DOMA fate and federal tax laws

An article from Reuters, "Analysis: Gay Marriage Rights May Carry Bigger U.S. Tax Burden For Some," by Kim Dixon and Patrick Temple-West, 3/28/13, points out some federal tax issues that don't get mentioned often regarding same-sex couples. I'm quoted in the article and in the process did a search in the Internal Revenue Code on RIA Checkpoint that the term "husband and wife" is used 37 times. 

For example, the special tax rule that allows a married couple to exclude up to $500,000 of gain from sale of a principal residence is worded as follows (highlight added):

Section 121(b)(2) - "Special rules for joint returns. In the case of a husband and wife who make a joint return for the taxable year of the sale or exchange of the property—

 (A) $500,000 limitation for certain joint returns. Paragraph (1) shall be applied by substituting “$500,000” for “$250,000” if—

   (i) either spouse meets the ownership requirements of subsection (a) with respect to such property;

   (ii) both spouses meet the use requirements of subsection (a) with respect to such property; and

   (iii) neither spouse is ineligible for the benefits of subsection (a) with respect to such property by reason of paragraph (3)."

  
If the Supreme Court finds that the Defense of Marriage Act (DOMA; P.L. 104-199) is unconstitutional, it should then mean that the federal government will treat couples married per state law as married. It doesn't mean it will find them to be "husband and wife."  So, it appears that there would still need to be some fixes to the tax law to truly allow all married couples to be treated similarly under the federal tax law (and perhaps other federal laws also have language in need of change).

Congress could just add a statement to the law that any reference to husband and wife means any couple married under state law.  Or perhaps the IRS can make that interpretation.

And it goes beyond "husband and wife." The term "his spouse" is used 63 times in the Internal Revenue Code!  Just shows that the language is a bit dated - assumes taxpayers are male!

There would also be the issue of whether the IRS would expect same-sex couples to amend returns to file jointly. I don't think they will.  But, if a couple would have a tax savings, they should be able to.  As the Reuters article points out though, many same sex couples, particularly if both have similar income and they are beyond the 15% tax bracket, will have a marriage penalty!  That is, when they file jointly, their taxes will be higher than when they file two returns as single (or perhaps one uses head-of-household status).  The marriage penalty is something that we likely won't see disappear from the law anytime soon (the fix Congress put in place temporarily in 2001 and made permanent in 2012 only helps if you are in the 15% bracket).   

There will by several tax considerations if the Supreme Court overturns DOMA (which it should do). Some of these relevant tax rules for same sex married couples include taxation of fringe benefits, estate planning, retirement plans, and how dependents are claimed.

I believe a decision is expected in June.  
  

Prospects for CA Tax Reform

In addition to California voters enacting two tax propositions in November 2012, they also provided a two-thirds majority in both the Assembly and Senate of Democrats. With a supermajority of one party, any bill in which one person might have a tax increase has a better chance of passing. That, of course, doesn't guarantee it will happen or that if it did, the governor would sign it.

I have an article published this week Bloomberg BNA's Tax Management Weekly State Tax Report on Prospects for California Tax Reform. It lists and explains various weaknesses in California's tax system and what could and perhaps, should be done legislatively to improve it.

You can find the article here.

What do you think?

Senate Finance Committee's New Approach to Tax Reform

The Senate Finance Committee recently announced that it will be holding weekly meetings to discuss various topics.  There will be "tax policy option papers" posted to their website that list a variety of reforms and their source.  This seems more for discussion purposes because they also note that just because a suggestion is included in an option paper doesn't mean it is endorsed the the Chair or Ranking Member.

The first paper posted is on Simplification for Families and Businesses.  Simplification is a good topic to start with. That is likely the most serious problem with our tax system.  The complexity stems, though, from both the rules themselves and transactions that can be complex (both for families and businesses). The simplification topics also include ones focused on administration of the tax laws. They note the following key problems areas regarding administration:

Some specific concerns about tax administration today include the following:

• Overall complexity
• Identity theft
• Tax gap
• Problems with the filing schedule
• Regulating paid return preparers 

Here are a few interesting reforms (I think) from the list and my commentary:

