The Growing Consensus to Improve Our Tax Code

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The Growing Consensus to Improve

Our Tax CodeBy Harry Stein, Alexandra Thornton, and John Craig September 2014


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The Growing Consensus toImprove Our Tax CodeBy Harry Stein, Alexandra Thornton, and John Craig September 2014


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1 Introduction and summary

3 Common principles for good tax policy

5 Business tax improvements

5 Depreciation and expensing

8 Corporate jet subsidy

9 Last-in, first-out, or LIFO, accounting

10 Earnings stripping

11 Transfer pricing

13 Corporate-owned life insurance

14 Bank tax

15 Mark-to-market accounting for derivatives

15 Executive compensation

16 Business entertainment expenses

17 Percentage depletion

17 Dual capacity rules

18 Oil and Gas exception from passive loss limitations

19 Individual tax improvements

20 Exclusions from income and itemized deductions

23 Housing tax expenditures

24 Capital gains and dividends

27 Carried interest

28 Like-k ind exchanges

29 Gingrich-Edwards loophole

Contents


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vi Center for American Progress |The Growing Cons ensus to Improve Our Tax Code

31 Expanding the Earned Income Tax Credit

33 Conclusion

35 About the authors

37 Appendix A: Revenue estimates

39 Endnotes


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Introduction and summary | www.americanprogress.

Introduction and summary

Nearly all Americans agree ha he ax code needs improvemen, and progressives

and conservaives ideniy many o he same guiding principles when discussing ax

reorm. Tis repor discusses some aspecs o good ax policy ha are endorsed on

boh sides and hen idenifies specific proposals or which consensus appears o be

wihin reach. Tese areas o biparisan agreemen would raise revenue by a oal o

$1.4 rillion over 10 years. Addiionally, his repor idenifies expanding he Earned

Income ax Credi, or EIC, as an opporuniy o provide biparisan ax relie o

working amilies ha would cos he ederal governmen $84 billion over 10 years.(see Appendix A)

Unorunaely, rigid ani-ax ideology is prevening Congress rom considering and

implemening hese policies. For example, Americans or ax eorm, headed by

Grover Norquis, demands ha candidaes and incumbens pledge o oppose any

legislaion ha would increase axes.1Bu i poliicians can pu his exremism aside,

here are opporuniies hroughou he ax code o make biparisan improvemens

based on he principles endorsed by boh progressives and conservaives.

Te ideas in his repor could be implemened individually or as par o a package

o advance oher pressing economic prioriies, such as reversing he damaging,

across-he-board sequesraion cus ha will oherwise reurn in ull saring in

fiscal year 2016.2aken ogeher, hese ax policies could also lay he oundaion

or biparisan comprehensive ax reorm, and mos o hese ideas come rom exising

ax reorm proposals. Tis repor does no endorse any paricular comprehensive

approach o ax reorm and recognizes ha he auhors o hose comprehensive

ax reorm proposals may have differing views on he appropriae process or

accomplishing ax reorm.


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2 Center for American Progress | The Growing Consensus to I mprove Our Tax Code

Te goal o comprehensive ax reorm should no be used as an excuse o block

incremenal improvemens o raise revenue. Bu even i ani-ax ideology blocks

reasonable seps o raise revenue, Congress can sill ake limied acion o improve

he ax code. Some o he consensus ideas ha raise revenue could be paired wih

a biparisan expansion o he EIC in legislaion ha would have no ne effec on

revenue and hereore saisy Grover Norquiss axpayer Proecion Pledge.

As Congress searches or common ground o make our ax code work beter or

everyoneno jus he wealhy and well connecedhe ideas in his repor

provide a good saring poin or his discussion.


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Common principles for good tax policy | www.americanprogress.

Common principles for

good tax policy

I is an undersaemen o say ha Presiden Barack Obama ound litle o like in

he House epublican Budge, auhored by ep. Paul yan (-WI).3However,

progressives and conservaives can sill find broad agreemen on some principles

or beter ax policy.

Simplify

Presiden Obamas Framework or Business ax eorm poined ou ha ax

preerences add complexiy o he ax sysem, as well as subsanial compliance

burdens.4Similarly, he House epublican Budge saes ha, Te curren ax

code is needlessly complex and calls or making he ax code simpler.5axpayers

collecively spend approximaely 6 billion hours each year o comply wih ax

laws, represening los produciviy o abou $168 billion.6A simpler ax code

would be a welcome developmen, and progressives and conservaives can agree

on he principle ha he ax code should be as simple as possible.

Broaden the tax base

Boh sides also agree ha he ax base should be broadened by reducing he size

and number o ax breaks ha sheler income rom normal ax rules. Tese ax

breaks collecively increase ederal budge deficis by more han $1 rillion each

year.7Te House epublican Budge is concerned ha Te large amoun o ax

preerences ha pervade he code ends up narrowing he ax base.8

ecenly, House Ways and Means Commitee Chairman Dave Camp (-MI)proposed comprehensive ax reorm legislaion ha akes acion on some o he

mos egregious ax loopholes. ep. Camp poins ou ha boh Democras and

epublicans suppor closing wha he calls lobbyis loopholes.9Tese are

loopholes ha progressives have ried o close or years because hey enable

wealhy individuals and corporaions o avoid paying heir air share o axes.


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Scaling back hese ax preerences would have he added advanage o increasing

he efficiency o he ax code, meaning ha revenues are raised wih less effor and

cos o boh axpayers and he governmen. House epublicans even poin ou

ha Many o he deducions and preerences in he sysem are mainly used by a

relaively small class o mosly higher-income individuals, suggesing some

opporuniy or consensus policies o broaden he ax base in a progressive manner.10

Minimize economic distortion

Te hird principle o good ax policy ha boh progressives and conservaives have

ariculaed is ha he ax code should disor he economy as litle as possible, unless

hose disorions deliver appropriae public benefis ha ouweigh heir coss.

Presiden Obamas Framework or Business ax eorm aims o reduce disorions

ha hur produciviy and growh.11ep. yan says ha his budge scales back he

deducions, loopholes and carve-ous ha are disoring economic aciviy.12

o be clear, all ax breaks disor he economy by avoring a paricular choice or

caegory o axpayers. For example, he home morgage ineres deducion is

mean o encourage homeownership; he American Opporuniy ax Credi helps

sudens go o college; and he higher sandard deducion or he blind and/or

elderly suppors hose groups. However, absen a compelling reason o creae a

preerence, he ax code should rea axpayers equally.

Te biparisan ax policies ha ollow relae o eiher business income or individual

income and are arranged accordingly. All can be raced back o he hree common

principles above.


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Business tax improvements | www.americanprogress.

Business tax improvements

O he more han $1 rillion o expendiures in he ax code, more han $100

billion benefi seleced business ineress.13Many business ax preerences violae

one or more o he ax principles ha lawmakers agree should guide ax policy.

Policymakers on boh sides o he poliical aisle undersand ha business ax

expendiures can inerere wih air compeiion beween companies and disor

business decisions or he sole purpose o avoiding axes. oo requenly, hey resul

in unequal reamen across relaed asses, indusries, and ransacions. Furhermore,hey can affec invesmen decisions and lead companies o ake on oo much

deb or make oher risky decisions. Finally, as menioned above, ax preerences

complicae he ax sysem and add o he cos o business ax compliance.

Some ax expendiures were no creaed o achieve any public policy goal. Clever

atorneys and accounans have exploied some o hem in ways ha are no

consisen wih Congresss original inen in enacing he ax provision in quesion.

Ohers were originally inended o be narrow bu grew subsanially over ime as

circumsances changed and axpayers ound ways o ake greaer advanage o he

ax provisions.

Many businesses and policymakers admi ha he prolieraion o business ax

preerences is no ideal and eel ha governmen should no pick winners and

losers in he markeplace. In ac, policymakers on he lef and righ largely agree

on which provisions represen unair or disorionary subsidies, and heir soluions

o specific issues are ofen idenical.

Depreciation and expensing

Major invesmens in income-producing asses will deliver reurns o a business or

more han one year, so he ax code requires businesses o deduc he cos o hese

asses over several yearsinsead o deducing he enire cos in he firs year. Using


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his mehod, he ax deducion more closely maches he income generaed during

he useul lie o he asse. Since he value o major income-producing assessuch

as a car, compuer, or buildingdeclines over ime, he deducion claimed by

businesses over several years or hose coss is called depreciaion.

In heory, ax deducions or depreciaion should be spread over he useul lie ohe asse. However, he ax code conains many expensing and acceleraed

depreciaion rules, whereby companies may deduc invesmens in asses more

quickly han he asse acually depreciaes. Tese enhanced depreciaion deducions

reduce a businesss axable income, hus lowering ederal ax revenues and

effecively subsidizing he business. Some o hese special depreciaion rules are

designed o suppor small business growh or invesmen in paricular indusries.

While here may be limied siuaions where special rules are jusified, in mos

cases, principles o good ax policy call or minimizing he disorions caused by

special depreciaion rules.

ep. Camp makes reorming depreciaion rules a cenerpiece o his ax legislaion.

ep. Camps bill would repeal he modified acceleraed cos recovery sysem, or

MACS, and require companies o use rules similar o he alernaive depreciaion

sysem, or ADS.14Under curren law, companies can generally choose which o

hese sysems o use. MACS provides shorer depreciaion schedules han ADS

or many invesmens, enabling companies o deduc heir coss more quickly.

