Off to Singapore

Tomorrow I head east - from New York City to Singapore, or 9,521 miles as the crow flies (if it was a unusually fit and vigorous crow). Also a time zone change of 13 hours. While there, I will be giving a talk on my digital services tax paper, as well as lingering for a few days (some of it in Bali near Ubud). I'll post the slides, which are fuller than previously-posted versions, as I'll be speaking for longer, on my return.

The event will be the first Sat Pal Khattar Professorial Lecture at the National University of Singapore (NUS) Law School. This is a venue that I know fairly well, as on three occasions I taught  mini-courses there (in connection with the now-defunct NYU@NUS program).

The lecture is named for a generous leading Singaporean with a tax background, whom I look forward to meeting while there. I believe that Sat Pal Khattar Professorial Lectures on tax issues are meant to become a regular, perhaps even annual, event at the NUS Law School.

A poster for the event can be found here.

Year-end activities

Yay for the holiday season; it's about time. This has been a tough last couple of months in some ways, for me as for our country.

In terms of my professional activities, my forthcoming book, LITERATURE AND INEQUALITY: Nine Perspectives from the Napoleonic Era Through the First Gilded Age, remains on-track for April 2020 publication by the Anthem Press. Copy-editing has begun.

In mid-January, I'll be traveling to Singapore to give a lecture at the NUS Faculty of Law as Sat Pal Khattar Visiting Professor of Tax Law. It will concern my work in progress, Digital Services Taxes and the Broader Shift From Determining the Source of Income to Taxing Location-Specific Rents. A final version of the piece will then appear in the Singapore Journal of Legal Studies. The lecture time is long enough that I'm preparing, and will post here, significantly longer and fuller slides than I have posted upon giving briefer talks concerning the piece.

My new article in process is well underway, albeit perhaps ready for seasonal hiatus. Its current working title is What Are Minimum Taxes, and Why Might One Favor or Disfavor Them? It will discuss, inter alia, what one might call the "Mortimer Adler" problem with using minimum taxes, how minimum taxes might be defined (and why minimum tax-ness might matter), and it will discuss in this regard institutional manifestations that include at least the following:

(1) the AMT,

(2) standalone versus minimum tax structure for taxing public companies' reported financial statement income, with reference to the 1987-1989 AMT preference that was based on book income,

(3) the BEAT,

(4) GILTI (along with worldwide/foreign tax credit systems that are structurally similar, albeit typically not called minimum taxes if they tax foreign source income at the full domestic rate), and

(5) other global minimum taxes, such as the OECD's Pillar Two proposal.

Taxing corporate book income: minimum tax vs. add-on tax

Vice President Biden has just proposed a 15% corporate minimum tax based on companies' financial statement accounting income (aka, book income) above a large threshold. By contrast, Senator Warren is proposing a 7% add-on or additional tax on book income above the threshold. The difference is that the latter would be payable in all events, while the former would be payable only to the extent in excess of regular taxable income (albeit, with multi-year smoothing provisions).

Leaving aside perhaps the biggest issue here, which pertains to taxing book income or not, the contrast between them raises the classic old issue of minimum taxes versus separate add-on taxes. I have begin writing about this issue more generally (including in my analysis the US experience with the individual and corporate AMTS, as well as global minimum taxes such as GILTI and the OECD Pillar Two Globe proposal. But it also goes way back for me. The first article I published after entering academe in 1987 was entitled something like "Perception, Reality, and Strategy: The New Alternative Minimum Tax." I published it in Taxes Magazine so I could get it out fast, although in style and substance it was more like a Tax Law Review article.

I am not, however, writing the new article within a time frame that's aimed at participating in the current Democratic campaign debate. I'm more interested in getting a general analysis out there that I think is presently lacking, although lots of experts have a decent grasp on some of the main points.

Final NYU Tax Policy Colloquium session for fall 2019

Yesterday at the colloquium, after marking the completion of my 25th year co-running the thing, we discussed Josh Blank’s and Ari Glogower’s Progressive Tax Procedure. This is still an early draft of an ambitious project, hence plenty of opportunities to discuss the way forward. (Not presented when we discuss, as sometimes happens, recently published papers.)

Each of the three words in the title could be interrogated a bit. However, the basic idea is that procedural rules in the federal income tax – for example, concerning statutes of limitation, penalty rules, and standards of care in taking reporting positions – might vary with the income or wealth of the taxpayer. Audit rates are also in the ballpark, although to what extent within scope remains unclear. The clearest contrast, although here I seem to have begun interrogating the third word in the title, lies between procedural and “substantive “ rules – establishing, for example the tax rate and base.

