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Friday, September 19, 2003
Consumption Taxes, Past, Present, and Future
Past: After doing a bit of historical research, I feel compelled to concede the fundamental point to Eugene Volokh -- Wesley Clark was essentially offbase when he said that this country was founded on a principle of progressive taxation. I do think that most of the Founders did believe in having the rich pay more than the poor, and probably having them pay more as a percentage of income, but the evidence just isn't clear enough to say that there was a shared understanding that progressivity was essential.
As far as founding principles, I finally remembered what all the fuss was really about concerning the Stamp Act and other taxes that the British Empire imposed on the colonies in the 1760s and early 1770s. It wasn't just that the colonies resented taxes, or that they disliked taxation without representation. Unlike previous customs duties that focused primarily on trade concerns, the Brits were using internal taxes to raise revenue for the Empire. And the colonies had a strong argument that this was unconstitutional according to the (unwritten) British constitution. Put another way, the British Constitution allowed the Brits to use taxes and customs duties to regulate trade, but not to tax the colonies directly in order to raise revenue for other imperial concerns. The colonies had not just a strong political argument against taxation without representation; they had a constitutional argument. The revolution was a revolution about ideas, including whether the British treatment of the colonies over taxes was constitutional.
Present: Several readers emailed to point out that consumption taxes are normally regressive as compared to our current income tax. Well, yes, of course that's normally the case today. But my point to Volokh was that in historical context, consumption taxes were more progressive than head taxes or poll taxes, and the Founders were indeed concerned about progressivity.
Future: USC Taxprof Ed McCaffery has a wonderful paper, The Fair Timing of Tax, that I believe represents the future, or at least the future we should all work for: a postpaid, progressive consumption tax that allows and encourages the smoothing of labor earnings over a lifetime.
Thursday, September 18, 2003
NYT reports on Merrill settlement with U.S. over Enron involvement. The story says that Merrill agrees not to do deals that might be used to mislead investors about a company's financial condition.
It will be interesting to see how this is implemented. Merrill is setting up a special committee to oversee Structured Finance deals. The problem, as I will be discussing in my Deals course in a few weeks, is that most structured finance deals have both legitimate and illegitimate reasons --- for example, a securitization could shift some risk to a third party who is better able to assess and/or bear the risk, thus lowering the company's cost of capital, but at the same time the company could retain some residual risk that no longer shows up on the balance sheet.
The idea seems to be that Merrill's committee will at least nix any deals that lack economic substance and are pure accounting plays. Does this have any relevance for tax? Maybe, but I doubt it.
Tax shelters, even pure loss generators that lack economic substance, do benefit investors. Reducing the tax liability of the company is a real gain for investors. Investors aren't misled; the IRS is. One could argue, I suppose, that by reducing the taxable income without reducing accounting income (i.e. increasing the book-tax gap) the company is misleading investors about the future tax liabilty of the company, since it may not be possible to enter into similar shelter transactions every year. But this seems like a stretch.
Somewhat more promising is the possibility that seeing some executives go to jail might make I-bankers a bit more nervous about gamesmanship in general, whether for accounting purposes, tax purposes, or other regulatory reasons. But I'm skeptical about this as well. Improving the tax, accounting, securities, or other regulatory treatment of a deal is such an integral part of what I-bankers and their lawyers do that it seems unlikely that any but the most brazenly deceitful deals will be stopped.
Wednesday, September 17, 2003
Volokh on Progressive Taxation
Eugene Volokh responds to my post on Wesley Clark, making the valid point that consumption taxes don't necessarily cost the rich more as a percentage of income.
It depends on what is being taxed. If we have an excise tax on imported yachts, that tax is going to burden the rich more. If we have an excise tax on butter, the poor. Complicating matters, a tax on certain goods can also impact manufacturers or retailers --- the Whiskey Rebellion (1790s?) was about farmers who didn't like taxes on whiskey. So even if the rich spend more on whiskey than the poor as a percentage of income (a debatable proposition at best) it's not clear that we should consider a whiskey tax to be progressive.
So I now have a lot of essentially empirical questions --- what exactly did the Federalists plan to tax? What did the much-reviled Stamp Act really tax? Who bore the burden, rich or poor? Did the Founders have a shared understanding about excise taxes? Anyone out there know (or can point me to a good source?)
Defending Wesley Clark on Progressive Taxation
The blogosphere has been getting worked up about Wesley Clark's comment from 3 months ago (transcript here): "I thought this country was founded on a principle of progressive taxation."
It's true that the slogan was "No Taxation Without Representation," not "Soak the Rich." But Clark is more right than he is wrong.
The confusion has to do, in part, with the fact that a progressive income tax did not appear in the US until the Civil War (I think -- I believe one was proposed but not enacted in the War of 1812).
In the revolutionary era, the government raised money mainly through excise taxes, which are a form of consumption tax. And consumption taxes are --- at least compared to poll taxes or head taxes, where every adult pays the same amount --- quite progressive. After all, the rich consume more than the poor.