MACS also allows companies o accelerae depreciaion deducions on heir

asses by aking larger deducions iniially and smaller deducions in laer years.15

Te Join Commitee on axaion, or JC, esimaes ha repealing MACS would

raise abou $270 billion over 10 years as par o ep. Camps broader reorm.16


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TABLE 1

Examples of subsidized investment from accelerated depreciation

Cost recovery period in years; shorter periods give companies a tax benefit

Investment

Modified Accelerated

Cost Recovery System,

or MACRS

Alternative

depreciation system,

or ADS

Offshore oil and gas drilling 5 7.5

Oil and gas exploration 7 14

Oil refining 10 16

Oil and gas pipelines 15 22

Mining 7 10

Sugar and sugar-product manufacturing 10 18

Tobacco and tobacco-product manufacturing 7 15

Steel manufacturing 7 15

Amusement parks 7 12.5

Race horses older than 2 years old 3 12

Office furniture, fixtures, and equipment 7 10

Source: Internal Revenue Service, Publication 946(U.S. Department of the Treasury, 2014), Appendix B, available athttp://www.irs.gov/publications/p946/ar02.html.

eorming depreciaion rules o promoe he principle o simplificaion is a goal

shared by progressives and conservaives alike. An earlier biparisan ax reorm bill

rom Sens. on Wyden (D-O) and Dan Coas (-IN) ook a similar approach on

depreciaion reorm. Te Wyden-Coas legislaion would eliminae depreciaion

deducions ha exceed hose allowed under ADS rules.17Former Senae Finance

Commitee Chairman Max Baucus (D-M) also ocused on depreciaion as par o

his ax reorm effors. Sen. Baucus proposed replacing boh MACS and ADS wih a

new sysem ha would more closely approximae he useul lie o various asses.18

Tere are also oher opporuniies o reorm depreciaion and expensing rules

beyond repealing MACS. In 2013, he Cener or American Progress proposed

requiring businesses o deduc a porion o heir adverising expenses over several

years since hose invesmens yield long-erm benefis.19When expenses relaed o

inangible asses, such as adverising, are spread ou over a specified period o imein order o more closely mach hem wih he revenue hey generae, his is reerred

o as amorizaion. Under curren law, all adverising expenses may be deduced in

he year hey are incurred. A recen repor rom expers a PricewaerhouseCoopers

ound ha companies reap abou wo-hirds o adverising benefis in he years

afer ads are purchased.20
http://www.irs.gov/publications/p946/ar02.htmlhttp://www.irs.gov/publications/p946/ar02.html


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ep. Camps legislaion incorporaes his idea by only allowing companies o

deduc hal o heir adverising coss immediaely, wih he oher hal deduced

over a 10-year period.21Te JC esimaes ha his would raise revenues by $169

billion over 10 years.22ep. Camps House Ways and Means Commitee

epublican saff argue ha:

A portion o advertising has a useul lie beyond the tax year in which the expenses

are incurred because a portion o advertising creates long-lived intangible assets

such as brand awareness and customer loyalty, the benefits o which inure to the

company or many years afer the taxpayer incurs the expense. 23

Congressional ax reormers agree ha depreciaion schedules should be simpler

in accordance wih good ax principlesand should reflec he economically useul

lie o invesmens as closely as possible. eorming depreciaion rules has he

poenial o raise subsanial revenue in he firs 10 years, alhough he revenue gains

would be smaller in he long erm because businesses would sill be able o deduche ull coss o heir invesmen, jus over a longer ime horizon.24Since a porion o

he increased revenue rom depreciaion reorm diminishes in he long erm,

policymakers should no use hose shor-erm savings o jusiy a long-erm corporae

ax rae reducion. Economiss a he JC warn ha financing a corporae rae

reducion wih parial repeal o MACS resuls in a macroeconomic oulook ha is

worse by several measures han he curren law baseline.25Insead, depreciaion

reorm should only be used o offse emporary expenses, such as he inrasrucure

and educaion invesmens ha Presiden Obama linked o corporae ax reorm as

par o his Grand Bargain on Jobs proposal.26

Corporate jet subsidy

Te corporae je subsidy allows businesses o deduc he cos o an aircraf over

five years, insead o seven, as long as i is no used or a commercial purpose.27In

pracice, his means ha businesses are graned a larger ax benefi or jes ha

ranspor execuives han airlines are given or jes ha carry passengers.

In he 1986 ax reorm legislaion, he U.S. Deparmen o he reasury was granedhe auhoriy o change he imerame or deducing coss or classes o depreciable

asses, such as airplanes, afer sudying he economic depreciaion rae o he asse

class.28Tis auhoriy was only exercised once, in 1988,29and hen he echnical

and Miscellaneous evenue Ac repealed ha auhoriy laer ha year.30Policy


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expers have noed ha his change occurred no long afer he Depreciaion

Analysis Division announced a proposed sudy on he class lives o aircraf.31

Consequenly, his waseul subsidy remains on he books.

Forunaely, boh sides suppor broadening he ax base by eliminaing his ax

break. Te presidens FY 2015 budge eliminaes his special rule or corporaejes, which he JC esimaes would raise $3.8 billion over 10 years.32ep. Camp

also ends his subsidy as par o his wider reorm o depreciaion schedules.33Bu

ep. Camp singles ou his paricular change o depreciaion rules in his execuive

summary, calling i one o he lobbyis loopholes.34

Last-in, first-out, or LIFO, accounting

Las-in, firs-ou, or LIFO, is an accouning mehod ha some businesses use o

lower he profis hey repor or ax purposes, which in urn lowers heir ax bill.When a business sells an iem, is profi is he sale price minus he price paid by

he business o acquire he iem. When a business sells many similar iems, managers

can adop accouning rules or deermining which iem is sold insead o keeping

rack o each iem. Te LIFO rule assumes ha he iem sold was he one mos

recenly purchased by he business. Due o inflaion, he mos recenly purchased

iem usually coss he mos. For example, imagine ha an oil company buys one

barrel o oil or $65 and hen a second barrel or $85. I he oil company hen sells

a barrel o oil or $90, LIFO accouning assumes ha barrel o oil was purchased

or $85, no $65, meaning he oil company would only pay axes on $5 in profi.

Te rick o LIFO accouning is ha he iems purchased by he business earlier

and a lower prices are never acually sold or ax purposes, even hough hey are,

o course, sold in real lie. Tose are he iems or which he company would have

o repor he highes profis or ax purposes. Te ax savings a company achieves

via LIFO accouning are called he LIFO reserve.35Oil companies are major

beneficiaries o LIFO accouning since hey sell a lo o similar iemsbarrels o

oilor which he price ends o increase over ime.36

Boh ep. Camp and Presiden Obama suppor repealing LIFO accouning wihransiion rules so ha companies using LIFO do no have o pay axes on heir

enire LIFO reserve immediaely.37epealing LIFO accouning simplifies he ax

code, consisen wih a consensus principle o ax policy. Firs-in, firs-ou, or

FIFO, accouning would sill be permited. Tis mehod assumes ha when an


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iem is sold, i was he earlies one purchased insead o he mos recen one.

Under FIFO accouning, here are no iems ha are never sold or ax purposes.

epealing LIFO accouning would raise abou $106 billion over 10 years,38

alhough some o his gain is due o a shor-erm revenue boos as companies pay

axes on heir LIFO reserves.39

Earnings stripping

Te Unied Saes axes income earned by U.S. businesses under a worldwide

sysem.40Under his sysem, ax is owed o he Unied Saes regardless o wheher

he income is earned in Alabama or Albania. However, U.S. mulinaional

corporaions are also offered he opion o deer axes owed on profis earned by

heir oreign subsidiaries. axes can be deerred on hese profis unil he oreign

subsidiary repariaes he earnings back o heir U.S. paren company.41Bu while

hose oreign profis are considered offshore or ax purposes, companies ofenplace hose profis in U.S. bank accouns, where hey are able o earn ineres and

circulae hrough he U.S. economy.42Te deerral o axes on oreign corporae

income is he larges ax expendiure in he corporae ax code and is projeced o

cos he Unied Saes more han $80 billion per year.43

Deerral creaes an incenive o move profis o oreign subsidiar-

ies, especially hose wih low corporae ax raes, in order o

delay when axes are due in he Unied Saes. While some

profis may be in offshore locaions or legiimae business

reasons, oher profis earned domesically are being arificially

shifed offshore or ax purposes. Tis explains why 40 percen o

all oreign profis or U.S. corporaions in 2011 were booked in

Bermuda, Swizerland, Luxembourg, Ireland, and he

Neherlands.44Tese five counries are ofen reerred o as ax

havens because o heir exremely low ax raes.45

U.S. mulinaionals have clever ways o sripping earnings rom

heir U.S. books and shifing hose earnings o heir oreign

subsidiaries. One common way o do his is by maximizing debheld in he Unied Saes. Te ineres on ha deb can be

deduced as a business expense and hus reduce he U.S. companys axable

income. Corporaions are generally allowed o borrow money in he Unied Saes

o finance oreign operaions and hen deduc he ineres coss rom heir U.S.

Source: Bureau of Economic Analysis, U.S. Direct Investment Abroad (USDIA):Preliminary 2011 Data(U.S. Department of Commerce, 2013), table II.D.1,

available at http://www.bea.gov/international/usdia2011p.htm.

