A Taxing Blog

Thursday, October 16, 2003
Taxing Blog on Hiatus  
As much as I hate to say it ------ I'm going to have to take a break from blogging for a while to concentrate on "tenurable activity" (i.e. traditional scholarship). I spend only an hour or so a day blogging and reading correspondence and other folks' blogs, but I need that hour back.

It's been very rewarding for me --- I've read tons of stuff I might have otherwise missed, and the correspondence has been wonderful.

Thanks to everyone who has been reading.


Chicken Soup for the Tax Soul  
NYT reports on Edward Jones, a former Tax Notes proofreader who is a finalist for the National Book Award for fiction.

Saturday, October 11, 2003
Reverse Brain Drain?  
Leiter Reports on buzz about academics fleeing Cal-ee-fornia in response to Governor Arnold. This is not the sort of buzz a new UC professor like to hear.

California should be fighting hard to maintain its regional advantage in the high-tech industries; a vibrant and healthy UC system is essential to this. Against self-interest, I'll note that protecting the sciences is probably more important than protecting the law school.

When politicians talk about states being competitive, it seems like they only focus on low state tax rates. But companies are clearly willing to overlook higher taxes IF, in return, they can tap into a network of experienced, creative, well-trained workers and can benefit from the work of others, including universities. If low tax rates was all that mattered, Alabama would be the VC capital of the world.

Thursday, October 09, 2003
A couple interesting tax articles published in the WSJ the past few days (WSJ registration required).

First, Arthur Laffer argues for a flat tax on business and individuals. His argument is that a flat tax would control spending during boom times but fund essential programs during bad times.

Second, Gary Becker (econ professor at Chicago), Edward Lazear (econ professor at Chicago) and Kevin Murphy (econ professor at Stanford) argue that tax cuts have two benefits: (1) lower tax revenues leads to lower government spending (which is good because the government is an inefficient spender) and (2) lower tax rates encourages more investment in "human" capital (that is, high progressive rates discourages the incentive to invest in valuable highly-paid occupations).

On a somewhat unrelated topic, Intuit apologized today to Turbotax customers for the antipiracy technology installed in the programs.

Alvin Rabushka reports that a canton in Switzerland, beginning in 2004, will actually switch to a degressive income tax. Should be interesting to keep on eye on whether that experiment works.

Wednesday, October 08, 2003
Governor Ahhhnold  
Well, at least we don't need a recount. What a blowout.

Among other things, it shows the Dems need to figure out how to find a better candidate than Bustamante. As I read the numbers, a significant number of people voted No on the recall and then voted for Arnold over Bustamante.

It's possible all of this can be traced back to Prop 13. I read this morning that the key problem is that it's pretty much impossible to both refuse to raise taxes and refuse to cut education spending, which is 40% of the state budget. (Can that be right??) If education is 40% of the state budget, it's because schools aren't getting funded at the local level at adequate amounts, and that can be traced back to Prop 13. We'll see what Arnold does about that.

Tuesday, October 07, 2003
Count one provisional hanging chad against the recall ...  
I cast my first vote in Caleeefornia today. It was a "provisional" vote -- I registered at the DMV 3 months ago, but they still don't have me on the voter rolls. It was also the first time I've used a punch card ballot. As I removed the card, I checked the chads --- and indeed two of the four chads were still quite attached to the card. I removed them with my hands -- hopefully not mangling the card too much. Somehow the mechanical ballots in New York, with the curtain and the levers and the big arm that you pull down, seem much more dignified and appropriate for voting.

Recount Mania '03 starts tonight. With all the absentee, provisionals and hanging chads floating around out there, I'd be surprised if we have a clear result for a while.