The Federalists and Anti-Federalists argued about whether the national government should have the power to tax --- under the Articles of Confederation, it did not. The Federalists won this fight, in part by reassuring doubters that the new tax system would burden the rich more than the poor. I quote from the Federalist Papers (No. 21):
Imposts, excises, and, in general, all duties upon articles of consumption, may be compared to a fluid, which will, in time, find its level with the means of paying them. The amount to be contributed by each citizen will in a degree be at his own option, and can be regulated by an attention to his resources. The rich may be extravagant, the poor can be frugal; and private oppression may always be avoided by a judicious selection of objects proper for such impositions.
Granted, the Federalist era fight was mostly about rich states vs. poor states. But Hamilton is right that the consumption taxes are by their very nature somewhat progressive (assuming, as was often the case, than the goods taxed are luxuries rather than necessities).
What General Clark should have said -- and indeed the idea he probably intended to convey -- was that this country was founded on the principle that the rich should pay their fair share and that the burden of taxation should not fall disproportionately on the backs of the working poor.
Bainbridge on Behavioral Law and Econ
My colleague Steve Bainbridge has an insightful post on the limits of Behavioral Law & Econ analysis.
Latte tax creamed
Seattle Times reports that voters rejected the 10 cent a cup espresso tax by a 2 to 1 margin.
As I remarked last week, I thought the tax was a bad idea because (1) targeted tax hikes make the most sense when we want to change behavior, and (2) administrative costs would increase the effective cost of the tax hike compared to the small amount of revenue raised.
Now let's hope Seattle comes up with a better way to subsidize preschool education and day care for low income children.
Tuesday, September 16, 2003
NYTimes piece today on the IRS and state administrators joining forces in the fight against tax evasion. This appears to be more geared towards individual noncompliance rather than the major corporate tax shelters, but is still a very good idea.
Also, National Review published a response to Krugman's tax cut piece.
A slightly off-topic note, co-blogger Brad appeared on local television yesterday to discuss the 9th Circuit's California recall decision. Television is one of the perks of being a con law person. When tax is a hot topic, they call in the economists instead of the lawyers (sigh).
Monday, September 15, 2003
San Francisco Tax Club
Recently, I attended a luncheon of the San Francisco Tax Club (a group made up of mainly tax partners in law and accounting firms). The speaker, Jim Tod from Deloitte & Touche, gave an interesting presentation on the final tax shelter disclosure regulations. The goal of these regulations is to have taxpayers disclose to the Service any "reportable transaction" which has several definitions. However, it appears that these definitions are overbroad and could cover many transactions which are clearly not abusive. Jim gave an example whereby depreciation could become a reportable transaction (because of the possible tax and book difference). If the proposed penalties concerning disclosure pass (and it appears that most people believe the penalties will be included in the next tax bill) then this provision will have some bite and advisors will likely start telling their clients to disclose any possible reportable transaction. The general feeling is that the broad definition will cause too many transactions to be reported and the Service doesn't have the manpower or resources to go over everything that they will receive. This may not be a bad thing as it may cause the Service to redo the regulations with more appropriate definitions but it clearly is not the silver bullet that they may have thought they were.
The luncheon was also very nice because I finally got to meet Jack McNulty, the tax professor at Boalt.
Very brief WSJ editorial today praising the dividend tax cut.
Congrats to Victor on the paper acceptance and remind me to never play poker with him. I don't have enough wagering gains to offset all the money that I would lose to him.
Krugman on Bush Tax Cuts
In the NYT Sunday Magazine from yesterday Paul Krugman has an informative critique of the Bush tax cuts and the various ideological components of the "vast right-wing conspiracy" that is driving them. I found Krugman's discussion of the interplay between supply-side and demand-side arguments particularly useful. I have become increasingly perplexed as to how the administration seems to get away with making supply-side and demand-side arguments in the same breath. This reached comic proportions last week when the President acknowledged that the problem in the economy is that we have excess productive capacity without the demand to match. Didn't we just cut taxes on dividends two months ago to encourage capital formation? One also wonders how the administration gets from the proposition that we need to ratchet up demand to the conclusion that we should cut taxes. If the goal is simply to create jobs in the short run then public sector consumption will do the trick just as well as private consumption. Since the administration is embracing interventionist Keynesian fiscal policy in any event perhaps the President could be convinced that a revival of the WPA is in order. Speaking of Keynes, White House budget director Joshua Bolten was quoted in the NYT yesterday as saying, "If there was ever a time to run deficits, this is it." I suppose it all depends on the baseline. If the goal is to create jobs by pumping up demand then of course one way to do it is to increase public consumption while holding revenue intake from the private sector constant. But if the deficit, like the current one, is attributable in significant degree to new tax cuts then the impact on demand is less certain. The deficit in this case reflects in part a transfer of funds from the public sector to the private sector and some of those taxpayers might just save some of their newfound wealth instead of spending it. Indeed, they may even invest it wisely, earn wonderful returns, and pay enough in taxes in future years to offset the cost of the current tax cuts. The hope of the supply siders may spring eternal but it's worth remembering that even under the best of assumptions the wealth was only meant to "trickle" down, not to gush into the hands of labor before, say, November 2004.