FIGURE 1

"Foreign" profits of U.S.

corporations in tax havens

Pretax foreign profits of U.S. corporations

in 2011 Ireland

Luxembourg

Netherlands

Switzerland

Bermuda

Everywhere else

11%

6%

12%

5%

6%

60%


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Business tax improvements | www.americanprogress.o

axable income immediaely, even hough heir oreign income is no axed unil i

is brough back ino he Unied Saes.46

Presiden Obama proposes deerring ineres deducions or deb conneced o

oreign profis unil hose profis are brough back o he Unied Saes and

axed.47

Te Join Commitee on axaion esimaes ha his would raise revenuesby abou $51 billion over 10 years.48ep. Camp proposes a much more limied

approach under which some ineres deducions are disallowed i he corporaion

is excessively leveraged in he Unied Saes, meaning heir U.S. ineres coss

exceed 40 percen o heir U.S. income or heir U.S. deb exceeds heir worldwide

deb by more han 10 percen.49Tis would raise revenue by $24 billion over 10

years as par o ep. Camps broader ax reorm.50

By prevening he loss o he underlying axable income, boh o hese proposals

ulfill he consensus ax policy goal o broadening he ax base by reducing ax

breaks ha sheler income rom normal axaion and only benefi a small class oaxpayersmulinaional corporaions.

Transfer pricing

Companies can shif income away rom he Unied Saes and oward low-ax

jurisdicions by selling inangible propery, such as copyrighs or paens, o heir

oreign subsidiaries in lower-ax counries and hen paying he oreign subsidiaries

handsomely or he righ o use he inangible propery. Te price paid by he U.S.

firm is a deducible expense and is difficul or ax officials o challenge.51By

seting ranser prices o maximize he ax benefis, U.S. mulinaional corporaions

can reduce heir U.S. ax bills wihou changing he real ownership o any asses or

he overall financial posiion o he mulinaional company.

Te ax code conains ranser pricing rules ha are supposed o preven muli-

naional corporaions rom gaming he ax sysem in his way. Te goal o ranser

pricing rules is o assure ha prices paid beween members o a mulinaional

corporae group reflec wha would have been bargained or beween unrelaed

paries, known as he arms lengh principle.52

In he case o inangibles, however, many o he ools used o assess he accuracy

o pricing become less reliable and easier o evade.53Firs, comparable ransacions

beween wo unrelaed companies do no ofen exis or many o he ransacions


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ha occur wihin a corporae group.54As a resul, governmen ax adminisraors

do no have a baseline o use when deermining wha an arms lengh ransacion

would have looked like. Second, he unique naure o paens, copyrighs, and

rademarks compounds his problem, since even he closes examples o ransers

o righs beween unrelaed companies will involve inangible asses wih signifi-

can differences.55

ep. Camp recognized he problems wih curren ranser pricing rules in 2011,

and one o he remedies he offered a he ime was a provision in Presiden

Obamas budge called he Excess eurns Proposal.56Tis would immediaely ax

he excess profis o a oreign subsidiary i hose profis are relaed o a ranserred

inangible and were axed a a low oreign rae.57Te proposal defined excess

profis as gross income ha exceeds 150 percen o coss.58Tis policy would raise

abou $21 billion over 10 years.59

Tis is no a penaly; i simply scales back he ax benefi provided by deerral incases when corporaions are abusing his benefi. Te Excess eurns Proposal

only arges oreign profis ha have enjoyed a low effecive ax rae. Te proposal

would ax all excess profis i hey ace a oreign ax o 10 percen or less and phase

ou as he effecive oreign ax rae approaches 15 percen.60By argeing only

profis in low-ax jurisdicions, he proposal narrows is ocus o he mos egre-

gious cases o ranser pricing ax avoidance.

ep. Camp evenually chose a differen opion o crack down on ranser pricing

ax avoidance in his comprehensive ax reorm bill. Under his proposal, oreign

inangible income would be axed immediaely a a reduced rae, meaning deerral

rules would no apply.61ep. Camps bill would accomplish his by allowing

companies o deduc 40 percen o his income rom axaion while axing he res

a normal raes. axing 60 percen o oreign inangible income a he 25 percen

corporae ax rae in ep. Camps bill would resul in an effecive ax rae o 15

percen. I he corporae ax rae remained a 35 percen, he effecive ax rae on

oreign inangible income would be 21 percen.

Boh progressives and conservaives agree ha ranser prices should be as accurae

as possible so ha corporaions pay he correc amoun o ax. Boh sides also agreeha he curren ranser pricing sysem ofen ails o properly value inangible asses

ranserred beween corporae subsidiaries, resuling in an erosion o he U.S. ax

base, and hey even consider similar soluions o improve ranser pricing rules.


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Corporate-owned life insurance

Some corporaions ake ou lie insurance policies on heir employees, ofen o

help pay or deerred compensaion coss such as reiremen and healh care.62Lie

insurance policies benefi rom imporan ax preerences, so corporae-owned lie

insurance reduces he ax bills o many businesses.63

Tose ax advanages arecompounded when a business borrows money o pay or corporae-owned lie

insurance since he ineres paymens on ha borrowed money are ax deducible.

Under curren law, corporae ineres expenses are no supposed o be deducible

i he ineres paymens are conneced o ax-advanaged lie insurance policies,

since he company is already benefiting rom avorable ax rules or lie insurance.

However, an excepion o his rule applies i he corporae-owned lie insurance

policy covers he companys direcors, officers, employees, or someone who owns

a leas 20 percen o he business. Te excepion was inended o make i easier

or companies o provide or succession planningor example, when a criicalexecuive such as he company ounder dies. In such cases, employees hroughou

a company can be harmed, and i makes sense o aciliae business planning ha

insures agains such unexpeced evens.

As i urns ou, however, he excepion was oo broadly worded, enabling companies,

especially large ones wih housands o employees, o ake advanage o deb-financed

lie insurance invesmens as a ax planning ool.

Tese companies are effecively engaging in a pracice known as ax arbirage,

which means hey are aking advanage o differences in he way ransacions are

reaed or ax purposes. In large companies wih los o execuives and a large

amoun o deb, he company can effecively use non-deb-financed insurance

policies, which enjoy ax preerences, o und ineres paymens on deb used or

oher purposes, while also deducing hose ineres paymens.

Boh Presiden Obama and ep. Camp advocae scaling back he excepion ha

allows companies o deduc ineres paymens on deb when ha company also

purchases lie insurance. Boh plans eliminae he excepions or officers, direcors,

and employees.64

Tus, he excepion o he rule agains corporaions deducingineres paymens on deb conneced o lie insurance policies would only be

available or lie insurance policies covering owners who hold a leas 20 percen

o he business. Te proposal reduces economic disorion by more narrowly

argeing he excepion o acual business succession planning sraegies.65


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Te JC esimaes ha Presiden Obama and ep. Camps proposal would raise

revenues by abou $7 billion over 10 years.66

Bank tax

Our economy is sill digging ou o he wors recession since he Grea Depression

a recession caused in large par by excesses wihin he financial secor.67A he

same ime, Wall Sree bonuses grew 15 percen in 2013, reaching amouns no

seen since 2007.68Progressives and conservaives alike are saring o realize ha

Wall Sree is no currenly paying is air share in axes and agree on some o he

same ideas or fixing his problem.

When Congress passed he Emergency Economic Sabilizaion Ac o 2008,

commonly known as he bank bailou, i required he presiden o presen a plan

o recoup is coss rom he financial secor.69Presiden Obama ulfilled hisrequiremen by including a Financial Crisis esponsibiliy Fee in his FY 2015

budge, which would apply o large financial insiuions wih asses exceeding $50

billion.70Te ee would increase as a financial insiuions liabiliies increase and

would be lower or more sable sources o unding. Te JC esimaes ha his

would raise $48 billion over 10 years.71

ep. Camp also advocaes a new ax on big banks as par o his ax reorm bill , bu

i differs in key respecs rom Presiden Obamas plan. Firs, ep. Camp calls or a

higher bank ax han Presiden Obama. Te JC esimaes ha ep. Camps bank

ax would raise $86 billion over 10 years.72Second, ep. Camps ax is ocused on

only he larges financial insiuions and hus would no apply o financial

insiuions wih less han $500 billion in worldwide asses.73

ep. Camps House Ways and Means Commitee epublican saff noes ha, his

concep has srong biparisan, bicameral suppor.74Te bank ax is consisen

wih consensus ax principles o reducing economic disorions in ha i requires

big banks o miigae he coss ha may arise rom he sysemic risk posed by

hese insiuions o he overall economy and he general public.


21/52


Mark-to-market accounting for derivatives

Te financial secor has creaed a wide range o new producs over he pas 50

years o diminish he risk o loss or increase he opporuniy or gain on various

underlying producs. Tese so-called derivaive producs include orwards,

uures, opions, and noional principal conracs, as well as converible deb,coningen deb, srucured noes, and cerain securiies lending ransacions.

Te use o hese financial derivaives has grown dramaically in recen years.75

Te ax reamen o gains and losses on hese derivaives has evolved over he

years as well, and he JC repors ha inconsisen ax reamen has creaed

opporuniies or invesors o use derivaives o lower heir ax bill.76Te ax rules

or some derivaives require heir owners o pay axes each year on heir gains,

while oher ypes o derivaives do no creae ax obligaions unil hey are sold.77

Some derivaives also benefi rom capial gains ax preerences, while ohers do

no.78In many cases, financial insiuions can consruc insrumens ha areeconomically equivalen bu achieve differen ax planning resuls.