Monday, October 06, 2003
Impeach Grover  
A staffer from Treasury informs me that Grover Norquist is indeed influential in the White House. Sigh. And a minute ago I came across the following description of Norquist-Bush ties:

Norquist wasted no time forging an alliance with President Bush, traveling to Austin, TX to meet with then-Gov. Bush and his political advisor Karl Rove right after Bush’s 1998 reelection. Convinced that the Texas governor was the Right’s best hope, Norquist threw the full force of his influence behind the Bush campaign, playing a key role in defeating Sen. John McCain in the South Carolina primaries. So far, Norquist appears to be delighted with the new administration. On Pat Robertson’s 700 Club, Norquist said, “We is them, and they is us. When I walk through the White House, I recognize as many people as when I would walk through the Heritage Foundation.”

I had a phone conversation with someone who works for the Council of Economic Advisers a while back. He sounded pretty reasonable and un-Norquist like. Unfortunately I didn't have enough good things to say about the Bush tax cuts, and so my academic writings (and arguments) weren't much help to him. But at least he was a reasonable man, and reasonable minds can disagree about tax policy.

Reasonable minds, however, cannot conclude that the morality of the estate tax is equivalent to the morality of the holocaust.

Double Sigh.

I'm at a loss for what to do if indeed it's true that someone like Norquist is delighted with who he sees in the White House.

My options:

1) Write the Olin and Scaife foundations to try to get them to choke off Norquist's tax-exempt funding.

2) Volunteer for Wesley Clark.

3) Use the tax blog to persuade millions of readers that Grover is a big fat idiot.

4) Move to Canada.

5) Run for Governor of California. (Only 24 hours left before Ahhnold takes office.)


Grover Norquist is a Big Fat Idiot  
Okay, I don't know if he's big or fat, but clearly an idiot, the Rush Limbaugh of the tax policy world. I heard Norquist, the President of Americans for Tax Reform, on Fresh Air last Thursday as I was driving home from work. Norquist said that the morality that supports the estate tax is the same morality that led to the holocaust. I haven't been able to find a transcript, so this is not quite an exact quote, but here's what I wrote down from the clip I got on line:

Norquist: ... 70% of Americans view the estate tax as unjust. The argument that some who play to the politics of hate and envy and class division will say 'Well, that's only 2%, or soon to be 5% in the near future, of Americans will have to be likely to pay the tax.' I mean, that's the morality of the holocaust. It's only a small percentage, it's not you, it's somebody else.

(Listen for yourself -- about 8:30 into the clip.)

Teri Gross, of course, followed up by asking if he really meant to compare the estate tax to the holocaust. Norquist replied that the morality of separating people out and treating them differently, whether based on race or class or religion or how much money they have when they die, amounted to the same thing. Norquist went on to compare the estate tax to apartheid and communism.

This actually made me feel a little sick to my stomach when I heard it. No, it's not the same thing as the holocaust. It's not the same morality. (1) Killing Jews and (2) requiring really rich people to give some money to the same government that protects them at home and abroad are really just not the same thing, and very different moral structures lead to those end results.

I've never really understood the tax protester movement, and now I'm not sure I understand the Right, or at least whatever wing of the right Norquist represents. The Americans for Tax Reform is a significant tax policy group; I'm hoping Norquist is an aberration and not the norm. Norquist should apologize or resign.


Thursday, October 02, 2003
Repatriation of Foreign Profits  
Edmund Andrews of the NYT reports: Senate Panel Backs Bill to Give Tax Windfall to U.S. Companies. The bill would allow companies that have earned profits overseas a one-time chance to bring back that money at a super-low tax rate of 5.25%. The normal corporate tax rate is 35%.

This is probably very bad policy. In the short run, the repatriation of funds could boost the domestic economy a bit, as Bill Archer suggests. The problem is the long run incentives it creates. It creates a precedent that suggests that Congress might do this again in the future. Thus companies will have even more of an incentive in the future to hoard profits overseas and wait for a tax holiday to reinvest in the US.

It's similar to reducing the capital gains rate to 5% on a "one-time" basis, say for a single day at the end of October. On that particular day, we would see a huge jump in revenue as people sell stocks that they've been holding. And there would be efficiency gains, as the "lock in" effect of the realization rule would be lessened. But there would be a long-term loss in efficiency as people would then hold on to stocks even longer as they wait for another tax holiday.