• Repeal AMT - yeah! This is not only simplification but brings some logic to the system. Why should there by two taxes - your actual one and your perceived minimum one?
• Repeal phase-outs for itemized deductions and personal exemptions - yeah! These phase-outs disguise a higher tax rate and make it difficult for affected individuals to know their marginal tax rate.
• Change due dates to enable taxpayers and IRS to get certain information earlier - yeah! It is difficult to file a return with missing K-1s. Also, former Commissioner Shulman's idea to have the IRS take the information returns and prepopulate returns for taxpayers so they know before they file (rather than a few years later) what 1099s and W-2s they have. Click here to see the AICPA proposal on this.
• If the IRS is not successful in its appeal in the Loving case on the paid return preperer system, provide a statutory solution - yeah!  I think there is value in having Circular 230 cover more than attorneys, CPAs and Enrolled Agents. Attorneys and CPAs are already subject to regulation by their licensing bodies.  Why have a system where about 50% of the preparers are not subject to rules of conduct regarding due diligence, return preparation standards, and more. While the preparers are subject to penalties, why not lay out some rules of conduct for them to help them avoid the penalties.
• Revoke or deny passports for individuals who are seriously delinquent - interesting.  If you want someone to do something, consider a carrot or a stick.  If the stick of penalties isn't working, why not deny them something they want. Of course, not everyone wants a passport.

Here are a few I think should be on the committee's list:

• Simplify depreciation rules.  Today, the rules on depreciation are scattered over at least 4 Code sections (167, 168, 179, 280F) and over 60 pages, not counting regulations. Depreciation should not be this difficult.  It is because of special rules, often designed to address some perceived abuse (such as the mid-quarter convention and the limitation on depreciation of passenger cars).  [I have a paper with some ideas on this topic.]
• Remove special rules where divorced parents can decide which parent claims a child as a dependent. Just leave it as going to the parent who has the child residing them with the majority of the time. If the parents want a different financial result, work it out through child support and alimony. The tax law is not intended to solve problems, but to raise revenue for government operations.
• Repeal the kiddie tax.  This is intended to address the situation where parents or someone else gives income-producing assets to a child who is in a lower tax bracket. Well, if it is a valid transfer of assets, let the child pay based on their rate bracket.  Also, if tax reform does result in broadening the base and lowering tax rates, this is not as significant of an issue.
• Repeal the uniform capitalization rules (Section 263A).  Doing so will enable manufacturers and retailers to use their book method for identifying inventoriable costs and save compliance costs due to not requiring a separate set of inventory records and calculations.

I have a few more, but would like to see what you have.  What would you do to simplify the income tax?

Fixing the tax gap as part of tax reform

Source: IRS Tax Gap - http://www.irs.gov/uac/The-Tax-Gap

How does the net annual tax gap of $382 billion fit into tax reform?  This is a lot of money that is not collected due to both intentional and unintentional errors. For perspectives on understanding the significance of this amount, consider the following:

• Per OMB, the deficit for fiscal year 2011 was $1.3 trillion. The net tax gap represented about one-third of that amount (OMB, Table 1.1).
• Per IRS data, for FY 2011, the net tax gap exceeded net tax collections for the corporate income tax and tax-exempt unrelated business income tax ($175 billion), excise taxes ($47 billion), and estate and gift taxes ($7.3 billion) combined (IRS, Data Book, Table 1).

But, how can this gap be reduced? Much of it is from some businesses not reporting cash revenues. Some suggestions from GAO in a 2007 report include:

• Have the IRS provide assistance to first time Schedule C filers.
• Require Schedule C filers to have a separate bank account for business activity versus personal activity.
• Require consumers to issue 1099s to service providers if they provide a service that will increase the basis of the consumer's property (such as a new roof on your home).
• Require 1099s for payments under $600.

What about having businesses withhold on payments made to non-corporate businesses?  What about more audits of cash businesses?

For more on the tax gap and tax reform, please see my article - Narrowing the tax gap for tax reform, AICPA Tax Insider, 3/14/13.

What do you think? Will Congress consider tax gap measures as part of tax reform work? What do you think will help reduce the tax gap?

Gas Tax and Tax Reform

I was recently asked by a reporter for StreetsBlog.org if tax reform might also include an increase in the gas tax.   "Will an Upcoming Tax Reform Finally Be thePlace to Hike the Gas Tax?" by Tanya Snyder,
Streetsblog Capitol Hill, 3/14/13.

I said no.  Tax reform discussions have focused on the income tax. Also, an increase to the gas tax is likely something more for a budget discussion - are more funds needed for the Highway Trust Fund (yes).