Many ax expers have called or a uniorm mark-o-marke sandard or axing

derivaives, which means ha he gain or loss on derivaives would be recognized

each year or ax purposes, regardless o wheher or no he derivaives are acually

sold.79Tis would promoe boh he shared principle o simplificaion and he

principle o reducing ax-moivaed disorions in economic behavior. Presiden

Obama and ep. Camp boh advocae requiring mark-o-marke ax reamen or

derivaives, wih excepions or derivaives used specifically o hedge an acual

business risk. Te use o derivaives or ax avoidance is one o ep. Camps lobbyis

loopholes,80and he JC esimaes ha he mark-o-marke rules included in

Presiden Obamas budge would raise $14.3 billion over 10 years.81

Executive compensation

In he 1990s, Presiden Bill Clinon and Congress moved o rein in ax benefis or

excessive execuive compensaion by placing a $1 million cap on deducible

compensaion or a firms highes paid employees. Businesses are sill allowed o payheir op execuives as much as hey choose, bu annual compensaion exceeding

$1 million is no ax deducible o he business. However, he $1 million deducibiliy

limi does no include pay ha is based on perormance. As a resul, companies

have shifed heir execuive compensaion ino perormance-based orms o pay,

such as sock opions, which coninue o be deducible. A he same ime, execuive

compensaion has coninued o soar.82

The use of

derivatives for ta

avoidance is on

of Rep. Camps

lobbyist loopho


22/52


According o ep. Camps epublican saff on he House Ways and Means

Commitee, shifing execuive compensaion o sock opions and relaed vehicles

has led o perverse consequences as some execuives ocus on and could, in

rare cases, manipulae quarerly resuls (off o which heir compensaion is

deermined), raher han on he long-erm success o he company.83Tis violaes

he ax principle o minimize harmul economic disorions.

ep. Camps ax reorm bill would repeal he excepion or perormance pay rom

he $1 million limiaion on ax-deducible execuive compensaion, so he cap

would begin o cover sock opions.84Tis provision would raise abou $12 billion

over 10 years.85Senae Budge Commitee Chairwoman Paty Murray (D-WA)

also inroduced legislaion o repeal he excepion or sock opions,86as have

Sens. Jack eed (D-I) and ichard Blumenhal (D-C).87Tose wo bills would

also broaden he compensaion limi o cover all employees insead o jus a ew

op execuives and would raise revenue by approximaely $50 billion over 10 years.88

Business entertainment expenses

Companies are currenly allowed o deduc hal o heir enerainmen coss i he

enerainmen is or business purposes.89I is difficul or he IS o ascerain

wheher a resauran bill, gol ees, or oher enerainmen expenses are ruly

relaed or necessary o conducing he companys business, nor is i possible or

he IS o police claims o business enerainmen expense. Moreover, here is a

subsanial elemen o personal enjoymen or he companys employees, apar

rom any business purpose.

In recogniion o hese acs, ep. Camps ax reorm bill eliminaes enerainmen

deducions, which he JC esimaes would raise abou $15 billion over 10

years.90ep. Camps House Ways and Means Commitee epublican saff explain

ha I is difficul or he IS o deermine wheher enerainmen expenses are

direcly relaed o a rade or business, creaing uncerainy or axpayers as well as

he poenial or significan abuse.91Te Cener or American Progress agreed

wih his assessmen in an earlier repor, iled Prioriies or Progressive, Pro-

Growh Corporae ax eorm.92

Tese raionales are consisen wih consensusprinciples o simpliying he ax code and minimizing disorions in oherwise

normal economic decisions, since some businesses may be choosing o spend

more on enerainmen because o he deducion.


23/52


Percentage depletion

egardless o ones views on energy independence, polluion, and global warming,

he enormous profis earned by he large companies in he oil and gas indusry

indicae ha his is no an indusry in need o governmen subsidies.93Presiden

Obamas FY 2015 budge proposes eliminaing oil and gas ax subsidies hawould oherwise be worh abou $51 billion over 10 years.94One such subsidy is

he so-called percenage depleion rule.

Businesses engaged in mining, drilling, sone quarrying, and imber harvesing

deduc heir capial coss using one o wo depleion mehods. All companies may

use he cos mehod, which allows companies o ake a deducion ha is proporional

o he share o resources exraced rom heir propery.95Some companies also

have he opion o use he percenage depleion mehod, in which he company

deducs a fla percenage rom he gross income earned rom he propery.96Te

percenage depleion mehod ofen delivers larger ax benefis. Since percenagedepleion allows a deducion ha is unrelaed o he acual share o exraced

resources, percenage depleion deducions can exceed he companys acual

capial coss over ime.97

Congress already repealed he percenage depleion subsidy or he larges oil

companies in 1975, bu he subsidy is sill available or smaller producers.98ep.

Camp proposes eliminaing percenage depleion enirely and requiring all

axpayers o use he cos depleion rules.99Presiden Obamas FY 2015 budge

eliminaes percenage depleion as i applies o ossil uel producers, which JC

esimaes would raise revenues by $17 billion over 10 years.100Eliminaing he

subsidy is consisen wih he consensus principle o broadening he ax base by

reducing ax breaks ha sheler income rom normal axaion.

Dual capacity rules

When a mulinaional company repariaes oreign-sourced income, he oreign

ax credi allows he company o subrac rom heir U.S. ax bill any income ax

hey have paid o oreign governmens on ha same income, excep o he exenhe oreign ax exceeds he companys U.S. ax. Tis policy exiss o avoid double

axaion; he oreign ax credi prevens corporaions rom paying axes wice on

he same oreign income. A he same ime, corporaions canno claim a oreign

ax credi or paymens made o oreign governmens in reurn or specific benefis,

since hose paymens are no an income ax; raher, hey are more like an ordinary

business expense such as wages or ren, which are deducible rom axable income.101

Percentage

depletion

deductions can

exceed the

companys actu

capital costs

over time.


24/52


Since a deducion only reduces axable income, raher han he ax bill isel, he

corporaion ges less o a ax break rom he deducion han hey would rom he

oreign ax credi. Companies ha pay boh income axes and oher expenses o

oreign governmens are known as dual capaciy axpayers.

An oil company, or example, may deduc royalies paid o a oreign governmenor drilling righs as a business expense, bu i may no claim a oreign ax credi

or hose paymens.102However, some oreign governmens impose levies on oil

and gas companies ha are higher han he oreign counrys general income ax

rae.103In realiy, par o he levy represens an income ax equivalen and he res

represens a royaly or he righ o exrac he counrys naural resources. Ye, oil

and gas companies can rea hese paymens as income axes and hus claim a

oreign ax credi or he enire amoun.104

Te biparisan Wyden-Coas ax reorm bill, along wih Presiden Obamas FY

2015 budge, reorms rules or dual capaciy axpayers o preven inappropriaeuse o he oreign ax credi or hese ordinary business expenses.105Te JC

esimaes ha his would raise $12.2 billion over 10 years.106In essence, his

promoes simpliciy in ha i keeps he lines clear beween axes paid on oreign

income and ordinary business expenses necessary o earn ha income.

Oil and Gas exception from passive loss limitations

Te ax eorm Ac o 1986 cracked down on he use o unprofiable invesmens

as ax shelers by imposing passive loss limiaions, which preven invesmen losses

rom being used as ax deducions agains oher sources o income.107Insead,

businesses may carry hose passive losses orward and deduc hem in uure years

rom any profis heir invesmen evenually earns.108However, Congress made an

excepion or oil and gas, which he Independen Peroleum Associaion o America

deends on he grounds ha i encourages invesmen in oil exploraion since oil is

no discovered in every drilled well.109However, his does no disinguish i rom

oher business venures.

Presiden Obamas FY 2015 budge and ep. Camps ax reorm bill boh eliminaehe oil and gas excepion rom passive loss limiaions, which JC esimaes will

raise revenue by $224 million over 10 years.110Te explanaions rom boh he

Obama adminisraion and ep. Camps House Ways and Means Commitee

jusiy his provision on he grounds ha i reas all axpayers more equally.111


25/52

Individual tax improvements | www.americanprogress.o

Individual tax improvements

Te overwhelming majoriy o he more han $1 rillion o expendiures in he ax

code goes o individuals. While some o hese provisions deliver significan ax

relie o he poor and middle class, mos o he benefis rom he major individual

ax expendiures flow o he wealhy.112

81st-90th: 12.4%

FIGURE 2

Major tax expenditures for individuals mostly benefit the wealthy

Share of total tax benefit by income quintile

Lowest quintile Second quintile Middle quintile Fourth quintile Highest quintile

40%

20%

0%

Note: The tax expenditures included in this analysis are the exclusion for employer-provided health insurance, exclusion ofpension contributions, step-up in basis for inherited assets, exclusion of Social Security and Railroad Retirement benefits,mortgage interest deduction, state and local tax deductions, charitable donation deduction, Earned Income Tax Credit, and Child

Tax Credit. The distribution of each individual provision varies significantly from their combined distribution.

Source: Congressional Budget Office, "The Distribution of Major Tax Expenditures in the Individual Income Tax System" (2013),

available at http://www.cbo.gov/publication/43768.

91st-95th: 8.6%

96th-99th: 13%

Top 1: 16.6%

18.2%

13.3%10.1%7.7%

Te Unied Saes is currenly experiencing income inequaliy o hisoric proporions.