Moreover, this seems to be yet another part of a Republican agenda of using deceptive budget moves that defer the hard decisions. No doubt the tax holiday will boost revenue this year; the negative consequences will come after the election.

I don't pretend to know much about international tax issues, but this one seems obvious to me. Please email me if I'm missing something here.

(I suspect part of the problem has to do with the difficulty of enforcing anti-deferral regimes, as well as the difficulty of enforcing the transfer pricing rules, but I don't yet know enough to have an opinion on that.)

Wednesday, October 01, 2003
Distributive Justice?  
William Gale posts Distribution of Federal Taxes and Income, 1979-2000.. Here's a snippet:

The pretax income of high-income groups rose so fast that, despite their increasing share of tax burdens, their after-tax income rose substantially faster than other groups. After-tax income tripled among the top 1 percent, and roughly doubled in the top 5 and 10 percent. After-tax income rose by 15 percent or less in the bottom 60 percent of the distribution. The ratio of after-tax income among the top 1 percent to those in the middle quintile rose from about 8 to 1 in 1979 to more than 20 to 1 in 2000.

We shouldn't have been surprised to see this reversed a bit in 2001, as Jeff pointed out on Monday: as the lucky duckies' income fell, so does their tax obligation.

The implicit argument of the headline, I think, was the idea that perhaps their after-tax income of the super-rich should have dropped by a greater percentage than their pre-tax income (to make up for the ridiculous rise in after-tax income of the last 20 years.) So maybe the headline should have been "Real Lucky Duckies Still A Lot Luckier Than You."

Weisbach on the Integration of Tax and Spending Programs  
Chicago Taxprof David Weisbach and co-author Jacob Nussim post The Integration of Tax and Spending Programs. Here's the abstract:

This paper provides a theory for deciding when a spending program should be implemented through the tax system. The decision is traditionally thought to be based on considerations of tax policy. The most common theories are the comprehensive tax base theory and the tax expenditures theory, both of which rely on tax policy to make the determination. We argue instead that the decision should be based solely on consideration of organizational design. Activities should be grouped together in a way that achieves the best performance, much like a corporation decides how to divide its business into divisions. Tax policy is entirely irrelevant to the decision. This paper begins the process of applying organizational design theory to the tax and spending problem, considering theories of hierarchies based on the needs for specialization in and coordination of activities. The paper then analyzes whether food stamps and the earned income credit should be implemented in through the tax system based on this analysis.

This paper --- and the next two that will follow --- promise to be extremely important. My own thinking has changed recently on this issue. I used to think that the Comprehensive Tax Base literature had it right; we should have a simple, broad tax base with as few loopholes as possible. The problem is that politics dictates that we will have expenditures for special programs, and I agree with Weisbach that it's more useful to assume that we will have targeted expenditures than to assume that we won't (or should not). The remaining question, then, is how to figure out whether we should use the tax system or a direct government program to effect the expenditure.

One advantage of using tax expenditures, as I pointed out last week, is that it often preserves more decision-making capacity for the private sector, particularly for programs where the tax break relies on getting capital from the private sector. I expect Weisbach will explore this concept in the next papers, where he promises to include agency costs and public choice problems in the analysis.

Monday, September 29, 2003
NY Times Headline  
The headline of the NY Times article that Victor cites below ("Top 1% in '01 Lost Income, but Also Paid Lower Taxes") confuses me. Should we be surprised that if you lose income, you pay less taxes? Did the NY Times think that they should have paid the same taxes as the year before(or pay more)? I guess they are referring to the fact that the share of taxes paid by the wealthiest one percent dropped as well but that is just a consequence of progressive rates and decling income.

I guess one message to be derived is that those of us in the remaining 99% should hope that the wealthiest 1% increase their income significantly so that the percentage of taxes paid by our group will be reduced (grin).