Yet, tax reform will focus on cutting back or eliminating tax preferences ("base broadening"). Will that include ones, such as repealing percentage depletion, that benefit the oil and gas industry? President Obama has already suggested this action in his FY2013 budget released in February 2012. If these changes are enacted, tax liabilities for oil companies will increase and quite possibly gas prices.  That doesn't bring in money for the Highway Trust Fund though.  It does make the public less inclined to accept a gasoline excise tax increase and for their elected officials to give them one.  So perhaps tax reform or budget dsicussions should include allocating a portion of the general fund to the Highway Trust Fund.

Tax reform, a time to review the system and identify weaknesses and how to fix them, should ideally consider these transportation-related items:

1. Gasoline excise tax reform - with more fuel efficient vehicles on the road, people buy fewer gallons of gasoline and thus pay less excise tax, but likely drive as many miles or even more than prior to owning the fuel efficient car.  So, a new system is needed.  A common suggestion is to switch to a vehicle miles traveled (VMT) tax rather than the current fixed cents per gallon of gas purchased.  For more on the VMT tax, see this Rand study or just do a Google search on the topic. Oregon has been studying it for years and even did a pilot of it (see 12/27/12 Governing blog post). 
2. Carbon tax - can this help reduce greenhouse gas emissions? Can it help reduce the deficit?  See this March 2013 paper on this topic from the Tax Policy Center.

Excise tax reform can be separate from income tax reform. If income tax reform is focused on the budget though, it should be considered as it affects the Highway Trust Fund. If deficit reduction is also a focus of tax reform, the carbon tax should be part of the discussion.  Note that I'm not advocating for a carbon tax as I think there are some complexities in it and a significant producer of GHG emissions is carbon, such as using gasoline.  So, can existing excise taxes help to reduce GHG emissions?

A 3/15/13 infographic from the White House suggests creation of an Energy Security Trust with "revenue from profitable oil and gas companies."  It suggests that the funds be used for energy projects that will also help create jobs.  Why not also have it help fund the Highway Trust Fund?

What do you think? Should the gasoline excise tax be raised? If yes, when? What about switching to a VMT tax? What about a carbon tax?

Governors' Tax Reform Principles

The National Governors Association has released a 1-pager, set of Tax Reform Principles. The purpose is to help guide Congress in its tax reform work - and of course, consider state government interests.

Their first principle deals with sovereignty. It state: "No federal law or regulation, including their interpretation and implementation, should preempt, limit, or interfere with the constitutional or statutory rights of states to develop and operate their revenue and tax systems."  That sounds more like a principle relevant not to federal tax system changes, but possible laws Congress may very likely pass in the near future relevant to state taxation such as:

• Main Street Fairness - when might a state require a non-present vendor to collect sales tax.
• Income Tax Nexus - possible update to PL 86-272 to address more than only income taxes and more than only companies that sell tangible personal property.
• Mobile Workforce - to bring uniformity to state rules on when a temporary worker in the state is subject to tax and when their employer is required to withhold.

The next principle addresses public finance and the concern subnational governments have should the income tax exclusion for state and local bond interest be cut back. That would lead to people wanting  higher interest rate and a greater cost to state and local governments.  The exclusion is an upside-down subsidy in that it provides a greater benefit to higher income taxpayers than lower income taxpayers.  So, perhaps it could be converted to a tax credit with a cap.  Perhaps the feds can find another way to encourage bond acquisition without favoring high bracket individuals.

I encourage you to look at the NGA 1-pager. They did a good job boiling their concerns down to a few key ones, issuing this as tax reform heats up in Congress, and providing themselves a foundation on which to help draft comments on specific reform proposals.

What do you think?

Budget and tax system spending

In looking for budget cuts, lawmakers have to look at all of the deductions, exclusions and tax credits in the tax system. As Mr. Simpson and Mr. Bowles, co-chairs of President Obama's Deficit Commission that issued a report in 2010, say - these represent about $1.1 trillion of annual spending. That amount is about the same as the amount of discretionary spending in the federal budget - it's a lot of money. I'm talking about, for example, the roughly $95 billion cost for allowing less than 1/3 of mostly high income individuals to have a reduced tax bill because of their mortgage interest deduction on their main home or perhaps also a vacation home and perhaps even a home equity debt.  It includes over $110 billion for the approximately 60% of employees whose employer covers all or part of their health insurance cost which is not considered compensation to them.