Te prolieraion o ax expendiures ha benefi upper-income axpayers exacerbaes

his inequaliy and erodes he progressive srucure o he income ax sysem. Te

progressive income ax is a criical elemen o our overall ax sysem, since i offses

he regressive srucure o ederal payroll and excise axes, as well as many saeand local axes.

Paricularly a he high end o he income disribuion, allowing axpayers o sheler

income rom ax ha oherwise would apply reduces he revenues ha und


26/52


imporan public programs and orces he res o us o make up he difference

somehow. Tus, as a mater o airness, i makes sense o broaden he individual ax

base by eliminaing ax breaks ha sheler income rom normal axaion or only

benefi a small class o upper-income people. In addiion, Congress should close

loopholes ha disor normal economic choices or he sole aim o avoiding ax.

Policymakers o all sripes, as well as axpayers, also seek a simpler ax code. Te

secions o he ax code ha apply o individuals are loaded wih complex, unair, and

economically disoring expendiures, and boh conservaive and progressive leaders

have begun o reach a consensus on how o improve he ax code or individuals.

Exclusions from income and itemized deductions

Iemized deducions are an assormen o deducions aken by axpayers in lieu o

he sandard deducion.113One-hird o all axpayers iemize heir deducions inseado aking he sandard deducion.114Te five larges iemized deducionswhich

are or morgage ineres, sae and local income or sales axes, chariable donaions,

real esae axes, and high medical billscos he ederal governmen more han

$200 billion per year.115

Te wealhies Americans are he mos likely o iemize and also claim he larges

iemized deducions. In 2011, 98 percen o axpayers who earned more han $1

million per year chose o iemize heir deducions, and hose who did claimed an

average o $441,719 in iemized deducions.116Meanwhile, 55 percen o axpayers

who made beween $50,000 and $100,000 iemized heir deducions, claiming an

average iemized deducion o $19,441.117

In addiion o claiming higher iemized deducions, he wealhy also benefi he

mos rom each dollar hey deduc. Like all deducions, iemized deducions have

wha expers call an upside-down effec in our progressive ax rae srucure.118

Since high-earning individuals pay a higher marginal rae, a reducion in heir axable

income reduces heir oal ax bill more han an idenical deducion or someone

acing a lower marginal rae. For insance, a $1,000 deducion or a middle-class

individual acing a 25 percen marginal ax rae would reduce heir ax liabiliy by$250, while a $1,000 deducion or a higher earner acing a 35 percen marginal

ax rae would reduce heir ax bill by $350.


27/52


Te combinaion o he upside-down effec and higher income earners claiming

larger iemized deducions resuls in he ax benefis o iemized deducions flowing

largely o hose a he op o he income disribuion. According o esimaes by

he ax Policy Cener, more han one-quarer o he ax savings rom iemized

deducions in 2015 will go o he 567,000 filers who make more han $1 million

per year, while less han one-fifh will go o he 130 million axpayers who makeless han $100,000 per year.119While a middle-class axpayer who makes $75,000

o $100,000 annually will ge an average ax cu o $1,097 rom iemized deducions,

axpayers who earn more han $1 million per year will reduce heir ax bill by an

average o $84,573 using iemized deducions.120

Source: Tax Policy Center, Tax Benefit of All Itemized Deductions; Distribution of Federal Tax Change by Cash Income Level, 2015 (2013), available athttp://www.taxpolicycenter.org/numbers/displayatab.cfm?Docid=3856&DocTypeID=1.

FIGURE 3

Itemized deductions primarily benefit the wealthy

Average dollar benefit from itemized deductions, by taxpayer income

$0 $5 $36 $98 $210 $550 $1,097 $2,398$6,472

$16,531

$84,57

Less than

$10,000

$10,000

$20,000

$20,000

$30,000

$30,000

$40,000

$40,000

$50,000

$50,000

$75,000

$75,000

$100,000

$100,000

$200,000

$200,000

$500,000

$500,000

$1,000,000

More th

$1,000,0

In addiion o iemized deducions, exclusions rom income have he same upside-

down, regressive characerisics, since hose in higher ax brackes benefi more rom

a reducion in axable income. Te single larges expendiure in he enire ax code

is he exclusion or employer-provided healh insurance. Generally, workers pay

axes on he compensaion hey receive rom work, bu ha compensaion is exemp

rom boh income and payroll axes when i comes in he orm o healh insurance.

Te exclusion or employer-provided healh insurance subsidizes coverage or he

nearly hal o all Americans who receive healh insurance hrough heir jobs.121

Te exclusion is expeced o reduce income ax revenues by $196 billion in FY

2014 alone wih an addiional $123 billion reducion in payroll ax receips.122


28/52


Bottom 20% 21% to 40% 41% to 60% 61% to 80% Top 20%

Source: Congressional Budget Office, "The Distribution of Major Tax Expenditures in the Individual Income Tax System" (2013),available at http://www.cbo.gov/sites/default/files/cbofiles/attachments/43768_DistributionTaxExpenditures.pdf.

FIGURE 4

The exclusion for employer-provided

health insurance is regressive

Share of benefit by income quintile

8%

14%

19%

26%

34%

Some deducions and exclusions suppor imporan policy objecives bu never-

heless deliver he mos benefi o high-income axpayers who need governmensubsidies he leas. o address his problem, Presiden Obama has proposed limiing

he value o mos deducions and exclusions, including iemized deducions and he

employer-provided healh insurance exclusion, o 28 cens or every dollar deduced

or excluded.123Tis limiaion would mean ha a billionaire would no receive a

greaer subsidy han a middle-class axpayer when he wo deduc or exclude he

same amoun rom heir income. For axpayers a or below he 28 percen marginal

ax rae, his proposal would no change anyhing. In 2014, he upper end o he

28 percen ax bracke is $186,350 or single filers and $226,850 or married

axpayers filing joinly.124Tose wih higher incomes would see he ax savings o

heir deducions and exclusions limied o 28 cens or every dollar. Tis proposal

would raise nearly $500 billion over 10 years.125

Similarly, ep. Camps ax reorm bill would limi he value o mos deducions

and exclusions o 25 cens on he dollar. ep. Camps bill lowers he op ax rae o

35 percen, which includes a 10 percen surax ha canno be reduced by mos

deducions or exclusions wih he excepion o chariable conribuions.126

Incomes greaer han $400,000 or single filers, or $450,000 or join filers, would

be subjec o he surax. Since mos deducions and exclusions would only apply

o he 25 percen regular ax rae and no he 10 percen surax, heir value wouldbe limied o 25 percen. So ep. Camps surax acs in subsanially he same way

as Presiden Obamas limiaion.

Each o hese proposals advances he principle o broadening he ax base by reducing

he amoun o income ha can be shelered rom normal axaion.


29/52


Housing tax expenditures

Federal housing subsidies flow primarily hrough he ax code. Te Office o

Managemen and Budge, or OMB, expecs he morgage ineres deducion o cos

he governmen $70 billion in FY 2014 alone.127Te ederal ax deducion or sae

propery axes paid will cos abou $32 billion in FY 2014.128

Homeowners also dono have o pay axes on up o $250,000 o capial gains when hey sell heir primary

residence, which doubles o $500,000 or married axpayers. Ta capial gains

exclusion will cos he governmen abou $52 billion in FY 2014.129ogeher, hese

hree housing ax expendiureswhich primarily benefi higher-income axpay-

ers130oal $154 billion or FY 2014. For a comparison, he enire U.S. Deparmen

o Housing and Urban Developmen, which adminisers he governmens larges

affordable housing programs, will spend abou $42 billion in FY 2014.131

Unorunaely, hose cosly housing ax subsides

do no seem o be an efficien way o promoehomeownership. A recen repor rom he

conservaive Sree Insiue ound ha ax

expendiures or housing have creaed a

preerence or larger houses wihou incenivizing

home buying overall.132Furhermore, he benefis

o he morgage ineres deducion flow over-

whelmingly o hose who could afford o buy a

home wihou governmen assisance, wih more

han 50 percen o he ax value o he morgage

ineres deducion going o he op 10 percen

o income earners.133

Limiing he value o iemized deducions

would reduce he morgage ineres deducions disproporionae benefi or high-

bracke income earners, bu addiional reorms could sill be made. Currenly, he

ineres on morgages up o $1 million is deducible, bu ep. Camp would phase

ha limi down o $500,000 over several years.134Tis would raise revenues by

abou $41 billion over 10 years.135ep. Camp argues ha his ceiling on he

morgage ineres deducion suppors homeownership, wihou encouraginghomeowners o buy larger homes or ake on excessive morgage deb. Sen. Mike

Lees (-U) Family Fairness and Opporuniy ax eorm Ac would lower he

limi or he morgage ineres deducion even urher o only cover ineres

paymens on up o $300,000 o a home morgage.136

Tax subsidiesTotal HUD spending

Source: Office of Management and Budget, Fiscal Year 2015 Budget of the U.S. Government(The W

House, 2014), available at http://www.whitehouse.gov/omb/.