Saturday, September 27, 2003
More on complexity of consumption tax  
Bill Mendus, a CPA, emails:

I vote with David Walser.

Unless uniform rules are imposed nationwide, a consumption tax would be vastly more complicated than the current income tax.

What are the odds that we could get uniform rules nationwide? Look at what is happening in the sales tax arena right now. Sales and use taxes are a total crazy quilt. The same transaction can be taxed differently within the distance of a few blocks. The states, counties, cities, school districts, and all the other various special taxing entities have a powerful incentive right now to regularize and simplify their rules because such action is a pre-requisite to taxing internet transactions. But there is very little progress on that front. The odds that we can get nationwide uniform rules for consumption taxes are just about zero.

Further, as the last remaining New Deal Democrat in the nation, I am troubled by the increasing reliance of state and local governmental units over the last number of years on sales taxes, which are regressive. I believe that any national consumption tax would also be regressive and I am simply not impressed by arguments to the contrary.

And I am also troubled by the increasing exemptions from income tax for savings and returns on savings. I assert that the only fair form of income taxation is one that taxes all forms of income the same. This means, for example, that income from capital gains should be taxed the same as income from labor. Right now, the sweat of one's brow is taxed much more heavily than returns on savings, unless the coupon clipping class breaks into a sweat clipping the coupons.

Valid points. On the last --- that income from the return to capital should be taxed the same as income from labor --- McCaffery makes a pretty good argument that a cash flow consumption tax probably does at least as good a job of this as our realization based income tax, and we might be better off devoting out political efforts towards a more progressive consumption tax rather than trying to fix our current quasi-income tax.

The Real Lucky Duckies not as lucky in '01  
David Cay Johnston of the NYT reports that Top 1% in '01 Lost Income, but Also Paid Lower Taxes.

Friday, September 26, 2003
Tax expenditures as a constraint on government  
One alleged advantage of the APT tax is that, as a uniform tax, it would eliminate tax expenditures; government would subsidize programs directly. So, for example, rather than giving homeowners a mortgage interest deduction, we just redistribute wealth from renters to owners if that's what Congress desires.

One objection is that this is simply unrealistic -- any tax written by Congress will, of course, be full of loopholes, favoritism, blah, blah, blah.

On a more substantive note, however, tax expenditures have the hidden advantage of allowing the private sector to determine where and how investments are made. The tax break may improve the after tax return of the investment vis-a-vis other, non tax subsidized investments. But the private sector still decides where the investments get made.

This has come up in my own research in looking at giving small businesses a capital gains tax break versus a direct grant from the federal government. The tax break method still requires that the founders of the company go to the private markets to seek funding, thus ensuring a screening mechanism that may be beneficial (and obviously less subject to political capture). Whether this is good or not probably depends on whether you want a venture capitalist or a city council member deciding what kind of technology is better.

APT tax  
Reader Scott Straupe pointed me to an interesting paper by Econprof Edgar Feige proposing an Automated Payment Transaction (APT) tax. Here's a summary of the paper:
"This paper examines the desirability and feasibility of replacing the present system of personal and corporate income, sales, excise, capital gains, import and export duties, gift and estate taxes with a single comprehensive revenue neutral Automated Payment Transaction (APT) tax. In its simplest form, the APT tax consists of a flat tax levied on all transactions. The tax is automatically assessed and collected when transactions are settled through the electronic technology of the banking/payments system. The APT tax introduces progressivity through the tax base since the volume of final payments includes exchanges of titles to property and is therefore more highly skewed than the conventional income or consumption tax base. The wealthy carry out a disproportionate share of total transactions and therefore bear a disproportionate burden of the tax despite its flat rate structure. The automated recording of all APT tax payments by firms and individuals creates a degree of transparency and perceived fairness that induces greater tax compliance. Also, the tax has lower administrative and compliance cost. Like all taxes, the APT tax creates new distortions whose costs must be weighted against the benefits obtained by replacing the current tax system."