Well, on March 5, the Senate Budget Committee held a hearing on this spending - Reducing the Deficit by Eliminating Wasteful Spending in the Tax Code. Chairwoman Patty Murray noted in her opening remarks:

"Over the next few weeks, both chambers of Congress will be debating fundamental choices about our country’s direction, and what kind of nation we will leave to our next generation. We will lay out proposals that reflect very different approaches to the many challenges we face. One central question we’ll be looking at is how can we bring down our debt and deficits, while putting the middle class and broad-based economic growth first? Today’s hearing will focus on how cutting wasteful spending from our tax code can help us meet this challenge."

Not all tax expenditures are wasteful spending, but most can likely be improved to better aim at their intended purpose. Some, such as a mortgage interest deduction on a vacation home, should be phased out.  Doing so can help the income tax system be more equitable and transparent.  If enough tax expenditures are eliminated or reduced, lower rates and deficit reduction are possible.

For a list of the tax expenditures and their cost, see the annual Joint Committee on Taxation report.

What do you think?

Tax policies for multijurisdictional income

On March 1, the SJSU MST Program, Santa Clara Valley TEI chapter and the Tax Policy Committee of the California Bar Taxation Section held their 3rd annual Tax Policy Conference. The theme - Tax Policies for Multijurisdictional Income.  This is a hot topic at both the international and national levels. Presenter materials are available here - but they can't replace the excellent presentations and ideas that were presented and discussed.

A few observations from the day's presentations:

• Despite occasional calls for formula apportionment at the international level, it likely would not work. It would be more difficult to get all countries to agree on this approach than it has been for the U.S. states. The diversity of economies and needs of developed versus even emerging countries are too great to think that a consensus approach can be reached. Transfer pricing will likely remain the standard, although countries may tighten the rules.
• There will be challenges in creating a territorial system in the U.S. In addition to politics of reaching a consensus, there is the issue of revenue neutrality and whether it is wise to employ a system different from other industrialized countries that tend to use a dividend exemption approach.
• Focus of governments will continue to be on taxing intangibles.
• The Mayo decision of the US Supreme Court likely gives the IRS greater authority on how it writes transfer pricing rules.
• The OECD BEPS (Base Erosion and Profit Shifting) report issued earlier this year should be reviewed.
• Many factors play a role in how multistate income is apportioned among states - nexus, sourcing, throwback, apportionment factors, and reporting system (combined/unitary or separate).
• Given the numerous complexities in apportioning multistate income in some economically or accounting-wise justifiable manner and the relatively low amount of tax it generates, perhaps states should just repeal their corporate income taxes. 

And economist Jon Haveman helped provide a broader picture of the economy in which tax reform would take place, should any significant changes actually occur. He noted that sequestration will hurt the economy for some time and that failure to adequately invest in infrastructure will hurt our economy for years.  That is all important to consider because reasons why Congress is exploring a more to a territorial tax system and a lower corporate tax rate is to improve competitiveness of US firms and to help the economy. But overlooking other big influences on the economy might limit the possible gains from reform.

What do you think?

Information on other conferences of the SJSU MST Program - http://www.tax-institute.com.

Gun and ammunition taxes

A February 2013 article in Governing magazine - "Gun Taxes and State Revenues" by Lemov, notes that some states are proposing and even enacting taxes on guns and/or bullets. Last fall, Cook County in Illinois enacted a new $25 tax per gun sold in the county in shops (see Chicago Sun-Times article of 11/9/12).

On a recent MST exam, I asked students to apply a few principles of good tax policy to a proposal to impose a tax on bullets. A few students came up to me to ask for clarification of what the tax was because it seemed so odd.

Is it odd to impose a tax on guns or bullets.  A tax on guns sounds simpler and more administrable, assuming it is imposed on businesses that sell guns.  To try to collect it on non-business sales would be challenging, but not impossible if the gun also needs to be registered. A tax on bullets can be a bit more challenging, but again, can be imposed on the manufacturer or the retailer.

Exemptions seem appropriate for law enforcement agency purchases.

Why are some jurisdictions considering them? As noted in the Governing article, jurisdictions incur costs due to gun violence and the tax can help cover the costs and perhaps reduce gun sales.

Why is the Cook County tax only $25 per gun?  Why not higher? Of course, too high and only the wealthy can buy guns and those who can't afford the tax will find other ways to acquire the weapons.

And, there needs to be a self-assessment requirement for individuals who go outside of the jurisdiction to buy a gun.  That adds complexity unless the gun already needs to be registered in which case the tax can be collected at that point.

The gun tax is contrary to what I call a tax oddity in a few jurisdictions - a sales tax holiday on guns!

What do you think about these types of taxes?