to reduce costs. HP for example, closed a facility in Fremont California that manufactured very large computer systems (servers) in 2009, and replaced it with a new manufacturing facility in Shanghai. At the same time they were laying off people ("Workforce Reduction") in Cupertino California, they were hiring in Shanghai and Beijing. This reduced HP's costs, but left a lot of American engineers unemployed, reducing income tax revenue.
Some of these engineers eventually may have gone to work for startups and small companies. They would be attracted not only by full-time salaries, but also by the benefits, such as group health insurance. Such benefits are a significant cost for small companies. Keep in mind that startups and small companies are where much of the innovation (and risk) exist in new product development, because most large companies (like HP) are risk-averse, and would rather innovate by merger and acquisition.

I think the US tax system should create financial advantages for companies that keep jobs in the US, and should encourage the creation of startups. Yes, I am biased because I have seen and experienced these things, but I believe it is in the long-term interest of the US to create jobs in the USA and to encourage innovation. Economic pressure/incentives via tax policy are a more practical approach than regulation.