The idea is interesting (and new to me) --- our current income tax in some ways resembles a tax on transactions (think about the realization requirement). And as our economy (and payment systems) become more and more digital, some type of tax like this might make sense. Obviously, noncompliance is an issue, but as more and more of the economy is based on credit cards, debit cards, Paypal, etc., all of which can be relatively easily policed, the cost of evading an APT tax would rise.

On the other hand, the design of the tax would be awfully tricky. People would obviously plan around the tax as much as possible, and it's hard to know how much distortive behavior this would cause, and how to measure the distortion or deadweight loss against the current income tax.

In any event, it's surely worth further study and consideration.

Thursday, September 25, 2003
Simplification advantage of consumption tax?  
David Walser emails a skeptical view of the simplification advantage of consumption taxes:

I keep hearing this argument, but it just does not jive with my real world experience. I've defended clients in income tax, sales tax, and VAT audits. By far, the sales tax and VAT have been the most difficult. In theory, a consumption tax need not be any more complicated than an income tax, but that's not what I've seen in practice. Here in Arizona, the state, county, city, and other government entities (such as the airport authority) may each tax the exact same transaction differently. For example, suppose I've client who owns a hanger and rents use of the hanger (along with access to mechanics, etc.) to airplane owners. For liability purposes, the hanger is held inside one LLC which rents it for $1x to the other LLC (which makes it available to the public, hires the mechanics, etc.) The state and county do not tax the $1x rental payment since it is a rental for release to the public. The city does tax the $1x rental. The airport authority has determined the $1x rental is not at fair market value, so it taxes the rental at its "true value" -- say $5x. How they came up with the number, I've no idea. That's just the sales tax issues associated with the building. The state, county, city, and airport authority take conflicting positions on the equipment used inside the building. Unless a national consumption tax would require each state and local taxing authority to use the federal rules for defining the tax base, I think you'd have an unworkable mess.

I think the reason the myth of the ease of administering the consumption tax is because the burden of compliance is borne almost entirely by business. People don't understand how many sales tax returns a business might be required to file -- the returns may be filed monthly, weekly, or even daily, depending on volume. Some states require each location to file its own return. Yes, most of the returns are now automated, making it easy to file the returns. But most of the returns are wrong. My brother-in-law makes a good living as a sales tax consultant. He files amended returns for businesses and is paid a percentage of the refund he generates.

Walser is right that we cannot take simplification as a given; rather, it will depend on the details.

The specifics are way beyond my expertise; my hunch is that a sales-type consumption tax would be considerably simpler for individuals and about the same (certainly no worse) for businesses. The complexity that Walser notes is already present in the current system -- replacing the income tax at the federal level with a VAT doesn't necessarily simplify things, but neither does it necessarily complicate them. For his hypothetical, even under current law we have to figure out whose income it is and how much.

In any event, I take Walser's point that consumption taxes are NOT self-evidently simple, but beyond that I'll defer to the experts.

One final note --- perhaps the simplest transition to a "consumption" tax would not involve a sales or VAT tax at all.
Rather, we would keep the current income tax and give everyone an unlimited deduction for savings. (We are moving in this direction in any event.) Becuase the current income tax would be retained, simplification gains would be small, but we could do away with various deductions like college savings plans, retirement plans, etc. and put it all under one savings umbrella.

(It's still a "consumption" tax because, by definition, Income - Savings = Consumption.)

Wednesday, September 24, 2003
Replacing the Income Tax With a Progressive Consumption Tax  
Dan Shaviro has also posted Replacing the Income Tax With a Progressive Consumption Tax --- I haven't had a chance to read it, but after reading Ed McCaffery's paper, "The Fair Timing of Tax," I suspect that I'll agree with most or all of what Shaviro has to say. Here's the abstract:

Shifting from an income tax to a consumption tax would offer major simplification advantages. Even if Congress created as many preferences and other special rules to what it has under the existing income tax, the massive set of complications that relate to realization and to the taxation of financial transactions would largely be eliminated. The main (though not the only possible) reason for opposing such a shift is the concern that it would require reducing progressivity. However, the capacity of a consumption tax to achieve progressivity comparable to that of an income tax is widely misunderstood, for two main reasons.