FIGURE 5

Federal housing subsidies flow primarily throughthe tax code

Budgetary impact of selected policies in 2014, in billions of do

$42

$154$150

$50

$0

$100

Mortgage interest

deduction

Property tax deducti

Capital gains exclusi

for home sales


30/52


Furhermore, ep. Camp ighens he rules or excluding capial gains rom he sale

o a house in his reorm in order o ocus he benefi on long-ime homeowners.

ep. Camp would limi he exclusion o homeowners who lived in heir home or

five ou o he pas eigh years, while curren law only requires homeowners o live

in heir home or wo ou o he pas five years o claim he exclusion. His plan would

also phase ou he exclusion or axpayers wih income exceeding $500,000.137

Tis provision would raise abou $16 billion over 10 years.138

Te progressive coaliion Americans or ax Fairness, o which he Cener or

American Progress is a member, and he Naional Womens Law Cener highlighed

ep. Camps proposals o limi he morgage ineres deducion and he capial gains

exclusion or home sales in a repor iled A Good Saring Poin: 23 Opions

rom ep. Dave Camp or Closing ax Loopholes.139

Separaely, a recen repor by Benjamin H. Harris o he Brookings Insiuion and

C. Eugene Seuerle and Amanda Eng o he Urban Insiue advocaes capping hemorgage ineres deducion a 15 percen and repealing he propery ax deducion,

while inroducing one o hree proposed ax credis o encourage homeownership.140

Te paper offers a choice beween a firs-ime homebuyer ax credi o up o $12,000,

or $18,000 or married axpayers; a propery ax credi worh up o $1,400 per year,

or $2,100 or married axpayers; or an annual homeowner ax credi o $870 per

year, or $1,300 or married axpayers, ha would phase ou or wealhier home-

owners.141Each o hese ideas has benefis and drawbacks, bu hey all seek o

disribue ax relie more evenly among homeowners and creae a more efficien

incenive o encourage homeownership.

Te ax code plays an imporan role in housing subsidies, bu progressives and

conservaives agree ha he curren sysem goes beyond promoing homeownership

o deliver unnecessary subsidies o wealhy homeowners. Tus, as discussed

above, boh sides have ideas o reorm ax expendiures or housing, and all o

heir ideas aim o reduce he ax breaks a he higher end o he income specrum.

Capital gains and dividends

Our ax sysem gives preerenial reamen o income rom capial gains and

dividends, wih hese sources axed a lower raes han income rom work, such as

salaries. Labor income is axed a a op marginal rae o 39.6 percen and also

subjec o payroll axes, while capial gains and dividends are axed a a op rae o

23.8 percen and exemp rom payroll axes.142


31/52


Under curren law, capial gains on asses held or more han one year and dividends

rom corporae sock are axed a reduced raes wih a base rae o 20 percen or

high-income households. Addiionally, he Affordable Care Ac, or ACA, added a

3.8 percen surax on invesmen income or high-earners, bringing he op ax

rae o 23.8 percen or capial gains and dividends. Te CBO esimaed in 2013

ha 68 percen o he benefi rom reduced axes on invesmen income flowed ohe op 1 percen, and 93 percen o he benefi flowed o he op 20 percen. Te

botom 40 percen receives less han 1 percen o he proceeds rom reduced

capial gains and dividend ax raes.143

FIGURE 6

Low tax rates for capital gains and dividends almost exclusivelybenefit the wealthy

Share of total tax benefits

Lowest quintile Second quintile Middle quintile

5%2%0%0%

Fourth quintile Highest quintile

75%

50%

25%

0%

Source: Congressional Budget Office, "The Distribution of Major Tax Expenditures in the Individual Income Tax System" (2013),available at http://www.cbo.gov/sites/default/files/cbofiles/attachments/43768_DistributionTaxExpenditures.pdf.

81st-90th: 5%

91st-95th: 5%

96th-99th: 14%

Top 1: 68%

Te benefis o reduced ax raes on invesmen income are heavily skewed oward

hose a he op because ha group owns mos o he wealh wih which one could

inves. Te op 10 percen hold more han 70 percen o all he wealh in he Unied

Saes.144Te op 0.1 percen o Americans now hold more han 20 percen o

American wealhan imbalance no seen since he 1920swih he op 0.01

percen holding more han 10 percen o he oal.145Even hough low-income

axpayers pay a 0 percen ax rae on invesmen income, he benefi is minimal

since his group owns barely any wealh o inves.146

ep. Camps bill would raise axes on invesmen income, as would several earlier

biparisan proposals. Tis is a big difference rom some earlier conservaive proposals

o compleely eliminae axes on capial gains, dividends, and ineres, such as ep.

Paul yans (-WI) oadmap or Americas Fuure Ac o 2010.147In addiion o


32/52


almos exclusively benefiting he wealhy, proposals or ax-ree invesmen income

are based on undamenally flawed economic models ha assume anyone can

borrow an unlimied amoun o money wih which o inves and everyone makes

raional long-erm savings decisions, despie subsanial evidence o he conrary.148

More realisic assumpions produce models o opimal ax policies ha include

axing invesmen income.149

Even ep. yan has dropped his call or ax-reeinvesmen income in his more recen budges.150

ep. Camp proposes exemping 40 percen o capial gains and dividends rom

axaion and axing he res as ordinary income.151axing 60 percen o invesmen

income a ep. Camps op rae o 35 percen is he equivalen o a 21 percen ax

rae, or a 24.8 percen rae wih he ACA surax included. Since ep. Camp does

no repeal he ACA surax on invesmen income, his proposal effecively raises

sauory capial gains and dividend ax raes by 1 percenage poin or high earners

relaive o curren law. However, an analysis by he ax Policy Cener finds ha

he effecive marginal ax raemeaning he acual rae paid on an exra dollar oincomemay acually all slighly or capial gains and dividends or he wealhy

under ep. Camps proposal, due o he ineracion o his new exempion sysem

wih oher pars o he ax code.152Te Join Commitee on axaion esimaes

ha ep. Camps capial gains and dividend provisions would raise revenue by

abou $45 billion over 10 years.153

Te Wyden-Coas ax reorm bill used he same basic approach or axing inves-

men income as ep. Camp bu only exemped 35 percen rom axaion insead

o 40 percen.154Since heir bill also reduced he op income ax rae o 35 percen,

his would resul in a 22.75 percen sauory ax rae on invesmen income, or

26.55 percen wih he ACA surax.

wo biparisan commissionsone chaired by Presiden Bill Clinons ormer

Chie o Saff Erskine Bowles and ormer Sen. Alan Simpson (-WY) and he

oher chaired by ormer Sen. Pee Domenici (-NM) and Presiden Clinons

ormer Budge Direcor Alice ivlinwen even urher. Boh commissions

recommended eliminaing preerences or invesmen income and axing capial

gains and dividends a ordinary raes, alhough he Domenici-ivlin commission

allowed an exempion or he firs $1,000 o capial gains.155

Boh commissionsalso sharply lowered op ax raes, wih Bowles-Simpson using a 28 percen rae in

is illusraive example o ax reorm and Domenici-ivlin endorsing a 27 percen

rae. Even wih hese lower raes, however, invesmen income would sill ace

higher axaion han under curren law. Te Bowles-Simpson commission also


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allowed or he possibiliy o excluding a porion o invesmen income rom

axaion, as ep. Camp and Wyden-Coas do, bu made clear ha he radeoff or

his would be a higher op ax rae.156

Excluding a porion o invesmen income and axing he res a ordinary raes is he

preerred approach o many proposals, wih all such policies keeping he exclusionlow enough o raise invesmen axes relaive o curren law. Bu Congress could also

choose o ollow he approach o he Bowles-Simpson commission and ully equalize

ax reamen or income rom work and income rom invesmens. Alernaively, he

limied excepion proposed by he Domenici-ivlin commission would ocus

invesmen ax benefis more on he upper-middle class, since a $1,000 exempion

would be nearly invisible on a billionaires ax bill bu sill imporan or less wealhy

households. egardless o which approach is chosen, i is clear ha here is biparisan

suppor or broadening he ax base by narrowing he gap beween he ax on capial

and he ax on ordinary income.

Carried interest

Individuals who perorm managemen services or an invesmen services parner-

ship, such as a hedge und or a privae equiy und, ofen srucure heir compensaion

o ake advanage o ax preerences or invesmen income by aking an ineres in

he und, raher han receiving a normal salary or heir services. Te so-called

carried ineres or profis ineres pays he manager a fixed percenage o he

profi earned by he invesmen und, bu ha percenage does no reflec money

personally invesed by he manager.157In oher words, carried ineres compensaion

is no a reurn on he und managers invesmen; i is perormance-based com-

pensaion or heir work. Tus, while everyone elses labor compensaion is axed

as ordinary income, exremely wealhy und managers labor compensaion is axed

as invesmen income a ar lower raes, as described in he capial gains discussion

above. Invesmen und managers can combine he carried ineres loophole wih

oher ax benefis, such as by placing heir carried ineres ino an IR, in order o

significanly enhance heir ax savings.

Presiden Obama proposes axing all o a und managers carried ineres compen-saion as labor income, subjec o boh ordinary income ax and payroll ax, unless

his income was acually rom capial invesed personally by he und manager.158


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Some repors indicae ha congressional epublicans are open o closing his

loophole as well.159ep. Camp calls carried ineres a lobbyis loophole bu

proposes a more narrow approach o closing i han Presiden Obama does.160

ep. Camps legislaion would rea some, bu no all, carried ineres paymens as

ordinary income. Under his approach, carried ineres paymens ha reflec a

reurn on invesmen o up o 10 percenage poins higher han he ederallong-erm ineres rae would be axed as ordinary income.161Any carried ineres

paymen exceeding ha level would be axed a he lower capial gains rae.

