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A Pointless Framework With Good Ideas

Treasury Secretary Tim Geithner released a proposal for tax reform that is long on frame and low on work, explaining that its purpose is “to begin the process of building bipartisan consensus on a better growth strategy for the long term.” It calls for a reduction in corporate tax rates to be paid for by eliminating tax breaks. It is revenue neutral, meaning that the anticipated total revenue from corporations will not change. It does not list many of the tax breaks to be eliminated. It does, however, contain a couple of very useful ideas.

To my mind, the biggest weakness is the refusal to consider increasing taxes on corporate income. There is a section titled Restore Fiscal Responsibility, as if there were golden age when we practiced fiscal responsibility.

Restoring fiscal responsibility will require a set of hard choices to constrain spending, while still making the investments we need in our future. Fiscal responsibility also requires that revenue be increased as part of a balanced approach that asks the wealthiest to contribute more, while protecting the middle class from tax increases. Given the fiscal outlook and the hard choices it requires, the business sector must also be asked to contribute to restoring fiscal sustainability.

That collection of contradictions is followed by the big promise, that reform of corporate taxes will not reduce revenues. Big talk about businesses contributing to fiscal sustainability is followed by a promise that the changes will not “add a dime to the deficit”, ever, meaning they won’t reduce the deficit, either. That will be the job of individuals. Of course, we have been doing that for years, as this chart shows. Corporate revenue has dropped, and the difference has been made up by increases in payroll taxes.

The framework mentions several tax breaks that need to go. These are changes incorporated in 2013 budget.

1. Eliminate LIFO accounting for inventory. LIFO is an acronym for last-in-first-out. It assumes that the most recently sold items are the ones produced most recently. This reduces income when there is inflation. FIFO means first-in-first-out, the principle that makes the most sense. When phased in, it would produce additional revenue of about $9 billon, according to the 2013 Budget.

2. Eliminate preferences for oil and gas drilling. These include percentage depletion and immediate expensing of intangible drilling costs. According to the 2013 Budget, ending percentage depletion would increase revenues by about $1 billion, and ending expensing would increase revenues by $3.4 billion, falling over the next 10 years.

3. There are a variety of changes in the 2013 budget related to corporate use of insurance to shield profits from taxation. These are anticipated to save a total of $19 billion over 10 years.

4. Reform of the carried interest rule that only benefits hedge fund operators would improve revenues by $1.9 billion in 2014, and $13.5 billion over 10 years.

5. Eliminate special depreciation rules for corporate aircraft purchases. It would increase revenues by $180 million or so, but it is a potent symbol of unfairness.

These aren’t bad ideas, and there are at least two more good ideas in the proposal. One is the suggestion that we reduce the bias towards debt financing of business activities. Right now, interest payments on loans and on bonds are deductible to the corporation, while dividends are not. This creates an incentive to finance corporations with high levels of debt. Favorable tax treatment contributes to over-leveraging, which adds to the stresses on businesses in bad economic times, and encourages risky bets, as we saw just before the Great Crash. It may also ease the problem of double taxation of dividends by bringing interest and dividends into parity.

Another suggestion is to even the playing field on business structure. In some industries, partnerships are treated more favorably than corporations. That explains why gas and oil transmission lines and other petroleum businesses are sometimes organized as master limited partnerships. The framework calls for elimination of that disparity.

In the end, I don’t understand the point of this document. The idea that giant corporations that currently pay no income taxes will suddenly start paying taxes is hilarious, as commenter lainey points out. There is no bipartisanship, no matter how often the administration prays at that altar. If we are looking seriously at tax reform, a much better starting point for discussion is Bruce Bartlett’s book The Benefit And The Burden. Bartlett did a book salon with us. He devotes a chapter to taxation of corporations, including the wisdom of trying to tax corporations in a world where capital can move freely.

As far as I can see, the only real question is how much more the Middle Class, whatever is left of it, will have to pay.

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I read a lot of books.