First, a consumption tax purportedly exempts "capital income," seemingly raising the specter of its exempting the likes of Bill Gates and Warrant Buffett. As recent tax policy literature has shown, however, the only difference in theory between an income tax and a consumption tax pertains to the risk-free return to waiting, which historically has averaged less than one percent per year. The point made by this literature is by now familiar and well-accepted in some circles, but in others it remains unfamiliar or has been unduly dismissed. This article aims to win it wider acceptance.

Second, many believe that wealthy people escape the burden of a consumption tax by deferring their consumption, and that advocates of such a tax ignore the effects of unconsumed wealth on one's security, political power, and social standing. The argument overlooks the fact that what makes wealth valuable is the real purchasing power that it commands. Otherwise, real money would be no different than Monopoly money. A consumption tax affects the purchasing power even of unspent wealth, and the burden it imposes generally is not reduced by deferring one's consumption.

The article also discusses the choice between use of the origin basis and the destination basis in taxing cross-border transactions. A consumption tax can use either method, but an income tax is practically compelled to use the origin basis. Use of the destination basis would eliminate transfer pricing issues, although in their place it would create various problems that an origin basis tax avoids, such as the need for border adjustments (e.g., tax rebates for exports).

Thoughtful consideration of the choice between the origin and destination basis upon shifting to a consumption tax requires dismissing a popular canard, which is that the destination basis, because it exempts exports, offers an "export subsidy" that would favor countries using it in international trade competition. Economists universally agree that well-functioning origin and destination basis systems have equivalent incentive effects on international trade once in place. This suggests that a destination basis consumption tax should neither be favored politically as a tool of trade war, nor subject to successful legal challenge under the GATT.

I should note that Shaviro, unlike McCaffery, does not seem to take a position on whether a prepaid or postpaid (cash flow) consumption tax is desirable.

Shaviro on the Bush Tax Cuts  
Taxprof Dan Shaviro posts The Bush Administration's Huge Tax Cuts: Steps Towards Bigger Government? on SSRN. Here's the abstract:

The 2001 through 2003 tax cuts, to the extent that they involved a principled, long-term policy view, seem to have been aimed at shrinking the size of government. The idea apparently was to force eventual spending discipline, even (or perhaps especially) with respect to Social Security and Medicare, by turning reduced tax revenues into a political fact on the ground that would be difficult to reverse. In fact, however, the idea that the tax cuts would make the government smaller seems to have rested on spending illusion, or confusion between the actual size of government, in terms of its allocative and distributional effects, and the observed dollar flows that are denominated "taxes" and "spending."

Given the long-term budget constraint, which holds that government inflows and outlays must ultimately be equal in present value, and the huge preexisting fiscal imbalance, the tax cuts are likely to be paid for, in the main, through some combination of future tax increases and cuts to Social Security and Medicare. (Other government spending cuts, relative to the case where the tax cuts were not enacted, are likely as well, but cannot contribute nearly enough.) To the extent that the 2001 through 2003 tax cuts lead to future tax increases, the combined effect is likely to make the government bigger both allocatively and distributionally. To the extent that Social Security and Medicare spending bear the brunt, the government still gets larger in the sense of increasing redistribution from younger to older generations, although Medicare cuts might decrease the size of government allocatively.

It's counterintuitive, but surely Shaviro is right that the tax cuts increase the intergenerational redistribution effect of government.

Tuesday, September 23, 2003
Business Associations  
When I was at Columbia, my second year course was called "Corporations." At many schools, coverage is expanded to include the basics of partnerships and LLCs, and the course is called "Business Organizations," or Biz Orgs for short. Here at UCLA it's called "Business Associations." This is a bad idea. Why?

It's called "Biz Ass." As in, "No, Professor Fleischer, we didn't learn that in Biz Ass."

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