Te JC esimaes ha Presiden Obamas carried ineres proposal would raise

$17 billion over 10 years.162ep. Camps rules would raise $3 billion as par o his

comprehensive ax reorm.163Boh Presiden Obama and ep. Camp seem o

recognize ha he carried ineres loophole is a ax preerence ha narrows he ax

base and benefis a small group o wealhy individuals.

Like-kind exchanges

Under curren law, owners o propery used or business or invesmen can deer

recogniion o capial gain when hey exchange i or a similar ype o propery,

raher han selling i ourigh.164Tese rules are requenly used o avoid capial

gains axes on real esae invesmens, bu oher ypes o business and invesmen

propery can also qualiy, including ar and classic cars.165According o ep. Camps

epublican saff on he House Ways and Means Commitee, Te curren rules have

no precise definiion o like-kind, which ofen leads o conroversy wih he IS

and provides significan opporuniies or abuse.166ep. Camps saff cauion ha

he rules enable invesors o deer capial gains axes or decades or avoid hem

enirely i he owner o he propery dies beore realizing heir gain or ax purposes.167

ep. Camp proposes eliminaing like-kind exchange rules enirely in his ax reorm

bill, which would raise abou $41 billion over 10 years.168Presiden Obama proposes

a more modes approach. For real propery only, his proposal would limi axpayers

o $1 million per year in deerred capial gains axes or propery used in a like-kind

exchange.169Tis approach would raise abou $11 billion over 10 years.170Te U.S.

reasury Deparmen poins ou ha he rules hisorical jusificaion wih respeco real properyhe difficuly o valuing exchanged properyis no longer rue.171

In any case, boh proposals are consisen wih he shared ax principles o broadening

he ax base by eliminaing ax breaks ha sheler income rom normal axaion

wihou adequae clariy or jusificaion.


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Gingrich-Edwards loophole

Boh Presiden Obama and ep. Camp call or closing he Gingrich-Edwards

loophole.172Tis loophole allows some wealhy proessionals o orm heir own

corporaions o avoid sel-employmen axes, which are equivalen o payroll axes

or sel-employed workers and are imposed under he Sel-Employmen ConribuionsAc, or SECA.173Cusomers pay he corporaions or he proessionals services,

such as consuling or enerainmen. Tese proessionals hen pay hemselves a

wage rom heir corporaion and receive he res o he profis as a dividend.

While boh wages and dividends are subjec o income axes, only wages are subjec

o payroll axes. So proessionals who orm heir own corporaion have an incenive

o pay hemselves an arificially low wage and shif he remainder o heir income

ino a larger dividend. IS rules are supposed o preven his, bu he Governmen

Accounabiliy Office, or GAO, has ound ha hose rules ofen ail o sop abuse.174

For example, his ax sraegy helped ormer Speaker o he House New Gingrich(-GA) and ormer U.S. Sen. John Edwards (D-NC) avoid payroll axes on he

earnings hey received or public speaking and providing legal services, respecively,

giving he loophole is name.175While middle-class Americans pay heir air share

o payroll or sel-employmen axes or Medicare and Social Securiy, some wealhy

proessionals are escaping heir obligaion simply hrough srucuring heir earnings

as a dividend raher han a wage.

Te abiliy o avoid payroll axes on earnings is a problem in a number o pass-

hrough eniiesbusinesses ha do no pay ax a he corporae level bu pass

on all income and expenses pro raa o he owners o he eniy. According o he

reasury Deparmen, because o he oudaed srucure o he ax code around

he applicaion o payroll axes o pass-hrough eniies, some business owners

pay employmen axes on nearly all heir earnings (general parners and sole

proprieors), oher similarly siuaed owners pay employmen axes on only a

porion o heir earnings (S corporaion owner-employees), and ohers pay litle

employmen ax a all (limied parners and many LLC members).176

Presiden Obama proposes closing his loophole by imposing sel-employmen axes

on all income, wheher hrough wages or dividends, ha proessionals receive orproviding services hrough heir businesses, regardless o corporae srucure, as

long as hey maerially paricipae in he business.177I hey do no maerially

paricipae, hey only pay SECA axes on reasonable compensaion associaed

wih heir services o he business.178Te JC esimaes ha his would raise $25


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billion over 10 years.179ep. Camps ax reorm bill would also subjec his income

o sel-employmen axes i he owner maerially paricipaes bu permis a 30 percen

deducion rom sel-employmen ax base, which is inended o approximae he

share o he owners income rom a reurn on heir capial invesmen.180Owners

who do no maerially paricipae would pay no SECA axes a all.181JC esimaes

ha his change would raise $15 billion over 10 years as par o Chairman Campscomprehensive ax reorm.182Boh o hese proposals represen base broadening

measures ha promoe airness among axpayers.


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Expanding the Earned Income Tax Credit | www.americanprogress.o

Expanding the Earned

Income Tax Credit

Te Earned Income ax Credi was creaed in 1975 and has since grown ino one

o he ederal governmens larges ani-povery programs.183Low-income workers

receive he EIC as par o heir ax reund. Tey mus work o claim he EIC. Very-

low-income workers receive a larger EIC as hey earn more, unil hey reach he

maximum amoun, and hen he EIC phases ou as workers coninue o earn more

and approach middle-class saus. Presidens onald eagan and Bill Clinon boh

signed expansions o he EIC ino law during heir respecive adminisraions.184

Sources: Joint Committee on Taxation, "Estimates Of Federal Tax Expenditures For Fiscal Years 20142018" (2014), p. 32, available at

https://www.jct.gov/publications.html?func=startdown&id=4663; Congressional Budget Office, "Updated Budget Projections: 2014

to 2024" (2014), available at http://cbo.gov/sites/default/files/cbofiles/attachments/45229-UpdatedBudgetProjections_2.pdf.

FIGURE 7

The Earned Income Tax Credit is a major income security program

Budgetary impact of selected policies in 2014, in billions of dollars

$78

$69

$54$45

$31

$21

Supplemental

Nutrition

Assistance

Program

Earned

Income

Tax Credit

Supplemental

Security

Income

Unemployment

compensation

Family

support and

foster care

Child

nutrition

Te American ecovery and einvesmen Ac o 2009, commonly known as hesimulus package, emporarily increased he EIC or married axpayers and large

amilies wih hree or more children.185Congress exended hose expansions wice

on a biparisan basis: firs hrough 2012 in he ax elie, Unemploymen Insurance

eauhorizaion, and Job Creaion Ac o 2010186and hen hrough 2017 as par


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o he American axpayer elie Ac, which Congress passed o address he fiscal

cliff a he end o 2012.187Exending his biparisan expansion permanenly

would increase deficis by abou $23 billion over he nex 10 years.188

While he EIC delivers subsanial benefis o amilies wih children, i does litle

or childless workers. In 2013, a axpayer wih one child could claim a maximumbenefi o $3,250, which increased o $6,044 or a axpayer wih hree or more

children.189Te maximum benefi or a childless axpayer was $487.190

Addiionally, he EIC compleely phased ou or unmarried childless workers

making more han $14,340 in 2013, while an unmarried worker wih a child

making up o $37,870 could claim he EIC.191

Many conservaives srongly advocae expanding he EIC or childless work-

ers.192In his 2014 Sae o he Union address, Presiden Obama said, I agree wih

epublicans like Senaor ubio ha [he EIC] doesn do enough or single

workers who don have kids.193Presiden Obama advocaes doubling hemaximum credi or childless workers and raising he income hreshold a which

heir EIC phases ou compleely o $18,070, or $23,750 i he axpayer is

married and filing joinly.194Addiionally, Presiden Obama would allow young

childless workers o claim he credi saring a age 21 and allow older childless

workers o claim i unil age 67.195Currenly, he EIC is no available or childless

workers younger han age 25 or age 65 or older.196Presiden Obamas proposal

would cos abou $61 billion over 10 years.197ep. yan endorsed an almos

idenical EIC expansion in his ani-povery plan, wih he only difference being

ha ep. yan would no expand eligibiliy or older workers.198

Te EIC kep 6.5 million people ou o povery in 2012.199Expanding he EIC

or childless workers would lif even more sruggling workers ou o povery using

an effecive and biparisan approach. Moreover, he EIC is consisen wih good

ax policy as all sides agree here is solid jusificaion or shelering income o

low-income workers and providing a boos o encourage hem o work even

harder o achieve a higher level o financial securiy. Te ax code is an efficien

way or governmen o provide his social insurance.

Enacing some o he revenue-raising policies presened in his paper could offsehe cos o expanding he EIC. Even eleced officials beholden o Grover

Norquiss pledge could suppor his package since i would be revenue neural.

While the EITC

delivers substantial

benefits to families

with children,

it does little for

childless workers.


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Conclusion | www.americanprogress.o

Conclusion

When he poliical sysem seems incapable o compromise, i is easy o undersand

why policy changes are no made on issues where progressives and conservaives

disagree. Bu even wih poliical gridlock and ani-ax ideology, Congress and

Presiden Obama should sill be able o improve he ax code in cases where here

is agreemen on boh sides o he aisle.

Sen. Murray (D-WA), or example, recenly inroduced legislaion ha pairs wo ax

increases endorsed by ep. Camp (-MI) wih wo ax cus, including an expansiono he EIC or childless workers.200A recen paper rom he conservaive American

Enerprise Insiue suppors boh o he ax cus in Sen. Murrays legislaion.201

Tere should be no reason or anyone o oppose his rameworki is revenue

neural and uses policies ha boh sides suppor.