“Progressive” raises numerous definitional issues, but the broader category might be called “means-based.” Suppose you want average or effective or statutory or marginal rates to rise with the taxpayer’s income. Then you favor income tax progressivity as defined or measured one way or another, but the broader point is that you favor a positive relationship between the rate of particular interest to you and the taxpayer’s overall income (which is a measure of the taxpayer’s means).

In that example, we also know how to define a regressive tax system. The rate of chosen interest goes south rather than north, with a perfectly flat tax standing in between them as the benchmark of a means-neutral system so far as these aspects are defined. (Of course, in a flat rate tax system, those with higher income still pay more overall tax, but the rate that one is focusing on, is distinct from overall liability, doesn’t vary with the measure of means.)

“Progressive tax procedure” therefore implies that item one is looking at grow less favorable in some way as the overall measure of the taxpayer’s means increases. Illustrative examples that the paper is at least willing to contemplate might involve, for example, having penalty rates go up as a percentage of the underpaid tax liability, statutes of limitation increase, or standards of taxpayer care to avoid penalties grow more demanding, as the taxpayer’s income (or, say, wealth, if a measure of that was available) increases. 

Having audit rates rise with income would be within the paper’s scope if that qualifies as “procedure,” which remains to be determined by the authors. This helps raise the point that once is talking about means-based tax procedure, without specifying as yet that it might be progressive, one might be motivated, not just by distributional preferences, but also the question of what information is relevant to tax administration. For example, supposed that the IRS’s information audits found that the amount of one’s income (at the start of the audit, or at the end) was informative regarding the likely revenue yield from a given audit. We know, of course, that the IRS must be looking at such things as whether, say, cash businesses or those in particular industries offer greater audit yields, or perhaps returns with large vs. small charitable contributions of a given type. If they find that something relating to the taxpayer’s overall means is also relevant to expected audit yield, one could ask (among other questions) whether using or ignoring this information would be, not only the better approach all things considered, but even the more “neutral” one, if one was attempting to define and apply such a benchmark. But while I suspect that a consistently applied audit yield metric would result in a significant upward shift, along the income scale, in who is audited, it wouldn’t necessarily be “progressive” all the time. E.g., suppose EITC claimants tend to yield greater audit yield than those earning above the phase-out. Or suppose there is more audit yield from the merely rich in the 99.0 to 99.5% percentile, than from those at the very top. Then one’s audit yield strategy wouldn’t be “progressive” at all margins, even when it was means-based.

This distinction can be an important one – looking at “means” because it has relevant informational content wholly apart from one’s distributional policy preferences, vs. because it is itself a topic of interest under one’s distributional preferences.

A further distinction to have in mind here lies between formal and substantive means-based variation in tax procedural rules. You know the old gag: “The law, in its majesty, forbids the rich and poor alike to sleep under bridges.” An opposite version of the same thing is FATCA, requiring information reporting about US taxpayers’ foreign bank accounts. As between full-time U.S. residents, this has progressive impact, at least to a degree, because you have to be at a certain level of wealth and/or income before one starts availing oneself of foreign bank accounts. (But perhaps it tapers down at some point towards the top? And of course for U.S. taxpayers who spend enough time abroad to need local banking outside the country, FATCA looms even if their resources are decidedly modest.) Likewise, if one applies particular penalties above a flat dollar amount of overall tax liability shortfall, or if one disfavors the use of tax advisor opinions as penalty shields, the rule even if formally neutral will have upwards-tilting effects.

In thinking about the various approaches that the paper puts in play, both the Kaplow-Shavell work on restricting distribution policy to the “tax system” and the Kaplow work on the social value of determining income (or whatever) accurately offer important orienting devices. Rules that might be described as implementing progressive tax procedure are contrary to the Kaplow-Shavell approach if they are used to increase the overall progressivity of the tax system – except insofar as by, say, reducing tax avoidance opportunities they affect optimal rates. But if they are using means-based information that is relevant to efficient implementation, the case is different. The point here isn’t to insist on Kaplow-Shavell conformity, as that’s a live issue under debate, but it’s useful for situating and understanding the claims.

And here’s where “accuracy” as discussed by Kaplow and others may enter the analysis. Suppose we used means-based, whether or not progressive, tax procedural rules to change the taxation of rich people in the following way. E.g., suppose that initially half were paying tax at a 40% effective rate and others at a 20% rate, due to tax avoidance opportunities available disproportionately to the latter. Then we used tax procedural rules, such as cutting back on the use of penalty shield tax opinions, or more broadly (whether or not within the term’s scope) by increasing audits of high-income taxpayers. One might think of the shift as being distributionally neutral, in an aggregate group sense, if now all the rich paid 30%, but for multiple reasons this might now be a better system (leaving aside the costs of getting there). Whereas, if we got all of them up to 40%, the system would now apparently be more accurate, but it would also be more progressive – which might be fine, but muddies the waters a bit regarding why we might favor (if we did) the tax procedural changes that brought about this new state of affairs. In Kaplow terms, a key question in the now-all-30% scenario would be measuring the benefit vs. the cost (if positive) of the greater accuracy – we obviously wouldn’t be willing to spend infinite resources in order to measure everyone’s income accurately and assure the uniformly “correct” application of statutory tax rates.

My point here is simply that this helps to demarcate the different issues raised by means-based tax procedure that the paper will be exploring as it develops. 

NYU Tax Policy Colloquium: 25 years in the bank!

Today was the final session of my 25th Tax Policy Colloquium at NYU. The occasion was honored by kind people with a poster, card, cake, and short speech (actually, that was impromptu & by me). This photo shows me reenacting the candle blow-out (2 + 5 = 7 in one blow, just like the Little Tailor from Grimm's Fairy Tales). Room was fairly full of people, but they backed off for the photo op.

Modestly revised paper draft

I have revised, although this time fairly modestly, the SSRN-posted version of my article on multinational rents or quasi-rents, the source and value creation concepts, and digital service taxes as an exemplar of where international tax policy may more generally be heading.

You can find the revised version here.

For now I've kept "Digital Services Taxes" as the first 3 words in the title, though this risks over-stating the extent to which the paper is actually about them as such. They remain a relevant piece of the paper's analysis, and (at least so far) I couldn't come up with a good title that didn't start by referencing them.

Tax policy colloquium, week 13: "Helen of Troy" anti-inversion regulations

Yesterday at the colloquium, Deborah Paul presented "Has Helen's Ship Sailed? A Re-Examination of the 'Helen of Troy' Regulations." This paper, which is closer to the ground-level institutional details of federal income tax practice than most of our fare this semester, addresses a kind of coelacanth of the federal regulatory process, although the time frame for this "living fossil" is 25 years rather than 400 million.

The "Helen of Troy" regulations are so known because they were issued in response to an inversion transaction involving a company of that name. They came out in 1994, or a decade before an ensuing wave of inversion transactions gave rise to the enactment of IRC code section 7874, responding to the phenomenon both legislatively, and far more broadly and systematically.

A corporate inversion, as presumably is known to most readers who were interested enough to read this far, involves a U.S. multinational company with foreign subsidiaries seeking, through tax-free reorganization transactions, to substitute a foreign corporate parent (often located in a tax haven) on top of the prior U.S. parent, and also to change the corporate structure so that the foreign subsidiaries are under the new parent, rather than the U.S. company, which remains on hand just to engage in the broader group's U.S. operations.

Pre-2017, the main tax planning aims served by inversions were (1) to allow dividends to be paid up from the foreign subsidiaries to the company on top of the chain without triggering the U.S. repatriation tax, and (2) to facilitate earnings-stripping out of the U.S. tax base. If this is done by having a U.S. parent pay interest to foreign subsidiaries (which might have made the "loan" by simply round-tripping equity previously inserted by the parent), it ends up being foiled because the U.S. interest deduction is offset by subpart F income taxable to the U.S. parent by reason of the subs' interest income from the loan. But this doesn't happen if the interest is paid to foreign group members that have a sibling or parent, rather than subsidiary, relationship to the U.S. company in the corporate ownership chain.

The 2017 act eliminated the repatriation tax that used to motivate inversions, and created some additional barriers around interest-stripping. But its enactment of GILTI (a quasi-minimum tax on U.S. companies on their foreign subsidiaries' profits) it created a new reason for wanting to invert.

Anyway, back in the day (1994) the Treasury wanted to clamp down on inversions, but didn't have all the tools it has now. I don't know why there was no legislative push - this was before the November 1994 elections swept Gingrich et al into power - but conceivably the politics had something to do with it. What they decided to do was issue regulations under section 367(a).

Let's pull back the camera now for some broader background. In general under the U.S. federal income tax (and most others), gain from asset appreciation (or loss from its declining in market value) is not taken into account for tax purposes until there is a realization event, such as sale. This rule leads to numerous distortions and tax planning opportunities - the late William Andrews called it the "Achilles heel of the income tax" - but it has generally been though necessary in response to problems of asset value measurement and taxpayer liquidity. (There are now proposals around to apply mark-to-market taxation, or retrospective systems that aim for equivalence thereto, but that's another topic.)