Ulimaely, i is orunae ha boh sides can agree on reasonable approaches o raise

revenue, since new revenue will be criical o susaining a healhy ederal budge

ha suppors he needs o an aging populaion and creaes economic opporuniy

or all Americans. Every biparisan plan o address long-erm ederal deb involves

pairing new revenue sources wih spending cus.202Bu here is no reason o wai

or Congress o srike he elusive grand bargain o make smar changes o he ax

code. Jus as Congress has repeaedly cu spending wihou corresponding revenue

increases, Congress should also ac on biparisan ideas o raise revenue, especially

where boh sides agree ha doing so is consisen wih principles o good ax policy.

Even a gridlocked Congress should be able o enac a leas some o he proposals

ha progressives and conservaives agree are in he naions bes ineress.


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About the authors | www.americanprogress.o

About the authors

Harry Steinis he Associae Direcor or Fiscal Policy a he Cener or American

Progress. His work ocuses on he ax and spending choices wihin he ederal

budge. Prior o joining he Cener or American Progress, he worked as a

legislaive assisan o Sen. Herb Kohl (D-WI). His porolio included he ederalbudge, ax policy, and naional securiy, including Sen. Kohls work on he Deense

Appropriaions Subcommitee.

Alexandra Thorntonis he Direcor o ax Policy a he Cener. Mos recenly, she

was he execuive vice presiden or policy, planning, and business affairs a he

Jane Goodall Insiue, where she advised he ounder on inernaional conservaion

issues. Previously, she was he execuive direcor o a ax and economic policy

nonprofi ha ocused on environmenal axaion issues. Tornon moved o he

nonprofi world afer spending nearly a decade as ax policy advisor o a U.S.

senaor who served on he Senae Finance Commitee.

John Craigwas ormerly a esearch Assisan wih he Economic Policy deparmen

a he Cener or American Progress. His research ocused on issues relaing o

inrasrucure invesmens. Craig holds a law degree rom he Georgeown Universiy

Law Cener and a B.S. in economics rom ulane Universiy.


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Appendix A: Revenue estimates | www.americanprogress.o

Appendix A: Revenue estimates

Estimated revenue impact from bipartisan tax proposals

10-year deficit reduction in billions of dollars

10-year revenue impact in

billions of dollars

Business tax improvements

Depreciation and expensing

Repeal MACRS (Camp proposal) $269.5

Note: Repeal of accelerated depreciation for corporate jets alone raises

$3.8 billion

Require amortization for half of advertising costs $169.0

Corporate jet subsidy (Included in MACRS repeal)

LIFO accounting $106.0

Earnings stripping (Camp proposal) $24.0

Note: Obama proposal raises $51.4 billion

Transfer pricing (Excess returns proposal) $21.3

Note: Separate score for proposal in Camp bill is not available

Corporate-owned life insurance $7.4

Bank tax (Camp proposal) $86.4


Mark-to-market accounting for derivatives $14.3

Executive compensation (Camp proposal) $12.1

Note: Reed-Blumenthal proposal raises $50 billion

Business entertainment expenses $14.7

Percentage depletion $17.5

Dual capacity rules $12.2

Oil and gas exception from passive loss limitations $0.2

Subtotal: Business tax improvements $754.6


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Individual tax improvements

Exclusions from income and itemized deductions (Obama proposal) $497.6

Note: Separate score for Camp proposal is not available

Housing tax expenditures

Reduce limit on deductible mortgage interest to $500,000 $41.1

Limit capital gains exclusion on home sales $15.8Capital gains and dividends (Camp proposal) $44.7

Carried Interest (Camp proposal) $3.1


Like-kind exchanges (Camp proposal) $40.9


Gingrich-Edwards loophole (Camp proposal) $15.3

Note: Obama proposal raises $25 billion

Subtotal: Individual tax improvements $658.5

Expanding the Earned Income Tax Credit

Extend ARRA expansions -$23.2

Raise EITC for childless workers (Obama proposal) -$60.6

Subtotal: Expanding the Earned Income Tax Credit -$83.8

Grand total $1,329.3

Note: Total tax increases $1,413.1

Note: Total tax cuts $83.8

Note: The exact parameters of the scores for each proposal may differ, and these figures should be understood as an approximation. Thistable includes the most recent 10-year score available for each proposal, but these do not always cover the same time period. Additionally,some scores include interaction effects with other provisions in a larger bill, such as lower marginal tax rates.

Source: Joint Committee on Taxation.


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Endnotes | www.americanprogress.o

Endnotes

1 Americans for Tax Reform, What is the TaxpayerProtection Pledge?, available at http://www.atr.org/taxpayer-protection-pledge-a2882(last accessed May2014).

2 Congressional Budget Office, The Budget and Economic

Outlook: 2014 to 2 024 (2014), Box 1-1, available athttp://www.cbo.gov/publication/45010.

3 Brett Logiurato, OBAMA: Paul Ryans Budget Plan Is AStinkburger, Business Insider, April 2, 2014, available athttp://www.businessinsider.com/obama-ryan-budget-stinkburger-2014-4.

4 The White House and the Department of the Treasury,The Presidents Framework for Business Tax Reform(2012),p. 3, available at http://www.treasury.gov/resource-center/tax-policy/Documents/The-Presidents-Framework-for-Business-Tax-Reform-02-22-2012.pdf.

5 House Committee on the Budget, The Path to Prosperity:Fiscal Year 2015 Budget Resolution (2014), available athttp://budget.house.gov/uploadedfiles/fy15_blueprint.pdf.

6 Taxpayer Advocate Service, 2012 Annual Report toCongress(2012), Volume 1, available athttp://www.taxpayeradvocate.irs.gov/userfiles/file/Full-Report/Most-Serious-Problems-Tax-Code-Complexity.pdf.

7 The Joint Committee on Taxation and the Departmentof the Treasury both publish estimates of the cost ofindividual tax expenditures. While combining theseindividual estimates into a grand total neglects importantinteraction effects among various tax provisions, thisaggregate figure still provides a useful approximationof the scale of tax expenditures. See Donald B. Marron,How Large Are Tax Expenditures? A 2012 Update(Washington: Tax Notes, 2012), available athttp://taxpolicycenter.org/UploadedPDF/1001602-TN-How-Large-Are-Tax-Expenditures-2012-Update.pdf.

8 House Committee on the Budget, The Path to Prosperity:Fiscal Year 2015 Budget Resolution.

9 U.S. House of Representatives, Committee on Ways andMeans, The Tax Reform Act of 2014 (2014), ExecutiveSummary, p. 23, available at http://waysandmeans.house.gov/uploadedfiles/tax_reform_executive_summary.pdf.

10 House Committee on the Budget, The Path to Prosperity:Fiscal Year 2015 Budget Resolution.

11 The White House and the Department of the Treasury,The Presidents Framework for Business Tax Reform.

12 House Committee on the Budget, Tax Reform Q&A,available at http://budget.house.gov/settingtherecordstraight/taxreform.htm(last accessedAugust 2014).

13 Marron, How Large Are Tax Expenditures? A 2012Update.

14 U.S. House of Representatives, Committee on Ways andMeans, The Tax Reform Act of 2014 (2014), Section-by-Section Summary, p. 5152, available at http://waysandmeans.house.gov/uploadedfiles/ways_and_means_section_by_section_summary_final_022614.pdf .

15 Internal Revenue Service, How To Depreciate Property(U.S. Department of Treasury, 2014), Publication 946available at http://www.irs.gov/pub/irs-pdf/p946.pdf.

16 Joint Committee on Taxation, Estimated Revenue Effectsof the Tax Reform Act of 2014(2014), JCX-20-14, p. 5,

available at https://www.jct.gov/publications.html?func=startdown&id=4562.

17 Bipartisan Tax Fairness and Simplification Act of 2011 , S.727, 112 Cong. 1 sess., available athttp://beta.congress.gov/bill/112th-congress/senate-bill/727.

18 U.S. Senate Committee on Finance, Baucus Works toOverhaul Outdated Tax Code, Press release, November21, 2013, available at http://www.finance.senate.gov/newsroom/chairman/release/?id=536eefeb-2ae2-453f-af9b-946c305d5c93.

19 The Center for American Progress, Priorities forProgressive, Pro-Growth Corporate Tax Reform (2013),available at http://www.americanprogress.org/wp-content/uploads/2013/06/CorporateTax.pdf.

20 Nicola Lostumbo and Arpan Sengupta, The Long-Term

Effects of Advertising Expenditures: Examining theEvidence, Tax Management Transfer Pricing Report,December 4, 2013, available athttp://www.pwc.com/en_US/us/tax-services/publications/assets/the-longterm-effects-of-advertising-expenditures.pdf.

21 U.S. House of Representatives, Committee on Ways andMeans, The Tax Reform Act of 2014, Section-by-Sectionsummary, p. 56.

22 Joint Committee on Taxation, Estimated Revenue Effectsof the Tax Reform Act of 2014,p. 5.

23 U.S. House of Representatives, Committee on Ways andMeans, The Tax Reform Act of 2014, Section-by-Sectionsummary, p. 57.

24 Chye-Ching Huang, Chuck Marr, and Nathaniel Frentz,Timing Gimmicks Pose Threat to Fiscally Responsible

Corporate Tax Reform (Washington: Center on Budgetand Polic

The Growing Consensus to Improve Our Tax Code

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