 But once realization events were made taxable, it was thought desirable to create exceptions, by allowing nonrecognition for certain transactions, such as incorporating one's business, turning one corporation into two or two into one, etcetera. The rationale was that these transactions not only might be doing little to address measurement and liquidity issues, but also were not convenient occasions for levying the tax on appreciation - for example, because they were merely reshuffling how one's assets were held, and would tend not to happen (rather than yielding taxable gain) if they were taxed.

But then the next step was the tax authorities' learning the hard way that taxpayers could exploit nonrecognition transactions to achieve tax planning aims beyond business-motivated reshuffling. A classic example is the Gregory case from the late 1930s, which established modern economic substance & business purpose doctrine. A simplified version of that case might go as follows. My company has two types of assets: boring stuff and cash. I want to get the cash out into my own pocket, but dividends were subject to high tax rates at the time. So step 1, I do a tax-free spin-off so there are now 2 companies, one holding the boring stuff and the other holding the cash (both wholly owned by me). Step 2, I liquidate the company holding the cash. Now I'm taxed at the capital gains rate rather than the dividend rate (today they're the same, but at the time CG rates were much lower), plus I get some basis recovery with respect to the cash company's stock. If this had been allowed to work, there would never have been a taxable dividend transaction again - everyone would have done these two-steps instead. So tax-free reorg treatment was denied.

Section 367(a), the provision under which the Helen of Troy regs were issued, responded to another type of taxpayer planning trick. Say I own an appreciated asset of any kind - be it a painting, Facebook shares that I got back in the day, etc. - and want to move towards converting it to cash. As per the legislative history of the provision's 1932 enactment, I might contribute it to a new foreign corporation (FC) in exchange for all its stock, have the FC sell the asset outside of the U.S. (generating no U.S. tax), and I now have 100% control of an entity that's sitting on the cash (although it remains in corporate solution, and paying myself a dividend would be taxable. Congress viewed this as undue avoidance, so it passed a provision stating that otherwise tax-free reorganizations in which one ended up with foreign stock would be taxable, subject to the Treasury's creating exceptions.

The statutory language was quite broad. In current form, section 367(a) says that FC stock won't count as stock received for purposes of determining gain recognition, subject to the Treasury saying otherwise. So it went well beyond the specific situation that Congress had most directly in mind.

Section 367(a) imposes a shareholder-level sanction - gain recognition - and is widely thought of as responding to shareholder-level, not entity-level, tax planning fun and games. But in 1994, when the Treasury announced and then adopted the Helen of Troy regs, they aimed it at inversions, which are an instance of entity-level tax planning. This led some to argue that the regs were beyond the provision's statutory purpose (since Congress in 1932 presumably had no idea that inversions would become a problem 60+ years later), and also that it was in tension with principles of sound system design. E.g., it might be good drafting to have the provisions aimed at entity-level planning issues over here, and those aimed at the shareholder level over there. As an example of the mismatch, the Helen of Troy regs leave inversion transactions unscathed if the shareholders are tax-exempt, because in that case they aren't going to face taxable gain recognition anyway.

The regs apparently are a bit of a mess - reflecting, for example, that the state of the art so far as drafting provisions applying to the issues presented has improved since then - as is reflected in section 7874 and its regs. So the Deborah Paul paper that we discussed yesterday goes through a lot of the problems, and urges that the Helen of Troy regs be addressed. For example, they might be eliminated, or alternatively they might be updated, improved, conformed more to section 7874.

I don't know enough about conditions on the ground to evaluate the cost-benefit analysis that would be involved in deciding whether this distinctly tertiary means of discouraging inversions should be streamlined or eliminated. The first tool at hand is section 7874, while the second, which I gather has been quite effective, is the 2016 regulations, issued during the Obama Administration, under the guise of section 385 (addressing debt vs. equity). The fate of the latter remains uncertain, although so far the current administration has merely tinkered around the edges, rather than more substantially scaling them back. Perhaps they're worried about the headlines if they throw out the 2016 regs and more inversions ensue.

Another piece of this whole story is the increasing difficulty, given the current state of U.S. politics, of using legislation to respond to new developments in tax practice that seem to undermine the existing system (as a wave of inversions can do). Regulators increasingly will and (given the totality of circumstances) should address urgent problems that might better have been left to Congress, as a matter of design flexibility and also inter-branch comity, if things weren't the way they are. One wild card left behind by doing more through regulations, and less through legislation, is that there may be a rise of back-and-forth seesaws when the presidency changes hands. A second is that the courts may increasingly be following their own ideological (and even partisan) preferences in deciding when to rein in regulation, and when to approach it deferentially. These of course are bigger problems than just Helen of Troy, even if it was the transaction that launched a thousand regs.